A Closer Look at Medicare Advantage

September 26th, 2009 | Healthcare Reform

In an earlier post, I promised to offer some insight into the workings of Medicare Advantage.  If you would like to read about it yourself, visit www.medpac.gov and download the 2009 Report to Congress and read Chapter 3.

The predecessors of Medicare Advantage – Medicare Risk and Medicare+ Choice – originated at the behest of west coast HMOs back in the 1980s (TEFRA).  (read more here: http://www.cms.hhs.gov/HealthCareFinancingReview/downloads/06-07Winpg81.pdf ) The original model had the Medicare Program paying the HMO 95% of the local traditional (or fee-for-service) Medicare Per Capita spending, known as the Adjusted Average Per Capita Cost or AAPCC.  Theoretically, this was to save 5% for the Medicare Program; however, most studies indicated that enrollees in these Medicare HMOs tended to be healthier than those in traditional Medicare and therefore have lower levels of spending.  Nonetheless, for reasons explained below, these Models had a large impact on Medicare spending.

The early models used capitation to pay physician practices or larger, integrated entities which included hospitals.  Capitation pays a fixed fee per month to the practice or other entity for each patient enrolled with that entity, from which all the costs of care for the patient must be paid. This contrasts with fee-for-service, which pays for each treatment the patient receives.  Fixed payment per patient enrolled versus variable payment based on services utilized.  The effect for many years was to drive down utilization and therefore cost. To the extent that the physicians did a good job managing the care and cost of their patients, they earned financial incentives from the difference between the capitation payment and the cost of caring for the patients.

The reduction in Hospital utilization as measured by Average Length of Stay (ALOS) was dramatic in the early years.  As capitated Medicare moved into new markets, ALOS would decline significantly in both Medicare HMOs and fee-for-service Medicare!  This saved money for sure and for a time altered the way hospitals were utilized.  However, as can be seen from the following Graph, by the end of the 1990s, most of the savings from reducing ALOS had been squeezed out of the system.


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