4SC AMERICAN LEGISLATIVE EXCHANGE COUNCIL

214 Massachusetts Avenue, N.E. Suite 400 Washington, D.C. 20002

(202) 547-4646

June 20, 1985 ALEC OFFICERS AND BOARD OF DIRECTORS

NATIONAL CHAIRMAN Hepreiantatlva BUI Caverha Texas FIRST VICE CHAIRMAN Senator Norm* RUBMH South Carolina SECOND VICE CHAIRMAN Representative Roy F. Cagle Missouri TREASURER The Honorable Larry Pratt Former Member Virginia Legislature SECRETARY Representative John H. Brook* Idaho IMMEDIATE PAST CHAIRMAN Senator Donald E. Lukana Ohio Tha Honorable Brad Cataa Former Member New Mexico Legislature Repretentatlve David Copeland Tennessee Repretentailve David Halbrook Mississippi Senator Owen Johnson New York Senator John R. McCune Oklahoma Tha Honorable Robert B. Monler Former Member New Hampshire Legislature Ataemblyman Patrick J. Nolan California The Honorable William M. Polk Former Member Washington State Legislature Representative William Presnal Texas Rapri tentative Penny Pullen Illinois Senator William Ragglo Nevada Delegate EH an Sauarbrey Maryland Senator Eva F. Scott Virginia Rapreaentatlve T.W. Stivers tdaho Senator Ray A. Taylor Iowa The Honorable Donald L. Totten Former Member Illinois Senate

Ms. Catherine Yoe Tobacco Institute 1825 Eye Street, N. W. Suite 800 Washington, D. C. 20006

Dear Cathy:

Enclosed is the information we discussed on health care that our organization has done. I hope that this is of help to you.

We all enjoyed our meeting last week. We look forward to developing a better and closer working relationship with all of you at the Tobacco Institute,

Again, thank you for your support and interest. I look forward to seeing you again soon. Please call if there is anything that you think we might be able to help you with.

Sincerely,

(KUMX Vonnie Borie Legislative Director

Enclosure

The nation's oldest and largest individual membership organization of State Legislators

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CONTAINING HEALTH CARE COSTS:

THE ARIZONA EXPERIENCE

By Brian Young

AMERICAN LEGISLATIVE EXCHANGE COUNCIL

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Officers of the American Legislative Exchange Council

Chairman Hon. Bill Ceverha

Texas House of Representatives

First Vice Chairman Hon. Norma Russell

South Carolina Senate

Second Vice Chairman Hon. Roy R Cagle

Missouri House of Representatives

Treasurer Hon. Larry Pratt

Former Member, Virginia House of Delegates

Secretary Hon. John Brooks

Idaho House of Representatives

immediate Past Chairman Hon. Donald E. "Buz" Lukens

Ohio Senate

Executive Director Kathleen Teague

American Legislative Exchange Council 214 Massachusetts Avenue, N.E.

Suite 400 Washington. D.C. 20002

(202) 547-4646

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Containing Health Care Costs: The Arizona Experience

Containing Health Care Costs: The Arizona Experience

By Brian Young

American Legislative Exchange Council

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The AMERICAN LEGISLATIVE EXCHANGE COUNCIL (ALEC) is the nation's oldest and largest membership organization of State Legislators. A non-profit, non-partisan public policy and research group, ALEC is dedicated to the principles of free enter-prise, limited government, and traditional values.

BRIAN YOUNG is the Administrative Director of ALEC. A member of the California State Ban he has served as Executive Assistant to Congressman Robert K. Dornan (CA) and as Counsel to the Senate Subcommittee on Aging, Family and Human Services chaired by Senator Jeremiah Denton (AL).

The views expressed herein are those of the author and do not necessarily reflect the views of the American Legislative Exchange Council. This book is provided as educational material and is not an attempt to aid or hinder the passage of any bill before Congress or State Legislatures.

^Copyright 1984 by the American Legislative Exchange Council.

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CONTENTS

Preface 1

Introduction 3

EXECUTIVE SUMMARY 5

ARIZONA INDIGENT HEALTH CARE

PRIOR TO AHCCCS 9

AHCCCS—A BRIEF PROGRAM DESCRIPTION 13

MEDICAID WAIVERS 19

ISSUES 23

ADMINISTRATION 23 ELIGIBILITY AND ENROLLMENT 31 REIMBURSEMENT 38 QUALITY OF CARE 43

REACTION TO AHCCCS 47

AHCCCS AND THE FUTURE 51

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"In the decade since ALEC was established, your members have been of tremendous service to America, your fellow legislators, and the people in your districts around the country. Your Jeffersonian philosophy of government is an effective counterweight to the ever present pressures of greater centralization. ALEC has been in the forefront of the effort to return as much power and resources to levels of government closest to the people, and all Americans owe you a great debt of gratitude."

President Ronald Reagan

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PREFACE

Health care expenditures in the United States have risen 773 percent since 1965. While those costs continue to multiply, so too, do the burdens on the taxpayers who not only pay for their own health care, but also finance Medicaid through state and federal taxes.

As this study by the American Legislative Exchange Council points out, however, cost is not the sole consideration in the indigent health care issue. The delivery of quality medical treat-ment to the needy remains the focal point of any examination of Medicaid programs. This report discusses the issues which have arisen in the Arizona experience concerning the standard of care which patients receive, including the opinions of those involved inside and outside of the state system.

Whatever the outcome of the Arizona experiment, the problems it faces and the mechanisms it employs will be part of the continu-ing Medicaid discussion in the Eighties. As National Chairman of ALEC, I know that State Legislators across the country will read this volume with keen interest to examine the Arizona program and the ambitious ways in which it attempts to deal with state-provided health care.

Representative Bill Ceverha (TX) ALEC National Chairman

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ACKNOWLEDGEMENT The American Legislative Exchange Council gratefully

acknowledges those individuals and corporations who generously provided technical assistance and support for this project.

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INTRODUCTION

Both Congress and state legislatures are facing a health care funding crunch. While budgets are getting tighter, the expenses of providing medical treatment to the indigent continue to rise faster than the inflation rate. Most states, which do not enjoy the federal government's luxury of spending money it does not have, are looking for ways to control their health care expenditures. This means that Medicaid programs are undergoing more than routine examinations.

In 1965, Congress enacted what are now the nation's two largest health care programs: Medicare, a nationwide health insurance plan for the aged and disabled; and Medicaid, a state-operated and administered program for low income persons. In the 19 years since that enactment, Medicaid has grown to a $33 billion program, with the states assuming anywhere from 22 percent to 50 percent of that ever-increasing cost. It is this state share that causes concern in capitals from Honolulu to Boston. At least 19 states reduced funding for their Medicaid programs in 1983. Many more are considering ways to reduce the expenses of indigent health care delivery while still trying to provide quality medical treatment for the needy.

To Arizona's credit, it is tackling the problem head-on. It has embarked on the broadest state health care system of its kind and, for the first time in its history, is receiving federal Title XIX (Medicaid) funds. This experiment is being closely watched by

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legislators and the health care community in every state, and it could have a profound impact upon state Medicaid programs for years to come.

For this reason, it is important that the facts about the Arizona Health Care Cost Containment System, as well as the issues it raises, be outlined in a clear, concise manner. This study by the American Legislative Exchange Council accomplishes that pur-pose. It also continues ALEC's tradition of providing state law-makers with the necessary information for crucial legislative deci-sions. This report will be an invaluable tool to all legislators working on Medicaid reform.

Congressman Eldon Rudd 4th District, Arizona

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EXECUTIVE SUMMARY

The Arizona Health Care Cost Containment System (AHCCCS) represents the most revolutionary attempt by any state to control the escalating expenses of health care delivery. Not only does the more than $180 million a year program overhaul the state's system for providing health care to indigents, but it also aims to include virtually every person in the public and private sectors of Arizona. If successful, it could profoundly change the medical industry.

Prior to AHCCCS, Arizona was the only state in the union not to have a federally-funded indigent health care program under Title XIX of the Social Security Act (Medicaid). Resistance to federal assistance in this area finally broke down when the state's counties, which financed the indigent health care system, could no longer bear the burden of rapidly rising costs. Following negotiations with the federal Health Care Financing Administration, Arizona ob-tained waivers to certain requirements in the Title XIX law and received federal funds which, together with state and county tax dollars, financed a new system of health care delivery in the state. The program began operation on October 1. 1982.

AHCCCS contains several components that distinguish it from traditional Medicaid programs. Rather than have patients who are enrolled in the system choose their own physician whenever they get sick, the Arizona plan establishes a "gatekeeper" approach where people select an exclusive health care provider. A provider may be a consortium of doctors, or a hospital, or even a county

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health department. Whenever a person needs medical care, he can only go to that provider for treatment. If the doctor at the provider's office cannot give the needed care, he refers the patient to a specialist who has already subcontracted with the provider. In no instance may a person receive care without first goingthrough his gatekeeper physician. This is designed to maintain a continuity of care, thereby preventing the costly practice of "physician shop-ping." It does, however, eliminate the patient's choice of hospital, specialist, pharmacy, or other places to seek care.

While the gatekeeper system is designed to guard against over-utilization by the patient, prepaid capitated financing is designed to discourage overutilization by the physician. Instead of the standard fee-for-service method of reimbursement' employed in traditional Medicaid programs, AHCCCS uses capped prospective payments to health care providers. Doctors who contract with the state receive the same advance monthly payment regardless of the num-ber of patient visits or the expenses involved in their practices. Providers in AHCCCS are selected on a competitive basis. Those submitting bids to the state are expected to supply certain minimum services to qualify for the provider selection process.

One of the most controversial components of AHCCCS is its proposed inclusion of public and private sector employees. As yet. no date has been set for this expansion of the program, which designers of AHCCCS claim is necessary to effectively reduce all health care costs. If and when it becomes available, working people would be able to elect to have AHCCCS as their health insurance plan. Under law, though, these employees would have to be given a choice between the state plan and at least one private insurance plan. Businesses in Arizona are closely watching AHCCCS for this reason.

For the indigent population, there are three classifications of AHCCCS eligibility: categorical, indigent, and medically needy. Arizonans who receive federal assistance under the Supplemental Security Income or Aid to Families with Dependent Children programs are categorically eligible to participate and are automati-cally enrolled. Income and assets tests determine those who qualify as either indigent or medically needy.

Once a person is declared eligible for the program by his local county office, he must then enroll in AHCCCS. Eligibility and enrollment are two separate processes. Prior to March 15, 1984, eligible patients enrolled with a private program administrator, MCAUTO Systems Group. Inc. (MCAUTO). Since that date, the

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State Department of Health Services has assumed enrollment re-sponsibilities previously handled by MCAUTO. After the person establishes eligibility with the county and enrolls with the state, he selects a health care provider, who becomes his gatekeeper to the system. If the person does not select a provider after two to three weeks, he will be assigned to one by the state. All assignments are made to the lowest bidding provider in the county in question.

The implementation of AHCCCS thus far has been, in the words of one State Senator, a "rocky road.*' Many people within and without the program attribute early problems, especially those related to enrollment of indigents and reimbursement of hospitals, to the overly ambitious time frame to which AHCCCS committed itself. Observers state that the program started before proper oper-ating mechanisms were in place. As a result, AHCCCS was not prepared to handle the initial crush of applicants, many of whom required much greater care than providers had anticipated. Those who sought eligibility through qualification under one of the in-come tests for indigency experienced difficulties with the enroll-ment process. Partly because of a bureaucratic decision to issue temporary documents to those not yet declared eligible, many received unauthorized care. In turn, the treatment of those ineligi-ble patients brought problems for those hospitals, doctors, and other subcontractors who sought reimbursement from an AHCCCS provider. These providers could not pay for the care because the patients were not actually in the program. The state, in turn, could not send a capitated payment to the provider until the patient was enrolled. A number of hospitals, pharmacies, and health care specialists were left with bad debts for which no one would claim responsibility. Lawsuits were filed against providers who have now posted security deposits with hospitals so that the hospitals will continue to accept AHCCCS patients. Recent amendments passed in the 1983 Arizona legislative session are designed to minimize enrollment problems through faster processing of eligibility ap-plications.

These amendments were not the only changes in the enrollment process, however. Due to a serious contractual dispute, the private administrator, MCAUTO. withdrew from the program in March 1984, leaving the state to assume its responsibilities, including the enrollment process. It seems MCAUTO spent its three-year $11.5 million budget in approximately one year and had sought an additional $24 million prior to leaving AHCCCS because of alleged non-payment by the state.

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Monitoring of the project continues. The program is being evaluated on a yearly basis by the federal Health Care Financing Administration. A complete analysis of AHCCCS will be made by a private research firm at the end of the three-year experimental cycle and the state legislature has requested its own independent examination of the program.

The most crucial issue to be evaluated in the AHCCCS experi-ment is the quality of care received by indigent patients. As yet, no one can make conclusive judgments as to the quality of the treat-ment that is being provided, but opinions are forming among those in and out of the program. Some express concern that a doctor who is worried about his profit margin under a capitated approach will skimp on care to hold down expenses. The fear is that this practice may lead to aggravated conditions in patients and cause greater medical bills as illnesses get worse. Others worry that doctors may become mercenary, simply collecting their monthly fees and ignor-ing their patients.

Another concern is that if prices for medical products, such as prosthetics, hospital equipment, or pharmaceuticals, are kept ar-tificially low through price controls, companies will no longer be able to afford the extensive research and development that has brought forth the means for improved patient care. The worry is that short-term savings will result in long-term stagnation in the development of innovative medical treatment.

Supporters of AHCCCS state that program monitoring will control any misfeasance in treatment and that the structure of the system itself, with a gatekeeper to keep track of every patients care, will improve the treatment received by indigents. Detractors counter that the former program administrator. MCAUTO. did not even have a full time medical director with which to monitor the quality of care between February 1983 and February 1984.

There is anxiety in the private sector that AHCCCS may be perceived by the general public as providing a lower quality of care simply because it serves indigents. A coexistent fear is that people would be skeptical of a system where the doctor's profit margin depends on the amount of care he provides. Such perceptions would reduce the likelihood of the programs acceptance by public and private sector employees if and when AHCCCS becomes available to them.

The AHCCCS experiment is set to run for three years, until September 30. 1985. How it fares could determine the shape of health care programs for years to come.

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ARIZONA INDIGENT HEALTH CARE

PRIOR TO AHCCCS

While not admitted to the Union until 1912, Arizona has maintained some form of organized health care for indigents since 1864, the year after its organization as a U-S. territory. It was then that Arizona codified a system of county-funded health care for "unemployables" who did not have relatives capable of providing them with financial support. Thus was born the tradition of county-provided assistance.

In 1887, an amendment to the 1864 code eliminated the requirement that an "unemployable'1 person first had to seek help from his relatives. As years passed, minor alterations were made in the system, yet Arizona indigent health care re-mained essentially unchanged into the Twentieth Century. County Boards of Supervisors were charged with the respon-sibility of making health care available to the poor people liv-ing within their jurisdictions.

Title XIX of the Social Security Act, the Medicaid pro-gram, was passed by Congress in 1966. By 1973, every state in the nation except Arizona had enacted some type of Medicaid program. The Grand Canyon State continued its resistance to federal money and the strings attached thereto throughout the 1970s, but initial efforts were made to establish some sort of statewide Title XIX plan.

Representative Burton Barr, House Majority Leader for the past 17 years, states, "We offered the same concept [as

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AHCCCS] to the Nixon Administration and they refused it... It's something that had been thought about for quite some time."

The Arizona legislature did enact a Medicaid bill in 1974. It authorized the Department of Health Services to establish a Medical Assistance Program, with implementation to begin in October 1975. However, the crucial step from authorization of funds to appropriation of funds was never taken. Concern over escalating costs and abuses reported in other states kept the program on the drawing board.

In 1977, counties, worried over the cost burdens they would be asked to assume under the 1974 Medicaid bill, sued the State, contending that implementation of the program was illegal. The Arizona Supreme Court subsequently enjoined further action by the State pending the satisfaction of three requirements: that the legislature would have to set standards for determining a spending ceiling for the Medicaid program; that it would have to communicate to the Department of Health Services funding levels and permissible expenditures; and, of course, that it would have to appropriate money.

With the Court's decision, work on the 1974 Medicaid program came to a grinding halt. Unfortunately, county ex-penses for indigent health care did not. In Fiscal Year 1974, Arizona counties spent almost $50 million to treat the poor. By Fiscal Year 1979, costs escalated to over $100 million; in 1981, to $125 million. Projections for 1985 were approaching $250 million in costs to the counties.

It became crystal clear that county governments were be-ing overwhelmed with indigent health care costs—costs that showed no signs of abating. Twenty to 25 percent of all coun-ty revenues were expended on health care delivery and ad-ministration. Of that amount, approximately 38 percent was swallowed by hospital bills alone.

While counties paid the expenses, the Arizona system provided authority to the State Department of Economic Security to establish statewide eligibility standards for in-digent health care. All public welfare recipients and foster home children whose care was paid from state or federal funds were automatically eligible for their county's program. If individuals were not in one of these categories, state minimum income and assets tests were applied. Counties did have the option of establishing their own, more broad income

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eligibility amounts. Seven of the then fourteen counties exer-cised this alternative, setting income levels above the DES criteria. An attempt in 1980 by DES to implement uniform standards on a statewide basis met with legal opposition and was never enacted.

Meanwhile, local taxes, which financed the health care system, increased to the point where an Arizona-styled "Pro-position 13*' taxpayer relief measure was approved by voters in 1980. Rural counties felt the pinch as property and business taxes no longer rose to cover spiraling expenditures. More af-fluent urban counties had the added pressures of rapid population growth and increased demands for indigent care. A concensus emerged that the counties and the State had reached a crisis point.

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AHCCCS—A BRIEF PROGRAM DESCRIPTION

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The Arizona Health Care Cost Containment System (AHCCCS) began operation October I, 1982. it marked not only Arizona's first-ever federal funding for indigent health care, but also a far-reaching step beyond the traditional Medicaid program. j

A health care system of this type has never been attempted before on a statewide basis. Its elements attempt to make health care recipients and providers alike more cost conscious without sacrific- [ ing quality medical care. Described in the AHCCCS 1982 Annual ' Report as a "boldly experimental approach to health care financ- ! ing," it joins a number of mechanisms that the State hopes will build a cohesive service delivery network. Arizona must make it i work by September 30, 1985.

Primary Care Physicians as Gatekeepers

"We (in the Arizona legislature) felt abuses in other states were due to various reasons," states Senator Carl Kunasek, Chairman of the Senate Health Committee. "One of them was physician shop-ping, where patients went from doctor to doctor until they heard what they wanted to hear or got the prescription they wanted to get. We addressed that with our gatekeeper approach."

The so-called gatekeepers are primary care doctors who act as the patient's entry into the maze that is modern health care. A person may not obtain medical care in the AHCCCS system with-

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out first going through his or her gatekeeper. This means that an AHCCCS patient may not see a specialist or be admitted to a hospital without the authorization of his case manager who, in effect, becomes the patient's personal physician. Because of the wide range of services offered in AHCCCS, the gatekeeper must be a family or general practitioner, pediatrician, general internist, or obstetrician/gynecologist. AHCCCS Deputy Director Jim Mat-thews states, "The attempt is to combine his decision making process—'Does this make good medical sense and does this make good financial sense?**—kind of meld those two decisions to-gether.'*

Prepaid Capitated Financing

While the gatekeeper approach guards against overutilization by the patient, prepaid capitated financing discourages overutilization by the physician. The health care provider is placed at risk for the expense of medical treatment, not the state or the program adminis-trator.

In the AHCCCS program, the health care provider's profit is determined by the cost of the treatment he gives and by the number of illnesses suffered by the people under his care. There is an incentive to provide the least expensive care, but there is also an incentive to keep people well. The costs of treatment come directly from the provider's pocket.

The provider, which can be a consortium of doctors, a hospital, an HMO, or even one of the counties, receives a set amount of money per month for each patient enrolled in the program. From this pool of money, the provider pays for all medical expenses incurred by its patients, including tests, prescriptions, referrals to specialists, and hospitalization.

The amount received from the AHCCCS program depends on the category of person enrolled in the provider's system. Monthly allotments range from about $60 to $125 per patient, with higher amounts awarded for some Supplemental Security Income pa-tients. The average monthly prepayment is approximately $80 per enrollee.

This contrasts with more traditional Medicaid programs where, says House Majority Leader Burton Barn "They've been funded in such a way that there is no reason not to use the system to the fullest. If someone else is paying, what's the difference if you stay in the hospital three days or five days or seven days?"

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Fortune could easily play an important role in this system. If a provider happened to serve a number of patients who developed catastrophic illnesses, he could be financially devastated. To help prevent this, the system has an insurance fund to cover single patient expenses over $20,000- Still, the sicker the clientele, the more anemic a provider's profit margin.

The prepayment aspect of the AHCCCS system is further ex-plored in the "Quality of Care" section later in this study.

Competitive Bidding Process

Providers may become part of the AHCCCS program only through bidding against other would-be service deliverers in a process administered yearly by the state. A key to the system's plan to curtail costs, the bidding is designed to reward those providers who can deliver health services at lower costs. It is considered by some to be the program's most innovative component.

Those submitting bids to the state must be able to offer a full range of AHCCCS services, either through their own organization or through subcontracts with specialists, hospitals, pharmacies, and other health care services.

Generally, a provider serves patients only from the county in which he is located, but may give care to those from an adjoining county if net travel for health care is reduced for individuals residing there.

With competition a cornerstone in the AHCCCS plan, state officials had hoped to have more than one provider group in each county so that people could choose the more effective and/or less expensive care. In five of the fifteen counties, though, there was only one care provider in the system's first year of existence. In the second year, four counties have just one AHCCCS provider. Over-all, there are three more providers in AHCCCS after the comple-tion of the second year bid process. Former Arizona Medical Association President John Oakley notes, though, that the competi-tion part of the program would not always apply in some parts of Arizona where choices may be limited by transportation problems. In his city of Prescott, for example, '*people can*t get over the mountain in winter to get services in another town.'*

Co-payments by Patients

As with the gatekeeper approach, this device is intended to discourage overutilization of the system. Providers have the option

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of asking their patients to share the cost of care through nominal charges ranging from 50 cents to five dollars. Patients are only asked to pay for visits that they initiate. Appointments recom-mended by the primary care physician are exempt from the co-payment rules, as are certain services provided to AHCCCS mem-bers under the age of 21.

Restrictions on Freedom of Choice

Standard Medicaid programs rely on fee-for-service reimburse-ment to health care providers. The Medicaid provider, who is freely chosen by the indigent patient, renders medical care and is later paid a set fee for that particular type of treatment. AHCCCS is a prepaid system, it requires some limitation on the number of doctors who will receive prospective payments.

The Arizona plan gives capitated payments to providers. For each person enrolled in the provider's program, the state gives a standard sum. Patients must come only to their officially designated providers, at least for non-emergency care, to receive AHCCCS service. Their options to select doctors or hospitals are limited to those with whom their provider subcontracts. In counties with more than one provider, AHCCCS-eligible indigents may choose one from the list of state-approved providers.

Under the AHCCCS law, had a county not been served by a state-contracted physicians group or HMO or other provider, a limited fee-for-service system would have been permitted to serve the people of that area. As all Arizona counties have at least one AHCCCS provider, the point is moot.

Capitation of the State by HCFA

As the State gives capped rates to the providers for their en-rollees, the federal government gives capped contributions to the State for its enrollees. The federal assistance sent to the AHCCCS program is based upon actuarial rates established through data from both Arizona and neighboring states. In the first year of the system, federal aid was based on the estimated number of enrollees times the capitation rate. Quarterly adjustments are made for the actual number of enrollees in the system. At no time will the rate exceed 95 percent of the estimated cost of services that were provided under the old county fee-for-service program.

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Actual funding for the system breaks down to approximately 44 percent from county funds, 19 percent from state funds, 35 percent from federal funds,and two percent from co-payments and interest income.

Potential Inclusion of Public and Private Sector Employees

One of the most controversial elements of the AHCCCS experi-ment is the proposed incorporation of not just the poor and needy, but those who are gainfully employed. Under the plan, public employees of the state, county, and local governments were to become eligible for AHCCCS in early 1983. Private sector employ-ees were to follow. Administrative difficulties, which are discussed later in this study, and unsuccessful bidding solicitations have delayed implementation of this part of the plan indefinitely. As of the publication of this report, no decision has been reached as to when or if the non-indigent working population of Arizona will become a part of AHCCCS. Program officials stress, however, that the public and private employee portion of the system, if it is implemented, will be separately financed by individual preH'*ms, similar to private insurance. One part of the program w not subsidize the other.

The stated purpose of making virtually the entire population of Arizona eligible for AHCCCS is to control all health costs, not just those for indigents. As Senator Kunasek puts it, "We felt that the broader the base of participation, the better the price would be/* In short, the plan would spread the risk for health costs to virtually the entire population, including the generally healthier middle to upper income workers.

Services

As previously noted. AHCCCS providers must furnish patients with a full range of health treatment, regardless of whether the care is given in-house or through subcontractors. Benefits available under the program include: inpatient and outpatient hospital and physician services; laboratory and x-ray services; prescription medications: emergency dental care; medical supplies; medically necessary dentures; emergency ambulance and medically neces-sary transportation: prosthetic devices; and early and periodic screening, diagnosis, and treatment (EPSDT) for children.

Not furnished under AHCCCS are services or items solely for

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cosmetic purposes; hearing aids, eye examinations for prescriptive lenses, and prescriptive lenses (except for those under 21); alcohol-ism and drug addiction treatment; services that are experimental in nature (although a heart transplant operation was funded by AHC-CCS in January 1984—such procedures may be authorized at the AHCCCS director's discretion); long-term and home health care services; private nurses, except where medically necessary in a hospital; family planning services; and certain types of elective surgery.

Eligibility

Excluding public and private employees, who have yet to be integrated into AHCCCS, there are three basic groups of people eligible for care under the demonstration project; the categorically eligible; the indigent; and the medically needy.

First, those who receive federal assistance through either Aid to Families with Dependent Children (AFDC) or Supplemental Secu-rity Income (SSI) are automatically included in the program.

Second, those whose incomes are less than $2500 a year (or $3333 if married and living with their spouse, with an extra $425 added to the yearly limit for each dependent) and have net resources of less than $30,000 are eligible as indigents.

Finally, individuals with incomes between $2500 and $3200 a year (or up to $4266.67 if married and living with their spouse, with an extra $544 added to the limit for each dependent) and who have net resources of less than $30,000 may be eligible as "medi-cally needy." This group is also required to pay ten percent of their monthly health care costs.

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MEDICAID WAIVERS

AHCCCS Public Information Officer Randy Weiss says, "The State does not want to regulate the health industry. It wants to create the marketplace with this legislation and then step back and let it work."

In order to "create the marketplace," however, special government action was needed. Because certain provisions of the AHCCCS program are contrary to traditional Medicaid systems, waivers from federal requirements contained in Title XIX of the Social Security Act had to be negotiated.

Following an initial inquiry from the Arizona legislature to Secretary of Health and Human Services Richard Schweiker, waiver proposals were discussed in Washington, D.C., Phoenix, and San Francisco, the site of the federal Health Care Financing Administration's western regional of-fice. In what Senator Kunasek described as "an educational session for all of us," HCFA and Arizona officials met re-peatedly to work out the details of the new demonstration project. State legislators, though, underscore the importance of Reagan administration involvement in the negotiations, crediting it with the increased flexibility required to grant the waivers. In the words of Majority Leader Barr, "If it wasn't for the White House, AHCCCS wouldn't be here."

According to Sidney Triegcr of the Office of Research Demonstration and Statistics at HCFA, Arizona at first

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wanted to limit its project in terms of eligibility as well as benefits. The initial plan would have barred the participation of people who could receive health care funding through other third party payer sources. "The original concept would have excluded the elderly who have access to services through Medicare, veterans who are eligible for Veterans Administra-tion benefits, and Native Americans who may receive Indian Health Service care... That was a major issue in terms of the discussion with the State."

While the federal government did not yield on the Medicaid eligibility requirements, significant alterations in the normal Title XIX benefits package and administrative structure were obtained through the Section 1115 waiver pro-cess.

A crucial element in the AHCCCS program is the exclu-sion of long term care and home health care from covered treatment. HCFA's Trieger reports that prior to the Arizona waiver application, the Department of Health and Human Services had discussed the possibility of handling long term care differently from other benefits under Title XIX. Given this prior deliberation, "it did seem to make sense that we would consider just doing the acute care package and not the long term. This also recognizes how much more difficult it would have been to include as part of the competitive bidding process a long term care component." Indeed, Arizona of-ficials state that long term care and home health care are among the most costly and complicated elements of health care delivery.

Other benefits waived from inclusion were payments for eyeglasses, routine dental care, and hearing aids, as well as family planning services. It was felt that since family planning clinics are relatively "free-standing" institutions that they would not be easily integrated into the "gatekeeper" health delivery system. These benefits, along with long term and home health care, remain the responsibility of the county to provide.

The waiver of "freedom of choice" of physicians, an essential part of the AHCCCS program, was not a major item of debate. Under the 1981 Omnibus Reconciliation Act, Con-gress specifically reaffirmed the Department of Health and Human Services* right to waive freedom of choice under case management delivery systems such as that proposed by

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Arizona. Under traditional Medicaid programs, patients can choose any doctor they want. With this waiver, the State can limit patient contact only to previously approved physicians.

To facilitate the establishment of the AHCCCS pro-gram, it was also agreed that Arizona would not be retroac-tively liable for medical costs incurred by patients within three months of their entry into the system. Negotiators decided this waiver of standard retroactive coverage was needed to prevent program overload. Given the administrative dif-ficulties experienced during the system's start-up period, it proved to be an important decision.

HCFA also granted a waiver to permit cost-sharing re-quirements for patients in the program. Designed to discourage overutilization of AHCCCS services, nominal fees will be asked of all those who receive care. Fees range from 50 cents for a doctor's visit to five dollars for non-emergency surgery.

Finally, a waiver was issued to exempt Arizona from the normal 40 percent state funding requirement for a Title XIX program. This permits an alternative cost-sharing system with county governments.

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ISSUES

As everyone involved with AHCCCS will state, the program is treading on new ground, ground that is being closely watched. House Majority Leader Barr notes, "There's no magic to health care costs. I've been in this 17 years now. HMO's, surgeons1

centers, paramedics, physicians' assistants, nurse practitioners, certificates of need—all designed to reduce costs and they haven't worked.'* AHCCCS Deputy Director Matthews puts it another way, stating, "People are trying to find an answer and they're just picking their way through a mine field trying to find that answer."

The following pages will examine some of the areas where AHCCCS is being monitored. As Jim Matthews might say, we will look at life in the mine field.

ADMINISTRATION When Arizona finally started a Title XIX funded program in

1982, it didn't lack for ambition. Not only does the state seek to provide a model of the future for indigent health care, it also wants to redesign health care delivery for virtually the entire population. Given these sweeping goals, administration becomes an even more important component in AHCCCS than in a more traditional proj-ect.

The bureaucratic framework for health care in Arizona was

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county oriented. Counties raised the money to care for the poor and delivered health services to them. For the state, this meant that it could build a new system from the ground up, with no preexisting bureaucracies battling over "turf." Senator Carl Kunasek says, "The problem with other states is that they have a traditional system in place which will mean a change of old habits. We didn't have to replace old approaches." The experience of building the AHCCCS machinery, though, has not been a smooth one. Some might de-scribe it as trying for "too much, too soon."

On November 18,1981, Governor Bruce Babbitt signed into law Senate Bill 1001, establishing AHCCCS as a division of the Ari-zona Department of Health Services. The bill was passed in a special session of the Arizona legislature after Governor Babbitt had vetoed a previous version of AHCCCS earlier in the year.

A start-up date of October I, 1982, was set. Staff was hired to begin the rule and regulation drafting process. A director for AHCCCS, however, did not join the program until March 1982. [The initial director, Henry A. Foley, Ph.D., left his post in Spring of 1983 and day-to-day administration was then handled by Mr. Don Mathis, a former assistant to Governor Babbitt and now the Director of the Department of Health Services. On August 15, 1983, Mr. J. Gregory Fahey, the former staff director of the Arizona State Senate, was named the new AHCCCS director. 1

Ad hoc advisory committees to the AHCCCS staff submitted their recommendations for rules and regulations in April 1982. Following public meetings in Tucson, Phoenix, Flagstaff, and Yuma, revised rules were prepared in May.

Permanent rules were adopted August 30, 1982. [Still newer regulations, reflecting legislative changes in AHCCCS, were is-sued September 30, 1983.]

Other pre-start-up work continued. That bureaucratic bulwark against creativity, the "proper form," had yet to be created. Efforts to set procedures for developing procedures proceeded. Following a bidders conference and proposal evaluations. MCAUTO Systems Group, Inc., an administrator of health care plans and a wholly owned subsidiary of McDonnell Douglas Corporation, was se-lected to run AHCCCS even though it was not the lowest bidder. MCAUTO began operations in June 1982 and was responsible for systems design and data processing, enrollment, technical as-sistance and payments to providers, marketing, and monitoring of contracts.

During the start-up time, however, October 1 rapidly approached

24

and as it grew near, AHCCCS apparently was not ready to handle the influx of sick indigents. The reactions to the program's quick start are close to unanimous:

Dr. Bruce Shelton. medical director of AHCCCS's largest private provider: "This program should have started January 1 [1983], not October I [1982];" Dr. John Oakley: "AH of this was started prematurely:"

Senator Anne Lindeman: "We didn't give ourselves enough lead time to work out as many bugs . . . as we could;*1

Dr. Jeffrey Schwimmer, former AHCCCS medical director: "There's a consensus both within and without that the entire system was . . . conceived prematurely."

Allegations have flown as to why the program began before it allegedly should have, but the fact remains that AHCCCS received a baptism of fire and is still recovering from the burns.

Dr. Shelton praises the program workers, stating, "Looking back on it, the state did a good job. They did something . . . that normally should have taken a year and a half and did it in three months." He also believes, however, that the system would have collapsed by now but for the efforts of the AHCCCS doctors and care delivery systems: "The providers in this state have really gone out of their way to keep this program going."

The premature start brought many problems, some smaller than others. Chuck Pyle of Pima County Legal Aid, notes, "When they [MCAUTO] sent out enrollment letters to the categoricals [AFDC and SSI recipients] they didn't know where the enrollment sites were going to be, so it was kind of a waste." Basically, the state paid for a mailing telling people they could enroll in the program, but did not tell them where the enrollment would take place.

The program's early start brought problems with the provider bidding. Because of the lack of lead time, not all doctors knew about AHCCCS and consequently did not know how or if they should participate. Dr. John Oakley states, "If you weren't in-volved in a group or had someone who cared to become knowledge-able [about AHCCCS) you just said, TH do my part when the time comes up," but fyou) didn't bid because [you) didn't know how."

This unfamiliarity with the bidding process is amplified by Dr. Joe McNally, Medical Director for the Northern Arizona Family Health Plan (an AHCCCS provider) and third generation physician in the Prescott area: "What they've done with the whole program is

25

>

try to make insurance companies out of individual physicians." Lack of bidding expertise may have intimidated doctors, but a

general uncertainty about the program was felt in other sectors as well.

Early on in the program, AHCCCS sought bids from providers to serve the public and private employee sectors. When the bids were received, a 10 to 18 percent surcharge was added to every bid to cover costs of administration and reinsurance (reinsurance cov-ers providers when a patient incurs over $20,000 in medical bills). In the words of AHCCCS Public Information Officer Randy Weiss, "The prices came in really too high . . . the amounts bid, with the add-on . . . were not competitive with what's out there." The feeling among AHCCCS staff was that the bidders were being cautious in covering potential costs.

Had bids been successful and plans instituted to cover public and private employees, there is doubt as to what the response to them may have been. Elizabeth McNamee, a consultant working on health care issues for the Arizona Association of Industries notes, "AHCCCS said to the [providers] already bidding on the public sector to submit bids on the private sector. Their bids came in all right, but when they added the cost for risk management and administration . . . they were non-competitive. And if they went out to industry and tried to market a plan with the same benefits industry was getting through an existing HMO, and it was $20 higher a month, they [would have been] setting themselves up for failure. So they didn't go."

Ms. McNamee also works with the Arizona Coalition for Cost Effective Quality Health Care. The coalition was formed by four of the state's largest manufacturers, Motorola, Honeywell, Garrett, and Sperry, in response to rapidly rising health care costs. It now includes approximately 1000 employers statewide representing 120,000 employees, although Honeywell has "effectively with-drawn" from active participation in the coalition allegedly due to pressure from major hospital chains who are customers of the corporation. The businesses involved in the coalition are primarily small in size, making the cost of employee health insurance all the more important to them. Indeed, Ms. McNamee reports that some smaller companies in Arizona have had to discontinue this em-ployee benefit because it became too expensive.

The coalition has been watching AHCCCS closely from the beginning. Conversely, state program officers say that outreach efforts have been made to members of the coalition to get them

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involved in AHCCCS. Because of the hurried efforts to initiate the project, though, the business community did not know enough about AHCCCS to make an involvement decision. Ms. McNamee states, " . . they wanted to do it too quickly and nothing was in place. They wanted employers to commit to it when they didn't really know what the administration of the plans would really look like, what the benefits were that they were going to offer, or what it was going to cost. They wanted them to buy a pig in a poke.'1

An underlying concern of the coalition was the program's poten-tial for longevity. Ms. McNamee states businesses would like to "be assured that they've got a good plan and it's well run and it's going to be here tomorrow. . . There is a real problem with fly-by-night operations springing up. In terms of administration, you may

' have excellent doctors that say, hOK, let's get together and . . . market to Motorola," and they're already physicians that a lot of Motorola employees are using . . . it would be very attractive [to the employees]. . . Then (the doctors] don't have the management behind them. Doctors are not known for knowing how to run a business, which is what a prepaid plan is. And that [is] the big concern."

The future of AHCCCS's inclusion of the private sector remains clouded as of this writing.

It was the hope of the AHCCCS people to include public and private employees in the program last year. Randy Weiss said in early 1983, "It's really important for us here at the State . . . in the next round to provide an opportunity for as many people as possible to come in . . . In our second year's round of bids we will ag-gressively go after private employers and their employees." That timetable was apparently too ambitious.

One of the results of the accelerated start-up of AHCCCS was that not all providers had procured the necessary services for their individual programs. As stated in the original law, AHCCCS providers were to furnish standard minimum services. However, as Ms. Weiss puts it, "There was such tremendous pressure to get started by a certain deadline that we awarded contracts to providers still recognizing that they maybe hadn't filled all of their . . . contingencies, subcontracts with specialists."

Some of the key subcontracts that were not finalized were with hospitals. Sandy Spellman of the Arizona Hospital Association relates that, "We had been convinced all along that the law and the regulations required written legal contracts between these prime contractors and the provider element that was needed to comple-

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ment the services that the prime couldn't provide . . . IPA [the largest private provider] was convinced that they did not need subcontractors. When time for the program drew near . . . they were officially informed by the state that they had to have sub-contractors."

By then, however, there was not much time to negotiate for services. Ms. Spellman reports. "There were some hospitals that were reluctant to enter into a contract without some time period to actually negotiate terms and actually see what it was we were dealing with. A couple [of hospitals] required deposits [to serve AHCCCS patients]."

All of this confusion resulted in many people and groups not being paid. Prominent among these were hospitals. This difficulty is eXpJored further in the "Reimbursement" portion of this study.

In the second year's bids, though, this episode was not repeated. AHCCCS insisted that before bids were awarded to providers that subcontracts with hospitals, specialists, or pharmacies be already signed. This should eliminate some of the confusion experienced in the first year.

As one could expect, the overall administration of the program has not been without controversy. Senator Kunasek says, "Some of the problems were caused by mismanagement. They were honest decisions based on no prior experience." Sandy Spellman states, "We always felt the law was workable, but had not been properly operationalized by the folks who were hired to do that."

Dr. Schwimmer, who was medical director of AHCCCS in its early stages, feels that the problem was one of insufficient and poorly located staff, stating that most of the program was run from New York by MCAUTO. As medical director he had "no staff whatsoever . . . no typewriter . . . I had a desk and a phone and shared a secretary with five others."

Former MCAUTO Public Information Officer and present state employee Brian Donnelly conceded before MCAUTO's pullout that, "In the first three months of the program, there was great direction coming from New York to oversee our operation here . . . Since June [1983], the New York influence on this program has greatly been reduced. We are running the show here ourselves."

Toni Neptune, MCAUTO Executive Secretary, added her view that the program was administered from Phoenix, where "we |kept] track of eligibility, enrollment, and claims processing . . . For major computer processing, large volume storage, things of this nature, then we [used] . . . the main computer facility at

28

McDonnell Douglas in St. Louis." The MCAUTO/AHCCCS split greatly changes the administra-

tion of the program. Since March 16,1984, the state Department of Health Services (DHS) has been responsible for both the eligibility and enrollment processes. Because the original AHCCCS legisla-tion stipulated that the program have an outside, private administra-tor, amendments were required to permit the state to assume MCAUTO's duties. The new legislation provides "a bit of leeway" to the state, according to Randy Weiss, in that the Director of the DHS has the authority to contract out some portions of the pro-gram's administrative duties to private entities.

The AHCCCS amendments also provide the DHS with the power to hire its own legal counsel. Given the potential for litiga-tion in this situation, this prerogative will undoubtedly be exer-cised.

MCAUTO left AHCCCS claiming that the state owes it money for services rendered. The state, in turn, charges that MCAUTO has been overpaid and owes the state money. At issue are alleged verbal contracts between MCAUTO and a former AHCCCS direc-tor, alleged unauthorized payments by state officers to MCAUTO, and a host of "irreconcilable differences" between the two parties. Among the differences are $20 million. MCAUTO agreed to ad-minister AHCCCS for 40 months (including a four-month start-up period) for approximately $11.5 million. Brian Donnelly noted, "In fact, we had spent the three-year budget the first year." Before leaving AHCCCS, MCAUTO said it would need an additional $24 million to complete the three-year project, allegedly because it was asked to perform services not in its original contract.

How the AHCCCS/MCAUTO dispute will be reconciled is an open question. So is the matter of how the changes will affect the performance of the program.

Dr. Joe McNally feels that, overall, there is quite enough bureau-cracy in AHCCCS: "For instance, every day your patient's in the hospital you've got to fill out a separate form. You can't send in one form stating someone's been hospitalized from this date to that date. Every day you have to send in a new form . . . You've got county administration, the plan's administration, the adminstrator's administration, the state administration, the legislative oversights, the watchdogs that are watching the watchdogs. How many lawyers is that? You'll never find out because it'll never be in one place."

One relatively minor, yet vital, service of AHCCCS administra-tion is the "hotline" that hospitals and doctors call to determine

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eligibility of patients who present themselves for treatment, usually during emergency situations. Unfortunately, the hotline is not always accessible. Dr. Shelton states, "The hotline is constantly busy." Dr. John Oakley describes attempts to verify a patient's status over the hotline as "like calling the I.R.S. on April 14th."

Official monitoring of the AHCCCS program has begun and will continue throughout the three-year demonstration period. The state legislature has asked for a special evaluation of the program. At the federal level, the Health Care Financing Administration (HCFA) has been watching the program since its inception. Both the main office in Maryland and the regional office in San Francisco are involved. According to Sidney Trieger at the Office of Research Demonstration and Statistics, AHCCCS "is being monitored the way other Medicaid programs are monitored by HCFA. That is, there will be an annual state assessment of the Arizona system by the San Francisco regional office."

The standard HCFA review covers eleven subject areas: abor-tion, sterilization, and family planning; administration and man-agement; claims processing; eligibility; institutional reimburse-ment requirements; utilization control requirements; coverage; financial management; prepaid health requirements; non-institu-tional reimbursements; and third party liability. Since AHCCCS is not a fee-for-service program, claims processing, institutional re-imbursement requirements, utilization, and non-institutional reim-bursement will not be major parts of the AHCCCS review. The same is true of family planning, which is not included in AHCCCS coverage.

A special, independent evaluation has also been ordered by HCFA due to the special nature of AHCCCS. On June 30, 1983, a 39-month contract was awarded to an evaluation team led by Stanford Research Institute International of Menlo Park, Califor-nia. The team includes the Institute of Health Policy Studies of the University of California at San Francisco, the Actuarial Research Corporation of Falls Church, Virginia, the Research Triangle In-stitute of Chapel Hill, North Carolina, and several independent consultants. The subjects monitored are to include quality of care, reimbursement, administrative procedure, utilization, and other areas. The evaluation will attempt to determine how the AHCCCS model could be applied by other states and will measure the overall success or merits of the demonstration aspects of the program.

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ELIGIBILITY AND ENROLLMENT

Of any problem experienced in AHCCCS, none has caused a bigger headache than the enrollment of indigent patients. Unless people are declared officially enrolled in the program and officially listed by the administrator to be so enrolled, nothing in the system works. Providers are not paid by the state, subcontractors are not paid by the providers, and health care service breaks down. And the breakdowns are expensive. Because of unanticipated patient ex-penses caused by enrollment problems, AHCCCS is asking the state to increase its second year $180 million budget by $40 million to $65 million.

To understand the problems of the enrollment process, one must first understand the process itself. This is no simple task. Knowl-edge of the workings of AHCCCS is still limited even after months and months of operation. Dr. Bruce Shelton, Medical Director of the Arizona family Physicians Independent Physicians Associa-tion, the largest private AHCCCS provider, pleaded in 1983, "Someone needs to go on television and explain it to the public. This system is so complicated that even the doctors have trouble understanding it."

Like Alice in Wonderland, we will begin at the beginning. The first step anyone takes to become an AHCCCS patient is to apply for program eligibility with the county government. If someone receives federal funds from either the Supplemental Security In-come program of Social Security or the Aid to Families with Dependent Children program, he may skip this requirement. He is a "categorically eligible" who is automatically qualified to partici-pate and needs only to be enrolled with the administrator.

But we are getting ahead of ourselves. Eligibility also may be established if a person is declared "indigent" or "medically needy" by the county. This takes time.

As mentioned earlier in this report, to be legally indigent or medically needy, one must earn less than $2500 or $3200 a year, respectively. In both categories, the earnings limitation increases by one-third if the applicant is married, with the ceiling rising an additional 17 percent for each dependent. For computation pur-poses, only the income earned in the 30 days prior to application is considered. (A 90-day review period was struck down as being discriminatory against the recently unemployed.) In no instance

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may an applicant have net resources of more than $30,000. This includes everything from savings to real property to cars, motorcy-cles, and boats. Some counties in Arizona have broader standards for eligibility, as is permitted under the law.

Those who believe they fall into one of these two categories apply to their local county office. Upon completion of a nine-page form, applicants are interviewed by an eligibility worker. Docu-mentation for all income and asset declarations is required. If a person cannot produce physical verification of income at the time of the interview, a second meeting must be scheduled. The time elapsed between interviews depends a good deal on how long it takes a person to document the income or assets in question. Ultimately, if no documentation can be produced, the eligibility worker describes the circumstances of the case on the application and the potential AHCCCS patient signs a "Statement of Truth" attesting to the veracity of the declarations made on the form.

For some applicants, documentation is a major obstacle to the program. Chuck Pyle represents indigents who seek entrance to AHCCCS and reports that difficulties exist. He labels the eligibility process a "serious bottleneck," adding. "Our clients have had problems getting documentation." Mr. Pyle says many are young, pregnant girls who cannot produce official identification such as a driver's license or Social Security card because they simply don't have it yet. A typical case would be a pregnant girl in her last trimester who cannot get care due to documentation problems.

Pyle feels strongly that the process could be more flexible. He cites a recent case where a woman declared as income a fruit basket given to her by her church. The county eligibility worker required an affidavit from the church as to the value of the basket. When the woman went to her priest with the request, no one at the church was really sure who should write the letter. The woman's eligibility application was delayed over a $20 fruit basket.

In fairness to AHCCCS, these same problems apparently existed under the old, county-based system as well. One court case against Pima County concerned a woman who was eight months pregnant and could not get care because notarized statements were required to show she earned $12 a week babysitting and that she lived rent-free with her brother.

Pyle contends that AHCCCS requires too much verification. He feels that if someone is going to lie to become eligible, they will say they have no income at all. rather than say they are receiving less money than they really are. To admit to any income is self-

32

incriminating, he adds, and therefore an indication of trustworthi-ness. Pyle suggests not doing away with the documentation require-ment, but perhaps instituting random enforcement to facilitate quicker access to care.

Assuming income and assets are verified and eligibility is de-clared, the applicant receives a letter of approval from the county. Prior to March 16, 1984, the indigent or medically needy person would then take the eligibility notice to the administrator, . MCAUTO, for enrollment. MCAUTO would enter the person's name in their computer system and issue an AHCCCS indentifica-tion card. This card would be the patient's entry into the health care system. Today, the state Department of Health Services, with the assistance of the Department of Economic Security's computers, is assuming this responsibility.

Before enrollment is complete and a card is printed, the appli-cant must select a provider. In most counties, there are at least two AHCCCS-contracted providers from which to choose. Program officials report that for some individuals who are used to "just going to the county/* this choice is not easy. For those who do not select a provider, an assignment is made by the administrator. This is necessary to keep the program functional. AHCCCS's Randy Weiss points out, "Obviously, in a prepaid program, everything is in limbo until (enrollees] are matched with a provider, the provider is paid for them, and they are on record."

The indecisive are sent to the provider who submitted the lowest cost bid in the county. Ms. Weiss states, 'At any given time what we do is take the backlog of people who have enrolled, but haven't chosen yet, send them out a mailing saying that in two weeks or whatever period of time, if we haven't heard from you we will assign you." According to Dr. Shelton, the Arizona Family Physi-cians IPA was low bidder in about 80 percent of the categories around the state in the first year and, thus, received the bulk of assigned patients.

Since the provider's income is based on the number of enrollees in its program, those providers who were not low bidders are not happy with the way non-electing indigents are assigned. No changes in the system have been made however.

AHCCCS members are to be screened every six months to see if they still meet eligibility standards. In-person interviews and docu-mentation of any changed circumstances are required. Redeter-mination of AFDC and SSI recipients is done by the State Depart-ment of Economic Security and the Social Security Administration,

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respectively. Arizona completed its first redetermination period in the late summer of 1983. The counties sent out letters to AHCCCS enrollees asking them to come to their local county office to reapply for eligibility certification. Those who did not come in were dropped from the program. This recertification process may be a factor in the decline in AHCCCS enrollment from 160,000 in mid-1983 to 150,000 in November 1983.

AHCCCS also completed its first open enrollment session in late August and early September of 1983. In efforts to lure new en-rollees, providers engaged in media advertising campaigns. Some hired recruiters to attract enrollees from other plans. When indigent members of the program were given this chance to change pro-viders, 23 percent did so. Of that number, a little under half changed involuntarily because their provider lost its bid to serve them in the second year of AHCCCS. That provider was the system's largest, Maricopa County.

Maricopa, which includes the metropolitan Phoenix area, had a $27 million provider contract with AHCCCS in the first year. In the second year, the county was outbid for the medically indigent patients by two private providers.

There has been speculation that some providers submit ar-tificially low bids in hopes of being assigned the no-preference enrollees. Because these enrollees are assumed to be healthier than those who are anxious to choose a provider, they are supposed to be a profitable group to have as patients.

With the $27 million loss of revenue, Maricopa has had to make cutbacks at the county medical center, which is the state's largest facility treating indigents, and close two local clinics. The county is doubly upset because, like other counties, it still must pay for long term and home health care, two of the most expensive compo-nents in normal Medicaid programs, and it still must treat those patients who are over the income levels for AHCCCS's eligibility.

Those people, known as the "notch"" group, are a subject of controversy between the state and counties. With counties legally responsible for treating patients who are too poor to pay for medical expenses, but not poor enough to qualify for AHCCCS, friction is developing over eligibility limits. Maricopa estimates that there are 80,000 people in this "notch" group in its county alone.

That, basically, is the eligibility/enrollment process. The experi-ence of putting this plan into practice has not been uneventful. In the Spring of 1983, opinions varied:

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Dr. Bruce Shelton: "Eighty-five percent of the people we're pres-ently caring for are enrolled, are eligible, and everyone knows it. As far as that sector of the program, it's going very well. . . People are happy." Dr. Jeffrey Schwimmer: "Basically, the thing was an absolute ball of yam that the cat got into." Senator Anne Lindeman: 4*lfs been a rocky road so far: not neces-sarily because of the program itself, but because we started out in a big rush.'*

Some of the first rocks in the enrollment road were the temporary eligibility cards issued by the counties. Discontinued as of Febru-ary 1, 1983, these cards caused quite a few problems forAHCCCS.

When the system began, naturally, there was a great influx of people into the program. To help ease the logjam, the administrator, MCAUTO, decided to issue cards to those people who sought entrance to AHCCCS but had not completed their eligibility deter-mination. Dr. Shelton explains, "In the beginning, MCAUTO took it upon themselves to say, 'that process is hung up so we're going to go to step two [enrollment],*' and they issued a lot of people documents that showed they applied for the program before going through eligibility . . . They figured they'd save time."

What they did, though, was complicate matters. A number of the people who received the temporary cards thought they were en-titled to care. Dr. Shelton states, *\ . . a lot of people took those documents and never went back to do the step one eligibility . . . [they] went out and received care from a lot of providers/' Senator Carl Kunasek continues, ". , . the providers did not read the fine print on the card. They accepted the card as from a person who had already been enrolled when, in fact, it stated [only that) an applica-tion for eligibility had been made . . . They should have given no cards at all."

The result was that a lot of providers ended up treating ineligible patients and could not be reimbursed for the treatment. Reimburse-ment, while directly tied to enrollment, is discussed separately later in the study.

While there were problems in getting people enrolled in the program, those who did make it through were disproportionately in need of treatment. Dr. Schwimmer explains. "The first people . . . in a program like this are the high utilizers—the sick people. The healthy people don't come out unless they need medical care."

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}

AHCCCS providers made their bids to the state based on actu-arial tables showing what they should expect in the way of patient load. The tables did not begin to prepare them for the deluge of cases. Dr. Shelton provides an example, "We're set up to handle 23 pregnancies per 1000 people per year. That's the average. We have one doctor who got 30 in one week. I'd say we had 400 deliveries in the month of October [1982] and we only had 4000 patients at that point in time. . . we used up a whole year's worth (of pregnancies] for 50,000 people in one month. It didn't make any sense." Dr. Shelton began to wonder, adding, "We had people walking in off the street who had just had cancer operations. It almost seemed in the beginning that the county system had allowed its sickest people loose to go elsewhere. We later found out that it just happened that way . . . A lot of people escaped on their own/*

The phenomenon happened to many providers. Dr. Shelton concludes, "People just wanted to get out of where they were.'1 In Dr. Schwimmer's words, they were the "high consumers of health care dollars.** To put it mildly, this high consumer utilization was not expected.

REIMBURSEMENT Reimbursement of expenses to health care providers in a prepaid,

capitated system is directly tied to enrollment. The amount of money that a provider receives depends on the number of people officially enrolled in the health care plan. If a doctor who is part of the system treats someone who he believes is enrolled for health care and it subsequently develops that that person is not enrolled, someone has to absorb the bad debt incurred for the patient's treatment. Reimbursement becomes a vital point of contention.

AHCCCS, in its first year of operation, experienced difficulties in this area. Doctors, hospitals, pharmacies, and other providers rendered care to indigents and, in many instances, no one was willing to shoulder responsibility for the cost of the treatment. The result was tremendous financial strain on a great many people and, allegedly, a corresponding diminution in the accessibility of care.

Under AHCCCS, the state must give money to the provider for each enrolled member in the provider's plan. The provider, in turn, must reimburse its subcontractors for care given to one of the providers patients. For example, if a medical specialist under contract to treat patients referred by the provider gives care to those patients, that specialist must be reimbursed by the provider, not the

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state. Part of the reimbursement problem rests with the eligibility/

enrollment situation. Dr. Bruce Shelton, whose provider group claimed it had more enrollees than the administrator, MCAUTO, would recognize, stated in the Spring of 1983, "Some patients who enrolled five months ago are still in 'pending status." There are legitimate reasons for these cases, but I have trouble understanding them." In the meantime those people needed care and someone had to pay for it. Dr. Shelton noted, "It's troublesome because there are people out there who look to us as the ones who should be paying the bill and legitimately we can't until we've been given the money [by the state]." As Dr. John Oakley remarked about the responsibil-ity for reimbursement, ". • . nobody can find the answers to those problems."

Dr. Jeffrey Schwimmer says uncertainty over liability for medi-cal expenses is rooted in the original lack of a firm set of regulations for settling patient eligiblity, stating, VfcIn the beginning, there were constantly shifting guidelines about what was a legitimate 'ticket," so to speak, to get your entry into the health care system. The guidelines kept changing day to day, literally."

Hospitals have been a vocal force in the reimbursement contro-versy. Generally, there are two sources of AHCCCS reimbursement for hospitals: emergency care rendered to individuals who are potentially eligible for the program and are later determined eligi-ble within a limited number of days, is reimburseable by the state; and care provided to AHCCCS members is reimburseable by the main provider who contracts with the state.

The problem has been tardy payments to the providers and subcontractors. Sandy Spellman of the Arizona Hospital Associa-tion states, "A number of hospitals are certainly having financial problems." For all hospitals, she says, "Our problem is not only with the state turning around emergency care reimbursement, but (also) with prime contractors."

The "prime contractors" are the AHCCCS providers who sub-contract with hospitals to provide inpatient and outpatient care for their members. Ms. Spellman says that these subcontracts typically specify repayment to hospitals within 15 or 30 days of submission of the bills, but that, "unfortunately, a number of prime contractors were getting 60 and 90 days behind on making payments."

The result was legal action. A number of hospitals began the process of contract termination due to alleged breach. Eventually, as settlement of these suits, hospitals agreed to serve AHCCCS

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patients if the prime contractors made a "deposit or some sort of prospective payment," according to Ms. Spellman, "to demon-strate good faith that, in fact, billings would be turned around on a more expeditious basis." She adds that, "While hospitals were criticized at the time for requiring some up-front payment, the way things played out over the ensuing months rather proved that the hospitals who had been that cautious were the only ones getting paid."

Amendments to the AHCCCS law passed at the close of the 1983 legislative session may have obviated these problems, however

New changes in the AHCCCS law are aimed at the cash flow problem. Under recently passed amendments, the administrator must establish and maintain a claims resolution procedure to insure that claims submitted for reimbursement, including those of hospi-tals, are resolved within 45 days of submission to the administrator.

After September 30, 1983, if a person who has been determined eligible for AHCCCS by a county, but has not yet enrolled with a provider, receives emergency services he will be enrolled "on a priority basis" (i.e. within days). The provider with whom he enrolls will be liable for expenses incurred after the date of enroll-ment. The AHCCCS system will reimburse providers for costs of treating eligible-but-not-enrolled patients during the interim period between their declaration of eligibility by the county and their enrollment with an AHCCCS provider. The reimbursement in this instance will be on a capped fee-for-service basis. It is because this fee-for-service reimbursement has been unexpectedly expensive that AHCCCS has had to seek supplemental appropriations for its second year's budget.

When a hospital treats an indigent or medically needy person from the county, AHCCCS will be retroactively liable for emer-gency care provided within five days prior to the date that eligibility is determined. Expenses accrued prior to this five-day limit are charged to the county that is responsible for declaring eligibility. The amount of reimbursement will depend on whether the hospital is an AHCCCS contractor or subcontractor Hospitals that are AHCCCS contractors or subcontractors will receive 95 percent of their charges; non-contractors will receive 80 percent.

While these changes address the late reimbursement problem, there are still those providers who are simply not having their claims approved. The latter cases involve treatment given to people who received care and were later declared not eligible for AHCCCS.

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A good deal of this problem was caused by the temporary documents issued earlier in the program to people who had not established eligibility (see "Enrollment and Eligibility"). The lack of reimbursement for treatment provided to these people, some say, resulted in a lack of care. Dr. Schwimmer states, "Most of the doctors saw them [i.e. the people who were given temporary cards, but were not eligible] until they realized they were going to get burned financially. Then they started to refuse to see the patients.

Where Does the Money Go? When the state pays a health care provider its monthly

capitated rate, how is that money allocated? Dr. Bruce Shelton, Medical Director of AHCCCS's largest private pro-vider, gives a breakdown of how his organization uses the money.

"We get [about] $75 per month per patient. This pool of money breaks down into four groups: • Administrative Fund—15% of the pool.

One-third of this fund goes to the business manager who made the bid [to the state] and advises us; one-third goes to the claims processor who gets the checks out; and one-third goes to the Arizona Family Physicians IPA [the provider] it-self to pay staff. This IPA [Independent Physicians As-sociation] is a non-profit group [application for Internal Revenue Code 501(c)(3) status pending] and any profits we make will be used for a worthy cause. No one can walk away with the money.

• Statewide Risk Fund—10% of the pool. This covers patients who have extraordinarily costly ill-nesses.

• Primary Care Fund—35 % of the pool. This belongs to primary care doctors. It pays their expenses, lab costs, pharmacy, and any other subcontractors. Any profits from this fund go to the providers.

• Hospital Care Fund—40% of the pool. This includes costs for ambulances and any hospital-related care. One-half of the profits from the Statewide Risk and

Hospital Care Funds go to the primary care doctors; \2lA per-cent to the business manager; and 25 percent to the charitable foundation established under Internal Revenue Code 501(c)(3)."

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Then the pharmacies started balking because they weren't getting reimbursed. It was just terrible."

Randy Weiss of AHCCCS says, "I think a lot of people thought they were going to collect very readily before the state had the opportunity to certify that these people were eligible." •

A previously discussed problem contributed to this reimburse-ment confusion: the failure to negotiate clear and binding contracts between providers and subcontractors. In spite of the law's require-ments, some providers neglected to obtain contracts with hospitals, specialists, or others until there was precious little time to reach agreement before the October I, 1982, start-up date. As a result, i responsibilities had not been firmly set as to treatment costs and their reimbursement. For instance, in Yavapai County, no contracts were ever signed to provide medication to certain patients. A local pharmacy served AHCCCS patients for five months on the basis of an oral agreement. When the pharmacy submitted its charges, MCAUTO, the administrator, rejected them as being too high. Because of the disagreement on terms in this instance, nursing homes in the area were nearly shut down as the pharmacy reluc-tantly threatened to withhold delivery of medication in order to force reimbursement from AHCCCS. The program, in turn, termi-nated its oral agreement and found another pharmacy to provide medication to the patients. The case demonstrates the clear need for specific contracts where all parties understand their rights and responsibilities before any liabilities are incurred.

Confusion in AHCCCS may have also introduced an element into the reimbursement problem that is all too familiar to other programs. Dr. Shelton states, "I don't know if I should use the word 'fraud" or not, but there are a lot of people out there that have learned that there is confusion in this system and have learned ways to get care knowing that they're not eligible." Who picks up the tab when unauthorized care is given? Dr. Oakley states. "Counties are still responsible if no one else will pay. It's the same situation as before."

Experience is certainly a teacher for AHCCCS. as it is for every new concept that is put into practice. As mentioned, this experience has produced legislative changes in the program. The aim of the state now appears to be to speed up enrollment and verification procedures so that debts for unreimburseable treatment are not knowingly incurred in the first place. This would fix reimburse-ment liability at an early stage in the patient's care and. hopefully, reduce the unresolved claims plaguing AHCCCS.

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QUALITY OF CARE

One of the great worries in a prepaid, capitated system is that patients will not receive quality medical treatment. Since doctors' profit margins depend on how much or how little they spend on their patients, the fear is that they will, in effect, "take the money and run." As Jim Matthews states, "The great way to save money in this program would be to enroll everybody and then not provide care/ '

AHCCCS supporters, including Mr. Matthews, believe the pro-gram will save money, but not at the expense of patients. Right now, as Chuck Pyle notes, there is "not a whole lot of feedback on quality of care." While official audits are not available at this time, the thoughts of those directly involved with the program may shed some light on this issue, which strikes at the core of AHCCCS.

"This is a fiscal answer to the problem. It has nothing to do with the quality of medicine," appraises Dr. Joe McNaily, medical director of an AHCCCS provider group. The feeling of many in the medical community is that prepaid, capitated plans will indeed save money in the short term, but that long term costs will mount and eventually fall due. These costs are what worry them.

Jim Matthews describes it as a "philosophical competition" between two approaches to medical care. "One model is (that] a person walks in and he's sick and you fix him . . . That way you save money because you only provide the care when they're sick. The other school of thought is (that) you keep him well and you don't have to treat him. That keeps him out of the system. That's what this program is about. That's the test we're conducting here."

This concept of AHCCCS *s purpose is not shared by Senator Carl Kunasek, like Matthews, a strong supporter of the program. Senator Kunasek says that in designing AHCCCS, "We wanted to get sick people well. We did not envision a program that would keep people from getting sick. In my opinion, that is beyond the scope of government."

Whether AHCCCS is concentrating on preventive medicine would depend, in practice, on the individual provider. There are no restrictions on how to practice medicine. It is up to the the provider to utilize allotted money, treat patients, and still make a profit.

The fear of some critics is that, in order to save money, doctors will use less expensive, "second best" treatments that could lead to more serious medical consequences down the road. The approach will save money now, they claim, but it will lead to more aggravated

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conditions in the future. There may be patients who could have had their problems "nipped in the bud" by more thorough and more expensive initial treatments. These worsened conditions could end up costing much more than the early "best medicine" approach, some health providers contend.

Dr. Bruce Shelton acknowledges this argument, stating, "If I don't do what I have to do, I'm dumb. I've got to figure out what's wrong with [the patient] today, because unless the patient dies it's going to cost more to treat [him] tomorrow . . . Underutilization could be more costly than overutilization." He continues, "Prepaid medicine is really better medicine for the patient if you're dealing with doctors who really understand prepaid medicine. We have about five percent of the doctors in the system who don't under-stand it. When they get their reports and see the disasters they've created, either they voluntarily leave, we educate them, or we actually ask them to leave. As we hone the system down, it's actually going to work."

The quality of care argument appears to stir little concern among Arizona legislators. Senator Kunasek, himself a pharmacist, states, "In my opinion, it's a hollow argument. In the real world, the quality is there in all cases, public and private. In the private setting where there is no [health] insurance, the doctor is more concerned about the economy of the patient, but that patient gets just as good care." Senator Anne Lindeman, a registered nurse, says, "The only thing I can say without getting too cynical is that if they [doctors] are that concerned about quality, they're going to be just as concerned about quality under this program. There is nothing in this program that says they can't deliver quality medicine. They just aren't going to get paid as much for it, that's all." Representa-tive Burton Barr comments, "Doctors took an oath to provide the best care they can provide and none of them are running around on bicycles in tattered shirts."

Randy Weiss notes in this regard, "Most of the physicians participating [in AHCCCS] are participating through independent practitioner associations, so they already have private practices out there. These indigents are just a new caseload for them. I don't believe it's in their frame of thought to suddenly cut back just because two percent of their caseload [are under the capitated plan]."

What happens though, if there is an unscrupulous doctor? Will he be identified? How?

AHCCCS is designed to monitor itself for quality of care, but Dr.

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Oakley stated in 1983, "None of the quality care controls have been implemented, just talked about . . . They [AHCCCS] have no evidence that they have been concerned about quality except verbal evidence."

Jim Matthews of AHCCCS states that the program's medical director is supposed to audit providers to make sure quality care is given. However, the position of medical director has been vacant for most of the program's existence. While AHCCCS began official operation on October 1, 1982, it did not fill the director's slot until Dr. Schwimmer was hired on December 7, 1982. He resigned on January 31, 1983, and now remarks that, "The quality of care system should have been on line (when the program began]. All this stuff was simply on paper." The program did not have a full time medical director again until Dr. Don Schaller assumed respon-sibility for the job in February 1984. Two California doctors filled the position on a part-time basis during the year between Drs. Schwimmer and Schaller.

Toni Neptune of MCAUTO said that under that company's ad-ministration, quality of treatment was monitored through "provider management" on a case by case basis, Brian Donnelly of MCAUTO stated that, "One of the functions of the administrator is to oversee the quality of care provided by the plans that are AHCCCS . . . All of the quality control that's carried on is over-seen by our acting medical directors." This quality control con-sisted of visits to providers* offices and examination of medical records. The part-time medical directors also investigated patients' complaints.

Donnelly believes, however, that 99 percent of people's unhappi-ness with the program is due to administrative problems with eligibility rather than quality of care. As discussed in the "Admin-istration" section, planned monitoring projects will attempt to evaluate the program, providing a more independent verification of the quality of care rendered.

Dr. Shelton feels that the program's structure lends itself to a higher quality care for the patient. He states, "There are people who were lost for years and are now getting better care than they ever were. The gatekeeper approach gives them one doctor to deal with. The feeling of you relating to your doctor is not there in other public health care plans. If people don't have that feeling they may perceive the quality of care as being low when in fact maybe it isn't."

Randy Weiss stresses that ". . . the emphasis is on establishing

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that primary care relationship," of which Dr. Shelton speaks. By having one doctor who knows a patient's medical history, it is believed that the quality of care for the patient will be better than that from a clinic-oriented, impersonal system. Dr. Shelton com-ments, "People who come from that type of program classically walk into your office with a shopping bag full of medicine. 1 had one lady walk in with 18 bottles that she wanted refilled: three kinds of blood pressure pills; four kinds of tranquilizers . . . What happened was that each time she went in she saw a different doctor who gave her a different medicine not knowing that she already had another . . . It's not maliciovts, it just happens every day. The gatekeeper approach will diminish this considerably."

Of course, in order to receive quality care, the patient must first be able to see the doctor. Dr. Schwimmer says of his experience with the program, "The bottom line was (that] the accessibility of care was worse than terrible . . . There was hardly anything ever mentioned about the quality of care or the accessibility of care. The whole thing was money-money-money-money-money."

Representative Ban* is concerned with accessibility too, but in a different vein, noting, "The system has to be affordable. . . If you can't afford to go to the doctor, if you can't afford medical care, who cares about quality?" It's his belief that AHCCCS will lower all health care costs and thus improve the overall quality of medical care in the state if only by making it available to more people.

There are other implications in the cost/quality issue to consider, however. One long term consideration is the effect that extremely low prices for medical products could have on future innovations in the medical field. Advancements in lifesaving machinery, prosthe-tics, and pharmaceuticals, to name a few, have been the result of tremendous financial investments in research and development by private industry. Sharp reductions in income for companies in these fields, some of which are already heavily regulated by the govern-ment, could mean less money available for research projects result-ing in fewer technological advancements in the future. A recent study. Competition in the Pharmaceutical Industry, The De-clining Profitability of Drug Innovation, written by Meir Statman and published by the American Enterprise Institute, discusses this point. The report states, *\ . . there is a trade-off between low prices of drugs to consumers and incentives for innovation of drugs . . , Thus, it seems possible that the attempt to save money for consumers through lower prices of drugs might result in further reduction of incentives to innovate drugs.**

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Another study, this one performed by William C. McCormick, Ph.D., of the Department of Pharmacy Health Care Administration at the University of Florida, raises another point in the cost/quality debate: the effect of restrictive drug formularies on patients' health.

A formulary is a list of approved pharmaceutical products from which a doctor participating in a health care plan may prescribe medications. Some states have enacted restrictive or "closed" formularies for their Medicaid programs, meaning that doctors are limited by the state in the types of drugs they may prescribe to Medicaid patients. The rationale for restricting prescriptions in this way is that such limitations would reduce program costs by permit-ting only inexpensive medications to be used. Studies have re-vealed, however, that program costs actually increase with closed formularies due to the increased bureaucratic costs involved with the prescription approval process and the exacerbated conditions and increased cases of disease associated with the unavailability of drugs that had been removed from the formulary.

AHCCCS does not have a statewide formulary which doctors must follow. Individual providers, however, must contract for phar-maceutical services and it is here where restrictive formularies may be employed. Dr. McCormick analyzed one such drug formulary not on its economic impact, but on therapeutic and administrative concerns. He concluded that *\ . . the primary weaknesses in the formulary. . . relate to the exclusion of significant pharmacologic products/' He cited the exclusion of one drug that is on the World Health Organization's essential drug list and another which he terms the "drug of choice'* for certain conditions. He also noted that there did "not appear to be a mechanism by which physicians can obtain prior approval for the coverage of nonformulary drugs which they consider necessary for the treatment of specific pa-tients."

Depending on the restrictions placed on prescription medicines by individual providers, then, the closed formulary issue may affect the quality of treatment a patient may receive.

Public perception of the quality of care provided by AHCCCS will be a significant factor in its acceptance by the general popula-tion. If all goes according to plan, they eventually will be able to include AHCCCS among their choices for health insurance cover-age. If people generally view the system as rendering inferior treatment, though, AHCCCS will find it difficult to compete with established private health insurance plans. Indeed, there could be distrust of a system where patients know that their medical care will

45

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cost their doctor money. Thus, image is very important* Elizabeth McNamee feels that to have made AHCCCS more attractive to the private sector, it should not have been publicized as an "indigent" program because many people equate such programs with inferior treatment. "We expressed that concern to the AHCCCS people very early on . . . if they could talk more about it as the 'Arizona experiment' or the Arizona alternative' or the 'Arizona competitive system' rather than the 'indigent program.* That hurt." She con-tinues, " . . the concern [of business] was one of image . . . that their employees would perceive that their employers were trying to foist on them a lower class of medicine."

AHCCCS, then, must not only strive to provide quality care to its patients, but also keep in mind the public relations factors involved in "selling" the program. It must work to remove the doubts of some that their doctor could be skimping on care to make a buck. As Dr. Joe McNally states, "Prepayment connotes that the less service you provide as a provider, the more you're going to get paid." Ultimately, though, word-of-mouth may decide the issue. Chuck Pyle believes that, " . . as the system gets older, there will be perceptions on quality of care depending on the provider."

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REACTION TO AHCCCS

It's premature to make final judgments on AHCCCS. In the words of Representative Ban; "It hasn't had enough time to de-velop all the problems its going to have." Individuals and groups have formed opinions, however, on the, thus far, limited experience of the program. Some people feel these opinions were formed before the program began, citing philosophical differences with the basic structure of AHCCCS or political interests as bases for positive or negative comments about the system. Whatever the reasoning or motivation involved, AHCCCS evokes responses.

"Everyone welcomed this as a possible way to solve the prob-lems," says Jim Matthews. Some legislators disagree on the uni-versalness of its acceptance, however. Representative Barr claims, "This program was not hilariously accepted by the medical profes-sion. It would be the reverse. They, in their own quiet way, were hoping it would fail. They don't like any program that absolutely takes away freedom of choice." Senator Kunasek concurs, stating, "We did not receive the cooperation of the medical community in developing the program. In my opinion, there is still a certain segment of the medical community who oppose the program."

Dr. John Oakley, past president of the Arizona Medical Associa-tion, stated in 1983, however, that, "Basic opposition to AHCCCS has never been expressed (by ArMAJ. Some members have, but not this group. We want to be flexible enough to be supportive." He does point out that parts of the program are unacceptable to ArMA.

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"Two tenets we are opposed to: lack of freedom of choice and inclusion of the private sector. We are not opposed to prepaid care, just prepaid care that includes those aspects."

Dr. Oakley feels that AHCCCS is "not working to provide quality of care and it's not working on cost containment. You can get a lot of acclamations otherwise from the people who are running the program, but the burden of proof that it is working should be on them." He went on to state that in his area, Yavapai County, "people are getting cared for in spite of the program. We are doing it outside the AHCCCS law . . . We have had more concensus (among doctors] in Prescott on this program than on any item in 20 years."

Hospitals took a different stance at the beginning of the demon-stration project. When AHCCCS was proposed, says Sandy Spell-man, the Arizona Hospital Association, "was the only organized provider that supported the legislation. We not only supported the legislation, but also put a very positive emphasis into getting hospitals to participate in the program." Times and attitudes changed, however, as problems arose. "We have sort of gone through phases . . . We worked to get the program implemented, both with the state and the hospitals . . . Since the implementation, hospitals have been somewhat concerned because the program has not, as operationalized, been proceeding as we had envisioned. There have been major problems in reimbursement." Legislative amendments and new personnel appointments, Spellman says, brought renewed reason for optimism.

Randy Weiss of AHCCCS notes, though, that ". . . there is a little concern for the hospital community because we are talking about cutting utilization." Representative Barr states, "If you only have to be in [a hospital) two days for an appendectomy instead of three, that could be the difference between reducing costs and not." Thus, AHCCCS aims to reduce hospitals' income by making them less busy. Dr. Shelton already claims, "Hospital use is down . . . That's why they [hospitals) don't like the program." In October 1983, hospitals treating Medicare patients also faced restrictions via the "DRG" (diagnosis related groupings) program, where reimbursement rates are set by the federal government. This capi-tates hospitals in the treatment of Medicare patients. Clearly, it is a period of adjustment for Arizona s healing centers, and a time when they will closely watch the effects of AHCCCS on their operations.

Businesses in Arizona, while not yet able to participate in the demonstration program, are looking at it as a possible way to hold

48

down the increasing expense of employee health insurance. Eliz-abeth McNamee of the business coalition working for lower health care costs in Arizona says of her group, "Philosophically, from the beginning of. . . AHCCCS they have been supportive of the . . . concept because they believe that what it stands for is improved competition . . . the development of more competitive alternative plans for individuals." Business is hesitant to jump in with both feet, though. Randy Weiss states, "They want to see the hard facts before they make any commitments."

Ms. McNamee explains that companies basically want to make sure that the program will be more than just a temporary experi-ment. "The big concern is that they would get all of these plans [AHCCCS provider plans] springing up with the idea that industry was going to enroll their employees . . . There would be [provider] groups . . . who had no financial management behind them and they'd go out of business in six months. Businesses would have to take [their employees] back into their own plans. They've heard of other companies where they had to move employees back into [the company] plan and that, administratively, is a nightmare."

While business in Arizona is cautious about AHCCCS, Ms. McNamee adds, "We can't wait five to ten years for relief." Neither can many states.

Representative Barr sums up the problem: "Health care costs are rising at 16 to 18 percent a year. This is impacting on all the states. States no longer have the money. They're broke, but they tied themselves to a contract with the federal government [i.e. Medi-caid]. I believe there's going to have to be a redesigned package for health care to the medically needy and indigent for us to survive it . . . Can we come out of [AHCCCS] with new techniques?"

49

AHCCCS AND THE FUTURE

"I think it would be accurate to say that all states are looking at the Arizona program," says Sidney Trieger of the federal Health Care Financing Administration. Indeed, all eyes in the health care delivery field seem to be focused on AHCCCS for it represents a new approach to the maze of government-funded health care.

What happens to Arizona, though, if AHCCCS becomes not the basis for future plans, but a forgotten episode in the history of health care cost containment efforts?

Representative Barr doesn't like to think about the prospect. "It's like a parachutist who pulls the ripcord. I've got to expect it's going to open. Don't ask me what I'd do if it doesn't."

Senator Lindeman, when asked about the prospect, says, "That's what worries everybody around here. If we can't make this work . . . then we're stuck with the Medicaid program because we have to do something. The counties were going broke rapidly . . . We can't go back to the way we were."

When posed with the question of whether Arizona might move to a more traditional Medicaid package at some point. Senator Kunasek counters, "Politically, that's what many would consider to be the alternative. But, in Arizona, I don't think that would be , . . realistic . . . it would probably be a return to the previous system, which was the county system." Representative Barr flatly states, "I don't think we'll ever do Medicaid."

On a broader scale. Representative Barr adds, "I'll tell every

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legislator in this land, you're going to be fighting this problem of health costs, not just for the poor or medically needy. You're going to be fighting this problem with every businessman. Those costs now are very significant in his business because inflation is drop-ping, but health care costs are not. It's industry that's screaming."

The problem of rising health costs for health care does cut across income levels, and attempts to regulate care for all income groups could have profound consequences for health care in this country. The prospect of what will happen in Arizona if AHCCCS doesn't succeed is as unpleasant to those working in the project as to those who voted it into existence. Dr. Shelton warns that if costs are not controlled, ". . . we're going to have county hospitals . . . they'll be regulated . . . it'll be like England . . . and it'll be awful."

Randy Weiss takes her case directly to the medical community;

"Our message to the providers is . . . We're trying to introduce a competitive system to force a market price. If you embrace this sort of system and realize it is the way of the future, we think [that] financially you'll be better off in the long run than if you allow prices to keep going the way they are. Sooner or later the government will step in, either at the federal level or the local level. We're offering a plan that forces you to compete, but doesn't regulate you. It's in doctors* interests to contain their costs rather than to have their costs contained for them."

Meanwhile, in Yuma and Flagstaff and in the Valley of the Sun. the experiment goes on. Delivery systems systematize their deliveries: pro-viders provide; and monitors monitor. Whether AHCCCS succeeds or not, the one certainty is that health care in Arizona will never be the same.

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Health Care and the States Conference , May 14-15,1982 Washington, D.C.

The American Legislative Exchange Council gratefully acknowledges the assistance, cooperation and generous grants which have made possible this entire conference, including scholarships to State Legislators to enable their participation.

This Health Care and The States monograph was transcribed, edited and published by ALEC and distributed to all 7,400 American State Legislators and Members of Congress through a moat generous grant from the Jeremiah MUlbank Foundation, New York, New York

The Conference attendees and ALEC's Officers and Board of Directors express deep appreciation to the following conference sponsors:

American Medical Association Chicago, Illinois Bine Cross and Blue Shield Washington, D.C. Hoffmann-LaRoche Incorporated Nutley, New Jersey EU Lilly & Co. Indianapolis, Indiana Merck & Co* Incorporated Rahway, New Jersey New Jersey Health Products

Information Council Pfizer Pharmaceuticals, Incorporated New York, New York Pharmaceutical Manufacturers Association Washington, D.C. Sandoz Pharmaceuticals East Hanover, New Jersey G. D. Searia & Co. Chicago, Illinois Smith-Kline Beckman Company Philadelphia, Pennsylvania

Representative Roy Cagle Missouri The Honorable Brad Cates Former Member, New Mexico Legislature Representative William Ceverha Texas Representative David Y. Copeland Tennessee Representative David M. Halbrook Mississippi Senator Owen Johnson New York Senator John R. McCune Oklahoma The Honorable Robert B. Monier Former Member, New Hampshire Senate Assemblyman Patrick J. Nolan California The Honorable William M. Polk Former Member, Washington State Legislature The Honorable Larry Pratt Former Member, Virginia Legislature Senator Norma Russell South Carolina Senate Representative Jerry Sandel New Mexico Senator Eva F. Scott Virginia Senator Ray A. Taylor Iowa The Honorable Donald L. Totten Former Member, Illinois Senate

American Legislative Exchange Council 418 C. Street Northeast of the Capitol Washington D.C. 20002 (202) 547-4646

Health Care and The States

Sponsored by The American Legislative Exchange Council

T124520394

The American Legislative Exchange Council

The American Legislative Exchange Council is a non-profit, non-partisan, tax-exempt organization serving State Legislators and Members of Congress who are dedicated to preserving individual liberty, basic American values and institutions, productive free enterprise, private property rights, and limited representative government. ALEC is the largest individual membership organization of State Legis-lators in America with over 1,600 members. ALEC is classified as a Section 501 (c)(3) organization under the Internal Revenue Code. It is further classified as a "non-private" (i.e. "public") organization under Section 509 (a) (2) of the Code. Individuals, corpora-tions, companies, associations, and foundations may support the work of ALEC through tax deductible gifts, the principal source of ALEC's funding. ALEC receives no federal or state grants.

The views expressed herein are those of the authors, and do not necessarily reflect the views of the American Legislative Exchange Council. This information is provided as background material, and is not an attempt to aid or hinder the passage of any bill before Congress or the State Legislatures.

© January, 1983 American Legislative Exchange Council. Printed in the United States of America.

ALEC's Research / Department

At the request of ALEC members, the Research Department prepares in-depth, expert analysis of bills pending before state legislatures. Those analyses range from fiscal impact statements to legal studies about statutory and judicial precedents. During the last two years, ALEC has written over 100 such analyses for state bills that eventually became law.

Most of the ALEC Research Departments activity consists of personal, on-going contact with State Leg-islators. Personal communication is a valuable tool of ALEC, since it reinforces the role of ALEC as a useful clearinghouse for lawmakers who need information quickly. The ALEC stafFlogged over 2,000 telephone calls to state lawmakers last year—calls that brought together legislators from different states who were developing the same legislative ideas.

Another important feature of the Research Depart-ment i3 the accessibility to federal policy-making. The ALEC Research Department routinely sends inter-ested legislators copies of draft federal bills, proposed federal regulations, Administration fact sheets, and other background material that explains particular federal policies. For instance, the ALEC staff provided interested members with draft versions of the White House Enterprise Zone Plan, thereby allowing the states to have their views heard on the Administrations proposed plan.

ALEC Staff Kathleen Teagae Executive Director Jullanne Graham Director of Membership Elizabeth A. Bennett Director of Programs Daniel Bray Legislative Analyst

Mariana E. Gtiesmer Director of Development Thomas Mack Director of Research Deborah A. Slch Executive Assistant Nanette St. Arnault Legislative Assistant Nancy Poptk

Legislative Assistant

TI24520395

Table of Contents ALEC Information Introduction

Congressman John Porter Honorable Donald Rumsfeld

Hew Federalism—Health Care Issues: Pagel RickNeal Dr. Robert Helms Charlene McCants

HH8 and New Federalism: Page 4 George Armstrong Congressman Edward R. Madigan

The Federalization of Medicaid: Page 5 Allan Bruckheim, M.D. Harry Schwartz, Ph.D. Edgar Vash

Social Security; Problems and Solutions: Page S Peter Ferrara

Block Grants and Health Care: Page 10 James F. Kelly Glenna Crooks

Quality Health Care and Cost Containment Initiatives: Page 13 Lieutenant-Governor George Ryan Senator Calvin Hultman Assemblyman William Filante, M.D. Senator Robert Usdane

Private Sector Alternatives: The Answer to Health Care Problems?: Page 21 William Walsh, M.D. Jack Meyer Steve Caulfield

Coalitions to Combat Drug Abuse: Page 24 Dr. Carlton Turner Jill Gerstenfield

ALEC Membership Brochure Available ALEC Publications

Page 26 Page 27

TI24520396

Introduction

Introduction

Congressman John Porter Illinois—Member, Appropriations Committee; Member Labor, Health, Human Services, Education Subcommittee; Member District of Columbia andForeign Operations Subcommittees.

This is the first opportunity I have had to speak to you. I hope that it will not be the last and that it will be the beginning of a closer and more active involvement.

This is an audience that is largely made up of pub-lic officials, and I thought I might share with you a little story. About three weeks ago we had one of our town meetings in our Congressional district. We invited everyone to come out and talk with our Congressmen and spend some time making statements or asking questions. We had about one hundred people out in my hometown of Winnetka, Illinois. About half an hour into the program, a woman was standing up asking a very involved question about the Clean Air Act; and, just at that moment, my executive assistant rushed to the front of the room and said, "Congressman, you must come out in the hallway. There is an emergency call for you—you have to leave. Come out the side door." This had never happened to me before, and I thought I had better do as she said. So I went out in the hallway and out there were four big, burley Winnetka police-men who proceeded to go into the back of the room, grab a fellow, pull him out, put him in handcuffs, and take away from him a loaded cocked .38 caliber revolver. When they took him out the door, I went back into the room and explained all about the policemen and the man with the revolver. The woman who was still standing there said, "Look, would you please just answer the question?"

Don Rumsfeld graduated from Princeton in 1954, and he served as a Naval Aviator for three years after that and won the All-Navy Wrestling Championship. I

want you to remember that, because it is important. understanding Don. /

He then went on to Washington, served on tr staffs of two Members of Congress and then, while headed to Washington after law school to work with tr Justice Department, Don Rumsfeld had headed horr to Winnetka, Illinois on the north shore of Chicago : run for Congress and to be elected when he was at tr very young age of 29. That was in 1962.

Don Rumsfeld was re-elected to Congress in 196-1966, and 1968, served on the Joint Economic Commi tee, the Government Operations Committee, and th Committee on Science and Astronautics which w* probably the hottest committee in the Congress in thf age of Sputnik. In 1969 when he was 36, Don resigne from the Congress and many of you will appreciate th* was probably a flash of brilliance.

For the next five years, he served successively an successfully as first, Assistant to the President an Director of the Office of Economic Opportunity, Cour selor to the President and Director of the Cost of Livin Council, and then overseas as our Ambassador to th North Atlantic Treaty Organization.

In 1974, he chaired President Gerald Ford's trans tion team and then served as Chief of Staff of the Whit House and as a member of the Cabinet, before bein appointed in 1975 as our nations 13th Secretary c Defense.

In 1977, Don left government service and becam President and Chief Executive Officer of G. D. Searl and Company which, as you know, is one of our nation premier companies in the development, manufactur ing, and marketing of pharmaceutical and optical prod ucts. At least it is now. If you look at what Don ha accomplished in a short time at the helm of Searle i: streamlining its structure and operations, eliminatm; unproductive facilities, making it lean, strong, an* tough and at the very bottom line, of course, profitable then you'll understand the kind of strength and skill that Don brings to all he undertakes.

That now includes serving as a Director of Easten Airlines, and of Sears Roebuck and also as the Chair man of the Board of the Rand Corporation.

There is perhaps no other American with th* breadth and depth of experience in government, a home and internationally, and in business. CertainI: not one at such a young age as our featured speake tonight, and I am most proud to present him. Th< Honorable Donald H. Rumsfeld.

T124520397

Introduction

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Donald Rumsfeld President and Chief Executive Officer, GD.Searle&Co.; Former Secretary of Defense; Former White House Chief of Staff under President Gerald Ford; Former U.S. Ambassador to North Atlantic Treaty Organization; Former Member of Congress; Chairman, ALEC Business Policy Board.

I am substituting for the Secretary of Health and Human Services, Dick Schweiker, who is a friend from Congress. He was intending to talk to you about health. Despite the fact that I am in the health care industry, I intend to stray a good deal from that subject. Actually, with all the experts on health care in this room, I am not about to get into that subject. As Pierre Salinger once said, "I am plucky, but I am not stupid."

John Porter, that was a fine introduction. It made me sound like I can't hold a job, but I liked it. It reminds me of that wonderful quote from Shakespeare, "Some-thing neither good nor bad but thinking makes it so." Or to quote Sam Rayburn when he said, "Why are we sitting here, weak and dumb, when for two drinks we can be strong and smart" Now that's the first time you all have heard Shakespeare and Sam Rayburn quoted in the same paragraph.

I appreciate the introduction also because he left out some things. He left out the fact that I managed two campaigns in the 1950s and lost them both. He left out the fact that when I was at OEO I came home one night and taped to the ice box was a clipping my wife had found. It said: He tackled a job that couldn't be done,

with a smile, he went right to it He tackled the job that couldnyt be done, and couldn't do it.

With that kind of support, government is easy. After many years in government, it's a pleasure to

be engaged in private enterprise, that activity where one goes about the task of developing, manufacturing, and marketing something that is needed by human beings throughout the world. And only by doing it prof-itably, and earning a return for the investors, can the jobs be provided for society, can the taxes be provided for governments, and can the kinds of products and services be made available that provides progress and improves

our society. Itb a worthwhile activity. Ifs an activity that ought not to be undervalued by society. Regretta-bly, I am afraid that is not always the case.

About a year and a half ago, the American people went to the polls and voted. They eliminated a certainty that had been demonstrated to be unacceptable, and in his place they selected an uncertainty who represented hope. If one thinks about it, our country can live with uncertainty, but it won't live long without hope. The American people need to feel that things are going to be better for them as human beings. That hope is the thing that energizes people, that fuels effective action, and that gets people out of bed in the morning to try to make things better.

I came to Washington back in 1957.1 was just out of the Navy. I t was during the Eisenhower Administration. As one thinks about it, we have seen a lot of hope and uncertainty in the intervening years.

Eisenhower was the last President to serve two terms. We have had one who was assassinated, one who couldn't run for re-election because of the war in Viet-nam, one who resigned (the first in the history of the country), one who was not elected (the first in the his-tory), one who was a mistake (not the first in the his-tory), and one who was shot and, thank the Good Lord, has recovered and is back on the job, wrestling with a collection of problems that have been accumulating over a long period of years.

It's a tough job being President of the United States. It reminds me of that wonderful story about a time before Jimmy Carter sold the Sequoia, the yacht that used to go up and down the Potomac. One of the Presi-dents was thinking that it was just tougher than blazes being President of the United States. Every morning he would get hit by The Washington Post. So he took the editor and publisher of the Post out on the Sequoia. He took them down the Potomac River, stopped the boat, put down the gangway, walked down the gangway out on the water about 20 paces, turned around, walked back, and climbed up the gangway. The next day The Wash-ington Post said: "The President can't swim."

I am amazed. I am told, and I read in the news-papers, that President Reagan's program is not work-ing, that we have to change it. Now, I don't know if it's working or not. But I know of certain knowledge that we do not know that it's not working. It's only been in place about 15 minutes. First of all, much of his program wasn't put in place. A good portion of it has only been in place for the last six months. Part of it started in Octo-ber, 1981—a relatively short time ago. And now people say, "It's not working, we have to change it."

introduction

Its worrisome. We have a country that seems to feel that we can solve our problems in a relatively short period of time—in the 30 minutes that it takes a televi-sion show to have the crime committed, the crime is solved, and everyone is happy. Of course, this isn't the way it is in real life, as each of us knows.

Think of some of the problems we have today with unemployment, high interest rates, and a Congress that is, particularly the House, a bit unruly. The Congress today has a horizontal leadership structure that makes it difficult for those in the executive branch to plug in and work with Congress in a constructive way.

Think of what we have in the executive branch. The Federal Register is growing at a 25 percent compound growth rate. U. S. research and development and savings as a percent of GNP have been declining relative to Japan or Germany.

We ask how did it happen that things seemed to get out of control. Well, the first thing we can say is that it didn't happen fast—it happened slowly. There was a focus in the Congress on benefits, real or imagined, and not on costs. There was a focus on effort, on trying, rather than on results.

Its clear that in the United States we have demon-strated that we're good at responding in a crisis. Its less clear that we're good at dealing with trends that occur incrementally over a sustained period of time, even though those trends may be distinctly adverse to our interests. But if they happen slowly, we tend not to react to reverse those trends.

The result, of course, is a patchwork tax system, substantial debt, policies that tend to penalize work, savings and investment, research and development, productivity, and plant modernization. The things that we need and ought to be rewarding, we penalize. Given that fact, we ought not to be surprised that we've arrived where we are and that the magnitude of the problems facing the President and the Congress is as great as it is.

If you think back one, two, or three years ago, there was almost uniform agreement among Republicans and Democrats, liberals and conservatives, the academi-cians and practitioners, that inflation was the number one problem in the country. There was concern that it was ravaging the society—that the elderly weren't able to cope with it, that it was damaging the opportunities for young people, and that it was driving the people in the middle income brackets up into higher and higher tax rates. People had seen what had happened in Ger-many and Latin America and knew that it would be unacceptable to allow inflation to get to that point.

Well, today inflation is down. It's down from double

digits to single digits. It passed through 8 percent o: percent for last year, down to 4 percent, 5 percent ant percent, depending on how you annualize it. What fantastic success. But does anyone say that? Do you e\ hear it? I don't. All I hear about is interest rates a unemployment. I'm not going to say they are not ixnpi tant; they are terribly important. But, what we he done has helped that which we agreed was the sing biggest problem in the society, namely, inflation. AT we ought to stop, pause, and say: "Fantastic! Somethi right happened—something we needed to have happt happened"

Still, people want to know about interest rates, a about unemployment. Yes, they are high, but, by t way, think what we're tackling. A terribly imports event occurred. And yet everyone is running arou saying: "We have to change direction. The tax cuts we too deep; we have to increase taxes." Can you imagine, the middle of a recession, with unemployment where is, increasing taxes? That is one of the worst ideas I' heard. As hard as President Reagan works and as ha as a lot of people work, the fact of the matter is that tax were never really cut, though the rate of increase taxes was moderated.

My impression is that if one thinks about tl administration, he will realize that if they didn't another single thing, they have been directionally c( rect. They have said that we had gone too far and i time to turn and see that we get a better balan between government and the private sector. They ha said that we have gone too far in allowing o capabilities as a country to decline and we must g about the task of investing in them so that we have t capability to contribute to a more peaceful and stat world.

Those are two exceedingly important steps. You c. fault them, you can pick at this, you can say that's r. perfect. But fundamentally, President Reagan is doi: what he said he was going to do, what the people elect him to do. He has the direction going in the right wt and it seems to me the task now is to calibrate it and be happy that we are going in that direction, rather th: the direction we were going.

TI24520399

1 tietv Federalism—Health Care Issues

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New Federalism-Health Care

RickNeal Special Assistant to the President for Intergovernmental Affairs; Executive Director for the Presidents Advisory Commission on Federalism; Executive Director for the Puerto Rican Task Force; Executive Director for the Territories Task Force.

The concept of the New Federalism is not new but relates to the sorting out of responsibilities between the federal and state government as outlined in the tenth amendment to the U.S. Constitution, "the powers not delegated to the United States by the Constitution nor prohibited by it to the states, are reserved to the states respectively or to the people"

President Reagan has been speaking out for twenty years about the proper vesting of powers to the states. In his 1982 State of the Union message, the President outlined a federal initiative to designate responsibility for the nation's major welfare program. The underlying principle was the return to states and municipalities the revenue sources needed to finance the programs that can be best handled by local government. Since then, we at the White House have been meeting with governors, State Legislators, mayors, and local officials to reach agreement on legislation to send to Congress.

In April of 1981, the President appointed the "Pres-idential Advisory Committee on Federalism" made up of representatives from all lines of government; Con-

gress, governors, State Legislators, local officials ant private citizens. This group has met frequently am engaged in a dialogue needed to develop an acceptable federal program. What has been dubbed a "swap"— meaning the federal government would take ovei responsibility for some programs which have beer managed by the states, and the states would assume responsibility for some programs that have been man-aged at the federal level—has been proposed for Medi-caid and Aid to Families with Dependent Children.

The other part of the program is a turnback of 43 categorical programs, and the revenue sources for funding the programs, so the states could set their own priorities. The programs would be funded at the state level by a trust fund composed of various taxes dedi-cated for the fund; the specifics on these taxes are under negotiation.

This swap portion of the federal initiative has made agreement difficult to reach with state officials although there has been consensus on the general con-ceptual framework of the federal initiative. Secretary Schweicker at HHS and his staff have worked exten-sively with state and local officials to reach agreement on the program. These negotiations are still underway.

This is a very broad outline of the federal initiative and I wish to thank ALEC and the many State Legisla-tors throughout the country for their assistance and involvement in making this program work.

Dr. Robert Helms Director of the Office of Health Planning; Deputy Assistant Secretary for Planning and Evaluation, Department of Health and Human Services; Chairman of the Secretary's Task Force on Hospital Regulation.

One of the effects of the growth in health insurance is that it hides the cost of medical care in the hospital. Between 1950 and 1980 the average cost of a hospital day went from $22 to $99 in constant dollars, a 4.5 fold increase. However, during the same 30-year period, the amount paid out of pocket by the patient went up from $7 to $9. With Medicaid, Medicare and private insur-

2

ance, we are paying more third parties. The first and second party, the patient and the physician, have less incentive to worry about cost.

Let me summarize what we have tried to do to deal with these basic problems. We have proposed a volun-tary voucher system for Medicare. Recipients could receive government payment and get their insurance from private insurance carriers. This would give the Medicare population increased choice of benefits and insurance policies and increase competition.

In addition, we have proposed Medicare cost sharing and a new catastrophic benefit to put a limit of $2,500 per year on the amount paid by the patient. Cost sharing would provide incentive to consider cost and help elimi-nate some of the hospitalization which most medical experts believe could be reduced without reducing the quality of care.

Our goals in this health care proposal are simple: to encourage greater consumer cost sensitivity, to give people an economic reason to seek less costly care, and to create competition among providers and reward pro-viders who are less costly. Our proposal will not make health care a freely traded commodity or place an undue burden on the consumer. It will not interfere with or intrude into management or labor agreements or bene-fit packages. It will not cause the wholesale failure of hospitals.

The principle of competition guides the bulk of our market economy. Introducing competition into the health care sector is controversial, but I think it deserves serious consideration now.

My offices had the lead in developing the competi-tive health care proposal for Secretary Schweiker. But, I want to talk about our efforts to restore some mar-ketplace incentives to the health care field. I want to give you a few facts about the proposed 1983 budget for the department, which is $274 billion, an increase of $20 billion over last year, l b put this sum in perspective, it amounts to 36 percent of the total federal budget.

Most of the growth in the 1983 budget occurs in the entitlement programs. The Social Security Administra-tion and the Health Care Financing Administration, which pay for Medicare and Medicaid, together con-stitute 95 percent of the 1983 outlays. We have very little discretionary effect on the budget of these programs.

There are six major initiatives in the department: entitlement reform, the bipartisan presidential com-mission on Social Security reform, expansion of block grants, the National Institute of Health and Head Start, new federalism and regulatory reform. I have been involved in one of the task forces on regulatory reform

New Federalism—Health Care Issues

which Secretary Schweiker established — hospital deregulation.

A great many Medicaid and Medicare regulations have accumulated over the last years. Our task force wants to simplify them and we are grappling with two issues: 1) How should the government regulate medicine in the future?; and 2) How can the government disen-tangle itself from the internal management of hospi-tals? l b this end, we will publish a revised set of regulations affecting hospitals so that they may manage themselves without government interference.

Now, let me go to the health coat problem. As an economist, I would organize the several plausible expla-nations for the cost problem in health into four separate points. The major cause of the health cost problem is general inflation. During any term period of expendi-ture increases in the health sector, almost every case of the general rate of inflation accounts for more than half of that increase in expenditures. For the hospital it is 52.8 percent.

The price increases in the hospital section, over and above the general rate of inflation, account for roughly 9.9 percent of that increase in expenditures. This is relatively small compared to the general problem of inflation and demonstrates why a regulatory approach to health cost containment is doomed to failure.

The first step this administration could take to help the health cost problems is to lower the inflation rate. But this will not eliminate the cost problem in health for three reasons. The first is the system of retrospective cost base reimbursement, which does not provide incen-tives for efficiency. Second, while Medicaid and Medi-care have increased health care accessibility for the aged and the poor, they have contributed to the cost problem by increasing the demand for health care. Third and probably the least understood of the factors affecting health cost, is the open-ended tax subsidy for the purchase of private insurance. In this current fiscal year, the federal government will lose about $27 billion in revenue because it does not tax health insurance.

The principle of insurance is to insure against low probability, large expenditure events, such as a bad car accident. But because of the tax structure, people are taking low-cost items such as dental care and adding it to their health insurance policy to avoid paying taxes.

3 New Federalism—Health Care Issues

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Chariene McCants Associate Administrator for External Affairs; Associate Administrator for Management and Support Services, Health Care Financing Administration.

The Health Care Financ-ing Administration (HCFA) is concerned both with Medicare and Medicaid management. These programs serve some 48 million beneficiaries and will cost nearly $74 billion in 1983.

The approach that we are taking in HCFA is two pronged. We are looking at long-range reforms, and we are also sorting out federal and state responsibilities. In the short term, we hope to address our current fiscal problems because we must live within our budget now.

lb make any substantial progress in controlling the growth in Medicare and Medicaid, we need to concen-trate our efforts on those spending components with the largest dollar amounts. Since two-thirds of Medicare expenditures go to the hospital industry and physicians' fees are second, our major legislative proposals seek immediate cost savings in those areas.

In addition, we want to change the way we reim-burse hospitals. We now have a cost-base retrospective reimbursement system, which has been largely respon-sible for the 18 percent annual inflation rate in the hospital industry. We want to move toward prospective payment for hospitals, a system which has been recom-mended by consultants in the Held, the Congress, the White House Conference on Aging and our department

Our approach will have to meet certain objectives. It must be compatible with the administration's effort to instill competition and be extant long enough so that it can be developed fully, provide an immediate restraint on the growth of federal outlays, tackle the growing problem in the hospital insurance trust fund, and pro-vide for reliable predictability of our expenditures so that federal and hospital planning can be done satisfac-torily. The system must encourage our beneficiaries to be cost conscious and hospitals to be efficient and must be easily administered and understood. Of course, the bottom line is that the new system must cost less than the current system.

Our attempts to find cost savings in Medicaid began with the Budget Reconciliation Act last year. Provisions in this law offer greater flexibility to the states in both

the design and operation of Medicaid programs. HCFA is currently working on Section 2176, which is the waiver on home and community-based care. Through this waiver, we are now allowing states to cover non-medical home and community services, and to support people who would otherwise be forced into institutions. All of our data indicates that it is much more* costly to care for people within the institution than outside. We have long known that there are people in nursing homes who do not really need the level of care there; therefore, if we can provide some alternative, we can not only provide the kind of care that is actually needed, but also provide it in a most cost-beneficial way.

HCFA is working with the states to restructure Medicaid programs so that they are more easily man-aged and is approving as many waivers as we legally can. Health care and government can certainly be sepa-rated, and HCFA is intent on meeting this challenge.

T124520402

4

HHS and New Federalism

system for waivers at Health and Human Services (HHS). We are looking forward to getting more par-ticipation from State Legislators. My job, primarily, is one of making sure that legislator communications to the department are directed to the right people. The undersecretary's office for intergovernmental affairs at HHS is the entity that is charged with the responsi-bility of working directly with legislators. What we are proposing in the new federalism initiative will directly affect them. When we talk about putting programs back into the states, we mean that these programs will be controlled by legislators. The only way that we can guarantee that there are no surprises for these people is if they are involved at every stage of the negotiations.

We are seeking proposal ratification on the swap and the turnback program. We want to accomplish this before Memorial Day and get something that we can take to the Hill so that we can get support from the National Governors Association. We need the support of the President and of Congress, lb accomplish this, we are going to put on a full court press. We are depending on our regional directors. They are the HHS people that are assigned to states to give any assistance regarding new federalism initiatives. Finally, I would emphasize one more time that I would like to work closely with our regional directors on a local level and that legislators

HHS and Hew Federalism

who feel that things need to be handled at a higher leve should call our office.

i

Earlier this year, inflation was increasing at ar annual rate of 3 percent and hospital costs were rising at an annual rate of 19.3 percent. The hospitals were try-ing to tell Congress that inflation was the reason foi hospital costs going up so much. If inflation is 3 percent then why are hospital costs going up at a rate of IS percent? When we ask that question of hospital people, they respond that, in addition to inflation, there are problems with doctors and drug costs. Yet, we find that doctor bills have been increasing at a bit less than the rate of inflation over the last five or six years and drug costs have been increasing at less than the rate of infla-tion. But hospital costs have been rising at twice the rate of inflation. This does not make sense.

For a couple of years we were involved with hospi-tals in a voluntary effort. During that effort, while hospitals were presumably struggling so hard to keep costs down, costs increased at an annual rate of 16 per-cent, again more than the rate of inflation. Then last year we talked about competition bills. Different hospi-tal organizations also have their own competition pro-posals, and each was able to find fault with what the other fellow was proposing. We sat there pondering the differences and the year went by with nothing being done. This year we started out still talking about compe-tition bills and bills for prospective reimbursement. Again, every hospital organization has its own proposal for prospective reimbursement and each finds some-thing about the others to criticize. Meanwhile, we con-tinue to confront this tremendous escalation of health care costs and now are involved in the question of the states taking over certain areas.

Legislators are looking at the Medicaid transfer

5 The Federalization of Medicaid

concept right now. The idea of transferring authority and responsibility back to the states is fine as long as there is an even trade in dollars and responsibilities. It is important to have a dialogue between members of Congress and members of state legislative bodies to assure that the administration and the governors haven't worked out something that nobody wants.

For example, David Stockman's plan features pro-spective reimbursement. Hospitals calculate how many Medicare/Medicaid patients they would handle during the course of a year and figure out the reasonable cost of providing services to those patients; then the federal government pays them that amount of money in advance. During the course of the year, if the hospitals are able to operate more efficiently! they would have a profit. If they were not able to do that, they would have a deficit. But what prevents the hospitals from taking that money for Medicare/Medicaid patients, and then charging the patients above that for what they need to do? If that happens, it is realistic to expect that the differential costs are going to be pushed back on the consumer. Bills will be introduced in state legislatures around the country to create new programs to pick up the difference between what the federal government is paying through prospective reimbursement and what the hospitals are really charging. How long will it be before some state legislatures and governors come to Washington to ask the federal government for help with those additional health care costs? Will we have accom-plished anything at all? I don't think so.

In my view, the major problem in the financing and delivery of health care in the United States today is the third party payer phenomenon. People don't know and don't care how much hospital bills cost because in most instances they don't have to pay anything. If we can involve them by having them pay a little bit of their bill as they go along, then perhaps we can encourage con-sumer resistance. It works well in the free market, and it may ease the burden for consumers, business and government.

The Federalization of Medicaid

Allan Bruckheim, MD Editor-in-Chief, Family Practice, Medical Times; Doctor-in-Residence at St. Mary's Hospital; Host of Direct Line Medical Program on the Physician's Radio Network.

Our task here is to comment on the possible federalization of Medicaid and to offer a critique which would contain positive ideas and proposals.

Two words describe the results of incomplete medi-cal care—morbidity and mortality. Morbidity means human suffering and pain, and mortality means unnecessary deaths. There are no short cuts. There are no easy ways for those who accept the responsibility of providing health care. Government and professionals must accept total responsibility because when the structure or the system fails, all are guilty

One essential difficulty in approaching any reim-bursement plan for medical care from the federal level is that of numbers. The federal government must look at a much larger population of individuals than any individual state. The only way to handle such huge numbers and so many variables is to use averages and medians and means to assume some middle position and thereby encompass the great majority of patients who need care. However, medicine deals with individu-als and not with averages. Only when medical care can be individualized to the specific needs of the specific patient, can the greatest good result.

We, as Americans, have an interesting way of fash-ioning the laws and regulations which govern us. The process commences with some bright and sparkling

6 The Federalization, of Medicaid

ideas, brilliantly conceived, articulately advocated, and politically sound. As the ultimate solution to an insur-mountable problem, it then has to pass through a num-ber of compromises. Trade-offs can be made, so that the basic idea is pushed through. It may pass through the hands of administrators and they make regulations. Each regulation has in mind the intent of the original legislation. When the system fails after all these changes, we do not replace it, we do not scrap it, we modify it!

Often, we the practitioners of the healing arts can-not put into practice that which government so easily puts into words. Government may decide to cut the budget for medical care 3 percent. This cut translates into so many dollars saved and a balanced budget.

But the reduction causes trouble on my side of the fence. As a physician, I cannot say I will reduce my patient's fever by 3 percent and make a thermometer at 101 degrees read 98 so that the patient can go home. I cannot take 3 percent off an appropriate dose of medi-cation because I will lose the efficiency of that medica-tion. I cannot say to the last three patients out of hundreds, "I am sorry, but you three will not receive medical care today. My budget has been cut by 3 per-cent." Above all, I cannot reduce my paperwork by 3 percent. In fact, my need for compensation probably increases my paperwork.

The basics tell us, when dealing in health care sys-tems with regulations and rules, we must establish guidelines. Whatever care we choose to support, what-ever problems we choose to address, we must address it to the problem and the care. We must make provisions for the uniqueness of the human state, and using aver-ages and means as guides we must provide suitable avenues of care for the unusual, the unique and the individual. We must be aware that each interaction placed between the patient and the physician, each paper, each obstacle, each form to be filled out, each regulation to be followed, increases the total cost of medical care without adding anything to either the quantity or the quality of that medical care. In this area, the less we attempt to do, the better off we shall be.

The responsibility of a government is to serve the needs of its citizens. Medicaid, the government health provider and patient alike, must accept responsibility while striving to get the most medical care for every dollar expended. Health care providers must be trust-worthy. A government's attitude should be a pragmatic mix of fiscal prudence and humanistic benevolence. With these, the system has a chance to work.

Harry Schwartz, Ph.D. Writer in Residence, College of Physicians and Surgeons, Columbia University, New York; Retired member of the New York Times Editorial Board.

The health of the Amer-ican people today, by every statistical measurement we have, is the best in history.

The problems we face are the result of the successes of the health care system. In the last fifteen years or so, we cut our infant mortality by more than half Since the end of World War II, we have decreased the age-adjusted death rate by almost 50 percent.

A health care system which keeps people alive longer gets more and more expensive. The cheap health care system is one that lets them die. "In the good old days" when more than half of all children died before they reached the age of one, there was not very much you could do for people. Not many of them reached up to the ages of 60, 70 or 80. Today, we can do a great deal for people. So, if you want to know the secret of cost containment, shoot people! It is the ultimate cost containment.

President Reagan's proposal to federalize Medicaid makes no sense in terms of cost containment, since it does not strike at the roots of the cost problem. One element of the cost problem is that we are paying the price of our success. We do have the world's most effec-tive medical system. We keep people alive longer and better. We give them a better quality of life. If we want to keep cost down, try the following: for six months pro-hibit the use of any antibiotic. A lot of people will die, but look how cheaply they will die. President Reagan is not proposing that.

Now what is the source of explosion of cost? The first is that we have an improved health care system which does more for people. The second one is that we have to a large extent, socialized our health care sys-tem. Most of the health care in the United States is not paid for by those who receive it. We have made most health care costs the problem of third party payers. For 1980, $2.00 out of every $3.00 spent in health care in the United States comes from third party payers.

From the point of view of the patient, the problem with health care in the United States is not that it is too expensive, it is too cheap. There is nothing that I

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7 The Federalization of Medicaid

can do so cheaply in my life as enter a hospital. Because under my Blue Cross/Blue Shield policy, I can be hospi-talized 365 days a year and not pay a penny. Give me a bed, pajamas, food and free TV; what more do I want? Somebody will bring along newspapers and books to read.

As the data indicates, niore than 90 cents of every dollar of hospital costs in the United States is paid for by third party payers. What we have done, is eliminate all incentive to economize.

If it is cheap, I want the best. No one is as econom-ical as a consumer who must pay for something. I am willing to spend somebody else's money for the best hospital care around. However, when it comes to paying for something out of my own pocket, I become stingy, choosy, economical and cost conscious. However, with several health insurance policies, I don't have to be cost conscious.

The more we make medical care seem free to the patient, the more we are going to blow up the cost. The potential demand for free medical care is infinite and our resources are finite. If we want to use those finite resources for many other purposes besides medical care, we must get rid of free medical care. The reason for the explosion cost, is not the greed of doctors nor the incompetence of the hospitals. We offer people a system of health care paid for by somebody else. Naturally the costs skyrocket.

President Reagan is making an administrative change in federalizing Medicaid. He is solidifying the federal hold upon the payment of medical care costs in the United States. In 1980, the federal government paid about 28 cents out of every dollar of medical cost; state and local paid about 11 cents. If we assume that they are all amalgamated and forgive some slight inac-curacy at the margin; state, federal, and local payers, paid about 40 cents out of the medical dollar. If we federalize Medicaid, we are giving the federal govern-ment 40 percent of the medical dollar and that is going to grow. Reagan is essentially proposing a major step toward universal and comprehensive national health insurance. The inevitable alternative is some form of rationing. In Britain, they have universal and com-prehensive national health insurance. They cannot pay the bill either.

In light of these problems, it would seem that we could best solve our problems by using what I call the Felstein plan, after Martin Felstein, Professor of Economics at Harvard University, who proposed it about 1970. What he said, in effect, was do not help those who do not need help.

His first requirement was to abolish all first dollar insurance. Most people can take care of their medical bills most of the time. The average American goes to the doctor three or four times a year for trivial complaints.

The real problem is the person who gets a serious illness. Felstein defined catastrophe as medical costs in excess of a certain percentage of the family income. His suggestion was that we abolish all first dollar insur-ance, abolish Medicare, abolish Medicaid and abolish Blue Cross/Blue Shield. Simply set up one catastrophic system through which a person pays for his own care out of his own pocket until it goes over a certain specific percentage.

This is unappealing because only a relatively small number of people have catastrophic illnesses. If we want cost containment that is the way to get it. But I must say that even the Felstein system is not perfect. It leads to spending tens of thousands of dollars, every year, keeping what is left of Karen Quinlan alive by giving her total nutrition and antibiotics.

Finally, the Reagan proposal does not make any sense and does not approach any of the fundamental problems. More seriously, it lays the groundwork on which the next Democratic or liberal Republican presi-dent can give us a disastrous universal, comprehensive national health insurance.

Edgar Vash ALEC Legislative Analyst

Any change in Medicaid from the public to the pri-vate sector should emphasize four fundamental principles. First, the private sector is a more efficient and more equitable provider of health care than is the federal government. Second, the federal government can serve a more useful role as a purchaser than as a provider of services: the federal government should be the media-tor between people trying to purchase supplies and peo-ple trying to provide supplies. The third principle is that the problem with health care is financial in nature, not medical. Fourth, that the private sector now

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8 Social Security: Problems and Solutions

needs greater incentives to assume a dominant role in health care.

In the purchasing sector of Medicaid, the govern-ment buys supplies and equipment and regulates inter-state commerce in the health industry. We can revise the present law that mandates the use of bidding in multiple purchase agreements, so that the health care industry will have a chance to provide services to gov-ernment. We can also require that all purchase orders be taken from a special trust fund, not from the com-plete medical Medicaid fund that now exists. This trust fund can be maintained by reinvesting insurance pre-miums. The last option is to require that all unused items be bought back after a 24 month period.

Medicaid's production sector is probably the big-gest part of the Medicaid industry. It is the providing sector, where the actual financing and payment occurs. It is the sector from which the low income and under-privileged actually draw money to cover a specified Medicaid service. It could be turned over in one of sev-eral different ways.

First the sector could be converted into a revolving loan fund. If a Medicaid recipient has gainful employ-ment after two years of receiving the service Medicaid would act like any other loan fund. The recipient would owe a nominal fee of 3 percent to 6 percent interest which, with the money returned from that revolving loan fund, becomes a plus for the Medicaid system.

A second option allows pharmaceuticals and any other health care providers the option of buying stock inside a Medicaid corporation. All tax credits, exemp-tions, itemizations and deductions that a health care business can currently deduct under existing tax codes would be wiped off the books. The only tax deductions permitted would be contributions to the Medicaid sys-tem at the state level. That will make Medicaid solvent while at the same time giving some needed tax relief.

A third option in turning over the providing sector is the establishment of voucher projects with funds from one of several sources. The general revenues that now finance Medicaid or proceeds from the sale of federal, state or local property and equipment could be used. Another possibility is to accelerate debt collection.

The final sector of Medicaid which needs change is activities of mandated schooling, licensing, warehous-ing, debt collection, payment of claims, reporting, auditing, data processing and record keeping. All of it could be contracted and indeed should be in order to be in compliance with an Office of Management and Bud-get circular known as A-76.

Social Security: Problems and Solutions

Peter Ferrara Special Assistant to Assistant Director for Policy Development and Research at Department of Housing and Urban Development; Author of Social Security: The Inherent Contradiction.

I wrote a book titled, Social Security: The Inker ent Contradiction. I will attempt to make clear wha the "inherent contradiction" is.

Both the liberals and conservatives are in troubl-over Social Security. Social Security is first of all, th-liberals' program. Born of Franklin Roosevelt and th-New Deal, the program has an impeccable liberal Jin eage and is the showpiece of America's welfare state The long-term reform goal for the liberals has been tt finance the program out of general revenues, even tually eliminating the payroll tax. But even the liber als have begun to wonder why everyone, including retired doctors, lawyers and corporate executive should be paid large government benefits regardless o wealth. Tbday, this long-term reform goal still appear feasible.

The conservatives, with Ronald Reagan in th-White House and heightened power in Congress, hav. the responsibility of averting a Social Security disaster Conservatives oppose general revenue financing an< after their successful national campaign in 1980 on ai anti-tax platform, cannot support raising the payrol taxes. The long-term reform goal of the conservative

9

has always been to turn the program over to the private sector. They appear to still believe this is politically feasible. Consequently, the short-term solution of the conservatives is to cut benefits,

A solution to the Social Security problem is to sepa-rate the welfare from the insurance sector, and shift the insurance segment to the private sector.

The first step in the proposed reform would be to allow individuals to deduct their annual contributions to these Individual Retirement Accounts (IRAs) from their Social Security payroll taxes up to an annual maximum of 20 percent of such taxes. Individuals could also direct their employers to contribute up to 20 per-cent of the employers share of the tax to their IRA with the employer again deducting this contribution from the Social Security tax. The second step is to reduce the future Social Security benefits of individuals to encour-age them to take advantage of this option. When the employee retires, he would receive joint IRA/Social Security Benefits.

IRAs themselves would have to be modified. As the deductible percentage of Social Security approaches 100 percent, individuals should be allowed to purchase life, disability and all health insurance through their IRA accounts. Then these accounts could perform all of the insurance functions currently covered by Social Security. Moreover, the maximum amount individuals could contribute to IRAs would always have to be at least equal to the amount which could be deducted from their Social Security taxes, including both the employer and employee shares.

Problems result in today's Social Security system from the fact that the program is operated on a "pay as you go" basis, and it does not have a true trust fund to finance future benefits. As a result, the program is left vulnerable to short-term economic trends such as inflation, unemployment, and recession.

"Pay as you go" financing also leaves the program vulnerable to adverse demographic trends. With the baby boom of the 1940s, followed by the baby bust of the 1960s, the number of benefit recipients early in the next century will be rising sharply at the time the work force will be declining.

The benefits problem is that today's young workers should not make their future plans based on the expec-tation of receiving such benefits. Not only are the bene-fits promised to these young workers inferior to those available private alternatives, they are unlikely ever to be paid. Those who point with alarm at the long-term financing problems of the program are often accused of being irresponsible. But quite to the contrary, it is

Social Security: Problems and Solutions

those who would induce todayfe young people to base their future on benefits that can never be paid who are irresponsible. There is nothing humane in perpetuat-ing a system that leaves the retirement security of an entire generation of Americans in jeopardy.

In the fully-funded private system there would always be enough funds on hand to pay for all crude benefit obligations. The program would not be vulnera-ble to short-term economic instabilities, demographic trends or political whims.

Another major advantage of the reform is its posi-tive effect on the economy. The reform would cause an enormous increase in our nation's savings and capital supply, eventually amounting to hundreds of billions of dollars annually. This would occur because individuals would take money they currently pay into Social Security and save it in their own IRA accounts where it is invested in the private economy. The immediate increase in savings and capital should help bring down our current interest rate. A sharp increase in savings and capital should also result in a sharply higher GNP.

With this program, each individual will be free to choose from a variety of options available in the mar-ketplace—the package of retirement and insurance coverage that best suits his individual characteristics and preferences.

This reform would eliminate the waste of welfare benefits on the non-poor which occurs through the cur-rent Social Security system because there is no means test. For example, federal employees receive Social Security benefits based on short-term or part-time pri-vate sector employment which makes them appear poor. This makes them eligible for many of the welfare benefits in the current Social Security benefit struc-ture, though they will receive benefits on top of their already substantial pensions. Our reform would elimi-nate this double-dipping problem by paying welfare benefits solely through the means test.

If we are to make substantial permanent progress in our efforts to cut federal spending, such a reform would be essential. The reform would denationalize a large portion of the insurance industry, shifting reliance from centralized bureaucratic government institutions to cooperative decentralized productive free-market institutions.

Finally, all of this would be accomplished without raising Social Security taxes or cutting Social Security benefits. This last point is particularly important. The elderly have nothing to fear from this reform. Indeed, this is one of the few proposed Social Security reforms which does not involve cutting benefits in some fash-

10

ion. I would therefore expect that the elderly and the organizations which represent them would support these changes so that their children and grandchildren could have better lives.

Block Grants and Health Care

Block Grants and Health Care

James F. Kelly Deputy Assistant Director of Intergovernmental Affairs, Office of Management and Budget; Former Director of the Office of Administrative and Management Policy, Department of the Interior

This administration began to develop block grants and other federal initiatives on the premise that there is nothing that the federal government can necessarily do better than state and local governments. Critics of this viewpoint have said the states are not sensitive; that they are not willing to face up to their political choices; and they do not possess the administrative capacity to do these jobs. More and more of what I see leads me to believe that not only do the states have sensitivity, the willingness and the desire, but given the opportunity, they have the administrative capacity to do the job.

Our efforts on this first premise were to simplify the programs and to develop regulations which were as non-specific as possible. Our second premise is that state government officials and state and local elected officials, could interpret the statutes that Congress passed as well, and in some cases even better, than federal bureaucrats!

Our focus prevents regulators from repeating, embellishing or interpreting the statute in 60, 80, or 100 pages of regulations. We feel that the states are certainly up to interpreting the statute and to keeping

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11 Block Grants and Health Care

the regulations as simplified as possible. This indicates that the block grant programs are in fact different animals than those of the categorical programs.

In specific areas such as health care, where the states have had a good deal of experience, they should be able to make better choices than the federal govern-ment in allocating resources among various programs. We proceeded to introduce a series of block grants and to work with the Congress to have nine of those block grants enacted into law. Four of those nine dealt with health care, three of which are in effect in 48 states.

The two grants that are the same, the preventive program and health services, combine the eight cate-gorical programs into an $84 million national program. The alcohol, drug abuse and mental health services. block grant now consolidates the five categorical pro-grams that previously covered this territory.

Within the 1982 enactment, two other block grants concern maternal/child health and primary care. We also proposed a billion dollar program to give the states more flexibility in adding nutrition and other features to the maternal health block grant.

The primary care block grant is a very narrow block grant that was enacted in 1982. It basically con-verted the community health center program from cat-egorical to block grant form, gaining some more flexibility. There we have proposed to expand that block grant very significantly to include black lung clinics and migrant health and family planning programs. Legislation has been submitted for both of these bills at this point.

An administrative block grant to be introduced in our 1983 budget is a combined welfare administration fund. We proposed to combine administrative funds for the Aid to Families with Dependent Children (AFDC), Medicaid, and the food stamps program into one major administrative block grant. The states will then have the opportunity to mix: and match these programs administratively. There is no reason that Medicaid should not have the flexibility to move funds around and to administer the programs in a way that they see fit.

This should eliminate some of the reporting re-quirements and regulations that have bogged us down in the past. Eventually the states will have a fixed amount of money regardless of whether caseloads de-cline or not. Some eligibility tightening has occurred. The budget will probably be roughly $2 billion— about 95 percent of the 1982 expenditures in that area.

We expect this legislation to go forward and have been mediating between the two departments involved. The Department of Agriculture administers the food

stamp program and the Department of Health and Human Services administers the other two.

Approximately 16 major block grants covering more than 100 categorical programs will go into effect, if our proposals are enacted.

We established the Presidential Task Force. It is composed of the Office of Management and Budget, the Departments of Health and Human Services, Edu-cation, Housing and Urban Development, Richard Williamson and his staff in governmental affairs, and Bob Carlson from the Office of Policy Development. Williamson and Carlson involve both White House policy and White House Intergovernmental Affairs activities.

This working group ensured that federal planning was done from the time the law was passed until the time the states had the opportunity to pick up the pro-gram. It observed and dealt with problems that arose by enacting the policy regulation changes.

We set up a team which makes sure the money is available when the state program needs it. Another group continues to pursue regulatory simplification. The HHS block grants were first. We reduced the time period from about six months to about six weeks for approval and publication of regulations.

Some 318 pages of regulations for the categorical programs in the HHS areas were replaced with six pages of regulations. We reduced 180 pages of HUD regulations on the community development program to seven pages. In the Department of Education, several hundred pages of regulations are now down to four or five pages.

Finally, we became involved in both the audit area and the civil rights examining area. In both of these areas, federal and state roles needed examining. Essen-tially, the block grant program seeks to do just this. It redefines state and federal roles, simplifies regulatory procedures, and ultimately assigns the states the responsibilities that are rightfully theirs.

12 Block Grants and Health Care

Glenna Crooks Deputy Assistant Secretary of Health, Planning and Evaluation for the Department of Health and Human Services; Former Executive Director of the Southwest Indiana Medical Review Organization.

The Department of Health and Human Services is now dealing with four block grants which have been consolidated from 19 categorical programs. These are the alcohol and drug abuse block grant, the maternal/ child health grant, the preventive services block grant and the primary care block grant. A number of pro-posals to change the format of those block grants are currently on the Hill: one to include the Women, Infants, Children (WIC) nutrition program in the maternal/child health block grant; a second to combine migrant health, family planning and the black lung program into the primary care block grant; and third, to make a number of administrative and management changes to allow the states greater flexibility in the writing of the current primary care block grant.

Other current initiatives of the Public Health Serv-ice involve facilitating dialogue among the public and private sectors of the health care system and the people who receive that care. We hope this dialogue will result in new concepts of roles and responsibilities within the health care system.

There are four primary responsibilities of the Public Health Service. The first is to assist in the development of health knowledge. This includes research programs funded through the National Institute of Health, Center for Disease Control and the Food and Drug Administration.

The second is health promotion and disease preven-tion, perhaps our most significant contribution to the reduction of health care cost.

The third responsibility is to assist in the delivery of services by providing funds and resources to the states through the block grant program. We assist in those areas where there are large groups of underserved per-sons and where there is an isolated population. We also assist in special disasters.

Finally, it is our responsibility not to control — or dominate, but to participate with the states and profes-sions in assuring that there are appropriate resources for health services delivery. We make certain that there

is appropriate distribution in numbers of physicians and hospitals, and that there is appropriate capital available for development, renovation and expansion of facilities.

I would like to speak more specifically about our disease prevention and health promotion initiatives. We have recently completed work on a set of objectives for the nation in the year 1990 involving some 15 areas of health and have revised and completed the Surgeon General's report on smoking. We also operated a techni-cal information center which last year responded to over 30,000 requests from individuals for scientific informa-tion about smoking. We do research on disease preven-tion and are doing a major survey of personal health practices and the implications of those practices for the future. In addition we are looking at school health pro-grams and the influence that those programs will have on the behavior of children.

We also manage a number of programs: for example, a program on health education for parents of deaf chil-dren and a national health campaign which, for the first time in this country introduced the concept of cumula-tive health risks. A follow-up to that health style cam-paign is the healthy mothers/healthy babies campaign, which involves a consortium of business, industry, and state and local government.

Still in the early stages, are a national campaign against alcohol abuse and an initiative on health educa-tion in the workplace. We have nutrition monitoring programs and we're developing and monitoring educa-tional programs for the elderly to improve their level of health and quality of life.

The YWCA, the Urban League and the Red Cross cooperate with us in establishing community-based health programs. We fund 156 different community pro-grams currently operating in 54 states and territories and are working on inventories of private sources of funding.

We will encourage and assist states and localities in establishing state or local goals which work to stimulate and support health promotion activities in voluntary and private sector organizations, and continue to ex-pand our knowledge base. In addition, we will assist the states in developing a network of leaders.

Our way of dealing with health costs is through promotion and prevention activities. Our department spends about $3,6 billion on prevention. That represents a significant investment and one that we feel is going to pay off.

13 Quality Health Care and Cost Containment Initiatives

Quality Health Care and Cost Containment Initiatives

Opting for a state to employ restrictive drug formulary means bad medical economics.

Lieutenant-Governor George Ryan Illinois-Former Speaker of the House; Illinois Legislature.

I think all of us here today are deeply concerned with the rising cost of health care services in the coun-try. Individual consumers, corporate purchasers of care, and government at all levels are paying more each year for fewer health services. As a legislator, I am particularly concerned by the philosophical and public policy implications of some of the supposed solutions advanced to address this problem. The solutions are often lumped together under the broad rubric of cost containment. Unfortunately, many of the solutions proposed are void of a good public policy. No better example of this phenomenon exists in the area of health care than the advocacy to have states employ a restricted drug formulary for Medicaid patients rather than utilize the open formulary approach. The claim is that money can be saved by sharply reducing the choice of pharmaceuticals avail-able to Medicaid patients.

At issue, really, is whether cost and efficiency of treatment is adversely altered by unnecessary government regulation. Too many are beguiled into implementing a regulatory policy for containing health care cost. Yet they only succeed in contributing to the cost increase spiral. Opting for a state to employ restrictive drug formulary means sharply restricting the pharmaceuticals a phy-sician can prescribe to Medicaid patients. That is bad medical economics. Worse, it is an approach chosen too often for the wrong reasons and without regard to how its use affects other related health care costs.

I think we should begin by examining some of the faulty assumptions often used to support the imposition of a restrictive drug formulary. The first is that the cost of prescription drugs is rising precipitously. Such a contention is often made to justify more governmental intrusion to "save money." The facts, however, do not support that allegation. Pharmaceuticals are not major factors in spiraling health costs. In 1967, national health care expenditures amounted to $48 billion—11.4

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14 Quality Health Care and Cost Containment Initiatives

Effective cost control is tite property of utilization review not restricted drug formulary.

percent of that amount was spent on pharmaceuticals. In 1977, national health care costs rose to $93 billion, but in that year only 7.7 percent of;the total was spent on pharmaceuticals. Between 1968 and 1978, prices for all commodities increased by 104 percent. In the same period the price for prescriptions increased by just 40 percent.

The second false assumption is that a restricted or closed formulary will reduce overall Medicaid program cost. I would contend that this erroneous assumption derives from an immediate, but temporary, restraining of drug expen-diture cost that may be enjoyed following the imposition of a restricted formulary. Over the long run, however, total Medicaid cost will be higher with restrictive formularies. In fact, studies across the nation demonstrate just that. Dr. Robert Hamel, of the University of Wisconsin, is credited with a landmark study in this area. He examined the records of nine Southern and Western states using data supplied by the federal Department of Health, Education and Welfare. What he found was that restricted formulary states, with the exception of Oregon, spent more per capita than neighboring states which imposed no restrictions. Perhaps surprisingly, Dr. Hamel also found that when expenditures for drugs were exam-ined in the closed formulary states there were not always lower costs per recipient than in other states. One of Dr. Hamel's conclusions was that a physician who has unfettered access to his first choice of drug products may render better patient care. The preferred therapy may speed patient recovery, reducing the need for hospitalization and additional visits to the physician's office, or other health care expenditures. What Dr. Hamel recognized was that pharmaceuticals interacted positively or negatively with every other phase of health care.

But his findings do not stand alone. Dr. Albert Thomin of Northeastern Uni-versity in Boston has conducted studies that reinforce and further substantiate Dr. Hamel's findings. Dr. Thomin separated state vendor drug programs into three categories: formulary restrictives, restrictive formulary, and a totally open formulary. He then calculated the average per capita expenditure for each pro-gram. States with restricted formularies were found to have the highest average per capita drug expenditures per eligible recipient. Dr. Thomin also studied the effects of restricted drug formularies on per capita medical expenditures and found no difference between the categories. His findings replicated Dr. Hamel's: restrictive formularies tended to cost more than other programs.

Thus, Dr. Thomin's conclusion was that effective cost control is the property of utilization review not restricted drug formulary.

Farther, the utilization study by the Iowa Department of Social Services found that an open formulary was medically and economically better. In Ten-nessee, the study of the state's Medicaid program, which consisted of a relatively open formulary, a systematic review process, and an ongoing program to evaluate product deficiency, found that an open formulary may contribute to a reduction in the cost of medical and hospital care because of an improvement in the quality of therapy involving the use of drug products.

The third faulty assumption we encounter all too often is that savings and pharmaceutical expenditures can be achieved through a formulary exclusion of specific drugs or drug classes. In conjunction with this claim, we are also told that such a policy can be achieved without creating any negative impact on the quality of patient care. This assumption is absolutely false. Mississippi, for example, excluded minor tranquilizers from their formulary as a cost control measure. The one "before and after" study found Mississippi had saved $6,800. However, Medi-caid beneficiaries had incurred out of pocket expenditures of $73,000 during the

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15 Quality Health Care and Cost Containment Initiatives

When the physician's drug of first choice is not per-mitted, the use of lesser quality or inappropriate drugs can impact on the patients9 treatment, per-haps hindering recovery or requiring a more exten-sive treatment alternative.

same period. Two comparative studies involving lexas and California provide additional proof that this assumption is wrong. Texas is an open formulary state whereas California is a restrictive one. In lexas, utilization management is used to help control expenditures, but few restraints are placed on the price and avail-ability of drugs. California restricts both price and availability. The study projected what would happen to expenditures in California had the Texas method been in use. Based on the findings, it was estimated that California would have saved over $30 million from 1975 to 1978 on total program eligibles. When the projections were expanded to total program recipients, the estimate was a savings of $50 million. The report concluded that controls over price and availability of drug are not necessarily the best means of controlling expenditures. A more financially viable approach may be through efficient utilization management. It is wise, they concluded, to keep an open mind to the possibility that the use of some controls may actually turn out to be counterproductive by adding more in administrative cost than can be saved through efficiency.

The fourth and last of the faulty assumptions I'd like to lay to rest today holds that the use of a restrictive formulary will control over-utilization of different medications within the same general therapeutic class. Dr. Dennis Heffher of the University of California, conducted a study in 1979 of the Louisiana Medicaid program. He then compared the Louisiana program to that of Texas. In 1977, Louisiana eliminated seven categories of drugs, including an entire class of minor tranquilizers. This was the only program change during the time span that the study was underway. Dr. Heffner's preliminary hypothesis was that the imposition of a restrictive formulary would reduce or contain total health care expenditures. However, his findings did not match what he deduced would happen. And what actually happened was that prescription expenditures decreased 11.4 percent, however, total expenditures increased 7.3 percent. Hospitalizations increased 34 percent and the average length of stay increased 10.7 percent. The study showed that for the entire program, prescription drug expenditures decreased $4.1 million but program cost increased $15.1 million. For every dollar saved in drug cost, Louisiana experienced an increase of $4.60 on other health care costs.

As a follow up to this study, the Louisiana program was then compared to the Texas program for the same time period to examine whether or not Louisiana's experience was unique or represented a general Medicaid trend. For the study period, Texas experienced an increase in total health expenditures of $4.08; for Louisiana, the increase was $23.69. Non-prescription services rose $3.11 per recip-ient in Texas, while non-prescription services rose $30.00 for each Louisiana recipient. A large portion of the expenditure increase in Louisiana resulted from increased hospitalization of the elderly and disabled. Texas, however, experienced the decline of 6.4 percent in hospitalizations during the same period. Of course, the elimination of prescription pharmaceuticals from a Medicaid formulary reduces or, more correctly, eliminates the opportunity for overutilization.

The elimination of prescribed drugs ignores, however, the effect on the quality of care and Medicaid program expenditures. When the physician's drug of first choice is not permitted, the use of lesser quality or inappropriate drugs can impact on the patients* treatment, perhaps hindering recovery or requiring a more exten-sive treatment alternative.

In conclusion, I want to emphasize several points. Cost containment in health care services is a goal that I have always supported. But as in any other area, I believe cost containment should be achieved in terms of a program's total cost, and in relation to a program's goals and objectives. Also, a restrictive formulary

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16 Quality Health Care and Cost Containment fnitiatioes

When one carefully exam-ines this issue of open versus dosed formularies, there are no intrinsic ben-efits to be gained by a restrictive formulary. The facts support an open for-mulary, if for no other reason, than because it makes good sense economically*

unnecessarily and ill-advisedly invades the doctor-patient relationship. Based, for example, on the unavailability of his first choice of drug, a doctor may admit his patient to a hospital in order to provide the treatment he desires. And that, as we know, will markedly increase costs. If optimal pharmaceutical treatment is unavailable due to program restrictions, the substitution of more intensive and expensive forms of care will probably result. When one carefully examines this issue of open versus closed formularies on the basis of rational criteria there are no intrinsic benefits to be gained by adoption of a restrictive formulary. The facts support an open formulary; if for no other reason, than because an open formulary makes good sense economically in terms of total program cost.

Nine months after capitation was established in 32 of Iowa's 99 counties, it was shut down with drastic admin-istrative problems.

Senator Calvin Huttman Iowa— State Senate Majority Leader; Chairman, Rules and Administrative Committee; Member, Appropriations Committee; Member, Labor and Industrial Committee.

I would like to speak this morning on capitation— something I fell into literally by constituent request. Let me explain quickly what capitation is and go through how it was established in Iowa.

Capitation involves advanced payment to pharmacists based on the number and type of patients who have registered with them. Thus, pharmacists are paid up front based on the number of patients and regardless of the number of prescriptions.

In Iowa, two counties were chosen for the capitation experiment by Medicaid. There were three pharmacies in one and five in the other. In the preliminary report, capitation appeared to be successful in the two counties, so the University of Iowa Health Services Research Center applied for federal funds and received $775,160 for expansion of the capitation study.

One major assumption about capitation was that it would reduce administra-tive costs. However, nine months after capitation was established in 32 of Iowa's 99 counties, it was shut down with drastic administrative problems. It was originally estimated that the state would save more than a million dollars over the year. But the administrative costs of the program were completely underestimated: in nine months the program exceeded its estimated administrative costs by $300,000.

At my insistence, the Department of Social Services and the Commissioner of Social Services established an independent review of the drug capitation program in Iowa. This group included Belair Pharmacy from White Bear Lake, Minnesota; the vice president of the National Pharmaceutical Council; an assistant professor, University of Chicago, Department of Pharmaceutical and Physiological Science; the executive director of the New York State Health Planning Commission; a doctor from the graduate school in the University Center of New York; a Ph.D. from the graduate program in health administration; another independent pharmacist;

17 Quality Health Care and Cost Containment Initiatives

By the time theprogram has reached its third and fourth years, the ratchet effect will dry up any bene-fits for pharmacists. Welfare patients and people on Medicaid will be trans-ferred out of the program* Under a capitation pro-gram, the quality of care cannot help but decline.

an associate professor of Health Planning from Pennsylvania State University; and the head of the Pharmacy School at Minnesota. This group reviewed the program— its functions, actual savings, administrative techniques and cost containment. The shortcomings of Iowa's program were the administrative costs, which I have just discussed. The fact that it ran for under a year and therefore provided little information about long term problems, and, that it was backed by the University of Iowa. Also, pharmacists who participated in the program had a "harmless clause/' which ensured they would receive payments at least equal to what they would have received had they remained on a fee-for-service basis.

During the project's nine months, pharmacists were prepaid 80 percent of the estimated fee for filling prescriptions. The remaining 20 percent was set aside in an escrow account against emergency and supplemental payments. At the end of the year, the sum remaining in the escrow was to be split between the pharmacies and the state, thereby providing the pharmacies with an incentive for cost savings. However, the hold harmless clause protected the pharmacies from encountering any real risk, so the economic danger of capitation for pharmacies is still unknown. For instance, the program did not show how many pharmacists had Medicaid revenues which were disproportionate to their total revenue. For these pharma-cists capitation could create an unfavorable risk situation once the hold harmless clause is dropped.

Also, the program assumed that pharmacists would reduce prescription costs through the use of generic substitution and by reducing the prescriptions' quan-tities. But to do this, the pharmacist had to spend time and effort which was not clearly compensated by the capitation rates.

Another danger to pharmacists is the possibility of payment fees undergoing a ratchet effect. As cost savings are achieved under capitation, the savings in one year become the capitation floor for the next year. For instance, in the first year the pharmacist receives 80 percent of $100 up front. But if he shows that he can keep costs at $80, the state may turn around and set a new payment fee at $80 and give the pharmacist only 80 percent of that up front. Now the pharmacist has to keep costs within $64. And if he is able to do it, what prevents the state from setting 80 percent of $64 as the new advanced payment fee?

Finally, there has also got to be a terrific amount of antagonism between the pharmacies produced by the race to sign up customers. Because customers can only go to one pharmacy, various offers like free toothpaste or vitamins for a year will spring up. And that actually happened in Iowa last March when the program started. On the other hand, the program did not closely investigate consumer reaction to being "locked-into" one pharmacy; but the amount of leakage, that is, purchases outside of the capitation program, indicates that consumers had low tolerance for it.

In conclusion, by the time the program has reached its third and fourth years, the ratchet effect will dry up any benefits for pharmacists. Welfare patients and people on Medicaid will be transferred out of theprogram because pharmacists will not want to trade dollars with the state and will try to eliminate those people from their rosters. They will then go to doctors and try to get the prescription lessened and get into the so-called "bath tub generics" and lessen the quality of the drug. Under a capitation program, the quality of care cannot help but decline.

l a Quality Health Care and Cost Containment Initiatives

And then there is the reg-ulation that says that a skilled nursing facility or a convalescent hospital can only charge so many dol-lars. In California it is $39 a day. It takes $55 a day to make ends meet The result is that we don't take MediCal patients; if we do, we limit the number of beds and charge the pri-vate patients more. So we pay for Medicaid twice, once with heavy tax dol-lars, and twice with heavy health care costs in the private sector.

Assemblyman William Filante, M.D. California—Chairman, Assembly Committee on Business and Professions; Vice Chairman, Assembly Committee on Housing and Community Development; Member, Assembly Committee on Aging; Member, Assembly Committee on Health; Associate Clinical Professor, University of California at San Francisco; Assistant Chief, Department of Ophthalmology, ML Zion Medical Center, San Francisco,

I want to talk about government regulations. Tbday there is a surplus of doctors: some feel that this surplus is responsible for escalating costs in health care. However, more of us now know that it is the fault of, instead, too much govern-ment regulation, lb illustrate my point, let me give you some examples of what Jerry Brown, or Teddy Kennedy want—more regulations. Consider the regula-tion concerning hospital beds. We have a surplus of hospital beds for acute care hospitals. One regulation now beginning to be ignored states that you cannot use an acute care bed for a different level of care. Once that bed is used in intermedi-ate care, skilled nursing facilities and convalescent hospitals, it cannot be used for an acute care bed. Clearly, hospitals are concerned about losing their acute care status. Physicians are being told that we can't control costs. Well, the reason that we can't control costs, is the same reason there are too many hospital beds.

And then there is the regulation that says that a skilled nursing facility or a convalescent hospital can only charge so many dollars. In California it is $39 a day. It takes $55 a day to make ends meet. The result is that we don't take MediCal patients; if we do, we limit the number of beds and charge the private patients more. So we pay for Medicaid twice, once with heavy tax dollars, and twice with heavy health care costs in the private sector.

We spent a quarter of a billion dollars to determine eligibility—part of reg-ulations. But all we need is a signed form to qualify for eligibility. The person would sign with a perjury penalty if incorrect. The form costs 10 cents, or if you have to go to a photocopy machine, the cost is 1 cent. Issue a picture plastic card, and there is no more fraud than there is now. The only people who are ineligible and who are thrown out are the honest ones who admit to having a part-time job or money in the bank.

Some of the patients live in Hawaii and come to California for care because they like the doctors there. They fly in, receive their care, get their prescrip-tions, go for eligibility, and fly back to Hawaii. We're not going to catch that type of fraud anyway. Why spend a quarter of a billion dollars to try? Multiply that by 10 nationwide and there is even greater waste.

There is nothing to account for the entire Veterans Administration system. The current head of the VA finally stuck his neck out and said, "Maybe we shouldn't build another hospital here because the ones we have are half empty" Somebody is beginning to look. But those in the state legislatures have to help. Bob Nemo, former senator from California, said we need better health care for our veterans although we have fewer dollars. What about the empty beds that already exist in a lot of our communities? Veterans can be cared for at local hospitals with a simple little photo identification card. And the teaching that takes place at VA hospitals can be moved to other facilities.

19 Quality Health Care and Cost Containment initiatives

Hospital utilization was going up last year in all of California. They put a rate cap on it which only cost more money, Caps just don't work without the incentives and the con-tract systems.

The option for what we are recommending today is to contract out the entire process, not just drugs. Here is what happens. Raise the rates for certain things— possibly drugs, and long-term facilities. When that happens, the cost of the pro-gram doesn't go up, it goes down because the number of patients sitting* in the acute care hospitals due to the administrative maze lessens. The patient is moved to a lower level of intensity of care whenever possible.

Contracting out works better than what is termed the "prudent purchaser," where the cheapest supplier or one that gives out toothpaste is used. It doesn't work. In California we have contracted at a local level for the last nine years. If we contract out we use capitation for the entire program. For example, we have my proposal for the entire program and another proposal just for AFDC. AFDC is easy because it involves working age people, not the elderly. In California, the AFDC mother is a single parent with two children at home. Her health benefits cost twice as much as the single mother who is working for the state and is getting our health care benefits. One of the proposals is to give the AFDC mother the same benefits at home that she would get if she went to work. It's called incentives. We save approximately $100 million. Multiply the California figures by 10 and that's the approximate savings.

The second reason to contract out, and not try to do it in compartments, is flexibility. For example if long-term and hospital rates are compartmentalized and one is contracted there isn't that trade-off that would happen if the whole program was contracted out.

We don't need to limit benefits. Under our pilot program we have included more home care than is available in the rest of the state. We found that it actually costs less to give care when under contract because the providers are at risk.

We need incentives for the recipients. For example, a single mother who's just given birth has two kids at home in an unpleasant environment. She'd like to stay in the hospital a couple of more days. That's allowed under Medicaid. But the next morning I give her a bill for $100. She will take the bill and go home. She will make do and get some help from her family and friends. That's not being cruel; that's letting her make the decision at the marketplace.

Hospital utilization was going up last year in all of California. They put a rate cap on it which only cost more money. The county hospital went from 100 percent compensation to 60 percent to 50 percent and the private or community hospitals followed suit. But the community hospitals couldn't take care of all the patients, so many went back to the county. The county couldn't make ends meet and the legislature returned the compensation to 100 percent. Now the cost is higher and patients are receiving worse care under the county. Caps just don't work without the incentives and the contract systems.

With increased hospitalization use we are going to have concurrent utilization review. They invested $36,000 and in eight months saved over $1 million. We could save yearly without cutting benefit rates to our providers, benefits to the recipients, and without cutting the eligibility. If we multiply the $1150 million statewide saving by 10 for the nation, we see a significant cost saving without a corresponding change in the system.

Can we contract out and cut benefits? Yes. We don't want to cut services or hurt the poor, the elderly or the blind. We do want to cut costs and waste. Let's cut the 10 percent the 20 percent or more, simply by getting the government out of the business, and putting the money on the back of the providers, who are willing to do it. In California we are willing to do it.

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20 Quality Health Care and Cost Containment Initiatives

AHCCS is the first pro-gram to use capitation for physicians as a way to hold down costs.

Senator Robert Usdane Arizona State Senate, Chairman, Senate, Welfare, and Aging Committee; Member, Appropriations Committee, Education Committee, and Government Committee.

In an Arizona alternative to Medicaid, health care is delivered by fourteen counties to participants. Consti-tutionally, Arizona counties cannot raise the tax money to combat the increased cost in health care. 80, with the help of the House, we put together a program called the Arizona Health Care Cos Containment System (AHCCS). We are hopeful that by mid-June the researcl and development phase of a three-year pilot project will be funded by the federa government, the state, and the counties of Arizona. If successful, this shouli prove that some of the concepts attempted in Arizona will be beneficial to othe states as well. Not all doctors are entirely happy with this program primaril; because we have capitated the whole program on a bid basis. AHCCS is the firs program to use capitation for physicians as a way to hold down costs.

l b obtain approval from the federal government, Arizona had to apply fo certain waivers in order to be excluded from taking the government ;s money witl its accompanying rules, regulations and controls. What was waived? Skilled nurs ing care is an example. In the state of Arizona, we passed an ancillary bill whicl allows the counties to designate the beds any way they like. They do not all nee< to be maintained as skilled bed care. We also waived nursing care facilities. It most states, 38 percent of health care costs are expanded on long-term nursing home care. We waived home health care and tentatively had it approved. The nex waiver was a problem politically—family planning. It is now tentatively waivec for the state of Arizona. We made our decision on the basis of what we call "acut< care." While segments of family planning certainly can be designated as acutt care, the whole process cannot. If a patient does not enter through a primary can physician, his care is not perceived as medically necessary or acute. For example we had nurse midwifery waived. This program is voluntary for the indigent ant medical needy, however, they must enter through an awarded bidder on a prepaic capitated basis. And, once they enter, they are locked in.

We also made prepayment capitation contracts with a lock-in clause available to other groups. People who work in operations which employ 25 or fewer peoph and who cannot buy competitive health care insurance can enter this program They must pay the full cost of it, but they can enter. We also said that since the state of Arizona continues to pay between a 20 percent and 30 percent increase foi state employees in health insurance, the state and county employees can entei this program, but in a separate risk pool. Major industry may also enter thb program. We anticipate that independent physicians associations and othei organizations will form to supply industrial employers with competitive pro-posals that will enable them to send their employees to this capitated system.

I believe the best part of this whole program is that the federal government agreed that it would capitate us for its payment system. It would prepay us based on 95 percent of what a fee-for-service equivalent system in a Medicaid state would get paid.

21 Private Sector Alternatives

Private Sector Alternatives: The Answer to Health Care Problems

Dr. William Walsh Founder and Director of Project HOPE; President and Medical Director, The People-to-People Health Foundation, Inc.; Regent Emeritus, Georgetown University,

Private sector initiatives to solve health care prob-lems are more complex than we sometimes imagine. While I am in favor of such solutions, I think we must wonder if the private sector is being asked to take on a burden which it may not yet be able to assume.

At present, much of American business buys health insurance for employees, helped by tax write-offs for both employers and employees. Because of this common arrangement, the government does without $28 billion a year in revenues. When the administration proposed a ceiling on the tax deductability of private sector in-surance, it received strong criticism from many busi-ness interests. Still unsettled, then, is the question of the fairness of allowing tax write-ofTs to many while 25 million Americans pay after taxes for their health insurance.

A major problem of the current situation is that

private companies would rather deal with one carriei for the sake of simplicity. The variance in actual case: creates a problem for insurers, in that they cannot han die such items as catastrophic illness without violating present anti-trust laws. Thus, the premiums for certaii items remain too high for many.

So, what is to be done? Who in the private sector would want to assume th<

burden of paying the difference if a ceiling were appliec to tax deductability? The patient, the company, the phy sician? Why shouldn't the hospital system be willing t( take on prospective reimbursement and go at risk? Wh) should we ask the insurance companies and the majoi corporations to police our behavior?

We know that we have problems facing us. The popu-lation is getting older, and we know that this tendency will continue. Yet, the Medicare trust fund keeps losing $12,400 a minute and will continue to lose it. We've go1 to start doing some thinking on our own, instead o\ condemning new federalism, which may yet have e chance to work. But what is not going to work is oui permitting private sector industry to constantly extend health care benefits. The only way to discourage that is to stop allowing tax breaks. We cannot let them con-tinue to avoid competition because it's administrative!} easier.

We cannot afford to have the private sector bear the burden fully for the care of our elderly. Yet, there are several major corporations which only in the past year have given their employees health insurance for life, with catastrophic provisions and some supplemental benefits over and above Medicare. They have no market research on what that's going to cost, and once it's given, it will never be taken away. The private sector needs our help at the state and federal levels, it needs more deregulation and relief from anti-trust constrictions. And all of us who are concerned about health care must give that help.

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22 Private Sector Alternatives

Jack Meyer Resident Fellow, American Enterprise Institute; Director of the Center for Health Policy Research; Former member of the Council on Wage and Price Stability; Assistant Director of Wage and Price Monitoring.

The problem we face in health care today is the lack of an effective mechanism for sorting out the waste component from those portions of the spending increases associated with an aging pop-ulation, with technological improvements and with the quality of care that all of us want.

We got into this mess because the sources of financ-ing continued government spending on health care and other social problem areas are drying up. This is forcing us to realize that we are no longer going to be able to fulfill the kind of social contract that we have signed with our elderly, with our farmers and with our vet-erans, as well as with business people and labor.

This realization has caused the federal government to try to save money in its non-defense programs. The desire to rebuild our defenses, get inflation under con-trol and lower interest rates by controlling deficits, puts a squeeze on programs like Medicare and Medicaid.

My concern is that the way the government defines the problem systematically subordinates considerations of quality and availability of care to considerations of cost. I can devise ways to hold down costs, but not with-out jeopardizing quality. Many of the private sector initiatives will only make marginal contributions to a deceleration of cost increases, as long as the fundamen-tal forces driving cost increases are still there.

These are the open-ended tax subsidies and pay-as-you-go retrospective reimbursement policies fostered by third party payers, including Medicare and Medicaid. Third, regulations are strangling the system. Three forces—tax policy, reimbursement policy and regula-tory policy, seem to be at the heart of the problem. Yet the solutions offered by the government have not seriously addressed those causes. I will credit the Reagan administration for beginning to tackle the third problem, regulations, and beginning to open up some possibilities in the regulation area for more flexibility by the states.

Some imagined changes would involve fundamen-tal redesign of the benefit structure under Medicare to take care of some inexcusable inequities. Who wants

to tell Medicare people they are going to have to ante up a little bit more for routine costs, in order to protect people, instead of having cost sharing, as we now have it, starting on the 60th day of hospitalization? It will be very politically unpopular.

I favor multiple choice that is encouraged by fixed dollar employer contributions to the plan of choice. Perhaps we would want to encourage rebates also.

In closing, I want to tick off some things that show some promise in the private sector. I find promising some plans which offer rebates to employees who econo-mize on the use of the system. Or, in other proposals, the participant gets credit when he leaves the system. I find preferred provider selection controversial, but it is being tried in Florida. Self-insurance is growing in the market to the point where some estimate that it is now 20 percent. Less promising, but intriguing, are the coalitions and the wellness programs. In essence, we are saying that we are willing to subsidize your health care up to a point. But that may mean a Pinto or an Oldsmobile but not a Cadillac. If you want the Cadillac, you pay the difference with your dollars, not with mine.

I think that until we begin to do that, we'll just be trying to put a lid on a cauldron without turning down the heat.

Steve Caulfield President of Government Research Corporation N.A.; Director of Human Resources Studies; Authored Health Care Costs: Private Initiatives for Government; Former Director of Regional Operations and Health Affairs for the Health and Retirement Fund for the United Mine Workers.

I want to consider three issues regarding health care costs: what the problems are; where the solutions might be; what are the impediments that might lie between the problems and the solutions.

Expenditures are a function of three variants— price, volume and intensity. In a labor-intensive indus-try like health care, escalation costs lag behind as an

23 Private Sector Alternatives

economic indicator of the general Consumer Price Index (CPI). For example, in the month of March, when for the first time in 17 years, we had a decline in CPI in this country, we had an annualized 12 percent rate of infla-tion in the health care industry. So we are still on the crest of the rising health care costs that are labor induced.

A tremendous explosion in capital costs is about to occur. In 1968, the ratio of death to capital expenditures in the hospital industry was 40 percent. In 1989, it will be 81 percent. We're going to have to replace or substan-tially renovate, in this decade, somewhere between 40 percent and 50 percent of our hospital stock. Who's going to bear the cost and what are those costs of capital going to do to fuel the engine of rising health care costs?

On the volume side of health care, the curves are flattening. Last month's economic indicators on health care costs suggest that there has been a decline in the increase of admissions and a decline in the increase of patient days. It is now 0.9 percent for 1981, a 1.2 percent increase in terms of total admissions and in terms of total patient days. What is making me very nervous is that i t is rising much more significantly in the over 65 population.

When we compound the problems of the changing demographics, the rising rates of admissions and length of stay of Medicare patients with the current proposal for budget cuts in Medicare, it does not mean that there will be fewer dollars in the system. It means that the privately-insured patient will pay more.

The question of intensity is perhaps the most dis-turbing news, with the considerable growth in ancill-aries—labs, radiology, pathology, etc. If we're going to get into cost containment, we better look at the rising cost of ancillaries as a place to begin.

Now, my comments about the solutions. We have taken an extensive look at private sector initiatives.

There is a litany of creative approaches. The Wash-ington Business Group on Health has a list of 300 approaches. Caterpillar, John Deere and other com-panies around the country are working on the margins of the problem and working on them successfully. They're saving piles of small bucks and I think that's an important place to begin.

The third point is the impediments. I think the biggest impediment is what I have been writing about and speaking about over the last year, which I call cost shifting. There is now ample evidence that at both the micro-economic and the macro-economic level, cost shifting between the public and private sectors is

around $5 billion this year, perhaps higher. Now I ques-tion whether that is an appropriate kind of situation to put the private sector in when it is trying to cut back costs. Against the 12 percent inflation in the medical care industry in March, the rest of the country had a negative CPI. The private sector will not only have to absorb its 12 percent, but also absorb a higher percent-age for Medicare and Medicaid.

One solution, which may be unpopular, is if we cannot afford the best, let us at least afford with dignity what we can afford. As we examine the questions of cost containment and health care, the issue of rationing becomes a central but often unstated theme. Effective cost containment will probably involve some kind of effective rationing. We would hope that any system of rationing would acknowledge and maintain the diverse and pluralistic nature of our health system, allowing those who need care to obtain it without suffering adverse consequences, and at the same time discourag-ing inappropriate and excessive utilization.

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24 Coalitions to Combat Drug Abuse

Coalitions to Combat Drug Abuse

Dr. Carlton liirner White House Director of the Drug Abuse Policy Office.

I will address the issue of drug abuse and I will give an overview of where we are and what we are going to do in the Drug Abuse Policy Office. What we have at this point is a five-pronged program: international initiatives, law enforcement, re-search and development, detoxification and treatment, education and prevention.

In the international area, in order to have an effect on the amount of drugs coming into this country, we must stop the drugs at the source. We are targeting three narcotic plants — the cannabis plant, the cocoa bush (the source of cocaine), and the poppy, from which comes heroin. The second area is enforcement initia-tives. In that area we are placing a great deal of empha-sis on stopping aircraft and ships coming from South America. In this we are receiving excellent cooperation from several South American governments. Since we determined that 80 percent of all drugs entering this country come in through Florida, we are operating the Vice President's task force in Florida and have four Coast Guard cutters out patrolling key sealanes for drug smugglers. For the first time we have been permit-ted to share military information with foreign enforce-ment officers. This has proven invaluable, since, for example, military radar information can be relayed to civilian enforcement personnel. We are also seeking mandatory minimums for drug dealers, since no bail seems high enough to hold these people. As a result of our efforts, the crime rate in Miami is down 43 percent.

And we hope for even better results in the future. Our research and development activities are now

directed to longitudinal and epidemiological studies For many years we concentrated on physical rather thar psychological addiction, but this must now change. The average age of first drug use is 13, and the research done on adults is not necessarily applicable to the young. We are emphasizing research into drug abuse and brair biology and are trying to answer certain questions. Whj does one person become addicted to a drug when anothei may not? Why will one type of treatment work anc another fail?

We are also giving priority to those research areas concerning antidotes that will block the action of a drug and thereby help detoxify addicts, which brings me tc the detoxification and treatment program. The treat ment program, NATUS, is coming back to block grants We are examining the methadone maintenance pro-gram, in which the average cost per person is about $16 per day. We hope to reduce the number of days a patient would go to the clinic by using new chemicals and medi cines, to be filed through the NDA chain shortly. These will allow us to increase the number of people that wt can handle in treatment facilities and at a reduced cost

The fifth prong, education and prevention, is of vita importance. We believe that the only way to deal sue cessfully with drug abuse is to prevent it. We are under taking a long-term education and prevention progran geared to reduce the desire of our young people to ust drugs. We hope that this program, in tandem with a ven strong enforcement policy, will be very successful.

Jill Gerstenfield Vice-President and State Legislative Chairman of the National Federation of Parents for Drug Free Youth.

Tbday the focus is on health care in the states. One -*. way to reduce the cost of health care is through pre-vention. We have 60,000 youngsters a year needing residential treatment care and that is very expensive. We simply cannot afford t» keep working in rehabilitation. The National Federa tion of Parents for a Drug Free Youth (NFPDFY) cat

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help turn this tide through volunteer work. By 1980 the NFPDFY found that 15 million teen-

agers smoked marijuana daily. We saw statistics like these: 65 percent of high school seniors sur-veyed reported using illicit drugs at some time; 60 percent reported using marijuana at some time; 49 percent reported using marijuana in the past year; 34 percent reported using marijuana in the past month.

Parents felt helpless at first but then began organ-izing and educating themselves. First, they wanted to find out what marijuana is and why it is appealing. They examined the health hazards associated with marijuana. Reproductive damage seemed probable. Tests done on animals, primarily on monkeys, showed that the sperm of males was either abnormal or de-' creased in number. Once the male stopped smoking, his sperm count seemed to return to normal. For women, the data seemed even more frightening. Female monkeys were fed the equivalent of two joints a day. Of the off-spring produced, 40 percent were damaged. They also looked at brain damage, since marijuana adheres to brain tissue. What they saw was A-motivation syn-drome, kids with no ambition or normal goals. If the entire period of adolescence is lost because of drug use, what results is an adult who has not learned to deal with successes and failures, disappointments, and all the other things we learn to cope with in our adolescence.

Over the years the number of parent peer groups has increased. When the criminal code was about to be revised to decriminalize possession of up to five ounces of marijuana, parents were understandably distraught.

Senator Mathias held a hearing at which the NFPDFY was formed. Due in part to the efforts of our group, the criminal code was not revised. We became involved in a successful campaign in favor of local-government banning drug paraphernalia. And we have worked against look-alike pills, counterfeit pills designed to look like real uppers and downers.

We have a small office in Silver Spring, Maryland, with a staff of only four people, yet our presence is felt in state legislatures and in Congress. We are made up of liberals and conservatives and have every ethnic and racial background represented in our membership. With the support of the present administration, we now feel that we have a full program. And now, for the first time, we are seeing a decrease in drug use.

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Publicatioiis available from ALEC 1983-84 Source Book of American State Legislation

1981-82 Source Book of American State Legislation

1 9 8 0 Source Book of American State Legislation

1978-79 Suggested State Legislation

The Washington, D.C. Amendment; A Briefing Book

Reagan and the States

Energy for the Eighties: A Briefing Book for Lawmakers

Health Care in the States, A Guidebook

Legislative Analyses State Consumer Credit Rate Restraints The Flat Rate Income Tax Criminal Justice Reform Enterprise Zones Versus Poverty Welfare Reform: Making Workfare Work Reducing the Federal Deficit Raising Revenue Without Raising T&xes (three-part series) Comparison of State Enterprise Zones Statutes Directory of the White House, Cabinet and

Congressional Staffs White Paper on the New Federalism—

The ALEC Alternative Legislative Update: Enterprise Zones in the States

The American Legislative Exchange Council has once again demonstrated its valuable contribution to national policymaking by taking the lead in address-ing the issues of critical importance to every American. ALEC's Health Care and the States Conference pro-vides a unique and timely forum for an exchange of ideas between state legislative leaders, federal govern-ment officials, and private sector health care experts.

Ronald Reagan

Let me assure you of my interest in your work. I am pleased that you are addressing issues that are of critical significance to our nation's health policies.

Richard S. Schweiker Secretary Department of Health and Human Services