The Cost Containment Dividend: What would you have done with an extra $392—or $727-- last year? by Nancy Turnbull

As the need to control health care costs gets more attention, various groups have proposed specific cost containment goals. For example, the Connector Board (of which I am a member) voted to push insurers to limit rate increases for the unsubsidized Commonwealth Choice plans to no more than five percent for next year. A number of parties, including Health Care for All and Senate President Murray, have proposed holding rate hearings for health insurance premium increases at or above 7%. The Quality and Cost Council (QCC) has established a goal of reducing the annual rise in health care costs to no more than the unadjusted growth in Gross Domestic Product (GDP) by 2012.

These goals are ambitious and welcome, but theoretical. What would achieving such goals mean for people with private health insurance? I wanted to find out. So, I looked at the financial reports health insurers file with the Division of Insurance for the three largest private health insurers in Massachusetts—Blue Cross Blue Shield (including HMO Blue), Harvard Pilgrim Health Care, and Tufts Health Plan. I looked at reports for 2003-2006 and analyzed how much medical costs and health plan administrative expenses had increased for people with private insurance (i.e., I excluded the Medicare line of business). Since the Division of Insurance doesn’t require health plans to provide information for people covered by self-insured plans, the financial information that’s publicly available for the health insurers includes only people covered by fully-insured plans—about 2 million people for the three health insurers whose data I reviewed. I analyzed medical and administrative costs on a per member basis, to adjust for any enrollment changes at the health plans.

I assessed two different scenarios:

First, I figured out how much lower expenses would have been if they had increased at the same rate as the growth in nominal GDP (i.e., growth in GDP not adjusted for inflation), the QCC’s goal. Then I looked at what would have happened if costs had grown at the same pace as the increase in the Consumer Price Index (CPI) for the area that includes Boston, since this is one widely-used measure of the inflation rate consumers are experiencing for other goods and services.

The growth in the two indices was very different over this period: according to the U.S. Bureau of Economic Analysis, the unadjusted growth in GDP was 20.9% from 2003-2006, while data from the Bureau of Labor Statistics show that the CPI for the Boston area increased a total of 9.4%. So I’ll discuss the results of both scenarios.

Here’s what I found: Aggregated across the three insurers, medical expense per member per year increased from $2,585 in 2003 to $3,429 in 2006. This is an increase of 33% over this three-year period, or about 10% per year. (The rate of increase was almost identical at each of the three plans.) If medical expenses had increased only by the rate of growth in GDP—20.9% instead of 33%-- per member per year medical costs in 2006 would have been only $3,125, or about $305 less. Total medical spending for the approximately two million people who had health insurance through the three insurers would have been $629 million lower than it actually was in 2006. If I assume self-insured employers had the same rate of increase in medical expenses as those with insured plans, and add in the 1.8 million people covered by self-insured plans at these same three insurers, the total savings would have been nearly double—or almost $1.2 billion in 2006.

If medical expenses had increased only by the rate of growth in CPI—9.4% instead of 33%-- per member per year medical costs in 2006 would have been only $2,828, or about $602 less. Total medical spending would have been reduced by $1.2 billion for people with insured plans, and $2.3 billion if I add in people covered by self-insured plans.

Surprising to me, the rate of increase in health insurer administrative costs per member was even greater than the increase in medical expenses over this period. Average administrative expenses per member per year increased from $330 in 2003 to $486 in 2006. That’s a total increase of 47% over the three-year period, or about 13.5% per year. (The rate of increase was quite different from insurer to insurer, indicating that some plans have done a much better job controlling their administrative expenses than others, or that plans might make different decisions about how to allocate administrative expenses across lines of business. Again, their DOI reports reflect only their fully insured lines of business) If the rate of growth in administrative expenses had been constrained to the same growth rate as GDP, per member administrative costs in 2006 would have been only $399, or $87 lower per member. This would have saved the two million insured people a total of $179 million in 2006. And if people covered by self-insured plans are added in, the total savings would have nearly doubled—to about $336 million.

Using the lower growth rate in the CPI produced more savings: average health plan administrative costs per member would have been only $361, a savings of $125 per year. This produces total savings for insured people of $257 million, and more than $482 million if I include those covered by self-insured plans.

So, constraining medical and administrative cost increases to the same rate as GDP growth would have resulted in total annual savings in 2006 of about $392 per person. That’s enough to pay for three months of a Young Adult Plan or two month of a Bronze Plan with drug coverage. Controlling cost growth to the increase in the CPI results in total annual savings of $727. That’s nine months of automobile insurance premiums for the average driver in Massachusetts, a significant portion of a monthly mortgage or rent payment, or a good contribution to savings for a kid’s future college education.

My little analysis shows what we all know: the biggest savings in health insurance premiums will come from controlling medical expenses. This will be quite challenging to accomplish in the short-term—unless we have the political will and resolve to control prices. But my calculations also suggest that there are huge savings to be reaped if health insurers can control the growth in their own administrative expenses. This is an area in which it should be possible to make much faster progress. The Boston area CPI increased 9.4% from 2003-2006. Why did average health plan administrative expenses per member increase at five times this rate? As health insurers and the rest of us rightly pressure providers to control medical expenses and demand more transparency about prices and quality, we need to be sure to take an equally transparent—and hard--look at health plan administrative costs.

Nancy Turnbull
Harvard School of Public Health

A final post-script:

‘Twas just days before New Year
No word from the state:
Next year’s penalty schedule?
Why such a long wait?