Monday, July 03, 2006

On The Doughnut Hole

I've done a little more research on the famous doughnut hole in the Medicare prescription drug program. The doughnut hole refers to the range in a person's drug expenses where Medicare suddenly stops covering any of the costs. After some more money has been spent Medicare once again chips in:

When Congress created the Medicare prescription drug program, it adopted an unusual idea to hold down costs: the so-called doughnut hole.

The program pays most of a participant's drug bills until expenses reach $2,250 in a year. Then it stops paying until costs exceed $5,100. That leaves a hole of $2,850 that seniors with serious prescription needs are expected to manage on their own.

Now, six months into the drug program — the first new major healthcare benefit for the elderly in decades — 3.4 million seniors are approaching the doughnut hole.

Most of them are middle-class seniors with multiple chronic illnesses. (The poor are exempt from the gap.) Some have already experienced an abrupt surge in prescription costs.

Think about the incentives in all this. Every year the first 250 dollars of your drug expenses are yours to pay. Once you have spent that much, the next 2000 dollars of expenses will cost you only a quarter of that, or 500 dollars, because Medicare pays three quarters of that part.

Are you still with me? Good. So far you have paid at most 750 dollars for your drugs during the year. What if you need more medications than this got you? This is where you fall into the doughnut hole. The next 2,850 dollars of expenses will all be yours to pay. This smells very funny to me, because someone needing to spend more than the 750 dollars per year is now punished by having to return to paying the full price, for being sicker. Only after all the extra 2,850 dollars have been paid will you be once again insuring Medicare benefits, and now they pay all but five percent of the costs of medications.

I bet your eyes got all glazed over while reading that. Another (though perhaps equally glaze-inducing) way of thinking about this is to ask what happens to the actual price of medications the Medicare beneficiaries are paying. For simplicity, think about a bottle of pills that has the market price of $100. Then the price of the first two-and-a-half bottles each year is the actual market price of $100, but once you have bought that amount the real price to the buyer falls. You can get the next twenty bottles for paying just $500, so that the price for you is now $25 per bottle. But the next twenty-eight-and-a-half bottles will once again cost you $100. If you need more than 51 bottles of the medication a year, you will get all additional bottles at the out-of-pocket price of $5 per bottle.

This is a very odd insurance scheme. It first has the part where you pay everything, your deductible. That is usually included to discourage unnecessary expenses by the very healthy, and mostly deductibles are not large enough to discourage use by those who are more seriously ill. The annual $250 deductible seems fairly acceptable. Then the insurance kicks in, but the consumer is still expected to pay a coinsurance rate of 25% (the percentage the patient must pay). So insurance is subsidizing the costs of care and that makes sense, but the consumer is still taking some financial responsibility. Now we come to the doughnut hole. It's like another deductible, an amount you must pay in full to get any further benefits. This makes very little sense, because the previous expenses have already established that the person is ill and is in need of medications. I can see some serious health consequences with this sudden raising of the price for those who are already ill. Of course, if they manage to struggle through the doughnut hole they can then "enjoy" cheap drugs for the rest of the year.

And remember that this scheme is repeated every single year. First you pay the full price, then a quarter, then the full price and then only five percent of the price. It's like a seesaw. It makes no medical sense.

What about economic sense, then? The only way I could figure this out was by thinking that the whole plan really is two insurance schemes. First you get the scheme for the fairly healthy elderly. Then you are dumped from that, should you be sicker, and you start from the beginning again in the scheme for the sicker elderly. And indeed, this is sort of the explanation some offer:

Economist Jack Rodgers of PricewaterhouseCoopers likened the Medicare benefit to two plans rolled into one: The first offers limited coverage of medication, with a cap at $2,250; the second provides a more generous benefit for higher bills. In between is the doughnut hole.

"A lot depends on whether you look at the doughnut or you look at the hole," said Rodgers, adding that he believed the availability of enhanced plans, albeit for higher premiums, would soften the impact of the gap.

The glass is half-full or half-empty, I guess.

Yet another way of looking at the doughnut hole is to ask what the impact is on the average amount a person pays per bottle of pills. This average amount, each year, declines at first, then rises, and then drops again. So the consumers who get the most help are those whose expenses are at most $2,250 and those who spend more than $5,100 a year. This has some odd built-in incentive effects, because you don't want to be in the doughnut hole. If you can afford it, you are quite likely to try to spend past it rapidly. If you can't afford it, you will end up taking less of your medications. Neither of these makes any medical sense.

Now that I've bored everyone to near-death I can declare my conclusions. The doughnut hole was put into place for political reasons. The idea was to give some benefits to a large number of the elderly, even those who don't have high medical expenses. This to court the votes of the elderly. But offering such wide-spread benefits is expensive even if the individual amounts are small, and the program would have cost too much without the doughnut hole. That the doughnut hole punishes the elderly who probably need the medications more than those who didn't fall into it doesn't seem to matter.