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WASHINGTON, DC — The aging of the baby boom generation and other factors could drive up per capita health care spending to three-and-one-half times current levels by the year 2030, according to a new study by Watson Wyatt Worldwide.

"Every eight seconds, another baby boomer turns 50, and this will continue for the next 10 years," says Sylvester Schieber, Ph.D., Watson Wyatt Vice President. "The health care cost implications of this demographic shift are enormous. The current moderation in health costs may only be the calm in the eye of a storm."

According to Watson Wyatt, three factors —   an aging population, excessive medical inflation and new medical technology —   will combine to push health care costs significantly higher in the future:

• Aging population: Annual per capita health care spending for men age 30 to 34 is $1,528. This compares to $4,454 for men age 50 to 54 —  nearly three times as much. Real per capita spending could increase by 24 percent over current levels by the year 2030 due to the aging population alone.  

• Excessive medical inflation: Health care price increases have outpaced general inflation by 50 percent for the past four decades. If this continues, added medical inflation alone will increase health care costs by 69 percent over current levels by 2030. "While some analysts have hailed the relatively low health inflation over the last year or so, health price inflation was still 60 percent higher than general price increases in 1995," says Dr. Schieber. 

• New medical technology: Technological advances increase demand for health insurance, since few Americans can pay for high-tech treatments out-of-pocket. In turn, because insurers cover these treatments, there are strong financial incentives for health care providers to continually develop new, more expensive technologies. This circular relationship between health insurance and medical technology could boost costs another 69 percent by the year 2030.

Combining all three factors —  and using conservative assumptions —  the Watson Wyatt model predicts that health care spending could grow to more than 3.5 times current levels (in constant dollars) by the year 2030.

"There's an old saying: 'What can't happen, won't,'" says Dr.Schieber. "Still, the challenge we face is real. We must take action now to deal effectively with these cost pressures. The only other options are to pay more or to accept reduced care.

"If the three main buyers of health care —   government, employers and employees —  continue playing the cost-shifting game, all three will fail,"says Dr. Schieber. "We must work together to solve the health cost problem, abandoning the idea that access to services is unlimited and someone else always pays. We need a new paradigm in which community needs and self-interest are in balance."

Government and employer solutions

Watson Wyatt proposes a number of solutions for both the federal government and private employers. Key recommendations for policymakers include:

• Enhance Medicare benefits to provide protection against catastrophic illness and more comprehensive coverage for acute medical care.  

• Increase Medicare beneficiaries' premiums to cover these enhancements and to give beneficiaries more incentive to control costs and choose the most efficient medical plans.  

• Get more Medicare beneficiaries into managed care. In addition to cutting government costs, this would help employers better integrate their managed care efforts with Medicare. 

• Establish health security accounts (HSAs) that workers can use to accumulate savings to pay for health care premiums and out-of-pocket expenses in retirement.

Recommendations for employers include:

• Eliminate employer-sponsored Medicare supplemental plans. A major problem with the current system is that coverage is split among multiple plans, frustrating attempts by any one payer to manage benefits more carefully. 

• Take another look at retiree health benefits with an eye toward minimizing costs and maximizing value. Options include capping retiree health benefits and moving retirees into managed care. 

• Use market clout to get better value for each benefit dollar. 

• Include health care needs in the retirement planning model. Given the explosion in health costs, employees need to plan for both income replacement and health care needs in retirement.

Changes loom for health care providers"Demographic and financial pressures will also change how health care services are delivered," says David B. Friend, M.D., Watson Wyatt's global director of health care consulting. "In place of the traditional brick-and-mortar focus on hospitals, 'virtual' health systems will emerge, providing a value-driven network of health care providers —  all integrated through technology."

The full 128-page report, From Baby Boom to Elder Boom: Providing Health Care for an Aging Population, is available from Watson Wyatt for $125. Orders can be placed by calling 1-800-243-1349.

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Financing Health Care in the United States

The following items are drawn from a new report by Watson Wyatt Worldwide, titled From Baby Boom to Elder Boom: Providing Health Care for an Aging Population:

Americans pay for only a small portion of their health care directly. On average, less than one out of every five dollars spent on health care is paid directly by the recipient of the medical services or products. Most health care costs are paid by Medicare, Medicaid and employer-sponsored insurance plans. (p.42)

Health care costs increase dramatically with age.   Annual health care costs for men age 50 to 54 are nearly three times the costs for men age 30 to 34 ($4,454 compared to $1,528). Health care costs for women also rise with age, although not as dramatically. (p.25)

Demographic tide hits employers sooner than the government.  An immediate challenge for employers is that baby boomers will begin qualifying for early retirement in less than five years, when they begin turning 55. Many employers pay for health benefits until retirees qualify for Medicare. "But pre-Medicare retirees are typically twice as expensive for employers to cover as older retirees who receive Medicare," says Roland McDevitt, Ph.D., head of the health research group at Watson Wyatt. (p. 90)

Retiree health benefits can put a big strain on labor productivity. Since retiree health benefits are not typically prefunded, the costs come out of current workforce productivity. Such pay-as-you-go financing, along with corporate downsizing and an aging population, has increased the burden on current employees' work. In the case of one company studied, the "overburden" (the cost of providing retiree health insurance that must be subtracted from active workers' productivity) ranged between $7,500 and $10,000 per salaried worker per year, and between $15,000 and $20,000 per hourly worker per year. (p. 49)

The government spends disproportionately on health care for the retirement-age population. Although they comprise only 12.5 percent of the total population, people 65 and over receive the lion's share of government health care expenditures.This is not just because of Medicare —  27.5 percent of Medicaid's budget goes to pay for the elderly's health care needs. (p.43)

Raising Medicare's eligibility age yields only moderate savings. Raising Medicare's eligibility age has been proposed as a simple solution for lowering the program's costs. Watson Wyatt projections show, however, that raising the eligibility age to 70 would produce a net savings to taxpayers of only 6 percent. That's because many of the most costly retirees would still qualify for Medicare or Medicaid. Raising the eligibility age would also increase employers' costs, since retirees no longer eligible for Medicare would draw more heavily on employer-based plans. (p.69)

Fewer workers will support each Medicare recipient. Today each Medicare beneficiary is supported by the payroll taxes of more than three workers. But as the baby boomers retire, the ratio of Medicare beneficiaries to active workers will deteriorate. By 2030, only two workers will support each Medicare recipient. The Medicare payroll tax would have to increase by 56 percent between the years 2010 and 2030 just to cover this demographic change. (p.64)

Medicare shifts costs to private payers.  In 1993, Medicare payments covered only 89 percent of the total hospital costs for Medicare patients. The shortfall was picked up by private payers, who paid 29% more than the actual costs associated with their patients. In general, Medicare —  which is responsible for 47 percent of hospital income and 30 percent of physician income —   now pays hospitals and physicians only 68 percent of what private payers do. In fact, says Dr. McDevitt, "there have been only two years since 1980 in which Medicare payments to hospitals actually covered the aggregate costs of Medicare patients." (pp. 58-60)

Medicare payments require larger percentages of GDP. Medicare spending comprised 0.2 percent of GDP in 1966, when the program was implemented. By 1995, it was up to 2.6 percent of GDP. It is projected that over 7 percent of GDP will go to Medicare by 2030. (p.64)

Eighty-nine percent of Medicare beneficiaries have some form of supplemental health insurance.  Those with supplemental coverage pay only 5 percent of their total medical bill out-of-pocket, basically eliminating any incentive to economize in health care decisions. The result has been strong growth in Medicare spending and in the demand for the most expensive and advanced medical technologies available. (pp. 77-78)

Most workers today are in managed care arrangements; most retirees are not.  Three-quarters of active employees receiving health benefits from their employers are enrolled in managed care plans. But only 8 percent of Medicare recipients were enrolled in HMOs in 1993. Moreover, just 3 percent of retired seniors covered by employer plans were in HMOs. That's because the combination of employer coverage and Medicare provides such generous benefits that there is little incentive for these seniors to choose an HMO.(pp. 85, 89).

For more information, please contact Andrew Sandor at 301-581-4693 or Gretchen Ace at 301-581-4538.