Joseph Rago: The Forgotten History of Ryan's Medicare Reform

How the House budget chairman developed his premium-support concept, which was originally supported by Democrats. It's the only plan that won't send grandma over a cliff.

By JOSEPH RAGO

There was a small but instructive moment in 2010, the summer after the passage of the Affordable Care Act, that shows why Paul Ryan is so unusual for Washington.
A panel at the American Enterprise Institute featured Richard Foster, the Medicare actuary who estimates that ObamaCare's $716 billion in Medicare cuts will cause one of six hospitals to become unprofitable. In the audience was Chip Kahn, the president of a for-profit hospital trade group that lobbied for ObamaCare, who stood up to defend the bargain his industry cut in return for 30 million new subsidized customers.

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Editorial board member Joe Rago on the Ryan budget and Medicare plan.

Mr. Foster noted that the cuts, which come via a technical change to Medicare payment rates, apply in perpetuity. But the hospitals only get the extra patients once, so the wedge between costs and benefits for hospitals widens over time.
"Well," Mr. Kahn replied, "you can say, 'Did you make a bad deal?' Fortunately I don't think I'll probably be working after 2020." When Mr. Foster pressed him, he joked again, "I'm glad my contract only goes another six years."

This kind of short-range thinking—and intellectual exhaustion—dominates both parties and their many clients in Washington, in health care especially.Mr. Ryan's political character has always been different. He saw before anyone else that one era of government was inexorably ending, and that if we want things to stay as they are, things will have to change.
In 2008, amid the poverty of ambition of the late Bush presidency, Mr. Ryan released "A Roadmap for America's Future," a 71-page document that was the first plan in years to take arithmetic seriously. The then-obscure Wisconsin congressman dropped by the Journal to sell his vision, no press secretary, no handlers. "I want to be the Paul Revere of the fisc," he said, according to my notes from the meeting.
Mr. Ryan knew as everyone who knows the budget knows that the federal balance sheet can't be improved by zeroing out foreign aid to Mozambique and arts funding for off-off-off Broadway plays. Medicare is such a large share of spending, and growing so much faster than any other item, that fiscal reform must include the popular entitlement.
Yet the larger goal, Mr. Ryan wrote in the roadmap's preface, was to modernize Medicare for "the realities of the new century." His aim was "not to retreat from the commitments made over the past eight decades, but to fulfill them." In a word, to preserve retirement security and the social safety net.
The core problem is that open-ended Medicare, which spends one of five dollars in health care, buys services whose costs are rapidly increasing. It is a "defined benefit." Mr. Ryan wants to move to a "defined contribution," where seniors would get a fixed-dollar subsidy to buy private insurance. Seniors who desire more generous benefits would pay at the margin. This shift to "premium support," akin to the private-sector transition to 401(k)s from pensions, would change the incentives in health care and make medicine more accountable to patient choice.
Today, Medicare's arbitrary fee-for-service price controls pay the best hospitals and the worst hospitals equally, regardless of quality or value. Innovators who deliver better care at a lower cost are rarely rewarded, as they would be in any other industry. Under premium support, networks of providers would be competing for consumers and become more efficient over time, instead of billing taxpayers for their current negative rate of productivity.
Under the 2008 roadmap, seniors would get a straight cash voucher for $9,500 a year (the amount Medicare then spent per person), indexed to a blended measure of general inflation and the rise of health costs. The poorest and the sickest would get more, the wealthiest seniors less. Nothing would change for people older than 55.
Back then, Mr. Ryan was the only Republican to give a reform agenda definition. The roadmap earned all of eight cosponsors and never got a committee vote. Mr. Ryan was drawing from a rich intellectual well. Premium support was first proposed by Stanford economist Alain Enthoven in the New England Journal of Medicine in 1978. He observed that the pervasive methods of direct economic regulation of health care did not contain costs and suggested that "managed competition" would do a better job.

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Associated Press/Jacquelyn Martin 'The point," Mr. Enthoven wrote, "is that government has certain limitations that are deeply rooted, if not inherent. Government is good at some things, such as taking money from taxpayers and paying it to social-security beneficiaries, and maintaining competition in many industries; it performs badly at other things." Premium support's "cumulative effect is intended to alter the system radically, but gradually and voluntarily, in the long run."
Mr. Enthoven's reform models were the Federal Employees Health Benefits Program, created in 1959, and Calpers, the California health-insurance program for public employees. He used premium support when he designed the Stanford faculty health plan.
Mr. Enthoven's ideas won some support in the Carter administration. Deregulation czar Alfred Kahn publicly endorsed them. Missouri Democrat Dick Gephardt, of all people, pushed them in Congress.
In the 1990s, premium support's chief advocates were Henry Aaron of the Brookings Institution and Bob Reischauer of the Urban Institute. Neither shop is known as a hatchery for conservative ideology. (Mr. Aaron has since recanted.) President Clinton's 17-member Medicare commission, chaired by Louisiana Democrat John Breaux, endorsed the reform in 1999.
But Mr. Ryan did what a million blue-ribbon panels never could: In late 2010 and 2011, he led an internal struggle to educate and convince the risk-averse Republican caucus to get behind his plan. Newt Gingrich's notorious remark about "right-wing social engineering" gives a flavor of the objections. The main doubters were the careerist old guard.
When Mr. Ryan's ideas had no chance of enactment, liberals praised his sincerity. President Obama lauded "a serious proposal" worthy of "healthy debate" in 2009. When the House GOP dared to include it in their budget, liberals responded with varying degrees of hysteria. Mr. Obama recently savaged premium support as "social Darwinism," and that was the subtle part.
The main objection is that the premium supports wouldn't keep pace with the rising health costs that Medicare now promotes, forcing seniors to pay for the overflow out of pocket. But that assumes doctors and hospitals won't change their behavior when the incentives change.
At any rate, Mr. Ryan has always treated premium support as a guide for compromise and negotiation, not dogma. The 2012 budget, renamed the Path to Prosperity, indexed the payments to general inflation, starting at $15,000 (the amount Medicare now spends per person). Unlike the earlier roadmap, the payments would only flow to government-approved coverage options. Mr. Ryan joined with liberal budget expert Alice Rivlin to link the payments to the growth of the economy plus 1%.
The 2013 House iteration uses a competitive-bidding formula worked out with Oregon Democratic Sen. Ron Wyden. Insurers and traditional Medicare, which would remain as is, would essentially participate in a reverse auction to price the coverage in a given region. The annual premium-support payment would be set at the second-lowest bid, and seniors who chose the cheapest plan would keep the difference.
Mr. Ryan's critics claim to be technocrats, but they retain more faith in central planning than the empirical evidence supports. Their objections are really false fronts for their anti-market ideology of price setting and government control.
The reality is that the status quo that Democrats pretend is an alternative to "privatization" is already irretrievably gone and Medicare is already changing, for worse or for far worse. The Affordable Care Act pegs Medicare spending to the growth of the economy plus 1% with the crude across-the-board cuts to providers identified by Mr. Foster. A bureaucratic panel of 15 men and women will enforce the cap by decreeing how medicine should be practiced and how doctors and hospitals are organized.
Premium support is the only other plausible health-care choice, as well as the only way to pay for the promises government has made while still maintaining economic growth. The model has been tested in the real world, and it works: Not only does it already apply to members of Congress, it looks a lot like Medicare Advantage, whose private plans cover nearly a quarter of seniors, and the 2003 Medicare prescription drug benefit, whose premiums, amazingly for health care, won't increase by even a dollar next year.
Mr. Ryan's achievement has been to confront the greatest domestic political challenge of our time—the unaffordability of the entitlement state—and move a tangible and pragmatic solution to the center of the national debate. He even persuaded a politician as cautious and famously data-driven as Mitt Romney.

Mr. Rago is a member of the Journal's editorial board.