June 29, 2001

MedPAC Memo Asserts that Medicare Overpaid Hospitals

A June 18 memo from Medicare Payment Advisory Commission (MedPAC) staff to Congressional committee health staff asserts that, over the last decade, Medicare has overpaid hospitals in inpatient service payments as a result of overestimates of the annual inflation update. A primer on the "market basket"-- the measure of hospitals' operating expenses used to determine the inflation adjustment to Medicare inpatient service payments -- the memo states that Medicare has overestimated the wage component of the market basket as well as the overall inflation estimate.

"Cumulatively, the wage component of the market basket has risen about 3 percent more than actual hospital wages" states the memo. Such an overestimate is due to the fact that the changes in wages are measured by a combination of hospital-specific price indexes and economy-wide indexes. "Hospitals have benefited from this construction over the last eight years, because hospital wage increases have been lower than in other industries. This translated into higher payment updates over the period than if only the hospital industry wage measure had been used."

Moreover, the memo states that CMS's forecasts of inflation have been overestimated. "Through most of the past decade, the market basket increase was consistently overestimated….The cumulative forecast errors has been 7.6 percent."

The memo also addresses concerns raised by hospitals that pharmaceutical prices have risen beyond the rate of inflation. The memo reports that CMS has already accounted for the increase in drug prices as it adjusts yearly the weights of the market basket components. "Even if increased drug usage caused hospital prices to unexpectedly rise, the market basket would at most have to be increased by only 0.15 percentage points."

The memo did acknowledge that the CMS has forecast a larger increase in wages in FY 2002 as a result of the pressure on the labor market for nurses and other health professionals. As current forecasts have hospital wages rising faster than other industries, "the use of an economy-wide measure may disadvantage hospitals slightly in the next payment update" the memo stated.

Information: Lynne L. Davis, AAMC Office of Governmental Relations, 202-828-0526.