Health Care Costs-Challenges and Solutions

March 2008

Per person spending on health care by individuals and the government is expected to increase from an average of $7,026 in 2006 to $13,101 in 2017, with the burden falling most heavily on public payers. And while the growth rate may not continue accelerating, the real level of health care costs is expected to account for an increasingly larger portion of the U.S. economy.1 Economists and actuaries at the Centers for Medicare and Medicaid Services (CMS) project that national health care spending will reach $4.3 trillion by 2017-nearly one-fifth of the economy-largely driven by medical price inflation and the volume and intensity of services.2 Without restraint on future health care spending, the economic stability of the country is at risk.3

Policymakers predict that health care dollars will shift among various sectors over time. Growth in prescription drug spending will likely be tempered by increased use of generic equivalents in the next ten years. Similarly, the hospital sector is expected to experience a slowdown in total spending by 2017. On the other hand, costs associated with physician services are likely to increase, with Medicare covering 24 percent of that spending in ten years. The home health/long-term care (LTC) sector will feel the burden of the baby boomers most acutely with Medicare and Medicaid assuming a projected increase from covering 75 percent of those costs in 2006 to 84 percent in 2017.4 While shifts may occur, overall cost reduction is not expected.

Many factors drive up health care costs, each at varying degrees. These factors include inappropriate and/or overutilization of medical care, regional variation in services and spending, administrative inefficiency associated with the various components of the payer/provider/patient interface, a growing uninsured population, insufficient preventive services, the ever-expanding market for new technologies and pharmaceuticals, the aging population, patients' lack of price sensitivity, defensive medicine resulting from malpractice threats, and poor lifestyle choices leading to conditions like obesity.5

Of these, the Congressional Budget Office (CBO) cites new medical technologies and services as the most critical cost driver, outpacing even the effects of the aging baby boomers on health care cost growth.6 

Rising health care cost growth burdens consumers, employers, providers, public insurers and private insurers. Each of these stakeholders is faced with multiple and often competing financial challenges related to accessing, delivering, and/or paying for health care. This makes developing solutions all the more complicated.

New Grants

In a series of newly funded HCFO grants, researchers will explore some of the myriad causes of health care cost growth and propose various solutions, with an ultimate goal of improving value and increasing coverage.


Both researchers and policymakers cite variation in heath care as one of the key cost drivers.7 Higher spending in some parts of the country may be the result of intensity of treatment.8 Or it may be the result of individuals' personal characteristics.9 Regardless of the underlying cause of the variation, what may be more troubling is the fact that increased spending is not correlated with higher quality care.10

In a new HCFO study, Michael Chernew, Ph.D., Harvard Medical School, will examine variation in cost growth in both the Medicare and commercial markets. Most research and policy initiatives are aimed at managing the level of costs, as opposed to cost growth. Chernew posits that the trajectory of cost growth, as a portion of the overall economy, is of particular concern since the factors contributing to high levels of health care costs may not be the same as factors related to cost growth.11

To date, the reasons why Medicaid costs vary across the country, while important, have largely been unexplored. Richard Kronick, Ph.D., University of California, San Diego, will explore the level of variation in services and payments across state Medicaid programs and across hospital referral regions within states. The study will crystallize the impact of policy choices on benefit limits and payment rates on Medicaid costs and utilization.

High-Cost Medicare Patients

The top five percent of costliest Medicare beneficiaries account for nearly half of Medicare spending.12 But what makes these patients high cost-is it the demand side of the equation, the supply side, or a combination? In a new HCFO study, James Reschovsky, Ph.D., of the Center for Studying Health System Change will focus on key physician, practice and market characteristics associated with Medicare payment and utilization. Findings from this study will inform Medicare reimbursement strategies, which have a large influence on how physicians practice.

High-Cost Commercial Patients

Despite the fact that Medicare is often characterized as the "leader" in terms of payment policy, private payers also play a significant role in the level of health care spending. A reciprocal spillover effect between public and private insurers may be possible, to the extent one side or the other is successful in its efforts to curb health care cost growth. In a new HCFO study, Kate Bundorf, Ph.D., Stanford University, and Anne B. Royalty, Ph.D., Indiana University-Purdue University Indianapolis, will explore how changes in prices and the number and types of services among the privately insured create differential effects on various categories of spending and demographic groups. Findings from this study will be particularly important as policymakers develop mechanisms to optimize benefits as they expand coverage.


As policymakers grapple with reform efforts to cover the uninsured, they must consider the issue of affordability, particularly in light of the debate between voluntary take-up and enforcement of mandated health insurance. Lisa Clemans-Cope, Ph.D., and Cynthia D. Perry, Ph.D., of the Urban Institute have been funded by HCFO to examine how various measures of affordability affect access to coverage for those who are uninsured and those whose chronic conditions result in high health care expenditures.

Care Coordination

Among the ideas suggested as a possible cure for health care cost growth is a change in treatment paradigm from individualized care to coordinated care. This may take the form of managing a specific disease across a targeted population, or managing episodes of care across multiple providers. In a HCFO study by Deborah Peikes, Ph.D., and Randall Brown, Ph.D., of Mathematica Policy Research Inc., the researchers will test the features of different disease management and care coordination programs. They will identify those interventions which appear to be most effective, most replicable, and most economical. Looking instead at the supply side, Eric Schneider, M.D., Harvard School of Public Health, will examine the fragmented nature of the current health care system, especially as it relates to higher, episode-specific costs of care.

Healthy Behavior

Many hold the logical assumption that healthy behavior leads to lower health care costs,13 but does the empirical evidence support that assumption? In his HCFO-funded study, Bruce Stuart, Ph.D., of the University of Maryland, Baltimore will identify those disease states and beneficiary segments which show the greatest promise for improved compliance and persistence in the use of preventive therapies. The researchers will explore possible links between low spending consumers and behavior, prevention, race and socioeconomic status. Findings from this study will help inform policymakers' and practitioners' to develop optimally targeted interventions.


With multiple factors contributing to rising health care cost growth, there will likely need to be multiple options for arresting or at least mitigating that trend. Currently, researchers and policymakers are examining whether comparative effectiveness could inform and improve clinical care and achieve savings.14 In addition, limiting benefits to only those therapies that provide clear value to patients may result in valuable cost containment.15  Finally, reforming provider payment incentives and educating consumers to make better health care decisions hold promise. The HCFO-funded research, described above, may provide additional options. Finding a solution is critical because we will face increasingly difficult decisions about the way health care is delivered and paid for in the coming decades.16

For more information on these studies and other HCFO studies addressing health care costs, visit**ALL**

Title: Variation in Health Care Cost Growth
Applicant: Harvard Medical School
PI: Michael Chernew, Ph.D.

Title: Small Area Variation in Medicaid Utilization and Expenditures: Implications for Cost Containment and Quality of Care
Applicant: University of California, San Diego
PI: Richard Kronick, Ph.D.

Cost and Efficiency in Treating High-Cost Medicare Beneficiaries: The Role of Physician Practice and Health System Factors
Applicant: Center for Studying Health System Change
PI: James D. Reschovsky, Ph.D.

Sources of Health Care Cost Growth
Applicant: Stanford University
PI: M. Kate Bundorf, Ph.D., and Anne B. Royalty, Ph.D.

Title: Defining Affordability for the Uninsured and People with Chronic Conditions
Applicant: The Urban Institute
PI: Lisa H. Clemans-Cope, Ph.D./Cynthia D. Perry, Ph.D.

Title: Can Disease Management Control Costs?
Applicant: Mathematica Policy Research, Inc.
PI: Deborah Peikes, Ph.D./Randall Brown, Ph.D.

Title: How does Fragmentation of Care Contribute to the Costs of Care?
Applicant: Harvard School of Public Health
PI: Eric C. Schneider, M.D.

Title: Medicare Spending, Disparities, and Returns to Healthy Behaviors
Applicant: University of Maryland, Baltimore
PI: Bruce Stuart, Ph.D

1 Keehan, S., et al., "Health Spending Projections Through 2017: The Baby-Boom Generation is Coming to Medicare," Health Affairs, Web Exclusive, February 26, 2008, W-145.
2 ibid.
3 CBO Testimony, Statement of Peter R. Orszag, "Growth in Health Care Costs," before the Committee on the Budget, United States Senate, January 31, 2008,
4 ibid.
5 According to the Congressional Budget Office, health care spending for normal weight individuals in 2001 was $2,783, as compared with $3,737 for someone obese and $4,725 for a morbidly obese person. CBO Testimony, Statement of Peter R. Orszag, "Growth in Health Care Costs," before the Committee on the Budget, United States Senate, January 31, 2008,
6 ibid.
7 Dartmouth Atlas Project,; CBO Paper, Peter R. Orszag, "Geographic Variation in Health Care Spending," February 2008,
8 Baicker, K., and A., Chandra, "Medicare Spending, The Physician Workforce, and Beneficiaries' Quality of Care," Health Affairs, Web Exclusive, April 7, 2004. W4-188.
9 HCFO Grant # 63091 -
10 CBO Paper, Peter R. Orszag, "Geographic Variation in Health Care Spending," February 2008,; Baicker, K., and P., Orszag - Presentations at AcademyHealth National Health Policy Conference, February 4, 2008,
11 See also, Moon, M. - Presentation at AcademyHealth National Health Policy Conference, February 4, 2008,
12 Lieberman, S.J., et al., "Reducing the Growth of Medicare Spending: Geographic Versus Patient-Based Strategies," Health Affairs, Web Exclusive, December 10, 2003. W3-605.
13 See, Schoen, C., et al. "Bending the Curve, Options for Achieving Savings and Improving Value in U.S. Health Spending," The Commonwealth Fund Commission on High Performance Health System, December 2007;; But see, van Baal P.H.M., et al., "Lifetime Medical Costs of Obesity: No Cure for Increasing Health Expenditure," PLoS Medicine, Vol. 5, No. 2, e29 doi:10.1371/journal.pmed.0050029 (noting that a decrease in health care costs associated with obesity-related diseases is offset by cost increases due to diseases unrelated to obesity in life-years gained) 14 CBO Paper, Philip Ellis, "Research on the Comparative Effectiveness of Medical Treatments: Issues and Options for an Expanded Federal Role," December 2007,
15 Garber, A., et al., "The Promise of Health Care Cost Containment," Health Affairs, Vol. 26, No. 6, November/December 2007.
16 Keehan, S., et al., "Health Spending Projections Through 2017: The Baby-Boom Generation is Coming to Medicare," Health Affairs, Web Exclusive, February 26, 2008, W-145.