Single-Payer Health Care: Is the Administrative Savings Argument Smoke and Mirrors?

The latest in our Insights from the Experts series explores the single-payer health care debate, the administrative costs of Medicare versus the private insurance market, and potential impacts on the quality of health care in the US.

Advocates for a centralized single-payer health care system like Medicare-for-All often claim that Medicare, a government-run system, has more efficient administration than the private insurance market. Based on this premise, these same advocates contend that if we expand Medicare universally, we will experience huge savings. Although administrative cost is only one part of the ongoing conversation around a single-payer health care system, the broad impact of administrative practices makes them important to consider. This is especially true for “pure” single-payer proposals, such as the well-known Medicare-for-All, but relevant in evaluating moderate proposals as well.

Of course, a broad-reaching reduction of administrative spend would be a major boon to our country’s health care challenges. But as is the case with anything as complex as a health care system, a closer look at the facts of the argument may reveal this supposedly obvious remedy to be more smoke and mirrors than an actual solution.

At the very least, the efficiency claim raises some valid questions. Is Medicare really more efficient to administrate? If private insurance’s administrative costs are higher, are there benefits gained from the additional spend? If Medicare’s administrative costs are truly lower, does that necessarily equate to greater health care savings overall? While there is much debate over Medicare’s true administrative cost, most agree that the administrative costs for Medicare, as a percentage of overall costs, are lower than those in the private market — even if the exact figures are subject to dispute. But does the comparison to overall costs ask the right questions?

Let’s look more closely at Medicare’s administrative costs, whether the comparison of Medicare’s administrative costs to those in the private sector is a fair comparison, and whether lower administrative costs really result in lower overall health care costs.

Understanding Medicare’s Administrative Costs

The debate surrounding Medicare’s administrative costs begins with an ongoing claim that Medicare’s administrative costs equal roughly 2% of total costs, as compared to between 12% and 17% in the private marketplace.1,2 Where does that claim of 2% come from? Two separate reports published by the Centers for Medicare and Medicaid Services quantify Medicare’s administrative costs:the report of the Medicare Board of Trustees3 and the report of the National Health Expenditure Accounts (NHEA).4

The trustees’ report measures only the administrative costs incurred by the federal government, while the NHEA report includes the administrative costs incurred not only by the federal government but also by Medicare Advantage plans and Part D plans, both of which are provided through private insurers. The trustees’ report depicts 2% administrative costs (or lower), whereas the NHEA’s report outlines costs closer to 7%.

So we see already that the 2% claim is, at least to an extent, smoke and mirrors. Some might argue that the difference can be explained by the different administrators – government versus the private sector – but that argument ignores the fact that Medicare Part D administers the majority of drug/pharmacy coverage. The administrative costs attributed to the trustees’ report contain minimal pharmacy administration. This investigation into the muddying of the waters indicates that the percentage of administrative spend by Medicare is probably closer to 7% than 2%.

Comparison of Administrative Costs — A Clearer Perspective

Many claim that Medicare’s administrative costs appear lower because they are presented as a percentage of overall health care costs, which are naturally higher because the Medicare population includes older patients, disabled patients, and patients with end-stage renal disease. So, even if Medicare and the private insurers were equally efficient, Medicare would seem less costly using this equation because their total costs are higher.

Consider an example. Let’s assume that both Medicare and private insurance beneficiaries had identical administrative costs of $1,000 each, but the Medicare patient received $10,000 in benefits, while the private patient received $5,000 in benefits. Medicare’s administrative costs would be 10% of total cost, and the private insurer’s administrative costs would be 20%, but this information says more about benefit outlay than administrative efficiency.

This seems to be the wrong inquiry, since it’s not comparing apples to apples. Instead of comparing administrative costs to overall health costs, shouldn’t we be comparing the administrative costs on a per-beneficiary basis? Many (if not most) of the administrative costs are either fixed or vary with the number of beneficiaries. This includes marketing, customer service, billing, enrollment, information technology, fraud prevention, and – for private insurers – taxes and profits. Minimal administrative costs vary with the total claims costs, such as claims administration — though even this would be impacted by the number of claims rather than the cost of the claims.

By this measure – cost per beneficiary – some experts report that Medicare’s administrative costs are actually significantly higher than those of private insurers, though it’s difficult to identify exact numbers.⁵ If this is true, moving more beneficiaries into the Medicare system will actually drive up our administrative costs, rather than reduce them (as supporters of a Medicare-for-All system claim).

Further, the administrative costs of private insurance and Medicare cover different types of costs. The private sector’s administrative costs equal premium revenue less claims costs. So, all non-medical costs are tallied, including costs that are unique to the private sector, such as premium taxes and profits. When taxes and profits are removed from the calculation, the private sector’s administrative costs are closer to 9% — more closely aligned with Medicare’s administrative costs as found in the NHEA report. Although taxes and profits are relevant to the overall discussion, they should be removed from a comparison of whether one system is run more efficiently than the other.

The Actual Impact on Overall Health Care Costs

Another piece of information missing from the overall administrative cost analysis relates to services provided that improve healthcare. On the private insurance side, participants receive significant value for those administrative expenditures. For example, private insurers provide disease management services for patients with chronic conditions, on-call nurses for patients to consult y phone, provider network management that identifies quality providers, and analysis of drug effectiveness and affordability. The right type of administrative cost may ultimately lead to improved outcomes. Eliminating those administrative costs may significantly diminish the number of positive outcomes and create additional costs in other areas.

Administrative costs may also lead to overall cost savings. Private insurers are incurring costs to reduce overall system costs by reviewing whether a particular line item of health care spend is medically necessary or delivered in the appropriate setting. Private insurers are more keenly aware of the need to police fraudulent or other improper payments to safeguard an insurer’s continued solvency and to provide competitive value to its customers.

Although the government also engages in fraud control activities, it doesn’t have the same incentive to tackle this issue as the private sector: concerns with solvency, profitability, and competitiveness. These are concerns from which government-provided insurance is generally exempt. If a private insurer spends more on fraud detection activities but as a result reduces the fraudulent claims tenfold (thereby reducing premiums charged), would we consider the activity inefficient, or an example of how certain administrative costs add real value? In many instances, administrative costs lead to savings elsewhere — something that’s not normally mentioned in the general comparison of administrative costs between Medicare and the private market.

The Bottom Line

Looking past the smoke and mirrors, the proposition that Medicare has lower administrative costs than the private market may not be as true or as useful a concept as it seems.

The claimed 2% of overall costs is debatable, and it also ignores other factors and even benefits associated with administrative costs in the private market. Further, even if Medicare-for-All’s administrative costs are low, it doesn’t necessarily follow that overall health care costs will decrease. There are many other factors that impact overall spend, including health care utilization, which will undoubtedly increase when cost-sharing is removed. And, there is no reason to believe that Medicare-for-All would add significantly to the quality of health care here in the US, as costs are shifted to providers through lower provider payments.

The bottom line is that lower administrative costs do not necessarily imply a less costly health care system. It’s worth fully investigating the facts before believing everything advocates have to say.