In examining Social Security, fairness is in eye of beholder

What is the fairest way to take care of the elderly and disabled? Should Social Security pay every retiree the same amount, or should benefits vary somewhat with individuals’ prior earnings? Or, should benefits vary according to need, so that people with other assets or income got less, and those with no assets or other income got at least enough to have a decent lifestyle?

These questions illustrate the difference between economic theory, in which questions of fairness or justice are not allowed to intrude, and applied economic policy-making, where citizens expect fair programs. But fairness is in the eye of the beholder.

The muddled approach that we in the United States take in our Social Security programs illustrates some of the practical pitfalls in trying to achieve fairness.

The basic Social Security program introduced in the Roosevelt administration was pretty straightforward. Employees and employers were required to “contribute” a fixed percentage of wages or salaries up to some annual maximum. People had to make contributions over a specified minimum period to qualify for benefits. Benefit levels varied with prior earnings, and there was no floor.

This basic program saw several changes in its first two decades.

The disabled were added, as were survivors and dependents of insured workers. Intended as a safety net or supplement to private savings, Social Security has become the primary source of retirement income for the poorer half of the population. Benefits still vary with the number of dependents, and do not vary with the cost of living, where the retiree resides, or with their net worth.

This can lead to very different levels of living for beneficiaries with differing levels of wealth living in different geographic areas. Most people accept this system as fair. Also, the rough link between earnings and benefits mimics most private-sector pensions. The principal that if you pay in more you should get more, at least up to some point, seems just.

But Congress went off on a different tack when it added Medicare coverage in the mid-1960s. It did not tie benefits to prior earnings or contributions. Nor did it offer a fixed amount per person, as in some European socialized medicine plans. Instead, Medicare offered a specified set of covered treatments and procedures for all who were covered.

In part, this was following the pattern of existing private health insurance. But it differed from private insurance in that it was funded by a tax that was uniform across the nation, regardless of different regional health care costs.

In private plans, premiums were higher in high-cost areas such as New York or Boston, and lower in the Midwest. These regional cost differences were due in part to higher hospital costs in large urban areas with more expensive payrolls, real estate and utilities.

But the cost difference was due in greater part to the fact that physicians in some regions charged more and had higher incomes than in others. The American Medical Association and other doctors’ groups were rigidly opposed to a national fee structure that might level down physicians’ incomes in high-cost areas.

To use what must be one of the most cynical phrases ever coined, doctors wanted to be paid whatever was “usual, customary and reasonable” in their area. If that meant that a gall-bladder operation in Manhattan cost the taxpayer three times as much as one in Minot, so be it.

Again the public accepted this outcome as fair. Everyone across the nation paid the same tax rate for Medicare, everyone got the same benefits, with the same deductibles and co-pays. No one complained about fairness until institutional change in health care delivery upset the system.

Individual doctors always had resisted capitation, which is the paying of a fixed, per-person annual fee. But this was how the new health maintenance organizations were set up to work. As private-sector employers increasingly turned to HMOs to limit health insurance cost increases, there were calls for the government to get on the bandwagon.

The government decided to offer retirees the option of joining HMOs. Medicare would pay an annual fee based on historic health care costs in a particular geographic region. This meant that HMOs in regions with high costs would get a greater amount of money per Medicare member than ones where costs had always been lower.

Containing costs in other areas, including physician salaries, these HMOs began to offer extra benefits such as free prescription drugs to attract even more retirees as clients.

We’ve now come full circle. A program originally designed to be fair to retirees by providing the same coverage nationwide now is widely seen as unfair to seniors in those areas that historically kept down costs.

Several states, including low-cost and low-reimbursement Minnesota, are suing the federal government on the grounds that the current system does not provide equal protection under the law.

What can we do to restore perceived fairness? Do we go to a plan with a national capitation rate? Or do we devise a schedule of mandatory benefits and pay whatever that schedule costs in different areas? That undermines cost containment. Do we set payment levels for such a mandatory set of benefits below usual, customary and reasonable levels? That runs into the opposition of doctors and other health providers coupled with their threat to drop Medicare patients.

Everybody wants government programs to be fair, but it’s not easy!

© 1999 Edward Lotterman
Chanarambie Consulting, Inc.