Update on Medicare Finances

Medicare is a critical component of the U.S. healthcare system, accounting for 21% of all healthcare spending and 14% of the federal budget.

As the population ages and healthcare costs continue to rise, understanding the financial structure and sustainability of Medicare becomes increasingly important.

If, like me, you kept meaning to read the 2024 Annual Report of the Boards of Trustees of the Federal Hospital Insurance and Federal Supplementary Medical Insurance Trust Funds, so that you could stay up to speed on issues of Medicare financing, Alicia H. Munnell has your back. She hits the high spots of the report in “Medicare Finances: A 2024 Update” (July 2024, Center for Retirement Research at Boston College, Number 24-16).

The Medicare program is 21% of all US health care spending, and 14% of the total federal budget. It provides health insurance for pretty much everyone over age 65. To understand the financing of the program, you need to know that it is divided into four parts. As Munnell explains:

Traditional Medicare is composed of two programs. The first – Part A, Hospital Insurance (HI) – covers inpatient hospital services, skilled nursing facilities, home healthcare, and hospice care. The second – Supplementary Medical Insurance (SMI) – consists of two separate accounts: Part B, which covers physician and outpatient hospital services, and Part D, which was enacted in 2003 and covers prescription drugs. The arrangements are slightly more complicated because Medicare also includes Part C – the Medicare Advantage plan option, which makes payments to private insurance plans that provide both Part A and Part B services. … Spending on Part D prescription drug benefits has been a roughly constant share of total spending over time. Each Medicare program has its own trust fund and its own source of revenues.

Part A is the Hospital Insurance fund, which is mostly funded by the 2.9% payroll tax on wages, but which also gets some revenue from an additional 0.9% tax on the wages of high-income workers and from a tax on higher-income Social Security recipients.. Part B is Supplemental Medical Insurance, which covers care by doctors and outpatient hospital care, is financed mostly by general tax revenues, but also with a contribution from insurance premiums paid by the elderly. Part C, the “Medicare Advantage” program which now covers about half of all Medicare recipients, is paid for out of the funds for parts A and B. Part D “is financed primarily by general revenues (73 percent) and beneficiary premiums (14 percent), with an additional 12 percent coming from state payments for beneficiaries enrolled in both Medicare and Medicaid.”

The usual headline about Medicare finances focuses on estimates for how long the Part A Hospital Insurance trust fund will remain solvent: in the 2024 report, the answer is 2036. But as this brief overview suggests, the Part A trust fund is only one slice of the program. As Munnell points out, the share of Medicare spending going to Part A has been declining:

Here’s an overview of all the sources of revenue for Medicare. As you can see, payroll taxes and insurance premiums cover only some of the cost, with general tax revenues taking up most of the slack.

As the figure also shows, Medicare costs as a share of GDP have been rising substantially as a share of GDP. Also, with a combination of a growing over-65 population and health care costs that keep rising faster than the general rate of inflation, Medicare spending is projected to be a rising share of GDP for the next couple of decades, as well.

Indeed, Munnell points out that 30 years down the road, covering the health care costs of the elderly is likely to cost more than providing the elderly with income through Social Security. Yes, health insurance for the elderly is good thing. But one suspects that among the lower-income elderly in particular, we are reaching a stage where some of them would prefer a little less health insurance and a little more cash in hand.