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C M S  R E F L E C T I O N S
 
26 July 2005  
  

The Genesis Of HCFA

Despite much progress in the years since the agency’s formation,
an unfinished agenda remains.


by Robert A. Derzon


In spring 1977 I was enjoying the calm of my University of California, San Francisco (UCSF), director’s office when Chancellor Phil Lee alerted me to expect a call from Health, Education, and Welfare (HEW) Secretary Joe Califano, who was then looking for “HCFA” and Public Health Service (PHS) recruits. The first acronym was unknown to me. The Health Care Financing Administration (HCFA) was to be the cornerstone of a system that would for the first time integrate the administration of Medicare and Medicaid. Califano was spearheading the integration campaign, albeit quietly, on orders from Jimmy Carter, who had been persuaded by transition staff that the two programs should be integrated administratively, without input from legislators, even though legislation had been introduced in 1976. The failure to include Congress ultimately annoyed some committee staffers and legislators.

During my initial interview it was apparent that Califano was determined to leave his imprint on HEW by reorganizing Medicare and Medicaid. In 1977 he feared spiraling health care costs, which were rising at twice the rate of the general economy, and HCFA entitlements that were close to 10 percent of the federal budget. Further, he believed that physicians and hospitals were bilking federal programs to the tune of $2 billion a year. He expected that a unified HCFA would moderate cost inflation.

The administration’s first legislative initiative would be a mandatory hospital cost containment plan, which was aborted when the American Hospital Association (AHA) countered with a voluntary plan desired by the powerful rural hospital lobby. Although I was not told this explicitly, I believe that the secretary also created HCFA as the management foundation to implement a future national health plan.

The creation of HCFA raised anxieties, though. Medicare founders Bob Ball and Art Hess were wary of combining Medicaid, a means-tested welfare health program, with Medicare. PHS staff thought that financing would dominate health policy at the expense of public health. HCFA staff were geographically separated between Baltimore and Washington, D.C. We desired a single work site to promote cohesion and functional integration, but many of the most marketable staffers with children opposed relocation.

Year one was hectic. We inherited a backlog of 140 unwritten regulations, many from legislation passed during the prior administration and much of it administratively difficult to implement. Congressional testimony occurred almost weekly. “Congressional Correspondence” to constituents, on which technical advice from HCFA was needed, swamped us. To ease matters, we urged that HCFA staff participate early in the law-making process to ensure smoother implementation of new laws, but that advice was rarely followed. I presume that this advice has been ignored in recent years; the inexplicable Part D is a prime example.

We confronted a number of tough policy issues, including the following.

(1) ESRD: End-stage renal disease (ESRD) program costs were exorbitant. High provider profits were generated from this single-payer plan, which was to reimburse reasonable costs. Many dialysis centers refused to submit cost reports, which made it impossible to base payment on costs. Initially Medicare was the sole insurer for chronic kidney dialysis. We pressed for cost reports, only to be chastised by a health subcommittee advising us to ease off the nephrologists. Evidently their lobbyist demanded that we withdraw the request. He reportedly threatened that his clients might shut down if we persisted. Apparently the lobbyist told the legislator, “If the problem is not solved, sir, the blood will be on your hands.”

Despite that encounter, I remain an advocate for a cost-conscious national health program, one that is not a single payer that purchases care at Defense Department prices. When government is the only buyer, Washington will be awash with every powerful health interest seeking relief only where relief is available for their slice of the GDP dollar.

(2) Hospice: Within our vital demonstration authority, we also conducted demonstrations to determine whether and how we could cover emerging hospice services. Our experiments concluded that hospice was more humane and likely more economical than hospital care. Hospices have flourished, and families and patients have benefited, under this policy.

(3) Prospective payment and DRGs: Using Section 222 and 1876 waiver authorities, HCFA supported several statewide prospective payment plans to discard hospital cost reimbursement. At HCFA’s direction, Yale’s John Thompson and Bob Fetter developed a hospital classification system for diagnosis-related groups (DRGs). DRGs were originally conceived as a hospital planning and budget tool. Later they served HCFA as the base for prospective hospital rate setting.

(4) Health services research: We needed to build research capacity to understand our expenditures. Fortunately, in Medicare (unlike Medicaid) we had a remarkable claims data bank created by Social Security visionaries. We could examine variations in cost and use across the country that private insurers could not. Medicare created several national databases that were opened to researchers, many of whom have made extensive use of them. For example, Jack Wennberg and his colleagues have used the data to examine the effectiveness and costs of medical care in multiple regions of the country.

Subsequent administrators have faced far more difficult times than I did, yet each has contributed to preserving the health care entitlements for millions of seniors and uninsured poor people—an achievement that demands our admiration. Despite the hazards of reorganization, we assembled a strong, loyal team of experts who lasted for decades and have become respected contributors to the national policy debates. Most assuredly we fell short of the secretary’s expectations that the two programs could be totally unified at the management level. Yet quality assurance, program integrity, and research/policy were successfully consolidated. Public program spending growth was not curbed, despite modest efforts to control costs, although we fared better than the private sector in that first year.

In retrospect, HCFA’s creators underestimated the complexity of merging two very different national programs. Medicaid was designed to permit wide management latitude among the fifty states. It allowed variation in eligibility. Medicare was a uniform top-down cookbook with costless eligibility determinations. States could juggle the scope and duration of Medicaid’s benefit package; Medicare benefits were uniform. Nonetheless, both programs paid for ill-defined “medically necessary care.” Surely we bought non-evidence-based clinical care in great quantities, and we continue to do so. Thirty years ago, performance-based payment was beyond our knowledge. Unfortunately, the 1977 goal of placing government programs in the mainstream reinforced problems in the private-sector mainstream that needed a fix and still do.

In recent years, health care costs have soared, which is awful news for poor and uninsured Americans. Charitable and taxpayer dollars annually buy less care for the needy. Health care has become an unaffordable human right. The Medicare trust fund is shrinking. State appropriations for Medicaid are shaky. We surely have left a full agenda for CMS administrator Mark McClellan—mainly old unfinished business.

The author is grateful for Clif Gaus’s assistance in recollecting these events.

Bob Derzon (bderzon{at}aol.com) was the first administrator, serving from June 1977 to November 1978. He is now retired and lives in Mill Valley, California.

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DOI: 10.1377/hlthaff.w5.326
©2005 Project HOPE–The People-to-People Health Foundation, Inc.