Graphic:  Conferees' Medicare Drug Benefit 
10/23/2003

This drug benefit is closer to the House bill than the Senate's proposal.  Enrollees with drug spending under $1,500 a year would get just under $500 in net benefits.  People with drug spending of $1,000 a year would get a benefit of about $124.  The benefit stops for drug spending over $2,200, at which point an enrollee would have received a benefit worth $1,024.  (This is the so-called "doughnut hole.")  The benefit picks up again above total drug spending of $5,044 (assuming an enrollee had no outside coverage). 

In general, this sort of drug benefit would probably suffer from significant adverse selection -- that is, people with low drug spending would choose not to enroll, and people with high drug spending would enroll.  Adverse selection is possible when potential enrollees have a good idea what their likely drug costs will be, and choose whether or not to enroll based on their immediate financial gain or loss.  The consequence of adverse selection would be an upward spiral in premiums over time.

However, late-enrollment penalties and other incentives might encourage most seniors to enroll regardless, which would reduce worries about an upward premium spiral.  Potential enrollees might sign up not so much for immediate financial gain, but to ensure they would not face unlimited out-of-pocket costs over time.  The Congressional Budget Office (CBO) believes that adverse selection problems would be small, for those reasons. 

On the other hand, if the late-enrollment penalties were relaxed, or if seniors chose to purchase this sort of coverage based on short term financial calculations alone, adverse selection would be likely.  In that case, this type of drug benefit could just unravel, unless Congress allocated additional funds to keep the premiums down.