Pension Fund’s Health Cost Success: Bully or Prototype? : Insurance: Some see bargaining clout by state group as a model for reform. Critics doubt it can work nationwide.

The numbers remain impressive. In the Byzantine world of American health economics where price hikes far outstrip the rate of inflation, here was a virtual freeze on the cost of health insurance in 1993 for nearly 900,000 Californians.

The momentous development was broadcast at an $11,000 news conference convened in February by the California Public Employees’ Retirement System, the vast quasi-public organization whose main purpose is running a giant pension fund for government workers.

It was the second straight year in which CalPERS, which has the ancillary role of administering health insurance plans for many public workers, had reined in the demands of the 25 health insurance firms bidding to do business with this health-purchasing gorilla.

Using the bargaining clout that results from consolidating hundreds of public sector agencies--most with fewer than 100 workers--under its administrative umbrella, CalPERS demanded that those proposing to insure its members find ways to stop the runaway health care locomotive. The 1993 result: an average 1.4% increase in premiums versus a national figure of 14%.

Over the past two years, the rise in health care costs for CalPERS members came to 7.6%, versus a national average of 30%.

The success bolstered its stature as a system to emulate--and as the nearest thing to the health insurance purchasing cooperatives envisioned by President Clinton under the mantra of “managed competition.” The clear message was that it worked.

But now, critics from the left--opponents of managed competition, although traditional allies of the innovative $73-billion pension fund and its unique brand of social activism--have begun to impugn CalPERS’ apparent success at slowing the surge in health care costs.

CalPERS has done little more than sit on its suppliers and declare poverty, said Rep. Pete Stark (D-Oakland), chairman of a key congressional health subcommittee. This simply shifts higher costs onto the health insurers’ other clients who do not have the same bargaining power, said Stark, who wants a single payer--the federal government--rather than insurance companies to pay all health bills.

“It doesn’t take a genius to do that (shift costs to others),” a Stark aide said.

Skeptics add that CalPERS is not the only buyer this year to slow the health premium rise in today’s recessionary, crisis-ridden California economy. Besides, they argue, CalPERS achieved the freeze with onetime measures and will never be able to duplicate it. And many members are now paying nominal fees for services that used to be free.

CalPERS, which spent the $11,000 on press agents to spread the idea of the California venture as a national prototype, now protests bashfully that it is not a prototype for anything. And please leave us alone.

After Stark had the General Accounting Office look into CalPERS’ claims as part of a pending review of various health programs, the fund’s board president, William Crist, wrote a conciliatory note to Stark, a big ally on other issues. Crist assured Stark that the fund’s approach “differs from managed competition in a number of important ways” and hoped that “we will not be further swept along with this debate.”

Does the CalPERS system--whatever it is--merely illustrate the bullying power of a giant customer, or does it indeed point the way to a more rational health system for Americans?

As far as Tom J. Elkin is concerned, it is not an either-or question. Elkin, who runs CalPERS’ health program, said the 800-pound-gorilla brand of power is indeed central to any solution to today’s fragmented, inefficient and unacceptably costly system.

And if CalPERS’ clout does drive up health insurance premiums for others, Elkin said, they should create their own purchasing cooperatives and do the same hard-nosed bargaining--which is the theory behind Clinton’s expected proposal for a nationwide system of regional health buying alliances.

In California, two such health buying cooperatives loosely patterned after CalPERS are in the works: one designed to consolidate the purchasing clout of small businesses and the other an alliance of large Bay Area corporations. Similar plans are being developed by the states of Florida and Washington, Elkin said.

“There’s no patent on this idea,” Elkin said. “And negotiating for 1,000 or 2,000 or 3,000 people just isn’t going to cut it.”

Although CalPERS is best known for tossing its considerable financial weight around such corporate boardrooms as IBM and General Motors on behalf of shareholders, it long ago became a big player in California’s health insurance game as well.

CalPERS’ health care role, financially unrelated to the pension system, has expanded to create a risk pool of 887,000 “covered lives”--employees, dependents and retirees of the state of California, the California State University system and nearly 800 local public agencies in the state.

CalPERS acts as a purchasing agent and paperwork clearinghouse for all of them, charging a fee of 0.5% of their monthly insurance premiums. For the fee, those agencies’ workers get access to a CalPERS-built network that offers a choice of health insurance packages from up to 25 firms--including 19 health maintenance organizations (HMOs)--whose premiums and benefits are negotiated by CalPERS’ staff.

With the medical risks spread over such a large pool, members are insulated from the effects of, say, the births of premature twins, or the enrollment of a disproportionate number of older members or retirees that could send premiums soaring in a smaller group of insured.

In several ways, CalPERS’ long-established system resembles what have recently come to be known as health insurance purchasing cooperatives, or HIPCs, the health-buying alliances embraced by the White House.

Yet until last year, CalPERS--with little incentive under a formula where the state paid 100% of the health insurance premiums charged by the biggest health care providers--did an even worse job than other health insurance buyers at holding down rates.

The premiums negotiated by CalPERS climbed even faster than the national average, and taxpayers picked up the tab.

Stanford University economist Alain Enthoven, an inventor of the managed competition theory and CalPERS’ lead adviser on health care, said: “They had 25 years in which they could have done what they did last year, but they had no incentive to do so. (They) had a terrible record.”

Then the incentives came along in the form of California’s budgetary Armageddon, triggering action at CalPERS. Among the triggers: a 1991-95 freeze on what the state of California would pay toward health care premiums for its workers.

That meant that its own members would have to swallow double-digit premium hikes unless CalPERS--whose board members are legal fiduciaries, and can be charged criminally for failing to act in the interests of their constituents--brought the costs under control.

The pension fund spun off its health care division and hired Elkin to run it. A new advisory council chaired by Stanford’s Enthoven helped CalPERS overhaul its approach.

The centerpiece was a standardization of the benefits package so that every HMO hoping to capture business from CalPERS had to offer the same things. The competition would come in price and quality, not in the range of benefits offered.

From a barely decipherable jumble of more than 1,100 possible benefit combinations, the health plans were drastically simplified and the playing field leveled. That made it possible for the first time to compare what the plans charge for identical procedures and how often they are performed--information that in some cases was new even to the health insurance companies.

“Before, Plan B would have wonderful vision coverage and no podiatry, and Plan A would have podiatry but no vision,” Enthoven said. “So the people with bad eyes and good feet would join plan B.”

But CalPERS could not compare costs or results when the plans and the people who joined them were so dissimilar. Now, it can.

“We noticed an unusually high level of Cesarean sections at one carrier,” said Robert Campbell, a health policy analyst at CalPERS. “They didn’t even know their rate was higher than anybody else’s. They agreed to address this and were able to lower their rate increase. We could also compare what we were being charged for drugs. Some HMOs have since re-evaluated the contracting methods they used with pharmacy networks.”

This is the landscape change that holds promise for forcing more basic change in the health care system underlying CalPERS, said Drew Mendelson, executive directory of the 78,000-member California State Employees Assn.

“What they’ve done so far is a short-term repair to keep costs from going out of sight,” Mendelson said. “Now, for the first time, we’re able to find out what we’re paying for. We have to make qualitative change or PERS will just be an island.”

Advocates call this putting consumers in charge for the first time by arming them with information. There are no insurance or medical people on the CalPERS board, only purchasers of health care.

To Elkin and others, the controlling role of consumers and the accountability of CalPERS’ board are critical to such reforms--and should be mimicked by the regional health buying alliances being studied by Hillary Rodham Clinton’s health care task force.

“Each person on these boards should meet similar fiduciary standards of conduct, with breaches subject to criminal penalties, that the CalPERS board is obligated to meet,” Crist said.

But that may be hard to achieve in a climate of political horse-trading. And there remain other questions about the relevance of CalPERS as a national model and about the extent of its accomplishments.

Critics note that 40% of CalPERS’ members--chiefly those who joined Kaiser Permanente, the nation’s biggest HMO--now must pay $5 for doctor and emergency room visits and $4 for prescriptions, services that were free before, in return for their lower monthly premiums.

Though CalPERS says there is an average net savings, Robert Dreyfuss of Physicians for a National Health Plan, a group of 5,000 physicians who favor a Canadian-style system of nationalized medicine, said: “There’s no cost containment here. I don’t know what proponents think PERS proves other than the ability of a large purchaser to get favorable premiums for health care.”

Moreover, CalPERS will be hard-pressed to duplicate its recent cost savings year after year because it has only treated the symptom--runaway costs--rather than the underlying irrationality of the nation’s health care system.

Foundation Health Corp., a Sacramento-based HMO with 450,000 members, including 145,000 in Southern California, complied with CalPERS’ premium demands--and then a local hospital providing services to the HMO’s members “walked in the door with a 40% rate increase,” said Kurt Davis, director of investor relations.

“We told them: ‘Wake up,’ ” Davis said. “The reality was we couldn’t pay. What PERS achieved this year is not sustainable. Their costs will have to reflect the costs of providing care to their members. Ultimately, there is no escape from reality, from the forces that are out there.”

CalPERS benefited from a ready infrastructure and a relatively homogenous, middle-income population of members, and acted only as the ax began to fall. None of those conditions is likely to exist on a nationwide basis.

Besides, said Dreyfuss of the physicians group, there cannot be a meaningful isolated model for managed competition because the theory presumes a nationwide system.

“It’s a unicorn, a mythical beast,” Dreyfuss said.

To demonstrate true managed competition, Enthoven said, CalPERS would have to create cost-saving incentives for its members--such as taxing benefits above a certain dollar amount. That will not fly at CalPERS, said Crist, and it might not anywhere else.

Elkin concedes that CalPERS was a victim of its own publicity.

“Now we’re getting pushed from the left and pushed from the right. We just know that group purchasing works. This was a big year, and I doubt I can duplicate those numbers next year. But just watch us. I’m convinced there’s a lot more fat in the system.”