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Cato Policy Analysis No. 305

April 29, 1998

THE NEXT STEPS FOR MEDICARE REFORM

by Peter J. Ferrara

Peter J. Ferrara is general counsel and chief economist with Americans for Tax Reform

and an associate policy analyst at the Cato Institute.

Executive Summary

The Balanced Budget Act of 1997 made extensive Medicare reforms to delay the

impending financial collapse of the system for a few years. But those changes do not

sufficiently address the long-term problems of the program. In fact, Medicare's long-term

problems remain deep and intractable. Even after the 1997 reforms, by the time today's

young workers retire, Medicare's current sources of funding will likely be sufficient to

finance only 50 percent or less of the promised benefits.

Such an enormous financial gap cannot be closed by raising taxes and cutting

benefits, which would greatly harm working people and retirees. The only solution is to

reform the system by taking advantage of the efficiencies, incentives, competition, and

productivity of the private sector.

Every retiree should be free to use his share of Medicare funds to purchase private

health insurance. In addition, every worker should be free to put his Medicare taxes into a

personal health savings account rather than the Medicare program, using the accumulated

funds to pay for health care and health insurance during retirement. Because of the high

returns that result from investing in private capital markets, those privately invested

accounts would be able to pay significantly higher benefits than Medicare.

Essentially, these proposed reforms would shift control over Medicare from

Washington to individual retirees and workers across the country. That Medicare reform

would ensure that workers and retirees achieve more freedom and prosperity than are

possible under the current system.