Measuring the Return on Government Spending on the Medicare Managed Care Program

I estimate the welfare provided to beneficiaries by the Medicare managed care program, and its net costs, for the years 1999-2002. I measure beneficiary welfare with a nested logit model of demand for Medicare HMO plans using detailed data on plan benefits. From this, I find that total beneficiary welfare provided by the program over the four-year period is about $61 billion (2000 $). I also use data on and estimates of the favorable selection enjoyed by Medicare HMOs from the research literature to estimate net costs of the program, which range from $21 billion to $31 billion (2000 $). Estimated net beneficiary welfare of the program therefore ranges from $30 billion to $40 billion and the estimated return on government spending ranges from 96 percent to 186 percent. Even though managed care plans are overpaid by Medicare, the program still enjoys a substantial return due to the popularity of its offerings.