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The U.S. Department of Defense (DoD) has increasingly confronted financial, managerial, and operational challenges in sustaining the TRICARE health benefit, which it provided to 9.2 million beneficiaries in fiscal year (FY) 2006. Medical costs, for example, are projected to increase to 12 percent of DoD s total budget as of FY 2015, from a level of 8 percent in FY 2007. In response to such challenges, the 2006 Quadrennial Defense Review motivated a transformation in business practices within the Military Health System (MHS). Performance-based planning and financing would allocate resources based on the value of activities to DoD s mission, while aligning accountability and authority within the system. DoD has considered setting targets for health care utilization in its military treatment facilities (MTFs) and rewarding or penalizing MTFs according to their performance. Such an initiative supposes that MTF leaders are able to cost-effectively manage care, much as generalist physicians or managed-care plans are frequently expected to do in the private sector. For example, in areas in which TRICARE costs are high at private hospitals, MTF leaders may be able to encourage beneficiaries to be treated at military hospitals with spare capacity.

The National Defense Authorization Act (NDAA) for fiscal year (FY) 2001 made sweeping changes to the way that health care furnished by civilian providers to Medicare-eligible military retirees is financed. The law directed the Department of Defense (DoD) to implement what is now commonly referred to as TRICARE for Life (TFL). As of October 1, 2001, TFL provides TRICARE as supplemental health insurance for all Medicare-eligible military retirees age 65 or older who are enrolled in Medicare Part B. As of 2003, approximately 1.6 mil- lion military retirees are eligible for TFL. In general, TRICARE for Life covers all cost-sharing for Medicare-covered services and standard TRICARE cost-sharing for services that are covered by TRICARE but not by Medicare. Thus, TFL provides Medicare-eligible military retirees with one of the most comprehensive health insurance benefit packages in the United States., Supersedes RAND/DRR-2723-OSD.

The Veterans Equitable Resource Allocation (VERA) system was instituted by the Veterans Health Administration (VERA) in 1997 in a continuing effort to improve the allocation of congressionally appropriated health care funds to the 21 Veterans Integrated Service Net- works (VISNs).1 VERA was designed to ensure that funds are allocated in an equitable, comprehensible, and efficient manner and to address the complexities of providing health care to veterans with service-connected disabilities, low incomes, and special health care needs. In contrast to earlier VHA allocation systems, which were based largely on historical costs, VERA bases its allocation of finds primarily on the number of veterans served (work- load). However, the veteran population has been shifting dramatically from some geographic areas to others. As a result, since the implementation of VERA, allocations to the VISNs have undergone similar shifts, from areas with shrinking veteran populations to areas with increasing numbers of veterans. These funding shifts prompted concerns in Congress that VERA was not distributing resources equitably across the VISNs, which could affect health care delivery to some veterans. In legislation enacted in late 2000 (Public Law No. 106-377), Congress directed the Department of Veterans Affairs (VA) to determine "whether VERA may lead to a distribution of finds that does not cover the special needs of some veterans. The VHA contracted with the RAND National Defense Research Institute to examine three specific areas of concern expressed by Congress: * The extent to which allocations cover costs associated with maintaining older-than- average medical facilities, caring for populations with complex case mixes, facilities undergoing major consolidation, and/or rural versus urban location. * Issues associated with maintaining affiliations between the VA medical centers and academic medical centers. The extent to which weather differences influence costs.

In January, Barbara Wynn testified at a California Senate Labor and Industrial Relations Committee hearing reviewing the billing practices of hospitals owned by Tenet Health and the implications for the California workers' compensation program Tenet hospitals are under investigation by the Medicare program for inflating their charges to generate allegedly excessive payments for high-cost inpatients. RAND was asked to provide an assessment of the potential vulnerabilities that excessive charge inflation poses for the California workers' compensation system, Wynn testified that the largest risks are related to payments for extremely high-cost inpatients and for outpatient services., Testimony presented to the California Senate Labor and Industrial Relations Committee on 15 Jan 2003.

Section 721 of the National Defense Authorization Act for fiscal year 1999 (P.L. 105-261) established a demonstration that allows beneficiaries of the Department of Defense (DoD) health benefits program, who also are Medicare eligible, to enroll in the Federal Employees Health Benefits Program (FEHBP). The three-year demonstration was effective January 1, 2000. The authorizing legislation requires an evaluation of the demonstration that includes consideration of enrollment demand and the demonstration's effects on cost, quality, and access. The potential DoD costs of an FEHBP option for Medicare-eligible DoD beneficiaries will be determined by the extent to which DoD costs for beneficiaries who enroll in the FEHBP demonstration differ from costs that DoD otherwise would incur for them. One source of cost differences may be risk selection, where beneficiaries who choose the FEHBP option are more or less costly than those who do not enroll. Recognizing that complex factors influence risk selection, the DoD Office of Health Affairs asked RAND to apply current theory and knowledge to identify how selection bias might occur as Medicare-eligible DoD beneficiaries enrolled in FEHBP plans under this demonstration, and to suggest an analytic approach to estimate the effects of such selection on DoD costs. DoD beneficiaries who enroll in FEHBP to supplement their Medicare coverage no longer have access to direct-care services by military treatment facilities (MTFs) in the military health system. Therefore, effects of this demonstration on DoD costs will be the net result of several types of changes in costs: * New costs of the DoD contribution to FEHBP premiums, * Elimination of MTF costs of care for FEHBP enrollees who had used MTFs, and * New MTF costs of care for Medicare-eligible beneficiaries who have access to freed up space-available care previously used by FEHBP enrollees.

Public Law No. 106-129 amended the Public Health Service Act to establish a new Children's Hospital Graduate Medical Education (CHGME) program to support graduate medical education (GME) in children's hospitals. The provision authorizes payments for both the direct (DGME) and indirect medical education (IME) costs associated with operating approved GME programs. With respect to the IME funds, the statute requires the Secretary to determine an amount based on the indirect expenses associated with the treatment of more severely ill patients and the additional patient care costs related to residency training programs. The Health Resources and Services Administration (HRSA) has elected to use the current Medicare formula for hospital inpatient operating costs to establish the IME allocation factor for the CHGME program. A hospital's allocation is a function of its discharges, case mix index, ratio of residents-to-beds and the average hourly wages in the geographic area in which the hospital is located. A hospital's IME factor increases 6.5 percent for each .10 increment in its ratio of residents-to-beds.