Sam Robinson
American healthcare expenditure fell just short of $5 trillion in 2024, constituting an enormous 17.6% of Gross Domestic Product.
Ballooning healthcare costs date back to the early 1900s, when the advent of foundational medical technology like antibiotics and anesthesia moved healthcare from a world of tradition to a staple in American life. By 1967, the institutionalization of American healthcare and the creation of Medicare and Medicaid fueled this growth, shifting political focus toward controlling healthcare costs.
In a time-honored tradition, Democrats sought government intervention through nationalized healthcare, while republicans hoped to give free enterprise the tools to control spending. Prepaid care through Health Maintenance Organization (HMOs), a healthcare structure already used by organizations like Kaiser Permanente, was introduced as a middle-ground alternative for both parties. HMOs are a type of health insurance. HMOs are a type of health insurance plan that requires members to receive care from a limited network of designated providers. As a broad means for controlling utilization, HMO beneficiaries are typically required to obtain a referral from a primary care physician before seeing a specialist.
HMOs operate under a prepaid budget—members pay an up-front fee to the HMO to cover the cost of services provided to the beneficiary. This limited healthcare budget is intended to promote the use of more cost-effective care initiatives, such as preventive care, while still allowing for organizations to retain autonomy and engage in competition. In 1971, the Nixon administration embraced HMOs as the path forward for American healthcare, including it as a centerpiece of their National Health Strategy.
After two years of debate and compromise, the Health Maintenance Organization Act was signed into law in 1973 with the hopes of promoting the development and implementation of HMOs across the United States. But what did the act include, and how effective was it at promoting HMOs?
The HMO Act was responsible for legally defining an HMO, as well as the range of services, methods of payment, financial responsibilities, enrollment policies, and organizational requirements that it must contain.
All HMOs are required to provide a minimum level of healthcare, called basic health services, to their beneficiaries. These services include physician care, hospital services (both inpatient and outpatient), medically necessary emergency medical care, home health services, preventive health services and others. The initial HMO Act required HMOs to be capable of providing supplemental health services like vision and dental care, but this was later made optional through amendments in 1976.
Under the HMO Act, HMOs must provide basic health services to each member through a fixed payment schedule. The price of premiums must be determined through a community rating system, where all members within a geographic area pay the same premiums regardless of health status. This fixed payment may be supplemented by copayments, but copayments may not exceed 50% of the cost of any given service, and the sum of copayments an HMO receives may not exceed 20% of their total healthcare services.
The HMO Act also requires HMOs to have an open enrollment period of at least 30 days without restrictions, although there are some exceptions for skewed membership and higher-risk populations. They also must have a policymaking body made up of HMO members, have procedures for resolving grievances, and internal quality assurance systems. Finally, the HMO Act codified the concept of Dual Choice. Until it expired in 1995, this provision required any employers with 25 or more employees to offer a federally qualified HMO as a part of their health benefits if one was available in their service area.
Although using prepaid care to control healthcare spending is a well-founded idea, the overall execution of the HMO Act was poor. This was primarily because the legislation created many mandates but provided little support, creating more barriers for HMO development than it removed.
Instead of the initial $3.9 billion that President Nixon initially proposed for supporting HMO development, the final bill only allocated $325 million in grants and loans spread over 5 years. George B. Strumpf, the deputy director of the Division of HMOs and the Department of Health, Education, and Welfare (HEW, now the Department of Health and Human Services), cited inadequate access to private capital as the greatest financial barrier to HMO development. Operating under a relatively novel business model in a high-cost market, the lack of access to capital often meant that HMOs were left struggling to make ends meet, or even get off of the ground. In 1976, Strumpf reported that fewer than half of the 79 HMOs who received funding survived. In a 1977 report on HMO development, the Government Accountability Office found that the HEW had only distributed $131.3 million in grants and loan assistance to eligible beneficiaries, far short of a meaningful contribution.
The HEW also failed to dedicate sufficient staffing and resources to the implementation of HMO Act provisions. For many HMO entrepreneurs, operating under a new business structure meant that managerial support was essential for finding success. At the time of the bill’s passing, 150 federal employees worked on HMO implementation in Washington’s regional office—a year later, it was only 13, including 4 secretaries. A 1978 report by the Government Accountability Office found that “HEW does not have the numbers and types of personnel needed to effectively implement the HMO program…few regions employ personnel with needed expertise…this raises questions on the ability of regions, which are the initial contact points for HMOs, to effectively monitor and provide technical assistance.” A lack of expertise meant that many HMOs were left with inadequate guidance, which significantly contributed to their higher failure rate.
Many regulations within the HMO Act were unclear, and federal staff were sluggish to provide information and assistance to developing HMOs. For example, federal aides were slow to create the standards of federal qualification for dual choice, and even slower to recognize plans that met those qualifications—by June 1975, a year and a half after the HMO Act’s signing into law, only 3 plans had been certified as qualifying for dual choice.
Finally, state and federal legislation following the HMO Act—enacted to facilitate the development of prepaid care—often had the reverse effect, instead serving as barriers to HMO development. For example, some states imposed financial-reserve requirements, similar to those applied to standard insurance companies, on HMOs. Reserve requirements are inappropriate for HMOs, as they are responsible for the actual provision of care instead of just the financial burden. Other states also required state approval for HMO rate setting as well as HMO foundation through certificate-of-need (CON) requirements. The applicability of CON requirements in HMOs undermines its original goal, which was to enter the market as a lower-cost competitive alternative. As a result, CON requirements—initially created with the goal of controlling wasteful healthcare usage and higher costs—inhibit lower-cost providers from entering the market, keeping costs higher.
The HMO Act of 1973 was built upon logical, forward-looking ideals—integrated, HMO-style business models like Kaiser Permanente are structured to deliver more cost-effective healthcare without sacrificing quality. However well-founded, the details of this legislation failed in its capacity to drive HMO growth. Instead, HMO expansion throughout the 1970s and 80s was driven through market forces, in large part by employer demand for cheaper insurance alternatives.
The HMO Act serves as a salient example of diluted health policy. The American healthcare system is expansive, nuanced, and made up of many moving pieces—any meaningful reform must share these characteristics. The HMO Act’s general failure, resulting from a lack of funding, weak government assistance, and wavering political support, clearly demonstrates that future attempts at healthcare reform must not be tempered—meaningful change will only be achieved when backed by the fullest level of commitment from all stakeholders.
CMS HCC-28 is vital for Medicare Advantage risk adjustment, aligning payments with enrollee health needs. How does this impactful model refine patient data and shape today’s healthcare landscape? Learn more about the model’s updated framework and its impact on accurate reimbursement.
How has the 340B Drug Discount Program influenced healthcare? In what ways has a program built for the poor come to serve the rich, and what does that mean for patient care quality? Learn about the controversial history of 340B, how it has shaped the American healthcare system, and the legal challenges it faces.
What happens when access to healthcare is decided by the luck of the draw? That’s exactly what Oregon tested in 2008 with a unique Medicaid selection process, revealing surprising insights about healthcare access, financial security, and patient outcomes. Learn more about this experiment’s lasting impact on health policy.