Question

Problem 4. Traditional Medicare does not cover prescription drug costs. Medicare beneficiaries can opt in for a standalone drug plan (also known as “PDPs” ) under PartD to obtain drug coverage. Unlike medical insurance, these prescription drug plans usually feature a “multi-tiered” cost-sharing arrangement. Consider a simplifiedPDP with the following cost-sharing structure:

Deductibles Coinsurance rate 1 Coinsurance rate 2 Coinsurance rate 3

$400 25% for part of the cost between $400 and $3,000 75% for part of the cost between $3,001 and $8,000 10% for part of the cost above $8,000

a. What is the out-of-pocket cost if the total prescription drug cost is $9,000?

b. Suppose the maximum out-of-pocket cost under the plan is $5,000 ( “stop-loss” ) . How large will your prescription drug bill have to be in order to hit the stop-loss?

c. Compared to medical insurance, what justifies the use of such a multi-tiered cost- sharing structure in prescription drug plans?

Answer 1

a) If total prescription drug cost is $9000, total out of pocket is $400 (deductible) + 25% of 2600 (between $400 and $3000)+ 75% of $5000 (between $3001 and $8000) + 10% of $1000 (amount above $8000).

This total out-of-pocket cost equals: $400 + $650 + $3750 + $100 = $4900.

b) As calculated above, with $9000 of drug cost total out of pocket is $4900. This can increase to $5000 by increasing the last number ($100) by $100 to $200. Which happens if another $1000 is added to cost. So, total drug costs will have to be $10,000 to hit the stop-loss.

c) Given high expected drug costs of the elderly, compared to medical insurance (where insurance rates are likely to be prohibitively high) such multi-tiered cost structures will incentise reduction in drug costs and reduce out-of-pocket expenditures for the elderly, shield elderly from catastropic expenditues. This is especially of low-income and poor elderly.