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Stopping Fraud to Pay for Reform

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When, earlier this year, the United States racked up two $1 billion-plus settlements from drug manufacturers for alleged fraudulent drug marketing, estimates that fraud costs the nation more than $60 billion annually gained new credence. And proponents are counting on Medicare and Medicaid fraud recoveries as a major source of funding for health care reform, says Laurence Freedman, a partner in Patton Boggs’ health care practice.

Passed in May, the Fraud Enforcement and Recovery Act broadens the federal whistle-blower act to “ensure that it reaches every corner of the health care industry, or any industry that receives federal money,” Freedman says. The bill also provides substantial additional funding for enforcement to increase the number of fraud investigations and speed cases toward expected recoveries.

Despite the publicity that has accompanied the pharmaceutical marketing cases, the bulk of the dollars wasted in fraud are likely the result of smaller-scale, blatantly criminal activities, says Laura F. Laemmle-Weidenfeld, a partner at Patton Boggs. A typical example is when a medical equipment provider, existing only on paper, charges for products never delivered to beneficiaries. But these smaller operations may not attract the attention of whistleblowers or lawyers seeking a big payday.

A new multicity Medicare fraud strike task force group, also announced in May, may put a dent in such operations, she says.

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Slouching Toward Reform

Last fall, as the stock market plummeted and the economy reeled, Saturday Night Live sought the advice of a “financial expert.” “They need to clamp it down and fix it,” the faux expert ranted. “When I wake up tomorrow morning, it better be fixed. Fix it! Fix it! Fix it!”

The comedian’s words echoed the urgency being felt across the nation, and in Congress as well. Legislators quickly announced that the reform of financial industry regulations was a top priority. Hearings were held, a flurry of new regulations was suggested, and in June, the Obama administration weighed in with a proposed reform package addressing a range of issues. “If this crisis has taught us anything, it is that risk to our financial system can come from almost any quarter,” U.S. Treasury Secretary Timothy Geithner said at the time. “So we must be able to look in every corner and across the horizon for dangers.” Reform was expected to come quickly—perhaps by the end of summer.

That original timetable proved to be far too optimistic, largely because health care reform turned out to be more time-consuming than anticipated. But the debate about how best to oversee the country’s financial system has continued, and in the coming months it is likely to become louder and livelier.

“Congress is intent on moving forward with regulatory reform legislation,” says Todd Cranford, Of Counsel at Patton Boggs. “There is a lot of pressure to make sure that this kind of financial crisis does not happen again.” Indeed, in the wake of the last year’s economic events, regulatory reform appears to a near certainty. Far less certain is the precise shape that reform will take. The debate is likely to involve a range of fundamental issues, from the size and role of government to the financial competitiveness of the country. Ultimately, it is expected to change the rules for the entire financial services industry.

Risky systems

Throughout 2009, financial regulatory reform has moved forward on several fronts, with agencies, congressional committees and lawmakers weighing in with ideas. The hope among the administration and congressional leaders is to bring these threads together into a comprehensive package. “It seems clear that this reform will be broad in scope,” says Vincent Frillici, senior policy advisor at Patton Boggs. “We’re talking about closing gaps in a regulatory structure that was created 70 years ago after the Great Depression, and updating that structure to reflect the modern financial system.”

For Congress, a fundamental issue is strengthening the ability to manage systemic risk. By and large, regulation has been handled in a fragmented fashion, with each agency focusing on its specific area of responsibility. During the credit crisis, no regulatory authority had a big-picture perspective, which meant that no one really knew how bad things were getting until it was nearly too late. Thus, says Micah Green, a partner at Patton Boggs, “Congress wants to make sure that regulators have all the information they need to identify where the risks are in a timely way, so that they can be on top of it and do whatever is necessary to manage those risks.”

Proposed changes include improved information-sharing across agencies, consolidation of some agencies’ responsibilities and the creation of some kind of entity to manage systemic risk and improve interagency cooperation. That new entity could take the form of a new agency, a council of existing regulators or an existing regulator with expanded powers. The administration hopes to see the Federal Reserve Bank take on the risk-manager role. It has proposed giving the Fed new authority to supervise all firms that could pose a threat to financial stability, even those that do not own banks. But that view is hardly unanimous. “The politics around the Fed right now make that difficult,” says Frillici.

Politicians on both sides of the aisle—including Senate Banking Committee Chairman Christopher Dodd and his Republican counterpart, Richard Shelby—have expressed doubts about the Fed’s ability to take on new responsibilities. Others have pointed to the Fed’s failure to stay on top of large, complex banking organizations in the period leading up to the economic crisis. Yet others see a strengthened Fed as a distasteful expansion of government. Meanwhile, the SEC and FDIC—which would presumably lose some responsibilities to a more powerful Fed—have opposed the plan, instead suggesting the establishment of a strong oversight council made up of regulatory agency heads.

The Fed’s role in systemic risk oversight has become one of the more controversial points in financial regulatory reform. One possible outcome, says Green: The Fed takes on the oversight role, backed by a council of regulators with advisory powers.

Regulators’ long arm

The Obama administration seeks to extend regulatory supervision to “all systematically important institutions, markets and products.” Congress will likely comply, bringing regulatory oversight to more financial products and financial industry players.

One target will be derivatives, which have essentially escaped regulation until now. Various proposals, including the administration’s reform plan, seek to bring products such as credit default swaps and over-the-counter derivatives under the regulatory umbrella. There is fairly broad support for such a move. “For many members of Congress, reform is about fixing the credit default swap problem,” says Frillici. “The prevailing view among many on Capitol Hill is that credit default swaps equals AIG, which equals financial crisis, so they feel strongly that they need to reform the use of derivatives, particularly credit default swaps.”

Congress is likely to require standardized derivatives—relatively simple, widely used instruments—to be traded through a regulated exchange, while complex, customized derivatives will still be traded privately. However, the administration hopes to expand the definition of standardized derivatives and institute capital and margin requirements that will make customized derivatives less attractive, with the goal of moving more derivatives to the exchange model. Much of the discussion will hinge on determining which derivatives qualify as standardized and which are considered customized.

Frillici says that instead of trying to reengineer regulatory oversight of such vehicles, Congress may leave the current regulatory responsibilities in place. “Rather than create more turf battles between regulators, they may say that if you create a derivative and are regulated by the [U.S. Commodity Futures Trading Commission], the CFTC will regulate that derivative, and if the derivative is based on securities, it will come under your regulator,” he says.

A wider regulatory net will also include some previously unregulated institutions such as hedge funds and private equity funds. The administration has proposed requiring SEC registration of all advisors to large hedge funds and other private capital pools. Funds would also have to disclose details about assets under management, use of leverage, and trading and investment positions. The SEC would examine funds to monitor compliance and assess risk.

In past years, private equity firms had eluded congressional attempts at regulation. But the financial crisis has changed the political landscape. As Michigan Senator Carl Levin said recently: “If the events of the last year have taught us anything, it’s that we need to regulate firms that are big enough to destabilize our economy if they fail. It’s time to subject financial heavyweights like hedge funds to federal regulation and oversight to protect our investors, markets and financial system.”

Catering to consumers

As the financial crisis unfolded, consumers were hit hard and bankruptcies and home foreclosures dominated the news. As a result, says Green, many officials have concluded that the government needs to do more to keep individuals out of financial trouble.
“The feeling is that while there is a ‘moral hazard’ of the federal government assisting people who potentially borrowed more than they should have,” he says, “keeping people in their homes and protecting the value of other homes in impacted neighborhoods remains a high priority for the administration and Congress.”

This view has led to new regulations governing the credit card and mortgage industries. The administration, however, decided that something more comprehensive was needed, and proposed the creation of a new federal agency. The Consumer Financial Protection Agency would formulate and enforce consumer protection regulations and oversee financial products and services not currently regulated by the SEC or the CFTC.

The CFPA garnered widespread support upon its introduction. But, as the financial markets have recovered and the opposition has had time to bolster its case, it has become more controversial. Some critics oppose adding a new agency to the array of regulatory organizations already in place, while others feel the agency’s proposed powers are too broad. More fundamentally, some question the wisdom of creating an agency with the relatively narrow mission of protecting consumers from fraud without considering the impact on business and ultimately, the potentially higher costs of credit that are liable to circle back to consumers.

These concerns are likely to be overshadowed by political realities. “When you talk about derivatives and margin requirements, the average person on Main Street doesn’t really care,” says Green. “But setting up an agency to protect people from what they see as ‘scoundrels’ has a lot of appeal. It will be perceived as something that will be understandable and tangible by voters. So even though it’s controversial, Congress—with an eye to next year’s elections—will probably create an entity of some form that has the authority to act to protect consumers against financial abuse.”

Fair hearings

When the dust settles and financial reform is passed, “it will definitely be a landmark piece of legislation,” says Green. “But that’s not to say that it will be all over when President Obama takes a pen to this bill in the White House.”

Indeed, the passage of legislation will be just the beginning of a lengthy rule-making process. Once Congress passes new laws, it will be up to government agencies to create rules and regulations that put the legislation into action. In this process, agencies propose rules and affected parties have an opportunity to provide written comments and, often, meet with agency staff to provide input. Typically, after several months of this review period, the agencies adopt and publish final rules, often delaying implementation to give businesses time to comply. Even then, companies can take the agency to court if they feel that a regulation is onerous.
Overall, the process provides numerous opportunities for affected parties to have input into the final rules. And with the controversial and complicated nature of regulatory reform, it is likely to take a considerable amount of time.

“There will be many years of agencies interpreting the legislation, promulgating rules pursuant to the legislation, and then implementing new rules,” says Cranford. He adds that businesses affected by reform should consider getting involved in that process, where they are likely to get a fair hearing. “The reality is that the agencies, Congress and the administration are generally sensitive to the competitive forces that are necessary in a capitalist system. They don’t want to take away that drive to take risks, to excel and to innovate that make our markets so successful,” he says. “They don’t want to make it harder to do business—they just want to make it harder to do bad business.”

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Pinning Down Reform

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The most dramatic health care reform the nation has ever seen is starting to shape up, and business is starting to like—or at least, no longer quite hate—what it sees.

After months of intense lobbying and dramatic confrontation, a reform bill is gaining ground that steers a careful narrow path. It includes the greatly expanded coverage and key insurance regulations that the Obama administration most wants to see. But it also avoids many of the measures that business most feared, such as the public insurance option or the employer mandate to provide coverage.

The fate of this bill, arising from the Senate Finance Committee, was uncertain as Capital Thinking went to press. But thanks to all the hard policy work done this year, it is possible to ascertain what measures are gaining support on both sides of the aisle, as well as within the business community. As a result, it’s also possible to gauge the likely impact of those measures on business, whether they pass in this legislative round or in those to come.

As they’ve tracked the progress of various measures, business has found reform to be a “moving target,” says Todd Tuten, health care partner at Patton Boggs. There are competing proposals, each with hundreds of interrelated parts. And their impacts will vary from business to business, depending on its size, the composition of its workforce, and its current insurance offerings.

Reform is back in the ring

As recently as August, the prospects for comprehensive health care reform seemed to be on the ropes. A deadline for legislation set by President Obama expired, and congressional representatives found themselves being shouted down by reform opponents at town hall meetings in their home districts during the summer recess.

Then, in late August, the passing of Senator Edward Kennedy—a lifetime reform advocate and an acknowledged master of compromise—added a note of sobriety to the debate. In early September, President Obama delivered a policy address that added meat to what some political allies had criticized as vague principles for reform. Finally, in mid-September, Senate Finance Committee Chair Max Baucus released his “mark” on health care legislation, which largely adopted Obama’s principles. The race began to craft a bill that would earn 60 votes on the Senate floor, enough to overcome a potential filibuster.

The business community responded with a cautious enthusiasm. The U.S. Chamber of Commerce called the Baucus proposal “the best effort to date” coming from Congress. The National Federation of Independent Business applauded Baucus for giving “small business’ needs a high priority.” And the American Benefits Council called the bill “a critical step toward a comprehensive solution to the nation’s health care problems.”

If comprehensive health care reform does pass this year, many observers say it will be because of key lessons the Obama administration learned from the failure of President Bill Clinton to pass reform legislation in 1994. Perhaps the most important was to take a more inclusive approach—one that ensured that business interests were heard. “In 1994, the plan was constructed outside of public view,” says Billy Tauzin, a Republican congressman in the Clinton era who is now the director of PhRMA, the drug manufacturers’ association. “Congress was presented with a take-it-or-leave-it option, and we decided to leave it. … Obviously the difference this time is that many of us were invited into the discussion, including the great American public.”

Obama’s laissez-faire philosophy gave Baucus the room to conduct his extraordinary, months-long dialogue with stakeholders ranging from big unions and big health care players like Tauzin to his colleagues on the other side of the aisle. He had notable successes, such as convincing Tauzin’s group to help reduce drug spending by $80 billion over the next decade.

But as of press time, it was unknown whether Democrats could obtain even the single Republican vote required to claim bipartisanship in the Senate. Even the support of some fiscally conservative House Democrats was uncertain, notes Tuten.

 

Democrats’ backup plan

The reconciliation bill, due to Senate rules, is not vulnerable to filibuster. But the bill would have to be limited to measures that would have a demonstrable budgetary impact. This would rule out insurance reform, but it could include initiatives such as expansion of Medicaid for the poor, subsidies to help low-income people buy insurance, and Medicare payment and delivery reform.

Business has put the issue of cost control front-and-center, and the Medicare reforms could have a powerful impact on costs, says Lu Zawistowich, a senior public policy advisor at Patton Boggs. These initiatives include proposals to remove Medicare payment decisions from Congress and to give Medicare to a new, politically independent board; refusing to pay for services and treatments that result from medical errors; and studying the comparative effectiveness of treatments. “Congress is saying that public programs such as Medicare should be paying for quality,” Zawistowich says, “and we need to be holding providers accountable for the services they’re providing.”

Some of these measures have already been demonstrated to reduce costs in smaller-scale tests, Zawistowich adds. And in the long run, she suggests, many of them are likely to be adopted by private insurers, further reducing the cost of health care.

Even if only the budget reconciliation bill passes this year, Tuten believes, Democrats will trumpet their accomplishments so far: expanding coverage for children, funding health information technology (through the stimulus package), reducing the number of uninsured, and reforming the delivery of health care under Medicare and Medicaid. “In any other context, that would have been an ambitious agenda and would certainly constitute significant progress. I do expect the Democrats will ultimately take half a loaf, declare victory and continue working,” Tuten says.

The great equalizer

Yet comprehensive insurance reform is likely to pass sooner or later, says Jennifer Bell, a senior policy advisor at Patton Boggs. A broad bipartisan consensus has emerged in support of consumer protection regulations, such as prohibiting higher premiums or denial based on health history, or the rescinding of health coverage. Other measures have also attracted a degree of bipartisan support, though as of now the details are uncertain.
Currently, it appears that many of these initiatives will have an equalizing impact on business. That is, companies that have paid the most for health care—or offered the most generous benefits—may see their costs decrease, while those that have paid the least will have to chip in more.


Here are a few of those measures, and some indications of their potential impact on business:

  • INSURANCE MARKET REFORMS Today’s health insurance market discriminates heavily against individuals and small businesses. All the legislative proposals require states to create new marketplaces, or “exchanges,” where buyers can compare prices and benefits, and all plans would be required to cover certain basic benefits. These exchanges would first be open to individuals and the smallest businesses, and then to larger businesses in subsequent years.These reforms may have the biggest impact on businesses that offer no or very low-cost insurance, says John Jonas, a Patton Boggs partner who established the firm’s health care practice. “For many [small] employers, exchanges will be a good thing, because insurance will be easier to buy and more standardized. The disadvantage is that even if there is no employer mandate, the pressure will increase on all businesses to provide health insurance. Assuming there is an individual mandate, employees are likely to go to their employer and say, ‘Where is my insurance?’ You’ll no longer be able to hide behind the excuse that ‘No one will sell it to me,’ or ‘It would be disproportionately expensive because I’m a small business.’”The reforms aim to make coverage more affordable for small businesses by boosting their purchasing power and spurring competition among insurers. But these savings will be somewhat offset by the basic benefits requirements, which will effectively require businesses to buy more robust packages, Jonas says. For example, a current House proposal requires providing dental and vision plans for children under 21.The effects of this standardization will vary depending on the composition of the company’s workforce, Jonas notes. Companies with young and healthy workforces have benefited from the insurers’ discriminatory rating system. They will likely see their costs increase as they are forced to pay prices closer to a national or regional average. By the same principle, companies with disproportionately older or sicker workforces will see their costs go down.The small-business lobby, the National Federation on Independent Business, praised the Baucus proposal for taking “significant steps to reform the rules for [insurance] markets to help increase choice, competition and, ultimately, reduce costs.”
  • EMPLOYER CONTRIBUTIONS As a consensus emerges among Democrats and centrist Republicans that individuals should be required to purchase insurance, proposals to require employers to provide coverage have receded. Instead, there is a broad agreement to require firms above a certain size that don’t provide insurance to pay subsidies. Much of the concern by business has centered on how large an employer must be to be forced to pay, and the size of the subsidy. Here is an area where, as Bell says, “when you change the jots and tittles, it can have a huge impact on business.”Besides small businesses, the companies most concerned about employer contributions employ armies of lower-wage workers. For example, in the retail and other service industries, Jonas notes, many employees whose family members work in companies with richer benefits choose to be covered under the spouse’s plan. And many of the lowest-wage employees are covered by public plans.After insurance reform, these employers will be forced to cover, or pay subsidies for, those now on public plans. New regulations will effectively force these employers to upgrade the quality of the coverage they do offer. And that, Jonas says, will convince many of their employees to leave their spouse’s family plan and take up their employer’s plan. The bottom line: Service-industry employers will pay more, whether in subsidies or new coverage, while companies offering richer plans will pay less as dependents leave their rolls.Given what’s at stake, retail industry observers were surprised in June when Wal-Mart, America’s largest retailer, wrote a letter to President Obama endorsing a federal employer mandate. Wal-Mart—which already covers most of its employees—argued that modest, broad-based coverage would help control health care inflation. At the same time, however, many retailers have taken a harder line. National Retail Federation Vice President Steve Pfister told a House Committee this July that any mandated contribution would amount to a “tax on jobs” during a time of recession. “We are a labor heavy industry that operates on a thin profit margin,” Pfister said. “We cannot afford any new labor cost.”
  • NEW TAXES Some legislative proposals would change the tax treatment of health insurance premiums, which are currently deductible for both employers and employees. The Baucus plan takes a different approach, but with a similar goal: It would levy an excise tax of 35 percent on so-called Cadillac plans costing above $8,000 for singles and $21,000 for family plans.The initiative is meant to control costs as well as raise revenue, Tuten says, because Cadillac plans are thought to encourage health care consumers (and their providers) to overspend on care. Taxing premiums will encourage companies to ratchet back these plans—and to provide them with the political cover to do so. But critics of the levy note that because it is indexed to inflation—not to faster-moving health care costs—it will cover more plans each year. That has spurred the U.S. Chamber of Commerce to charge that it “may well spiral out of control.”As lawmakers search for other ways to pay for the reform, the health care industry is increasingly becoming a target. The Baucus bill calls for billions in annual fees to be levied on insurers, drug companies, device makers and labs. Politically, the health care industry is a more appealing whipping-boy than consumers or business as a whole, Bell notes. But moderate Democrats in particular may be loath to support taxes that likely will be passed on to consumers anyway, she adds.
  • HEALTH IT One of the most significant health reforms may have already been approved: the $19 billion for health care information technology included as part of the stimulus plan earlier this year. To succeed, many of the payment and delivery reforms proposed in the reform legislation will require data to be shared and tracked electronically, Tuten says. Though they require a sizable initial investment, electronic health records are an essential tool to deliver better care at a lower cost.

Harry and Louise vote yes

Even with many details still up in the air, health care reform is attracting much wider support from business than it did under Bill Clinton. Case in point: Charles Kahn, the force behind the “Harry and Louise” industry ads that helped torpedo that last round of reform, is now a supporter of reform (minus the public option).

Kahn, now the president of the Federation of American Hospitals, says cost is still the major issue for business: “Overall, health reform can be good for Americans, but business’s view depends in part on where you sit, whether you perceive this is going to increase your cost of doing business.”

Still, even as influential players like Baucus have invited business to the table, business representatives like Tauzin have responded with significant concessions to ensure that the reform process moves forward. “I think businesses realize this is a shared problem,” Tuten says. “It’s not just the government’s concern.”

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