According to the American Hospital Association (AHA), Medicare reimbursed hospitals at just 82 percent of the cost of care in 2022, meaning hospitals absorbed an average loss of 18 cents per dollar spent. That shortfall totaled $99.2 billion in that year alone.
Record-Low Negative Margins
The Medicare Payment Advisory Commission reported a hospital margin on Medicare services of -12.7 percent in 2022 and projected this margin to hover around -13 percent in 2024.
Capital & Regional Variations
While major capital-related costs (e.g., depreciation, interest) are bundled into Part A payments, only new hospitals in their first two years are paid fully on a cost basis, after which they shift to the Prospective Payment System (DRG/IPPS), which often falls below actual costs.
Why Medicare Pays Less
Medicare uses Diagnosis-Related Groups (DRGs) for inpatient stays – which set flat payments based on diagnoses – that often do not keep up with real-world cost variability.
Medicare rates are non-negotiable. Even as costs rise due to inflation or increased regulatory burdens, hospitals generally cannot lobby for higher rates under current law.
On average, Medicaid reimburses physician services 30–40 percent below Medicare levels. Hospital inpatient payments range widely by state, from as low as 49 percent to over 169 percent of the national average. When supplemental payments are included, Medicaid reimbursement may match or exceed Medicare in some states.
In Connecticut, hospitals claimed Medicaid reimbursed only 62 cents per dollar. A revised state analysis, however, found reimbursement closer to 87 cents on the dollar – nearly in line with Medicare’s ~81-percent reimbursement rate.
Because Medicare and Medicaid don’t cover full costs, hospitals often bill private insurers substantially more to offset losses. On average, private insurance pays 189 percent of Medicare rates for inpatient services and 264 percent for outpatient services.
Aggregate hospital margins dipped from ~10.8 percent in 2021 to ~2.3 percent in 2022, before rebounding in 2023. Much of the increased margin reflects a recovering overall balance-sheet; specific margins tied to Medicare/Medicaid remain under pressure.
AHA estimates show underpayments from Medicare and Medicaid hit $130 billion in 2023: an annual increase of around 14 percent since 2019.
Summary & Outlook
Medicare and Medicaid generally reimburse below the cost of care, forcing hospitals to offset losses through higher commercial payments.
- Private insurers, thus, disproportionately bear the burden, paying about double Medicare rates.
- Hospitals continue to advocate for higher reimbursement; states and federal policymakers are exploring rate-floor adjustments, supplemental funding expansions, and price regulation mechanisms.
- The Centers for Medicare & Medicaid Services (CMS) is stepping up scrutiny of supplemental Medicaid programs, which may complicate state efforts to shore up reimbursements.
Medicare and Medicaid play vital roles in ensuring broad access to care, especially for vulnerable populations. But their reimbursement structures systematically fall short, paying roughly 80–90 percent of hospitals’ actual costs.
This leaves hospitals financially fragile, and reliant on cross-subsidies from privately insured patients. The result? A two-tiered system where government-insured patients cost-shift onto the private sector, and hospitals must balance service commitments with precarious finances.
Efforts to recalibrate reimbursement – via updated payment formulas, supplemental payment reform, and regulated insurer payments – are underway, and hotly debated in healthcare policy circles.
If these reforms succeed, hospitals might better cover their costs without squeezing private payers or sacrificing essential services.
