(FORTUNE Magazine) – CAN ANYONE still doubt that the U.S. health care system is sick and desperately in need of a cure? Costs are so out of control that the nation's medical bill this year will run to more than $800 billion. That's 14% of all economic output, a sum as big as the combined GDPs of Canada, Norway, and Sweden. Next year spending will be $90 billion higher, and by the end of the decade it could consume a staggering 18% of GDP. What's worse, despite this unprecedented flood of spending, some 35 million Americans have no health insurance at all. Only 30 years ago health care was a manageable 6% of GDP. What has gone wrong? The main reason is that the U.S., like other industrial societies, now has to support an older and thus sicker population. In addition, America suffers uniquely from the malady of excess: too much paperwork, too many lawsuits, too many hospitals, too many specialists, too much surgery, too much fancy technology. Studies by the Rand Corp. suggest that as much as one-third of U.S. medical spending may be unnecessary. Underwriting this excess is the traditional fee-for-service insurance system, which encourages doctors and hospitals to keep piling on tests and procedures. Clearly something must be done, but what? Some congressional Democrats are pushing a ''play or pay'' plan that would require employers either to cover workers or pay into a state health insurance fund. But without a convincing set of cost controls, which the scheme now lacks, such tinkering would merely penalize small businesses while increasing the total cost of the health care system.

Instead, Congress and the next President need to go a lot further. Voters are ready. Opinion polls show that Americans believe it's time for a universal program to replace today's baffling, extravagant, and incomplete patchwork. Business is ready too. U.S. employers who provided health coverage in 1991 spent $3,605 per worker, on average -- a total of $196 billion. General Motors alone spent $3.4 billion, or $929 for every car it made. The typical company's medical bill equaled 45% of after-tax profits, an enormous handicap in any race against international competitors who bear no such burden. Problem is, most Americans also don't trust the obvious candidate to run a national health care system -- the federal government. Never mind that governments in other big industrialized nations seem to do so with varied success and at a much lower cost -- 8% of GDP in Germany, for example, or 9% in Canada. Happily, there's a better alternative in the wings, one that would rely on market forces rather than bureaucratic fiat to hold down costs. It is a combination of what's called managed care and managed competition. Under such a system, nearly every American would be required to enroll in a health maintenance organization (HMO) or a similar managed-care plan. Yes, these limit a patient's choice of doctor and hospital, though they can easily be structured to allow individuals to go outside the network -- as long as they pay extra for the privilege. The savings arise because plan providers negotiate with doctors and hospitals to get the best possible price -- and no longer unthinkingly reimburse every procedure. If you doubt that this kind of scrutiny promises big dividends, consider this astonishing fact: A mere 1% of the U.S. population account for 29% of all medical costs, while 5% are responsible for half the total. A large share of those pricey cases are found among the 13.2 million Americans over 75, many of whom are retirees still covered by corporate health plans. The rest tend to be employees with cancer, heart disease, and other chronic ailments. At Southern California Edison, health care bills for its 55,000 employees, retirees, and their families were closing in on $100 million a year in the late 1980s. So within its managed-care plan, SCE began assigning case managers to its sickest beneficiaries. This enabled the utility to negotiate a heart transplant and a year's worth of follow-up treatment for $200,000, a bargain for a procedure than can cost more than twice as much. Dr. Jacque Sokolov, who devised the SCE system, estimates the company saved $16 million over the past three years by careful handling of catastrophic cases. Managed competition, not quite the oxymoron it sounds, would give small employers the same purchasing power that giants like SCE have by pulling them together into newly created ''health insurance purchasing corporations.'' These private groups, according to economist Lynn Etheredge, a leading architect of the comprehensive reform proposal known as the Jackson Hole plan, , would be required by the federal government to offer the same minimum set of services -- some preventive care, limited hospital stays, and coverage of doctors' charges. Small companies would then be forced to offer employees a choice from among the five to ten umbrella managed-care plans likely to spring up in each region of the country. Large companies could continue providing their own private plans. On the supply side, hospitals and doctors in every region of the country would organize into networks that would compete to win the business of plan providers. The ensuing tussle should ensure lower prices and better service, while speeding the adoption of cost-effective new technologies. Doctors and hospitals that couldn't fit into a successful network would likely fail, eliminating a lot of the present system's expensive excess. Currently, about 75% of U.S. corporations offer managed-care plans, but only 45% of their employees have enrolled in them. To change that, managed-care advocates would stop offering employers tax deductions for anything except the standard plans -- thus raising the price of traditional coverage, as well as extras like full dental and mental health care. Eliminating full deductibility, Etheredge estimates, should save the government $12 billion a year, which would go a long way toward insuring the 35 million Americans with no coverage. Eventually, they and all Medicare and Medicaid patients would be channeled into the managed-care system as well. The transition to this new system will take several years. In the meantime, there's no reason -- except politics -- not to adopt a few changes that would help and are compatible with the notion of managed competition. These include a cap on medical malpractice awards and a rise in the Medicare premiums paid by the wealthy aged. Right now, folks over 65 pay a maximum premium of $32 a month, no matter what their income. Given the cost increases that system faces, the fees ought to be tripled for anyone making more than $36,600 a year -- the median income for American families -- and scaled much higher for elderly in the upper brackets. The U.S. health care system is bleeding money. Any scheme capable of stanching that flow will inevitably require some of us to forgo the luxury of a system that allowed us unlimited access to the doctors of our choice and the highest-price technology, at little direct cost to ourselves. But this hemorrhage requires a tourniquet; if it's applied properly, we should all be better off.

BOX: INSIGHTS

-- Tinkering is not enough. Only a complete overhaul of the present system will rein in runaway costs while extending coverage to all. -- Any workable reform must focus on the 5% of the population who account for half of all health care spending in the U.S. -- The best prescription: Move everyone out of traditional fee-for-service health insurance plans and into competing managed-care networks of doctors and hospitals.

CHART: NOT AVAILABLE CREDIT: FORTUNE CHART/SOURCE: HEALTH CARE FINANCING ADMINISTRATION CAPTION: HEALTH CARE SPENDING