(FORTUNE Magazine) – GET READY FOR a pleasant shock: Runaway medical care spending has decelerated to a brisk walk. It could be down to a saunter in the next few years and might even stop and rest a bit -- without the price controls called for in President Clinton's health plan. After years of rising twice as fast as general inflation, medical care prices advanced an estimated 6% in 1993, the smallest rise in more than a decade. Cynics might attribute this to temporary self-restraint by doctors, drug companies, and hospitals hoping to head off sterner measures by Washington. But health care inflation started to cool before Bill Clinton reached the White House. So did the rise in health insurance premiums, now in single digits at many companies. That too might seem like a brief remission, except for a new phenomenon: a reengineering process that's altering the whole health care industry. The movement is producing myriad little economies, such as curbs on sonograms at health maintenance organizations. It is also fueling awesome megatrends: West Coast HMOs have reduced hospitalization to less than half the national average, for example. Some innovations, such as computerized systems that track patients' treatments, are barely beginning to realize their potential for healing faster, better, and cheaper. The same holds for an aggressive new breed of outreach programs in which medical personnel pester patients to take their pills before their problems worsen. Some of these innovations could be widely applied in a few years. Others may take more than a decade to reach full flower. Together they are major news: When allowance is made for savings that overlap, reengineering could easily cut 20% off the country's health bill, $940 billion in 1993. The trend is bound to go on. That's because an excess of hospitals and specialists, along with a swing to HMOs operating on flat prepaid fees that remove the incentive for overtreatment, is creating widespread slack in the system. ''We're seeing what we saw with office buildings,'' says Helen Darling, manager of health care strategy and programs at Xerox. ''We have too much capacity.'' Two years ago, says Dr. John Ludden, medical director of Harvard Community Health Plan, a Boston HMO, ''we were trying to recruit gastroenterologists. Now we have 35 applicants for one opening.'' Result of this overcapacity: ''Providers are giving incredible discounts,'' says William Boyles, publisher of Health Market Survey, a Washington newsletter. Fearful of losing patients, doctors who clung to traditional health care are suing to get into HMOs or rushing to join new ''integrated delivery systems'' that mimic or serve them. Says Steven Wiggins, CEO of Oxford Health Plans, an HMO based in Connecticut: ''The entire medical community is now willing to consider concepts that you would have been chased out of the hospital physicians' lounge for discussing five years ago.'' The prime movers behind medical care's reengineering? Employers determined to get a grip on health care spending. By making workers pay the difference in premiums if they choose costlier health plans, Xerox has induced a migration to HMOs. A Minneapolis-St. Paul coalition of employers called the Business Health Care Action Group, flexing its buying muscles, thinks it can hold increases in health care spending per employee to 5% next year. AlliedSignal, which in the late Eighties put most of its U.S. workers in Cigna HMOs that let members go outside the network if they pay extra, expects its total health benefit spending for an unchanged number of employees to fall 4% to 5% in 1994. The implications of this slowdown range from modest to massive, depending on which expert you talk to. Economist Henry Aaron of Washington's Brookings Institution, a private research group, sees only ''a brief hiatus'' in the medical spending surge, ''caused by people becoming more cost conscious.'' Bringing America's health care spending patterns even partly in line with those of other countries would require a cultural change lasting decades, Aaron believes. ''We'll be doing quite well,'' he says, if the nation's health bill rises to only 16% or 17% of GDP in 2000 from today's 14%. At the opposite pole stands Dr. Arnold Milstein of the William M. Mercer consulting firm's San Francisco office. Milstein, who helps health plans find efficiencies, says he sees ''savings all over the desert floor. If you add it up there's a 30% to 40% opportunity there.'' He is careful to add that an aging population, rising illness levels, or increasingly costly medical technology would cancel out some of those savings, but others believe that even greater efficiencies are theoretically possible. Until the medical system has more data on which cures work best, says Dr. Paul Ellwood, president of Wyoming's Jackson Hole Group of health care reformers, ''we'll never know how much fat is in the system.'' But he adds: ''I believe we could spend half as , much of the GDP as we do now and produce the same health results overall.'' The term ''overall'' is important, for Ellwood is introducing the R-word. In his estimate, he explains, some people being kept alive today at great cost might be allowed to die under a rationing system unless individuals or families paid for what the plan denied. The money saved would be shifted to postponing the deaths of an equal or larger number of other people. The country would never agree to such a drastic clampdown, to be sure, and Ellwood does not advocate it. But those who debate the prospects for containing health care spending by government and employers generally regard rationing as inevitable. The question is how soon it must be imposed. Ellwood sees rationing as a postponable last resort. Inefficiency is so rampant, he and some others argue, that the medical system can whittle away at it for a decade or more before anyone will need to be turned away for treatment that would delay death or improve the quality of life. It sounds like a tall order, but the streamlining under way has a shot at saving enough to pay for plenty of lifesaving marvels and cover the country's 39 million uninsured. Here are the most promising ways to prune costs.

-- Encourage more people to join HMOs. That's the aim of several health reform bills, including the Administration's. Health Care Strategy Associates, a Washington study group, estimates that if the entire population had been in HMOs in 1990, the U.S. would have spent 12.2% less on medical care. Such estimates are open to dispute. Even if HMOs are cheaper, some would say, it's because they attract healthier patients. A new study shows that this may be true of Medicare recipients who enroll in HMOs. But for the under-65 crowd, at least, the savings must be real. Why else would Cigna, which offers both traditional fee-for-service coverage and prepaid systems, charge a third less for its most widely used version of an HMO? Premiums for HMOs are lower and grow more slowly, says Cigna, which tells customers to expect yearly increases of 21% in the conventional plan but only 8% in the prepaid one. As for the HMOs' mix of patients, David Axene of the Milliman & Robertson actuarial consulting firm's Seattle office says new prepaid plans have a relatively healthy roster. But as time goes on, Axene adds, the enrollees come to mirror the general population and the savings continue. But don't HMOs skimp on services? ''Usually the patient gets what he needs, , but you've got to be a squeaky wheel,'' says Dr. Thomas Elder III, a Victorville, California, cardiologist who sees HMO as well as conventional patients. Even so, customer surveys and swelling enrollment suggest that HMO members are generally satisfied. HMOs could become still more efficient -- and will have to. The heat is already on in California, where the Public Employees Retirement System (Calpers), which buys health insurance on behalf of state and municipal workers, has demanded a 5% rollback in HMO premiums in 1994. Are savings possible in health plans that already underprice? Absolutely, but not overnight, says Dr. David Lawrence, CEO of the giant Kaiser Permanente HMO system, whose premiums are among the lowest in the San Francisco area: ''Even we have a long way to go.''

-- Curb unnecessary surgery. Americans may get more organ transplants in the future but fewer operations on the back, prostate, and heart. Dr. Robert Brook of the Rand Corp., a California research organization whose studies have found a host of medical and surgical procedures to be overdone, says that perhaps one-fourth to one-third of medical care is unwarranted or of debatable value. Rand's latest finding is that even HMOs, despite their built-in incentive to avoid needless operations, perform too many hysterectomies: 16% are inappropriate, and 25% debatable. HMOs are making progress with another operation performed on women, childbirth by cesarean section. In a new book about health care waste called Strong Medicine, CEO George Halvorson of HealthPartners, an HMO in Minneapolis, blasts the medical system's tendency to assume that a woman who had a C-section in the past always needs one in the future. Only a tenth of American women with subsequent babies avoid another C-section, Halvorson notes, which entails ''major abdominal surgery, a longer hospital stay, and a longer recovery period.'' That's far below the 70% to 80% who should be able to deliver nature's way at less risk. In its Los Angeles region, Kaiser Permanente has boosted the normal delivery rate for women with prior C- sections to 75%.

-- Hold the line on fancy technology. Despite familiar images of the aged kept breathing with the latest drugs, surgical techniques, and equipment, high-tech medicine is not concentrated increasingly on oldsters. By itself, the graying of America is a ''trivial'' factor in the nation's rising health bill, says Harvard economist Joseph Newhouse, who notes that the 28% of Medicare outlays spent in the final year of life has tended to stay fairly constant. The No. 1 engine lifting medical spending, by Newhouse's reckoning, is the increasing use of expensive technology for people of all ages. The growing technology-intensiveness may be inexorable, but there are ways to keep the spending rise within bounds. Health plans can hunt for price discounts. Because the U.S. is awash with magnetic resonance imaging (MRI) machines, big-volume users pay as little as $350 for scans that used to cost individuals $1,000. Some new technologies, like ultrasound devices that compete with MRIs, save money. And some HMOs put their foot down even on ultrasound when it is uncalled for.

-- Curtail hospitalization. Mammoth economies are possible here, for hospital costs make up 40% of the country's medical spending. Hospitalization has been falling steadily in the U.S., says Milliman & Robertson, from a 1986 level of 569 days per 1,000 persons in the ''commercial'' market -- those not on Medicare or Medicaid -- to an estimated 446 in 1993. But consultant Milstein notes that the best-run health plans have pared hospital use to less than half the national figure. Bringing the rest of the country to the optimum level wouldn't cut spending proportionately because the remaining hospital days would include the most expensive ones, such as those in intensive care units. Still, says Milstein, the potential savings net out to a ''mind-boggling 15%'' of the total health bill. Advances in surgery -- allowing patients to go home within hours of hernia and cataract operations -- have helped cut the occupancy rate in the nation's hospitals to 66%. HMOs work hardest at keeping people out of them. In a pilot program that it plans to roll out systemwide, Boston's Harvard Community Health Plan has cut hospitalizations 79% for high-risk asthma victims, mostly children and adolescents, by making sure that their breathing is monitored regularly at home and that their medication is adjusted to prevent flare-ups. Across the land, people who formerly languished in hospitals for weeks because they needed intravenous antibiotics or nutrients that could be given only by a medical staffer now use home IV and administer the dosage themselves through catheters. Mullikin Medical Centers, a rapidly expanding Los Angeles medical group that serves many HMOs, arranges home IV for patients with AIDS, heart and bone infections, pneumonia, and other illnesses. ^ How far can the exodus from hospitals go? Axene of Milliman & Robertson, which surveys the most efficient in-patient practices, says that within ten years the commercial hospitalization rate per 1,000 people could fall below 100 per year. Why isn't this trend already saving gigabucks? For one thing, hospitals have been able to jack up their fees to compensate for empty beds. But in the intensifying battle for market share, they will have to wrestle down costs and quote competitive prices. Richard Norling, CEO of Fairview Health System, which operates several hospitals in the HMO-heavy Twin Cities, predicts that half the area's hospital beds will disappear in the next five years. Says Norling: ''Whole hospitals will close. I'm working real hard to see that they are not Fairview's.''

-- Go electronic with patient records. By shrinking bureaucratic overhead and relying more heavily on computers, the health care industry can save potfuls of money. Administrative and selling costs consume 16% of the insurance premium dollar paid by very small companies, but most of this would vanish if small employers jointly bought through cooperatives or the ''health alliances'' proposed in the Administration plan. The insurance industry is already harnessing the computer; Cigna plans to cut its ranks of claims processors from 6,000 to 1,000 within the next three to five years. The biggest promise lies in using computers to track the treatment patients receive. By pointing and clicking, busy doctors could quickly scan a patient's medical history. Duplicate testing would decline because fewer test results would disappear into a paperwork maze; one hospital cited in a government study was unable to locate records 30% of the time. With safeguards for confidentiality, electronic records could also form a vast national database for comparing the effectiveness of remedies. Too often, says Dr. Clement McDonald of the Indiana University School of Medicine in Indianapolis, ignorance prompts doctors to spend ''ridiculous sums. If it does a penny's worth of good, we spend two bucks on it.'' A compatible nationwide system will take at least the rest of the century to build. In a recent report, the U.S. General Accounting Office pointed to barriers that only a strong federal role could overcome. One is lack of a common vocabulary: What's called hepatitis in one doctor's office may be liver inflammation elsewhere. Yet computers are already proving their worth. On a modest budget over the ! past two years, a team of physicians at Kaiser Permanente in the Washington, D.C., area have been building a system for outpatient clinics. Some 250 doctors out of 350 -- a high and growing participation rate -- can look up such things as lab results and prescription histories. ''One of the biggest things the system does,'' says Dr. John Dewey, who heads the team, ''is allow doctors to conduct more care over the phone.'' Will computers save money beyond the cost of running them? Alan Silverstone, senior vice president and manager of Kaiser's Mid-Atlantic region, believes they will, but he's not sure how much. Encouragement comes from a new government-financed study at the University of Indiana medical school's Regenstreif Institute, which has been working with computerized records for two decades. By reminding physicians at an Indianapolis hospital of a variety of things before they issue orders -- when they last ordered a test or procedure, the availability of generic drugs, possible adverse reactions -- workstations cut the hospital's charges per patient stay by 12.7%. Dr. William Tierney, who with his colleagues published the results in the Journal of the American Medical Association, believes that savings of 10% to 15% are possible throughout the medical system, in outpatient offices as well as hospitals. ''And that's just at the beginning,'' Tierney says, before the system develops records that take full advantage of computerization.

-- Push prevention to the limit. Consultant Milstein sees vast potential savings from what he calls ''patient demand management.'' In the initial phase of a program for diabetics, U.S. Healthcare, a large HMO based in Blue Bell, Pennsylvania, has decided to target about 5,000 high-risk members. By keeping after them to make sure they are following the proper regimen -- insulin, blood sugar monitoring -- the plan hopes to prevent such complications as blindness, kidney failure, and amputations. Outreach is already proving a money saver. Researchers at the Dartmouth medical school investigated what happened when doctors and nurses systematically called Veterans Administration patients in their mid-50s and beyond who have high blood pressure, respiratory disease, and other chronic conditions. Total expenses per patient -- office visits, medication, hospitalization -- fell 28%, eight times the cost of the phoning. ''It's incredible,'' says Dartmouth's Dr. John Wasson, who ran the study. ''It's big buckos.'' Healthier living, which keeps many of these conditions from arising in the first place, would further lighten the nation's medical burden. Smokers run to doctors more often than nonsmokers, and so do those addicted to foods that clog the coronary arteries. In a recent article in the New England Journal of Medicine, Dr. James Fries of Stanford University Medical Center and his colleagues pointed out that preventable illnesses account for about 70% of all medical treatments. As all those joggers show, Americans are becoming more health conscious. ''We'll never get everybody doing everything they should,'' cautions Carson Beadle of William Mercer, president of the Health Project, a voluntary private and governmental consortium dedicated to reducing the demand for health services. But even if the country eliminated 25% of the preventable medical spending, Beadle says, that would be a huge windfall. What of the argument that healthier living will merely create a larger army of survivors who need nursing home care? ''On the contrary, a smaller proportion of the elderly will be in nursing homes,'' says Fries, who believes that those who live healthy lives tend to die quickly and cheaply of old age. Not all experts on aging buy that proposition. But in the working years, when employers are responsible for paying much of the medical bill, sensible living can make an economic difference. Several years ago Du Pont found that ''behavioral risks'' among its workers, such as smoking and obesity, cost it $71 million a year, a third in lost workdays and the rest in direct medical expenses. Robert Bertera, Du Pont's senior consultant for prevention, says wellness efforts have since paid off sufficiently that the company plans to increase spending threefold in 1994 to about $20 million. HMOs also spend precious dollars for this purpose because they consider it a sound investment. U.S. Healthcare makes nicotine patches cheaply available and pays up to $200 a year toward membership in a cardiovascular fitness center.

-- Let the doctors find the savings. Under the fee-for-service system, doctors and hospitals have powerful incentives to run up the tab. With limited success, insurers and the government have countered this tendency through ''utilization review'' procedures, in effect second-guessing the physicians' decisions from afar. The surge in prepaid health plans, plus overcapacity in the system, reverses things. In the new era, those who know the most about who needs which treatment -- the doctors -- survive by battling to hold spending down. How best to gear up for this battle is being worked out in a frenzied reshuffle of the industry. New health care paradigms are proliferating like lily pads in the tropics, and most claim to be parts of integrated delivery systems with the efficiencies of the best-run HMOs. One class of entrant is the ''physician-hospital organization'' (PHO), formed by groups of hospitals and some of their doctors. Deaconess Clinical Associates, a PHO in Oklahoma City, is chasing market share by offering employers low, all-inclusive fees. Sample: a bundled bill of $21,000 to $30,000 for a heart bypass operation that's 15% to 20% below prevailing market rates and replaces the usual bewildering collection of itemized charges. Yes, the surgeon's fee is included. The jury is out on PHOs. Greater hope, some reformers say, lies with primary care physicians -- those gatekeepers who decide which patients need specialists and hospital beds. Aetna, the big insurer, is so convinced of this that it is setting up its own primary care centers in Atlanta and several other cities and staffing them with salaried physicians. In a totally different approach, physicians who dread being on anyone's payroll but want to get HMO business are turning to management organizations like American Health Inc., in Southern California, in a quest for efficiency. When the firm's client physicians see patients from managed care plans, says Dr. Steven Posar, a senior vice president, they cut specialist utilization by about 30%. The paradigm with the greatest promise is the multispecialty medical group practice that already exists across the U.S. But take another look. What used to be an independent collection of doctors may have joined up with companies like PhyCor in Nashville or sold out to Pacific Physician Services of Redlands, California. Or the group may have merged with a fast-growing, physician-owned chain like Mullikin Medical Centers in the Los Angeles area. Health Net, California's second-largest HMO, hasn't bothered to build its own network; it simply channels patients -- and 85% of the premium income -- to designated medical groups. The torrid pace of consolidation among such groups in Southern California, as well the rivalry among HMOs, offers a foretaste of the ''managed competition'' that the Administration's health bill and others would foster. Though Southern California's health insurance ^ premiums are not the lowest in the U.S. -- the region's generally high living costs rule that out -- they are among the slowest growing. In different ways, the megagroups all monitor quality while making sure the doctors mind costs. Pacific Physician Services, whose market value has more than quadrupled to $295 million since it went public in 1991, requires that referrals of HMO patients to specialists and hospitals be collectively approved. At a newly acquired group in Chula Vista near San Diego, all eight physicians meet once a week to consider nonemergency referrals. Primary physicians' pay is partly based on the volume of patients they see. ''If we paid them a salary,'' says Pacific Physician's CEO, Dr. Gary Groves, ''there would be no incentive to hustle.'' John McDonald, CEO of Mullikin Medical Centers in Long Beach, begs to differ. Says McDonald, who is considered one of the best medical managers in the business: ''The whole world operates on salary. If you ask your secretary to type a letter, does she demand a fee?'' Nevertheless, Mullikin doctors are supposed to heed guidelines spelling out how many patients they should see in a day. Mullikin's physicians are eligible to become partners after two years, giving them a stake in controlling costs. Hospitalization per 1,000 commercial patients has lately been running at a mere 180 days a year. The Sharp Health Care system in San Diego has achieved an even lower figure. Dr. Donald Balfour III, who heads the system's physician group, says hospital days have been running at 130 to 140 days for several years. Though the group's doctors have only a nominal ownership position, primary physicians are paid on a capitation formula -- that is, they perform whatever services are necessary in return for a flat monthly payment per member. Says Balfour, who met not long ago with White House health reform architects Ira Magaziner and Paul Starr: ''Most of the things they were talking about are already happening here.'' Steve Wiggins, who wants similar things to happen at Oxford Health Plans in the Northeast, is beginning to hand over responsibility for treating patients to medical groups paid by capitation. Says Wiggins: ''Capitation gets the HMO off the phone so the physicians can practice medicine.'' AS ALL this ferment makes clear, the Clinton Administration is not smoking something when it envisions huge savings from stepped-up competition. Where it errs, aside from promising rich benefits too soon, is in trying to make it all affordable by putting a lid on premium increases. Price controls never work for long, and they would hamper the ability of health plans to raise capital. Says CEO Roger Greaves of Health Net: ''Price caps would freeze in place the guys who aren't efficient, while limiting the guys who are.'' That flaw in the Clinton plan needs to be eliminated, along with the requirement that virtually all companies buy coverage through health alliances. Much of the medical system's progress in quality control, as well as in restraining cost increases, is the result of prodding by companies and business coalitions that pay the bills. Says John Ludden of Harvard Community Health Plan: ''It would be very unfortunate to lose the role of large employers.'' Anyone who thinks that appointees to health alliances can accomplish more should think again.

CHART: NOT AVAILABLE CREDIT: SOURCE: HEALTH INSURANCE ASSN. OF AMERICA; KPMG PEAT MARWICK CAPTION: MEDICAL INFLATION HAS BEEN COOLING