Third-Party Bureaucracies Can’t Discipline Healthcare Prices

One of the least substantiated notions behind the modern American doctrine that people should allow insurers or governments to control our health spending is that these third parties can negotiate fees with hospitals and physicians that are better than those which would prevail if patients controlled these dollars ourselves.

Years of evidence show that these third parties have little idea what they are doing when they fix fees paid to providers. Atul Gawande, MD, has made a name for himself by popularizing research from Dartmouth University, which shows large, unexplained, variation in cost and outcomes for Medicare in different areas of the country. President Obama has used this research to impose further controls on how Medicare pays hospitals and doctors, in the hope that this will reduce costs to the lowest-common denominator.

Unfortunately, new research demonstrates we have no real idea why this unexplained variance exists. This research uses a new database of extremely rich data from a consortium of the nation’s largest private insurers. The database includes over one-quarter of people with employer-sponsored benefits. The findings:

• There is huge variance in actual hospital prices paid by insurers – up to twelve times.
• There is little connection between prices for individual procedures in an area and total cost per patient (suggesting there is substitution from high-priced to low-priced procedures within an area).
• There is no correlation between total spending per privately insured patient and Medicare patient.

The last one is the real killer of the idea that the providers are responsible for driving cost up. If high Medicare costs were driven up in areas with especially greedy and cunning hospitals and doctors, we’d expect private insurers to pay more in those areas, too. On the other hand, some have insisted that where Medicare payments are too low, costs are shifted to private insurers to make up the total required revenue. If that were true, there would be a negative correlation between Medicare costs and private insurers’ costs among regions.

Good economic theory and business strategy indicates providers segment their markets and charge the profit-maximizing price in each segment. So, if prices and costs are a crazy quilt across the country, it must be due to idiosyncrasies among the payers, not the providers.

I don’t actually see the point of worrying too much about price or cost variation. If an orange costs much more in Alaska than Florida, we do not seek government intervention to equalize the prices. Similarly, the cost structure of delivering health care differs for many reasons. What worries me is that this line of research will lead to yet more government efforts to harmonize prices and quality across the country, instead of freeing patients to make their own decisions about how much to pay for health care.

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For the pivotal alternative to Obamacare, please see Independent Institute’s book, A Better Choice: Healthcare Solutions for America, by John C. Goodman.