healthcare economics of two adjacent counties in the Kansas City metropolitan area.
Read Case 2.1 in Chapter 2 of your textbook.
In your journal assignment, answer the following case study questions:
Support your responses with examples from the case or references to your textbook.
CHAPTER
AN OVERVIEW OF THE US HEALTHCARE
SYSTEM
2
Learning Objectives
Copyright 2019. Health Administration Press.
All rights reserved. May not be reproduced in any form without permission from the publisher, except fair uses permitted under U.S. or applicable copyright law.
After reading this chapter, students will be able to
•
•
•
•
•
apply marginal analysis to a simple economic problem,
articulate the input and output views of healthcare products,
find current national and international information about healthcare,
compare the US healthcare system to those in other countries, and
identify major trends in healthcare.
Key Concepts
•
•
•
•
•
Healthcare products are inputs into health.
Healthcare products are also outputs of the healthcare sector.
The usefulness of healthcare products varies widely.
Marginal analysis helps managers focus on the right questions.
Life expectancies have increased sharply in the United States in recent
years.
• Other wealthy countries have seen larger health gains with smaller cost
increases.
• The healthcare sector is changing radically in response to technology
and policy changes.
2.1 Input and Output Views of Healthcare
This chapter describes the healthcare system of the United States from an
economic point of view and introduces tools of economic analysis. It looks at
the system from two perspectives. The first perspective, called the input view,
emphasizes healthcare’s contribution to the public’s well-being. The second
perspective, called the output view, emphasizes the goods and services the
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input
A good or
service used in
production.
output
A good or service
produced by an
organization.
healthcare sector produces. In the language of economics, an input is a good
or service used in the production of another good or service, and an output
is the good or service that emerges from a production process. Products
(goods and services are considered products) are commonly both inputs and
outputs. For example, a surgical tool is an input into a surgery and an output
of a surgical tool company. Similarly, the surgery itself can be considered an
output of the surgical team or an input into the health of the patient.
2.1.1 The Input View
marginal analysis
The analysis of
the effects of
small changes in a
decision variable
(e.g., price or
volume of output)
on outcomes (e.g.,
costs, profits,
or probability of
recovery).
The input view of the healthcare system stresses the usefulness of healthcare
products. From this perspective, healthcare products are neither good nor
bad; they are simply tools used to improve and maintain health. The input
view is important because it focuses our attention on alternative ways of
achieving our goals, and healthcare products are only one of many inputs into
health. Others, such as exercise, diet, and rest, are alternative ways to improve
or maintain health. From this perspective, a switch from medical therapies for
high blood pressure to meditation or exercise would be based on the following question: Which is the least expensive way to get the result I want? This
apparently simple question can be difficult to answer.
The input view stresses that the usefulness of any resource depends on
the problem at hand and other available resources. Whether the health of a
particular patient or population will improve as a result of using more healthcare products depends on a number of factors, including the quality and
quantity of healthcare products already being used, the quality and quantity
of other health inputs, and the general well-being of the patient or population. For example, the effect of a drug on an otherwise healthy 30-year-old is
likely to be different from its effect on an 85-year-old who is taking 11 other
medications. Increasing access to medical care is not likely to be the best
way to reduce infant mortality in a population that is malnourished and lacks
access to safe drinking water, given the powerful effects of better food and
water on health outcomes. What is the best way to use our resources, given
that most preventable mortality is a result of risky behavior? Sometimes, more
medical care is not the answer. All these examples illustrate that the usefulness
of resources varies with the situation.
The economic perspective of marginal analysis challenges us to examine the effects of changes on what we do. Marginal analysis proposes questions such as these: How much healthier would this patient or population
be if we increased use of this resource? How much unhealthier would this
patient or population be if we reduced use of this resource? Most management decisions are made on the basis of marginal analysis, although the questions used to arrive at the decisions are often more concrete. For example,
what costs would we incur if we increased the chicken pox immunization rate
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among three-year-olds from 78 to 85 percent, and how much would increasing immunization reduce the incidence of chicken pox among preschoolers?
Reasonable answers to these questions tell us the cost per case of
chicken pox avoided, and we can use that information to decide whether
we want to use our resources for this proposition. Managers who focus on
healthcare products as outputs of their organizations ask the same types of
questions, although they frame them differently: How much will profits rise
if we increase the number of skilled nursing beds from 12 to 18? What costs
would we incur if we added a nurse midwife to the practice, and how would
this addition change patient outcomes and revenues? In any setting, marginal
analysis helps managers focus on the right questions.
Exhibit 2.1 illustrates how variable the effects of medical interventions
can be. The data indicate that spending $1 million on an intervention to
reduce childhood obesity would save 1,292 life years, whereas spending $1
million on colonoscopies for 81-year-old African American men would save
one life year. Exhibit 2.1 also reminds us that effectiveness does not always
determine what services are offered. Interventions to reduce childhood obesity are not common, but colonoscopies for 66-year-olds are.
We have to make some choices. Colonoscopies for 81-year-olds save
only a few life years. However, this screening may allow children multiple
happy years with a grandparent. We cannot avoid a decision about whether
the benefits of this intervention are large enough to justify its substantial costs.
Intervention
Life Years
Source
Antismoking intervention
2,545
Xu et al. (2015)
Intervention to reduce childhood
obesity
1,292
Sharifi et al. (2017)
Multidisciplinary management for
heart failure
995
Dang et al. (2017)
Colonoscopies for 66-year-old
African American men
40
van Hees et al. (2015)
Multidisciplinary heart failure
management plus exercise
28
Dang et al. (2017)
Colonoscopies for 76-year-old
African American men
10
van Hees et al. (2015)
Colonoscopies for 81-year-old
African American men
1
van Hees et al. (2015)
19
life year
One additional
year of life. It can
equal one added
year of life for an
individual or an
average of 1/nth of
a year of life for n
people.
EXHIBIT 2.1
How Many Life
Years Will $1
Million Save?
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The input view also stresses that changes in technology or prices may
affect the mix or amount of healthcare products citizens want to use. For
example, lower surgery costs will increase the number of people who choose
vision correction surgery rather than eyeglasses. Conversely, advances in
pharmaceutical therapy for coronary artery disease might reduce the rate of
bypass graft surgeries (and reduce the number of attendant hospital stays).
In the past, healthcare managers did not spend much time on the
input view. They were charged with running healthcare organizations, so
products that their organizations did not produce were of little interest. This
perception is changing. Our collective rethinking of the role of health insurance makes the input view practical. For example, if offering instruction on
meditation reduces healthcare use enough, the chief executive of an insurance plan, the medical director of a capitated healthcare organization (one
in which payments are made per person, regardless of the services provided),
or the benefits manager of a self-insured employer will find it an attractive
option. Increasingly, healthcare managers must be prepared to evaluate a
wide range of options.
2.1.2 The Output View
New ways of thinking do not always invalidate former perspectives. The output view of the healthcare sector is more relevant than ever. The importance
of producing goods and services efficiently has increased. Those struggling
with the rising cost of healthcare are increasingly purchasing care from lowcost producers. Currently, third parties (i.e., insurers, governments, employers) have difficulty distinguishing between care that is inexpensive because
it is of inferior quality and care that is inexpensive because it is produced
efficiently, but their ability to make this distinction is improving.
To succeed, managers must lead their organizations to become efficient producers that attract customers. In many organizations, this task will
be formidable.
2.2 Health Outcomes
Americans often celebrate their healthcare system as “the best in the world.”
While parts of the system are superb, the system as a whole needs improvement. As indicated in chapter 1, the American healthcare system incurs high
costs and produces mediocre outcomes. Although the United States spends
far more on healthcare per person than any other large, developed country, American life expectancy at birth ranks twenty-seventh among the 34
members of the Organisation for Economic Co-operation and Development
(OECD). Only the Czech Republic, Poland, Estonia, the Slovak Republic,
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Hungary, Turkey, and Mexico trail the United States (OECD 2017). Given
the political decision to subsidize healthcare resources for the elderly, life
expectancy at age 65 might represent a fairer test. On this measure, the
United States ranked twenty-first in 2015. The health of the American public
is not the best in the world.
This caustic appraisal should not hide the fact that the health of Americans has improved dramatically. Between 2000 and 2015, life expectancy at
birth rose from 76.7 years to 78.8 years, an increase of 2.1 years (OECD
2017). From one perspective, this increase in life expectancy reflects impressive performance. From another, it does not compare well to the performance
of other industrialized countries. For example, French life expectancy at birth
rose from 79.2 years in 2000 to 82.4 years in 2015, and costs increased less
than half as much in France as in the United States (OECD 2017).
This conclusion rests on a simple marginal analysis in which we compare the change in spending to the change in life expectancy. What appears
to be higher spending, however, might just be the effects of inflation. To
avoid inaccuracies resulting from changes in the value of money, economists
use two strategies. The simplest and most reliable strategy to report spending uses shares of national income, or gross domestic product (GDP). This
examination of shares removes the effects of inflation (see exhibit 2.2).
20%
18%
16%
14%
14.0%
14.5%
14.7%
17.2%
United States
12.5%
12%
France
10%
8%
15.3%
16.4% 16.4% 16.5%
11.1%
9.5%
10.0% 10.1% 10.0%
10.1%
10.7% 10.8%
2000
2002
2008
2010
EXHIBIT 2.2
US and
French Health
Expenditures
as a Share of
Gross Domestic
Product
11.0%
6%
4%
2%
0%
2004
2006
2012
2014
2016
Source: Data from OECD (2017).
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2.3 Outputs of the Healthcare System
In 2015, Americans spent $3.2 trillion on healthcare, meaning that it averaged $9,892 per person or 17.2 percent of the nation’s output (see exhibit
2.2). The French spent $4,530 per person or 11.0 percent of national
income. In both countries, the share of national income spent on healthcare
has risen, but the increase has been much larger in the United States. Why
is how much we spend interesting? Is there anything wrong with spending
that much? Why has spending been rising around the world? Why has it been
rising faster in the United States?
2.3.1 Why Is How Much We Spend on Healthcare Interesting?
opportunity cost
The value of what
one cannot do as a
result of making a
choice.
The amount we spend on healthcare matters for two reasons. First, although
healthcare claims an increasing share of national income worldwide, other
industrialized countries have realized larger health gains while spending less
than the United States. Second, the rising share of national income claimed
by healthcare has prompted most governments and employers to question
whether the benefits of this increased spending warrant it. If not, something
is wrong with healthcare spending. If the benefits of healthcare spending are
smaller than the benefits of using our resources in other ways, a shift would be
in order. For example, would we be better off if we had spent less on educating
new physicians and more on educating new teachers? The opportunity cost
of producing a product consists of the other goods and services we cannot
make instead. Stating that the benefits of healthcare are less than its costs does
not imply that it is bad or worthless, only that it is worth less than some other
use of our resources.
2.3.2 Why Is Healthcare Spending Rising More Slowly Than
Anticipated?
Between 2010 and 2015, healthcare spending grew more slowly than forecast. Spending covered by private insurance, by Medicare, by Medicaid, and
by other insurers came in below estimates (Holahan et al. 2017). Higher
healthcare spending is driven by changes in prices and quantities, and we will
explore both.
Prices for services covered by private insurance are set via negotiation
and have historically risen much faster than other prices. But as exhibit 2.3
shows, since the onset of the Great Recession of 2007–2009, medical prices
have increased relatively slowly. Indeed, medical prices increased at a slower
rate than prices in general during 2014 and 2015 (Keehan et al. 2017). This
difference may be due to reductions in Medicare payments put in place by
the Affordable Care Act (ACA), given that private insurers often base price
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negotiations on Medicare rates. In addition, the ACA created new insurance
plans for those without access to employer-sponsored plans. Most of these
plans were targeted at consumers with modest means and negotiated wellbelow-market prices with providers. The slowing of medical inflation may be
due to low overall rates of inflation or to changes brought about by the ACA.
EXHIBIT 2.3
Medical
Inflation in the
United States
10%
9%
8%
7%
6%
5% 4.1%
4.7%
4.4%
4.0%
4%
3.7%
3.8%
3.7%
3.4%
2.4%
3%
2%
1%
0%
2000
2002
2004
2006
2008
2010
2012
2014
2016
Source: Data from Bureau of Labor Statistics (2017).
Case 2.1
Comparing Health Outcomes in
Adjoining Counties
Johnson County and Wyandotte County are adjacent counties in the
Kansas City metropolitan area. Despite significant progress in recent
years, the rate of premature death in Wyandotte County is more than
double the rate in Johnson County (University of Wisconsin Population
Health Institute 2018). What causes such large differences? Causes
(continued)
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Case 2.1
might include weaknesses in the primary care system or differences in health behaviors. The consensus is that diet and activity are the most important behaviors, tobacco use is second, and alcohol use makes a much
smaller contribution (Institute of Medicine and National Research
Council 2015).
How do these two counties compare? Even though the University
of Kansas Health System is based in Wyandotte County, the county has
far fewer primary care physicians and dentists per resident than average. Johnson County has far more primary care physicians and dentists
per resident than average. Residents of Wyandotte County are 37
percent more likely to be obese (37% vs. 27%), 72 percent more likely
to be physically inactive (31% vs. 18%), and 92 percent more likely to
smoke (23% vs. 12%) but 25 percent less likely to drink excessively
(15% vs. 20%) (University of Wisconsin Population Health Institute
2018).
Before labeling these as lifestyle differences, note that the economic circumstances are different in the two counties. Median household income is 48 percent lower in Wyandotte County (reflecting lower
earnings and a higher proportion of single-parent households). The
share without health insurance is 183 percent higher, and the share
with a high school diploma is 19 percent lower. In addition, 23 percent of Wyandotte residents are African American and 29 percent are
Hispanic, making it a much more diverse county (US Census Bureau
2018).
The government of Wyandotte County has launched a number of
projects to improve the health of its citizens since 2009 (Healthy Communities Wyandotte 2016). Its 20-20-20 Movement seeks 20 new miles
of trails, 20 miles of bikeways, and 20 miles of sidewalks by 2020.
The Tobacco Free Wyandotte Action Team seeks to enhance resources
for quitting tobacco, preventing young people from starting to use
tobacco, and protecting residents from secondhand smoke. The Food
Systems Action Team has promoted urban agriculture, farmers’ markets, community gardens, school-based gardens, summer meals for
students, and nutrition education. Wyandotte County has also actively
encouraged residents to sign up for insurance.
(continued)
(continued)
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Case 2.1
Discussion Questions
• What are the main inputs to health mentioned
in this case?
Are there important inputs to health that the case does not
mention?
What health behaviors should get priority?
Is there evidence that reducing smoking improves health?
Is there evidence that reducing obesity improves health?
Does income play any role in improving health?
How important is health insurance in improving health?
Wyandotte County has relatively few primary care physicians.
Should the number of primary care physicians be a priority?
Can you find any evidence that improving primary care improves
health?
What role, if any, should private foundations play in improving
health?
What role, if any, should state governments play in improving
health?
What role, if any, should the federal government play in improving
health?
Which of these questions are examples of positive economics?
Normative economics?
(continued)
•
•
•
•
•
•
•
•
•
•
•
•
2.4 The Shifting Pattern of Healthcare Spending
With total revenues of more than a trillion dollars, hospitals claim nearly a
third of total annual healthcare spending in the United States. What hospitals
produce is changing, however. Since 1995, inpatient days have been slowly
trending down, and outpatient visits have been trending up briskly (American
Hospital Association 2016). Many hospitals now derive more revenue from
outpatient care than from inpatient care. Hospitals’ share of total spending
has risen by 2.0 percent since 2000, reflecting the continuing consolidation
of services into health systems (Centers for Medicare & Medicaid Services
[CMS] 2016). Rapid increases in prices and intensity (which we cannot
separate at this point) explain most of this increase (Dieleman et al. 2017).
As exhibit 2.4 shows, spending for physicians’ services claims nearly
a fifth of total spending. The share has fallen since 2000 as a result of
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Ec o n o m ic s f o r H e a l th c a re M a n a g e r s
EXHIBIT 2.4
Annual
Spending
by Sector in
Millions of
Dollars
Expenditure
Amount
Percent
Total hospital expenditures
$1,036,110
32.3%
Total physician and clinical expenditures
$634,919
19.8%
Total prescription drug expenditures
$324,551
10.1%
Total net cost of health insurance
$252,669
7.9%
Total nursing care and continuing care retirement facility expenditures
$163,322
5.1%
Total other health, residential, and personal
care expenditures
$163,322
5.1%
Total dental services expenditures
$117,522
3.7%
Total structures and equipment expenditures
$108,018
3.4%
Total home health care expenditures
$88,803
2.8%
Total other professional services expenditures
$87,715
2.7%
Public health activity expenditures
$67,960
2.1%
Other nondurable medical product
expenditures
$59,030
1.8%
Total durable medical equipment expenditures
$48,458
1.5%
Research expenditures
$46,714
1.5%
Source: Data from CMS (2016).
consolidation into systems and increasing spending on pharmaceuticals.
Spending on pharmaceuticals (which does not include pharmaceuticals
administered in hospitals and nursing homes) has risen sharply since 2000.
This increase can be attributed to both the expected effects of public policy
and some unexpected effects. Medicare Part D, the voluntary outpatient
prescription drug benefit for people on Medicare, went into effect in 2006
and now provides coverage for nearly 41 million people. The ACA expanded
Medicaid and established marketplace plans. Both forms of insurance provided coverage for pharmaceuticals and were designed to increase use of
pharmaceuticals. What was not expected, but should have been, was that
prices increased rapidly as well. As chapter 7 will show, increasing insurance
coverage results in increased sales and higher prices.
The overhead costs of health insurance represent the fourth largest
component of spending. The American approach to health insurance, which
emphasizes subsidies for private coverage, essentially ensures high costs of
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managing insurance. Having multiple small plans with distinct patterns of
coverage guarantees high overhead rates. However, this total represents only
part of the cost of running American health insurance. Hospitals, practices,
and other organizations incur substantial costs of billing. Jiwani and colleagues (2014) estimate that 15 percent of total spending could be saved by
insurance simplification, and this percentage may be an underestimate.
2.5 Disruptive Change in the Healthcare System
For many years six trends were evident in the healthcare system of the United
States. They were
•
•
•
•
•
•
rapid technological change,
the shrinking share of direct consumer payments,
the rapid growth of the healthcare sector,
the rapid growth of the outpatient sector,
the slower growth of the inpatient sector, and
the steady increase in the number of uninsured Americans.
Only three of these trends continue unabated: rapid technological change,
the shrinking share of direct consumer payments, and slower growth of the
inpatient sector.
Exhibit 2.5 depicts the steady decline in the share of direct consumer
payments for healthcare. Broader and more complete insurance coverage
explains this trend. While consumers ultimately pay all healthcare bills,
increasingly they pay indirectly via taxes and premiums.
The most surprising development of recent years has been the slowing growth of the healthcare sector. Rapid expansion of the healthcare sector
has been a feature of American life for most of this century, but its pace has
clearly slowed. As exhibit 2.2 showed, healthcare spending in 2000 claimed
12.5 percent of national income. By 2016, it had risen to 17.2 percent of
national income. However, in contrast to the rapid expansion of previous
years, the share plateaued between 2009 and 2013.
Why spending grew more slowly is not clear. Job loss during the Great
Recession and changes in health insurance benefits played a role, but these
factors explain only part of the slowdown. Costs per case appear to have
decreased for some conditions (Dunn, Rittmueller, and Whitmire 2016),
and the number of Medicare beneficiaries increased by 7 million (medical
needs typically change little after age 65, and Medicare prices are lower than
private prices). Forecasting what will happen during the next several years is
difficult because the healthcare environment appears to have experienced two
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EXHIBIT 2.5
Direct Payments
by Consumers
as a Share of
National Health
Spending
40%
35%
30%
25%
20%
15%
14.5%
13.3%
12.7%
11.8%
11.4%
10.5%
2009
2012
2015
10%
5%
0%
2000
2003
2006
Source: Data from CMS (2016).
major shocks: the implementation of the ACA and the transformation of the
health insurance industry. Section 2.5.2 discusses the ACA, and section 2.5.3
discusses the reconfiguration of the health insurance industry.
2.5.1 Rapid Technological Change
Technological change is pervasive in healthcare. Technological advancement
makes transformation of the healthcare system possible, and policy changes
are apt to make transformation desirable. Only luck will rescue management
decisions that ignore technological change.
Monitoring of implantable cardioverter defibrillators illustrates the
interaction of technological and policy change. Patients with an implantable
cardioverter defibrillator—a small device used to treat irregular heartbeats—
require regular follow-up visits to monitor their health and whether their
device is working properly. The stakes are high. Untreated arrhythmia may be
life threatening, and more than 2 percent of the population experience some
arrhythmia. Although little scientific evidence exists, the professional consensus is that these patients should be seen two to four times per year even if
no difficulties are evident. A recent evaluation of a home monitoring system
concluded that it offered better quality at lower cost (Parahuleva et al. 2017).
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In volume-based payment environments—in which revenues depend on the
number of visits—providers may not find remote home monitoring attractive. However, in value-based environments—in which reducing the number
of visits reduces the workload without reducing revenue—providers, patients,
and insurers may have a common interest in expanding remote monitoring.
For reasons discussed more fully in chapter 6, public and private insurers are
trying to move quickly to value-based models.
Other innovations could prove even more disruptive. For example,
pharmacogenomics—the science of predicting differing responses to drugs
based on genetic variations—could have profound effects. Even after individual factors such as age, weight, race, sex, diet, and other medications are
taken into account, patients can respond differently to a drug. One patient
may have the desired relief of symptoms, another may have no apparent
response, and a third may have a life-threatening reaction. Obviously this
difference matters a great deal to patients and practitioners. It also matters
to managers. An adverse drug reaction is the fourth leading cause of death in
the United States, and genetic testing to ensure that patients get safe, effective pharmaceuticals could reduce hospitalization rates by up to 30 percent
(Drew 2016).
Like every sector of society, healthcare illustrates the struggle to take
advantage of the information revolution and demonstrates the paradox of
technological change. The essence of the information revolution is that the
cost of performing a single calculation has dropped precipitously. As a result,
many more calculations are possible, and spending on some types of information processing (e.g., computer games) has increased sharply as spending
on other types of information processing (e.g., inventory management) has
plummeted. Technological advances almost always make a process less expensive, yet spending may rise because volume increases dramatically.
The challenges of the information revolution are even greater in
healthcare than in most sectors. Much of the output of the healthcare sector involves information processing, yet relatively few healthcare workers are
highly skilled users of computerized information. In addition, healthcare
organizations have lagged behind other service organizations in investing in
computer hardware, software, and personnel.
The rapid pace of change in other areas intensifies these challenges.
Healthcare’s diagnostic and therapeutic outputs are changing even faster
than the organizational structure of the sector, which itself is changing rapidly. In some areas (most notably imaging and laboratory services), technological change is tightly linked to the information processing revolution. In
other areas, the links are much looser. For example, advances in information
processing speed the development and assessment of new drugs, yet because
pharmaceutical innovations can be extremely profitable, a powerful incentive
for pharmaceutical innovation exists regardless of these advances.
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2.5.2 Major Features of the Affordable Care Act
The ACA is a complex law with multiple provisions. This section briefly
sketches some of its major provisions, focusing on ones that have the potential to reshape the healthcare sector.
managed care
A loosely defined
term that includes
all plans except
open-ended
fee-for-service.
It is sometimes
used to describe
the techniques
insurance
companies use.
narrow network
A limited group
of providers who
have contracted
with an insurer.
(Patients will
usually pay more
if they get care
from a provider
not in the network.
The network is
usually restricted
to providers with
good quality who
will accept low
payments.)
1. The ACA incorporates several mechanisms for expanding insurance
coverage. These mechanisms include new regulations, state and federal
insurance marketplaces, subsidies for those with low incomes, and
the option for states to expand Medicaid coverage for those with the
lowest incomes.
2. The ACA incorporates several mechanisms for reducing Medicare
spending. These mechanisms include penalties for higher-than-expected
readmission rates, reductions in Medicare payments to hospitals
with large numbers of uninsured patients, reductions in payments to
Medicare Advantage plans (private health insurance plans for Medicare
beneficiaries), and incentive payments for care of high quality or for
significant improvements in quality.
3. The ACA authorizes a number of payment reform demonstrations.
These programs include trials of accountable care organizations,
bundled payments, medical homes, and managed care for beneficiaries
who are eligible for Medicare and Medicaid. Chapter 6 will explore
these programs in depth.
Many years will pass before the full effects of the ACA are understood. This
section briefly notes some ACA provisions that have the capacity to change
incentives and about which there is some evidence. Chapter 6 will explore
these issues in more detail.
Narrow networks are common in ACA marketplace plans (Polsky et
al. 2016). The main motivation for narrow networks (which may be limited
to a single system or may exclude just a few providers) is that some systems
have been able to negotiate high prices—sometimes four or five times Medicare rates—with private insurers (Scheffler and Arnold 2017). The benefit to
marketplace insurance customers is sharply lower premiums, often 15 to 20
percent lower than plans with larger networks. The penalty is that marketplace customers may have to use out-of-network providers (and pay much
more) for some care.
Medicare penalties for higher-than-expected readmission rates clearly
give hospitals an incentive to reduce readmissions. A 2 percent reduction in
Medicare payments would have a significant effect on most hospitals’ revenues, so reducing readmissions will be a priority for most hospitals. Even
though reducing readmissions will reduce hospital volumes, most hospitals
have taken steps to reduce readmission rates. Although commonly interpreted
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as a measure of hospital quality, readmissions are clearly influenced by the
quality of postdischarge care (Branowicki et al. 2017).
Bundled payments already have been tested, but the ACA dramatically expands testing of this concept. As a part of the ACA, Medicare has
launched bundled payment trials in more than 400 healthcare organizations.
Termed the Bundled Payments for Care Improvement Initiative, these trials will explore whether paying lump sums for episodes of care will reduce
healthcare costs without harming care. One model, which is being tested
only in New Jersey, lets hospitals give physicians bonuses if they help the
hospital reduce costs and improve quality. A second model puts hospital and
post-acute services in a common bundle. A third model pays a flat fee for all
post-acute care (skilled nursing, inpatient rehabilitation, long-term care hospital, or home health services). A fourth model covers all services provided
during a hospital stay (hospital, physician, and other). A fifth model includes
hospital, physician, other in-hospital services, and post-acute care for patients
who have hip or knee replacement. The common denominator in all these
bundled payment trials is that services become cost centers rather than revenue centers.
31
bundled payment
Payment of a fixed
amount for an
episode of care.
The payment
might cover just
hospital care or
might include
the physician,
hospital, and
rehabilitation.
2.5.3 The Transformation of the Health Insurance Industry
The health insurance industry looks different than it did a few years ago. To
begin with, its revenues will grow. Analysts forecast that industry revenues
will double by 2025, with most of the growth coming from Medicare Advantage, Medicaid, and ACA marketplace plans (Finn et al. 2017).
Second, the industry’s customers look different. Until fairly recently,
most purchases were made by firms or governments. Americans had coverage
through work, Medicare, or Medicaid. Typically just one plan was offered.
Increasingly, though, individuals are making their own choices. Millions of
Americans have chosen Medicare Advantage plans already, and millions more
have chosen marketplace plans. Both options seem likely to grow, and insurers have begun rolling out private exchanges so that employees can choose
their plans as well (Goth 2017).
Third, the basis for competition seems likely to change. The ACA has
made avoiding risk more difficult and, with other regulations, has made pricing and quality easier for consumers to discern. Starting in 2007, individuals seeking Medicare Advantage plans could use summary ratings based on
clinical quality, the experience of patients, and customer service. Customers
are using these ratings in choosing plans, and ratings systems seem likely to
spread.
Fourth, the structure of the industry has changed. The industry has
already consolidated, and this process is likely to continue. If, as many predict, profit margins will drop, additional mergers and acquisitions seem likely.
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deductible
The amount a
consumer must
pay before
insurance covers
any healthcare
costs.
out-of-pocket
payment
Money a consumer
directly pays for a
good or service.
Indeed, one of the rationales for the proposed merger of CVS and Aetna was
that providing more care in MinuteClinics (part of CVS) would allow Aetna
to offer insurance with lower premiums (Pinsker 2017).
Fifth, the health insurance industry is increasingly using data to measure cost and quality. More and more, insurers use data to identify high-risk
beneficiaries, estimate the cost of an entire episode of care, provide feedback
to providers, and make judgments about which providers offer good value.
Underlying insurers’ increasing willingness to create narrow networks and
designate preferred providers of care is the conclusion that cost and quality
are not highly correlated, so steering patients to low-cost providers can be a
winning strategy (Ho and Sandy 2014).
Sixth, benefit designs have changed. The average deductible for an
employment-based plan rose from $343 in 2007 to $1,221 in 2017 (Kaiser
Family Foundation and Health Research & Educational Trust 2017). In
addition, caps on out-of-pocket payments have become nearly universal.
In short, so many changes in health insurance have occurred that they
are hard to track. Chapters 3 and 6 will explore them more fully.
2.6 Conclusion
During the 1980s, a consensus emerged that the US healthcare system
needed to be redirected despite its many triumphs. Underlying this consensus was the recognition that costs were the highest in the world even though
outcomes were not the best in the world.
How the healthcare system should change is much less clear. Managing under such circumstances is stressful, but an awareness of the trends
presented in this chapter should identify a number of strategies (e.g., striving
to be the low-cost producer) that make sense in almost any environment.
These low-risk strategies, and ways to deal with risk and uncertainty, will be
discussed in the next chapters.
Exercises
2.1 Identify a product that is one organization’s output and another
organization’s input.
2.2 Can you think of any initiatives that reflect the input view of
healthcare?
2.3 What is wrong with spending 17.2 percent of GDP on healthcare?
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33
2.4 Americans spend more on smartphones than the citizens of other
countries do, yet this type of spending is seldom described as a
problem. Why is spending more on healthcare different?
2.5 Should reducing overhead costs associated with insurance be a
priority?
2.6 US national health expenditure was $7,892 per person in 2008
and $10,364 in 2016. The Consumer Price Index had a value of
210.228 in 2008 and a value of 241.432 in 2016. In 2016 dollars,
how much was spending in 2008?
2.7 Spending on pharmaceuticals rose from $253,080 in 2010
to $328,588 in 2016. Go to the inflation calculator (http://
cpiinflationcalculator.com/) and calculate 2010 spending in 2016
terms.
2.8 How did the state and local government share of national health
expenditures change between 2010 and 2016? What accounts
for this change? Go to the “Actuarial Studies” page on the CMS
website (www.cms.gov/Research-Statistics-Data-and-Systems/
Research/ActuarialStudies/index.html) to get data.
2.9 When was the last year that GDP grew faster than national health
expenditure? Go to the CMS website (www.cms.gov/ResearchStatistics-Data-and-Systems/Research-Statistics-Data-and-Systems.
html) to get data.
2.10 Your accountants tell you that the cost to set up an immunization
program at a preschool and immunize one child against polio is
$400. The cost to immunize 20 more children is $460 more. What
is the cost per child for the first child? What is the cost per child
for these additional 20 children? What is the average cost per child?
What concepts do these calculations illustrate?
2.11 Starting a mobile clinic costs $300,000. The additional cost of
serving the first patient is $40. What is the average cost of serving
the first patient?
2.12 Setting up nurse practitioner clinics to serve 20,000 newborns in
Georgia would cost $6 million. This program would increase life
expectancy at birth from 75.1 years to 75.3 years. How many life
years would be gained? What is the cost per life year? Should this
program be started?
2.13 A new treatment for cystic fibrosis costs $2 million. The life
expectancy of 1,000 patients who were randomly assigned to the
new treatment increased by 3.2 years. What is the cost per life year
of the new treatment?
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Ec o n o m ic s f o r H e a l th c a re M a n a g e r s
2.14 Why has the share of healthcare output produced by hospitals risen?
Will this trend continue? Can you think of a policy or technology
change that would reduce hospital use? Can you think of a policy
or technology change that would increase hospital use? What
implications do these changes have for the careers of healthcare
managers?
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