Our Affordability Problem
Researchers and policy-makers argue about the quality of the U.S. health care system relative to other developed countries, but there is no debate about its relative cost: Health care in the U.S. is the most expensive in the world. We spend significantly more of our national income on health care than any other country, and this has been going on for a long time.
Part of this cost problem is certainly our fault. While many explanations for high U.S. health care costs are myths (e.g., the idea that we over-utilize clinical services), four are valid:
- Unhealthy lifestyles. While these are not unique to the U.S., we are the most obese developed country, and obesity is one of the most expensive human conditions.[i] [ii]
- Government subsidies for private healthcare. The U.S. has subsidized healthcare through tax-advantaged employer-sponsored health insurance since World War II.[iii] [iv]
- Ubiquitous, generous, and overlapping government programs, including Medicare, Medicaid, CHIP, “safety net” programs, the VHA and BIA systems, and other programs totaling almost $1.6 trillion in 2017, not including federally sponsored medical research.[v] The true cost of these government programs is actually much higher because of the large and growing cost-shift from Medicare and Medicaid to private payers [see below].
- Administrative inefficiencies, driven by:
- The long-term trend of private health insurance replacing out-of-pocket payments. This trend has required insurers to establish contractual relationships with providers and has ushered in an extended period of consolidation and restructuring of both payers and providers, which is still going on.
- Replacement of paper medical records with electronic health records, an expensive but necessary step to improve quality and consistency of care;[vi]
- Inefficient government programs (e.g., arcane reimbursement schemes), heavy-handed and duplicative regulatory regimes, and frequent changes in programs and regulations that force insurers and providers to adapt, destabilizing existing management processes and adding cost.
However, our problems alone don’t explain national differences in health care costs. Because other developed countries committed to finance universal health care for all their citizens long ago, they have had to impose across-the-board price controls on their health sectors to balance their budgets. The effects of these price controls have been predictable:
- Reduced factor prices (lower physicians’ and nurses’ salaries, lower prices paid for drugs and devices, lower cost of medical education, etc.);[vii]
- High capacity utilization and queues (especially severe in Canada and the U.K.);
- Under-investment in technology. The U.S. has been responsible for the vast majority of investment in medical and health care R&D since WWII.
- Chronic public dissatisfaction that puts continued upward pressure on national budgets and creates demand for supplemental private healthcare by 10-20% of citizens who can afford it.
Price differences between the U.S. and other developed countries have indirect effects on globally traded goods like drugs and medical devices. Because pharmaceutical and device manufacturers must negotiate prices with monopsony government buyers or regulators in other countries, they sell drugs and devices in these countries at lower prices than they do in the U.S. (So far, Medicare has not been allowed to negotiate with these suppliers, so it has not been able to use its pricing leverage.) The net effect is that U.S. consumers and taxpayers fund drug and device development for the world, and other countries are free riders, getting the benefit of advanced development at a fraction of the cost.
What Can We Do?
Given the inefficiencies and artificial economics on both sides, it is impossible to know how much we can “afford” to spend on health care. However, there is general consensus that 20% of our GDP is too much. In any case, we can’t ignore the problem any longer. Taxpayer-funded government health programs are busting the federal budget, and the retiring baby boom generation will make this worse.[viii] Medicare and Medicaid reimbursement to doctors and hospitals is flat or declining, doctors are checking out of government programs, and access to care is shrinking.
Private healthcare costs also need to be addressed. Low Medicaid and Medicare rates have shrunk hospital contribution margins to near zero for government-funded patients, forcing employers and employees to cross-subsidize and fund most fixed costs. As Cogan has pointed out, this is a massive transfer of wealth from working people to Medicare and Medicaid beneficiaries.[ix] Furthermore, government programs continue to crowd out private insurance, and unless this situation is reversed, employers will at some point stop providing comprehensive health insurance to most employees because it is too expensive and default to the government system.[x]
Unless we socialize our health care system so that the government provides direct patient care, like the UK’s National Health Service or our own Veterans Health Administration, our government has only a few levers it can use to control health care costs. Specifically, it can:
- Impose price controls, as other developed countries have done;
- Ration care, either directly or indirectly – this is a natural outcome of #1;
- Force centralization and standardization, which can produce economies of scale, but can easily go astray (e.g., the well-publicized service gaps at the VHA);
- Incentivize the private sector to deliver health care more efficiently.
While some states are having short-term success with modest price controls (#1), [xi] creating a system of national price controls would require radical centralization of control over health care resources that is unlikely to be tolerated by U.S. consumers / voters. Similarly, most U.S. consumers and providers would consider rationing care (#2) unacceptable, although limited rationing might be tolerated. Federal and state governments have consistently proven unable to do #3 successfully. This leaves #4 as the most useful lever, which is the approach the Obama administration used for its health reform program.[xii]
The private sector, on the other hand, is full of health insurers, health systems, providers, suppliers, and innovative entrepreneurs and venture capitalists developing new drugs, devices, delivery systems, data networks, care management tools, etc. Short of rationing, the most effective way to unwind excess costs and make health care affordable is to:
- Enhance government’s ability to encourage price competition and promote cost-saving innovation for all health care services
- Stimulate entrepreneurs to develop and market innovations that reduce the cost of care;
- Help health systems and provider organizations manage themselves efficiently, achieve economies of scale, and adopt cost-saving innovations expeditiously.
Historically, consumers have been insulated from healthcare costs by employer-sponsored health insurance, and employers have been insulated by government tax subsidies, which make $1 of health benefits less costly than $1 of other costs. This has led health care innovators to focus more on improving product efficacy and quality than on reducing cost because that’s where the revenue is. But that is not the case in other industries where robust price competition exists – e.g., airlines, autos, telecommunications, oil and gas. In these industries, process innovation has reduced cost dramatically. The good news is that both these layers of insulation are breaking down, and consumers, employers, and providers are beginning to make trade-offs between cost and quality. As long as government protects these markets and encourages price competition, cost savings will naturally occur.
References
[i] Obesity is very expensive, costing 2-3% of global GDP, according to a McKinsey Global Institute study. Dobbs R, Sawers C, Thompson F, Manyika J, Woetzel JR, Child P, McKenna S, Spatharou A, “Overcoming obesity: An initial economic analysis,” McKinsey Global Institute; Jakarta, Indonesia: November, 2014.
[ii] Alley DE, Lloyd J, Shardell M, “Can obesity account for cross-national differences in life-expectancy trends,” In Crimmins EM, Preston SH, Cohen B (Eds), International Differences in Mortality at Old Ages, Washington, DC: National Academies Press, 2010.
[iii] Gruber J, “The tax exclusion for employer-sponsored health insurance, NBER Working Paper 15766, February, 2010, http://www.nber.org/papers/w15766
[iv] Atlas, SW, MD, In Excellent Health: Setting the Record Straight on America’s Health Care,” Stanford, CA: Hoover Institution Press, 2011, pp. 246-7.
[v] CMS’ National Health Expenditure accounts and OECD.Stat database. $1.6T in government expenditures is almost as much as the total national health expenditures for Japan, Germany, France, and England combined. For people 65 years of age and older, U.S. federal, state, and local governments spent over $16,000 per capita in 2010, almost two and a half times as much as the average spent by the governments of nine other OECD countries. Anderson DG, “Root Causes of High U.S. Health Care Costs,” unpublished manuscript, 2014.
[vi] See Tseng P, Kaplan RS, Richman BD, Shah MA, Schulman KA, “Administrative costs associated with physician billing and insurance-related activities at an academic health care system,” JAMA, 319 (7 – February 20, 2018), 691-697 and Lee VS, Blanchfield BB, “Disentangling health care billing for patients’ physical and financial health,” JAMA, 319 (7-February 20, 2018), 661-663.
[vii] Anderson GF, Reinhardt UE, Hussey PS, Petrosyan V, “It’s the prices, stupid: Why the United States is so different from other countries,” Health Affairs, 22 (3), 89-105, 2003. See also Anderson GF, Hussey PS, Petrosyan V, “It’s still the prices, stupid: Why the US spends so much on health care, and a tribute to Uwe Reinhardt,” Health Affairs, 38 (1), 87-95, 2019.
[viii] The Medicare Hospital Trust Fund is scheduled to be insolvent by 2026, three years earlier than projected earlier – CMS, “2018 ANNUAL REPORT OF THE BOARDS OF TRUSTEES OF THE FEDERAL HOSPITAL INSURANCE AND FEDERAL SUPPLEMENTARY MEDICAL INSURANCE TRUST FUNDS,” Transmittal to U.S. Congress, June, 2018.
[ix] Cogan J, The High Cost of Good Intentions, Stanford: Stanford University Press, 2017.
[x] Political pressure is building to expand the role of government, which will make more Americans dependent on government funding. (Some formulations of “Medicare for all” would replace employer-sponsored health insurance entirely by government-funded coverage.) We are headed toward a two-tier system, where government-sponsored patients, even if they have private insurance, will have fewer choices and less access than they do today. Given our starting point, transitioning to this will be painful and expensive.
[xi] For example, Maryland – Roberts ET, Hatfield LA, McWilliams JM, Chernew ME, Done N, Gerovich S, Gilstrap L, Mehrotra A, “Changes in hospital utilization three years into Maryland’s global budget program for rural hospitals,” Health Affairs 37(4), April, 2018, and Rhode Island – Baum A, Song Z, Landon BE, Phillips RS, Bitton A, Basu S, “Health care spending slowed after Rhode Island applied affordability standards to commercial insurers,” Health Affairs 38 (3), February, 2019.
[xii] Many of the Obama administration’s provider-side policies like accountable care organizations and bundled payment systems were aimed at one version of #4 – trying to shift medical risk from insurers, employers, Medicare, and Medicaid to large health systems and incentivize them to manage population health. With a few exceptions like Kaiser Permanente and Geisinger Health and some medical groups that take “global capitation” from insurers, this shift has not materialized. Health systems have grown rapidly, but they are still for the most part fee-for-service providers.