In Health Care, Nobody Knows Anything

Two new industry studies reignite the debate about what makes health care so expensive.

“Nobody knows anything,” is the famous dictum that screenwriter William Goldman once asserted about Hollywood movie-making. Goldman was saying that movie producers have no clue about whether or not a movie will sell until it hits the theaters. There is no formula for a hit movie.

Figuring out health care in America is only slightly more complicated and mysterious than making a hit movie. Fifty million Americans are unable to buy health insurance and premiums have doubled over the past decade. Health care spending in 2009 consumes about $2.5 trillion, more than 17 percent of our gross domestic product. And as spending has skyrocketed, improvements in health outcomes have been real, but modest. What’s going on?

On Saturday, President Barack Obama denounced two new studies, sponsored by the health insurance industry, which found that current health care reform bills in Congress will increase premium prices for consumers. One study, done for the lobbying group America’s Health Insurance Plans by the consultancy PriceWaterhouseCoopers, found that the provisions in the Senate bill sponsored by Sen. Max Baucus (D-Mont.) would add $1,700 a year to the cost of family coverage in 2013 and $600 for a single person. By 2019, family premiums could be $4,000 higher and individual premiums could be $1,500 higher. A weak individual coverage mandate, coupled with a guarantee issue requirement, no preexisting condition limits, and no rating based on health status would significantly boost insurance premiums.

The Blue Cross Blue Shield Association commissioned a new study by the Oliver Wyman consultancy which also found that guaranteed issue and community rating mandates coupled with a weak individual mandate would drive up premiums by 50 percent for individual policies and 19 percent for small group plans.

“Every time we get close to passing reform, the insurance companies produce these phony studies as a prescription and say, ‘Take one of these, and call us in a decade,’" declared the president. “Well, not this time.”

The president is right that we should always be skeptical of studies that find in favor of the groups that sponsor them. And these two insurance industry-sponsored studies do have their flaws. But the finding that guaranteed issue and community rating mandates increase insurance premium prices has been corroborated by other academic researchers. For example, researchers from MIT, the Brookings Institution, and Brigham Young University reported in a 2008 study published in Forum for Health Economics & Policy that community rating regulations increased premiums for high-deductible policies for individuals by as much as 17 percent and families by as much 33 percent in the nongroup market. In addition, the researchers found that the “guarantee issue regulations that accompany community rating regulations in New Jersey are associated with premium increases of well over 100 percent for individual and family policies.” And as my colleague Peter Suderman recently pointed out, Massachusetts, the one state that combines an individual mandate, community rating, and guaranteed issue, now has the highest premiums for family insurance plans in the country. 

President Obama also denounced the insurance industry malefactors for “making this last-ditch effort to stop reform even as costs continue to rise and our health care dollars continue to be poured into their profits, bonuses, and administrative costs that do nothing to make us healthy—that often actually go toward figuring out how to avoid covering people.” 

Obama is right that administration costs can be quite large. Why would health insurers spend so much money on administration? According to the New England Journal of Medicine, the director of the Office of Management and Budget, Peter Orszag, cites evidence that $830 billion is being spent this year on unnecessary care. That represents about 30 percent of all health care spending. Of course, insurers have a big interest in trying to reduce unnecessary spending, so they hire flocks of administrators to negotiate lower rates and to monitor medical spending charged by doctors and hospital administrators. Government health care programs like Medicare don’t have to negotiate; government agencies just fix prices, which means they fail to combat waste and fraud effectively.

What about those insurance company profits? Back in July, President Obama asserted that health insurance companies are making “record profits.” Not really. The Annenberg Public Policy Center’s reported, “In general, the health insurance industry did poorly toward the end of 2008 and in the first quarter of 2009, so record profits weren’t likely in the second quarter.” Averaging profits of 3.3 percent, health insurers are the 86th most profitable industry in the U.S., well behind chain restaurants (7.7 percent), electric utilities (6.2 percent), and brewers (18 percent), but ahead of major auto manufacturers (-3.3 percent), resorts and casinos (-8.9 percent), and major airlines (-11 percent).

We’ll pass over the president’s naked attempt to provoke voter envy about the big paychecks of health insurance executives, since taxing them away entirely would not perceptibly lower the costs of health insurance.

So why have health costs, and especially health insurance premiums, skyrocketed since 2000? Let’s look at one plausible theory: market consolidation. In the past two decades, fewer and fewer competitors are exercising more and more monopoly control over health care spending. Case Western Reserve political scientist Joseph White looks at the last time a Democratic administration pushed for health reform. In 1993, recalls White, “costs were expected to quickly hit 14 percent of GDP and rise to 18 percent by the end of the decade.” But that didn’t happen. Why? One plausible story focuses on the rise of health maintenance organizations (HMOs).

The rise of HMOs was enabled by an earlier federal government attempt to rein in health care costs, the Health Maintenance Organization Act of 1973. The idea behind HMOs was that these insurers would control costs by offering a wide array of preventive care to their subscribers. That sounds like a plausible idea until one realizes that people, on average, change insurers every four years or so. An insurer that invested in preventive care was unlikely to reap the cost-saving benefits. Thanks to the spread of HMOs, the 1990s saw the rise in health care expenditures slow down. Why? Chiefly because HMOs fiercely negotiated lower prices from physicians and hospitals. But the era of modest premium price increases didn’t last long.

Hospitals and physicians struck back by beginning to consolidate themselves. As hospital mergers produced local monopolies, they were able to increase their prices substantially. “I find that hospitals increase price by roughly 40 percent following the merger of nearby rivals,” Leemore Dafny, an economist at the Kellogg School of Management at Northwestern University concluded in a 2008 study. Insurers with relatively few patients could not bargain effectively with the new local health monopolies, and so dropped out of those markets. 

According to White, the result of the 1990s orgy of insurer and provider consolidation was that “there were half as many health plans in 2004 as in 1996.” In addition, “in thirty-eight states the largest firm controlled at least one-third of the insurance market; in sixteen states it controlled at least half.” In this analysis, insurers and hospitals have evolved into local oligopolies. One plausible story, it seems, is that an ever more monopolistic health care system has been fueling the recent double digit increases in health care costs.

But then you remember, nobody knows anything when it comes to health care. In 2003, the Federal Trade Commission issued a report that concluded that there was “no valid empirical basis” for the claim that consolidations among hospitals “have accounted for increases on hospital services.” But what about consolidation among insurers? “The insurance industry is congenitally weak in bargaining with supply side of the American health sector,” explained Princeton University health economist Uwe Reinhardt on a recent NPR Money Planet segment. Reinhardt believes that insurers largely dance to the fiscal tune whistled by hospitals and physicians.

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  • ||

    "Fifty million Americans are unable to buy health insurance..."

    Where does this number come from. I would assert it is four or five times too high. Do I have proof? No, but I am not a writer for reason. Such random statements without any evidence is unprofessional and not up to the standards of Reason.

  • ||

    "Fifty million Americans are unable or unwilling to buy health insurance and premiums have doubled over the past decade."

    Fixed it.

  • ||

    I am a physician and have seen many changes in the system over the last 40 years. One thing I can definitely say is that any effort by the government to "fix" health care will result in a substantial increase in the amount of money you pay for the service. I don't care what any government agency says about "savings" the government will increase the cost, increase the corruption and decrease the delivery.

    What do we do:
    1. Tort reform, very simple, you allow doctors to countersue. That will stop malpractice claims. That alone will reduce the cost of medicine by about 40% over time.
    2. Medicare and medicaid either pay their way or get out of the business. They are the principal reason for the increase in cost.
    3. Regulate the insurance industry. They are the only large financial companies that do not have consistent government oversight.
    4. Reduce the number of doctors. That increases the amount of money that doctors bring home and lessens the number of un-needed procedures.
    5. Confront end of life issues in a meaningful manner.
    6. Legalize drugs. All drugs. That means you go to the drug store and buy what you want. Will markedly reduce doctor visits. Would reduce AIDS and hep C and endocarditis. All big money diseases.
    7. Have a commission to figure why hospitalization cost so much. I was in the hospital for one week and had surgery, final bill $75,000. As a doctor I can't account for the high cost. A few years ago it was less than $20,000 and I thought that was too high. The doctor bill was $1500 and I thought that was too low.

  • ||

    Couple of comments on your comments:

    3. Regulate the insurance industry. They are the only large financial companies that do not have consistent government oversight.

    Are you kidding me or do mandates somehow not count at government oversight/regulation?

    4. Reduce the number of doctors. That increases the amount of money that doctors bring home and lessens the number of un-needed procedures.

    Ever learn about the relationship between supply and demand? While there may be less needless procedures being done, it doesn't mean that the demand for legitimate procedures will shrink any less. I would venture to guess that the waiting lines for patients to see doctors would double by creating and even greater doctor shortage.

    Also consider this, when you socialize medicine the doctors will unionize and then you will have a crisis.

    In case you haven't noticed, doctors have pretty much unionized in all but name. Look at the guild-like control the AMA practices over the health care marketplace by forbidding doctors from competing with each other, restricting the number of medical schools and students admitted to medical school, and their zealous prosecution of non-MDs for "practicing medicine without a license". The fact of the matter is that we have a crisis now because of the current restrictions on free trade of goods and services in the health care industry, both by governmental and special interest groups.

  • Chad||

    I agree. The AMA is a cartel.

    I found an interesting tidbit the other day: only 40% of the people who apply to med school EVER get into one.

    The AMA could increase the supply of doctors by 20% simply by allowing a mere half of the applicants in, rather than the status quo. Having taught chemistry to plenty of pre-meds over the years, I would feel safe with the average pre-med being accepted...perhaps even 2/3s of them. There were definitely a fair number of students, however, whom I have nightmares concerning waking up in an emergency room and having them looking down upon me.

  • ||

    This begs the question, however, of why the debate on "Health Care Reform" is limited to the Health Insurance industry. I would venture to guess that the rising cost of health insurance has less to do with the policies of health insurers (who already run one of the least profitable businesses in the US) and more to do with the policies of health care goods and services providers (some of the most profitable businesses in the US).

    There's nothing wrong with profit, as long as it is gained in means that provide value to the end customer and respect the spirit of competition in the marketplace.

    These are the two fatal flaws in ObamaCare- it does nothing to address the real reasons underlying the rising costs of health care and it hypocritically bashes the spirit of free enterprise and competition while praising competition and claiming that a public option will keep for-profit insurance companies honest.

    The real question is who will keep ObamaCare honest? If the program fails to pay for itself (as Obama insists that it will/must), who will pull the plug on it when it becomes another financial black hole for our country?

  • Andrea||

    "This begs the question, however, of why the debate on "Health Care Reform" is limited to the Health Insurance industry."


    Because this is the component of health care that Obama and Democrats want to replace.

    They have targeted the piece they want for the government.

  • ||

    Simple economics do not work in the medical world, I was taught this in college economics. There are instances in which supply and demand are actually making the situation worse. The medical field in one. The problem is not making doctors charge less. It is making it so the patients do not have ready access. This will cut out those that don't need something which is about 50% of those seeing the doctors now. Reducing the number of doctors reduces the number of procedures. Procedures are were the expense is. Doctors have a level at which they feel comfortable with their salary. They will work to the number whether they can justify what they are doing or not. If presented with more truly sick people, then it is easier for them to reach the number. The US has been flooding the country with foreign doctors for over 20 years and this has only resulted in sky high medical bills (mostly as foreign doctors do not have ethics, I know that from talking with them).

    If you think for one minute that the AMA speaks for physicians you don't need to be commentting. The AMA represents only 30% of doctors and most of those don't care for their policies. They do not in any way constitute a union and are about 180 degrees different from a union. If there is a position that the majority of doctors in the US hate, the AMA usually endorses it.

  • ||

    Reducing the number of doctors reduces the number of procedures. Procedures are were the expense is.

    If procedures are truly where the expense is, what prevents competition between health care service providers as a means of lowering the cost of said procedures while improving their quality? If competition between health care service providers does not lower the cost of procedures and improve their quality, why do the fields of Lasik and plastic surgery apparently stand out as exceptions? I mean these as honest questions...

  • ||

    A procedure is associated with the physicians fee, the material used, the technicians used, the ancillary physicians who may be called on for overreading and anesthesia. It is impossible to control all these cost, particularly when many are controled by the hospital and they will not deal. Also, a significant amount has to be made up for the short fall from medicare.

    I am unaware of any significant cost savings on the procedures you mentioned. In my area Lasik cost the same as it did a few years ago and the price has not gone down. Now what you will see is a high initial price for a new procedure then that will fall when the insurance agencies determine what they will pay.

    Plastics is much more cash and carry and does not rely on insurance as much. Thus it will be closer to responding to price wars, but even then, you get what you pay for. If you go bargin shopping in medicine you will pay in other ways than money. The better doctors with better results and a big patient load will not bargin. Patients are aware of that.

    Let me give you an example of what happens in the real world. A patient comes to me with chest pain, referred by a primary doctor. She is 35 with no family history of heart disease. I spend a long time reassuring her of the innocent nature of what she has and show her on probability tables that the chance of her having coronary artery disease is non-existant. I indicate that if I test her the test will be positive and this will lead to other exams. Cost of this was less than $100. She went back and complained to the primary doctor that I did nothing for her. He gets pissed at me despite the fact that he had told her the same thing. He sends her to another cardiologist who does a stress test. Stress test is positive (just as I said as she was a fatty). This leads to a CT angio which is negative. Cost $5000 or better, exposure to radiation, high. Result same and the woman still was not happy and will do it again in the next few years. That is the problem with modern medicine.

  • ||

    In my region (the SF Bay Area), Lasik has gone down as a result of so-called "price wars", with prices ranging from about $300 an eye to substantially more. As with plastic surgery, you get what you pay for in most cases.

    As regards your real world example, it seems to me that if the patient already has in mind whatever procedure she thinks will ease her mind, is unwilling to listen to logic, reason and statistics, and is willing to pay the $5000+ and risk the exposure to radiation, why not let her undergo the procedure? If her insurance is unwilling to pay for the cost of the procedure due to its costs and the marginal benefit of undergoing it, let her pay for it out of pocket. If she can't pay for it out of pocket, let her take out a loan for the procedure. If she can't take out a loan for the procedure, maybe she should start listening to what her doctors tell her.

    At some point, patients have to be responsible for their own well-being and logic has to kick in in a patient's mind. What better than a patient becoming aware of the true cost of what he/she desires than being presented with the possibility of paying for the procedures he/she wants out of pocket? It's this Nanny State interventionism which leads people to believe that they should have access to any procedure they want while paying none of the costs for their foolish decisions.

  • Andrea||

    The NPR show mentioned in the article included a story just like your example.

    Consumers demand treatments whether they need them or not. Doctors provide them in order to remain utilized, whether they are necessary or not (in this case, supply drives demand).

    It seems every player (ex., patients, doctors, hospitals and drug companies) contributes to overuse in the health care market.

    Obama has targeted insurance companies because they're easy targets. He gets his butt kicked when he talks about withholding treatment from grandma. And don't even mention evidence-based medicine or the word, "panel."

  • ||

    Also consider this, when you socialize medicine the doctors will unionize and then you will have a crisis.

  • ||

    "One of the chief problems is that consumers haven’t a clue about what their insurance and medical services cost. Hospital chargemasters (essentially comprehensive lists of all charges) typically contain prices for over 20,000 items and services. Sorting through those lists for the best prices would be impossible for consumers."

    A single website could solve that problem.

  • Slutmonkey||

    The problem is that when you're purchasing health insurance, you're usually not sick yet.

    This throws many of the analogies of buying other things right out the window. If you don't know what features you need, how can you compare plans? Basically you have to guess. You decide based on what you're most fearful of. Then when you ACTUALLY get sick it's still up to chance whether you picked the right option.

    Further healthcare is a personal service and people who consume a lot of it, like to go to "their" doctor--not so much because of price as because of familiarity.

    My point is that market forces in healthcare need to be very strong in order to maintain a healthy market. It's not as easy to look for the lowest price on knee surgery as it is to find the lowest price on bread.

    @Anway: someone needs to build that website

  • Dan||

    I suppose we could have health care that costs what it did 50 years ago ......... by having the health care that was AVAILABLE 50 years ago. I don't see anyone proposing that as such.

  • Andrew||

    Healthcare are expensive in this country because doctors are greedy. The US doctors make more than twice as much as the UK doctors. The medical profession is attracting the wrong kind of people--- the greedy people. My proposal for paying for universal coverage is to raise income tax on doctors by 30% right away and adjust the tax rate up each year to offset medical inflation. I want doctors to be paid well like other professions, but not filthily rich. Anyone agrees with me?

  • ||

    A question I've had for a long time about state regulation of health care is: How is the current system not in violation of the interstate commerce clause? If I can't buy health insurance from an out of state insurer, how is that less of an impediment than being banned from downloading an mp3 from Amazon?

    Attorneys? Anyone?

  • ||

    Thank you for a well-researched article.
    The reform proposals only address the demand side of the equation, while pretending to address the supply (cost) side. The proposals only provide a flood of new demand for health services which will actually increase prices. We have already seen the per-patient cost of Medicare and Medicaid increase one-third more than private insurance since 1970.

    Alternatively, the government could reduce costs and improve health in several ways:

    — Allowing doctors, hospitals and pharmacies to advertise prices.
    — Not mandating what health benefits have to be included in insurance policies, which drives costs up 30 percent.
    — Allowing individuals to buy health insurance from out-of-state companies, just like home or auto insurance.
    — Reducing licensing regulations, so nurses and other professionals could provide more care at reduced costs.
    — Ending corporate tax advantages, allowing an estimated 25 percent of employees to jump at the opportunity to run their own businesses in a level playing field.
    — Ending political correctness in government funding of medical research. Increase funding on the leading causes of death, such as heart disease and lung cancer, and allow research on the medical benefits of marijuana.
    — And, of course, tort reform, which would save tens of billions, but reduce campaign contributions to Democrats from trial lawyers.

    We can also see that costs are coming down for cosmetic and LASIK eye surgery because of a relatively free market where people are paying with their own money, without government meddling.

    It’s time to get rid of thousands of pages of health care regulations and let freedom have a chance. Tell your representatives to make a bonfire out of this 1,000-page bill. “Do not go gentle into that good night. Rage, rage against the dying of the light.” It’s time to stop America’s reckless charge into socialism.

  • Andrea||


    My comment (10.25.09 @ 7:26PM) was in response to yours.

  • Ed H.||

    We need reform, but not the type that is being discussed. Keep it simple and slow. Increase utilization of HSAs and provide more money for state high risk pools. That's a good start.

  • abercrombie milano||

    My only point is that if you take the Bible straight, as I'm sure many of Reasons readers do, you will see a lot of the Old Testament stuff as absolutely insane. Even some cursory knowledge of Hebrew and doing some mathematics and logic will tell you that you really won't get the full deal by just doing regular skill english reading for those books. In other words, there's more to the books of the Bible than most will ever grasp.

  • cheapest ugg boots online||

    When I lived there in early 90s, I think it was close to parity with the US. Its disappointing to me that they have done so poorly since. I blame joining the UN.

  • Limited Medical Plans||

    It will be so nice when we can all sit back and say that we understand what health care reform really means. So many of us are in the dark because of all the "unknowns".

  • nike shox||

    is good

  • LifeStrategies||

    Yet despite Obama's insistence that health-care costs won't rise for average people, all indications are that they're about to significantly increase for many if not the majority of people - including his union supporters.

    What a surprise, Obama is unable to bypass the laws of basic mathematics. It seems the only ones being shielded are those working for congress, oink oink.


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