HMGT 435 WK1

CHAPTER

17

2AN OVERVIEW OF THE US HEALTHCARE SYSTEM

Learning Objectives

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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C o p y r i g h t 2 0 1 9 . H e a l t h A d m i n i s t r a t i o n P r e s s .

A l l r i g h t s r e s e r v e d . M a y n o t b e r e p r o d u c e d i n a n y f o r m w i t h o u t p e r m i s s i o n f r o m t h e p u b l i s h e r , e x c e p t f a i r u s e s p e r m i t t e d u n d e r U . S . o r a p p l i c a b l e c o p y r i g h t l a w .

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Economics for Healthcare Managers18

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 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 follow- ing 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 health- care 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 popula- tion. 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 exam- ine the effects of changes on what we do. Marginal analysis proposes ques- tions 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 manage- ment decisions are made on the basis of marginal analysis, although the ques- tions 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

input A good or service used in production.

output A good or service produced by an organization.

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).

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Chapter 2: An Over view of the US Healthcare System 19

among three-year-olds from 78 to 85 percent, and how much would increas- ing 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 obe- sity 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.

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.

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)

EXHIBIT 2.1 How Many Life Years Will $1 Million Save?

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Economics for Healthcare Managers20

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 insur- ance makes the input view practical. For example, if offering instruction on meditation reduces healthcare use enough, the chief executive of an insur- ance 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 out- put 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 low- cost producers. Currently, third parties (i.e., insurers, governments, employ- ers) 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 effi- cient 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 improve- ment. 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 coun- try, 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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Chapter 2: An Over view of the US Healthcare System 21

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 Ameri- cans 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 impres- sive 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 com- pare 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 spend- ing uses shares of national income, or gross domestic product (GDP). This examination of shares removes the effects of inflation (see exhibit 2.2).

2000 2002 2004 2006 2008 2010 2012 2014 2016 0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

12.5%

14.0% 14.5% 14.7%

15.3% 16.4% 16.4% 16.5%

17.2%

10.0% 10.1% 10.0% 10.1% 10.7% 10.8% 11.1%

11.0% 9.5%

France

United States

EXHIBIT 2.2 US and French Health Expenditures as a Share of Gross Domestic Product

Source: Data from OECD (2017).

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Economics for Healthcare Managers22

2.3 Outputs of the Healthcare System

In 2015, Americans spent $3.2 trillion on healthcare, meaning that it aver- aged $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? 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 fore- cast. 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

opportunity cost The value of what one cannot do as a result of making a choice.

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Chapter 2: An Over view of the US Healthcare System 23

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 well- below-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.

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

Case 2.1

(continued)

2000 2002 2004 2006 2008 2010 2012 2014 2016 0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

4.7% 4.4%

4.0% 3.7% 3.4%

3.7%

2.4%

3.8% 4.1%

EXHIBIT 2.3 Medical Inflation in the United States

Source: Data from Bureau of Labor Statistics (2017).

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Economics for Healthcare Managers24

might include weaknesses in the primary care sys- tem or differences in health behaviors. The con- sensus is that diet and activity are the most impor-

tant 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 aver- age. 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 eco- nomic circumstances are different in the two counties. Median house- hold 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 per- cent 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 Com- munities 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’ mar- kets, community gardens, school-based gardens, summer meals for students, and nutrition education. Wyandotte County has also actively encouraged residents to sign up for insurance.

Case 2.1 (continued)

(continued)

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Chapter 2: An Over view of the US Healthcare System 25

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

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?

Case 2.1 (continued)

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Economics for Healthcare Managers26

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 pro- vided 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

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 retire- ment 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).

EXHIBIT 2.4 Annual

Spending by Sector in

Millions of Dollars

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Chapter 2: An Over view of the US Healthcare System 27

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 col- leagues (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 slow- ing 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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Economics for Healthcare Managers28

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 consen- sus 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).

2000 2003 2006 2009 2012 2015

14.5% 13.3% 12.7%

11.8% 11.4% 10.5%

0%

5%

10%

15%

20%

25%

30%

35%

40%

EXHIBIT 2.5 Direct Payments

by Consumers as a Share of

National Health Spending

Source: Data from CMS (2016).

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Chapter 2: An Over view of the US Healthcare System 29

In volume-based payment environments—in which revenues depend on the number of visits—providers may not find remote home monitoring attrac- tive. 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 indi- vidual 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, effec- tive 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 infor- mation 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 expen- sive, 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 sec- tor 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 rap- idly. In some areas (most notably imaging and laboratory services), techno- logical 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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Economics for Healthcare Managers30

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 poten- tial to reshape the healthcare sector.

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 Medi- care 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 market- place 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’ rev- enues, 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

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.)

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Chapter 2: An Over view of the US Healthcare System 31

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 dramati- cally 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 tri- als 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 hos- pital, 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 rev- enue centers.

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 Advan- tage, 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 insur- ers 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 pric- ing and quality easier for consumers to discern. Starting in 2007, individu- als 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 pre- dict, profit margins will drop, additional mergers and acquisitions seem likely.

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.

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Economics for Healthcare Managers32

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 mea- sure 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 consen- sus 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. Man- aging 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?

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.

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Chapter 2: An Over view of the US Healthcare System 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/Research- Statistics-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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Economics for Healthcare Managers34

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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