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January/ February 2014 After Obamacare

A frenzy of hospital mergers could leave the typical American family spending 50 percent of its income on health care within ten years—and blaming the Democrats. The solution requires banning price discrimination by monopolistic hospitals.

By Phillip Longman and Paul S. Hewitt

Another widely used monopolistic practice is for multi-hospital systems to negotiate as a single entity. This allows hospital chains to parlay their dominance in one market into higher prices in others where they are less dominant. Even nonprofit university teaching hospitals play the game. Hospitals in the University of California system, for example, now negotiate as a group rather than as individual entities. If an insurance company wants a contract with, say, UCLA’s medical center, it will have to agree to the system’s price for treating patients at UC Davis’s hospital. As one hospital executive explains in a study published in Health Affairs, “Contracting as a full [University of California] system is frightening to the payers.… These are contracts with big leverage.”

Beyond inducing more demand for health care, the Affordable Care Act has two features that could, without corrective action, make this kind of price gouging much worse than it already is. First, the ACA calls for dramatic reductions in the rate of increase in Medicare reimbursements. That’s great for saving the government money. But the Medicare Payment Advisory Commission and others have warned that hospitals could try to make up for their slower-growing Medicare reimbursements by using their increasing market power to raise prices still more on private insurers and their customers. Meanwhile, the ACA’s encouragement of accountable care organizations is already leading to still further rounds of hospital consolidation and monopolistic pricing.

What is the solution? More rigorous antitrust action is a key part of the answer. The FTC, which takes the lead on mergers, devotes just twenty-two full-time professional staff (economists and attorneys) to monitoring an industry that this year will take in $3.1 trillion. Under this regime, consolidation has proceeded to the point that some analysts now predict that the national health system will eventually consolidate into just a handful of competitors, like the airlines.

But remember that at the same time there are strong clinical and economic reasons why we should be moving toward larger, truly integrated health care systems. A broad consensus now exists among those who study quality and efficiency in health care that only integrated systems can overcome the massive problem of fragmented care—of specialists ordering up redundant tests and contraindicated drugs as they each treat one body part at a time, often with costly treatments of dubious effectiveness. If there is any larger cause of U.S. medical inflation than the monopolization of providers, it is continued fragmentation of care.

So the question then becomes not how we can prevent bigness in health care but how we can encourage the growth of large-scale, integrated providers in a way that does not lead to their degenerating into abusive monopolies.

One approach would be simply to set prices administratively. This is not as infeasible nor, dare we say, socialistic, as it may sound. Since the 1970s, Maryland, for example, has had a public process, akin to a public utility commission, for setting hospital prices for all payers, including Medicare. The cost of a Maryland hospital admission for commercially insured patients was 26 percent above the national average in 1976, but by 2011 had dropped to 4 percent below the national average.

Yet Maryland has enjoyed very generous Medicare reimbursement rates that some argue are the only reason it has been able to hold down costs for commercially insured patients. And in any event, the example of Medicare itself shows how the process of setting rates administratively is subject to capture by providers. Today, for example, a committee of the American Medical Association effectively sets Medicare prices, and in ways that harm patients by overcompensating specialists and under-compensating primary care. (See Haley Sweetland Edwards, “Special Deal.”)

Even if we fixed that problem, we’d still be left with—how else to say it—government bureaucrats setting prices in health care. That may fly in Maryland, but how about Texas? And might there not in fact be some real virtue in creating a pricing system that leaves a role for effective and well-regulated market competition in setting prices?

For this approach to work, there must be a combination of better antitrust enforcement with what’s known as a “common carrier” regime. It’s an approach that Americans have used for generations in other realms in which there are both large, desirable economies of scale and the potential for monopolistic abuse.

The term common carrier traces its roots to early English common law. Its main purpose is to prevent enterprises that control critical infrastructure from hindering competition among the users of that infrastructure. Thus, for example, in the 1890s, the United States used common carrier laws to prevent railroads from offering lower freight rates to other monopolistic enterprises, such as Standard Oil or U.S. Steel. Reforms required that railroads instead offer all shippers the same rates for the same service. That way, competition between producers wasn’t over who could leverage their market power, but over who could deliver the best product to the consumer.

A more recent example is the Justice Department consent decree governing the Microsoft Windows operating system. Antitrust regulators did not break up Microsoft or dictate the prices it could charge, but did force the company to sell Windows bundled with Internet browsers built by other software companies. Similarly, pipeline owners must transport gas from other producers, and telephone monopolies must carry signals from other carriers—all at nondiscriminatory rates. The hot issue of “net neutrality” is a fight over whether common carrier status should apply to Internet service providers.

There are realms where an economic case can be made for price discrimination. Aviation is one such realm. It may be irritating to discover that the guy sitting next to you on a plane paid $200 less for his ticket just because he bought it two weeks before you did. But at least that kind of price discrimination can fill seats that would otherwise go empty and thereby at least arguably reduces the average cost of flying for everyone.

But there is no way such logic applies in health care. As Princeton’s Uwe Reinhardt and other health care economists have noted, in this realm charging different people radically different prices for the same procedures does not even in theory lead to greater efficiency or lower prices. Rather, it just wastes enormous resources as different parties scheme to shift costs onto one another through secret, special deals.

It doesn’t, for example, cost a hospital more to run a patient through a CAT scan if the patient has insurance with one carrier verses another. Nor are there savings to the system even theoretically obtainable by offering discounted scans to some patients and their insurance companies but not others. Much less is there any clinical case for widespread price discrimination in health care. Either a patient needs a scan or does not; getting a “special deal” on a scan you don’t need just exposes you to unnecessary radiation.

Phillip Longman and Paul S. Hewitt are, respectively, a senior editor at the Washington Monthly and the author of Best Care Anywhere: Why VA Healthcare Would Be Better for Everyone; and a former deputy commissioner for policy at the Social Security Administration and current vice president for research at the Council for Affordable Health Coverage. The views expressed in this article do not necessarily reflect those of the CAHC or its members.

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