Metrics and Measurement

Health Care Spending III: Alice in Health Care Land

18 Jun 2012  

When Alice tumbled down the rabbit hole, she entered a world (“Wonderland”) reminiscent of her own—but in which everything seemed upside-down, and nothing worked as expected.

After spending over a year researching the economics of the health care industry, I’ve concluded that health care is its own economic Wonderland.  If you were given the hypothetical task of designing an economic system in which the laws of ‘economic physics’ had been miraculously suspended, you could not do a better job than the current US healthcare system.Alice

As a result, health care costs continue to escalate considerably faster than most other household expenses.  Our $2.6 trillion in 2010 health care spending represented nearly 18% of GDP, a proportion that has doubled during the past 30 years.

Economic fundamentals

Most of my knowledge of economics comes, not from academics, but from working as a researcher and adviser to businesses over a period of 40 years.   As a result, I always err on the side of empiricism (i.e., what is) and pragmatism (i.e., how to improve it).

For reference I always come back to capital fundamentalism—the basics of supply, demand, and market exchange.  A ‘pure’ economic exchange works something like this:  you own a product or service that I want to acquire.  You name your price (or we negotiate and agree on a price), I decide whether it’s ‘worth it’ or not, then I decide whether I want to buy, and (if appropriate) in what quantity.  In the purest form, I am also the consumer or user of the product or service, so I can make this value choice first-hand.

Then we ‘do the deal’. I pay you and acquire the product or service, and everyone’s immediate economic needs and goals are presumably satisfied.  We all live happily ever after.  Or if not, and I’m not happy with the result you provided relative to the price I paid you, I buy from another provider next time.

Transparency and accountability

Two essential characteristics of such a fundamental system of exchange are transparency and accountability.  Transparency in that you and I both know what the price is, and this understanding forms the engine of our negotiation.  Accountability in that I have ‘skin in the game’—I’m going to be the one doing the paying (and consuming) once we have arrived at our agreement.  And if I’m not satisfied with my purchase, you (the seller) have me (the buyer) to answer to.

Transparency and accountability are so fundamental that, absent either of them, a market-based economic machine can run neither efficiently nor effectively.  Both are largely absent in our US health care system.

How health care differs

Compared with our manufacturing or services clients, three things struck me as unusual as I began to learn about health care economics as they play out in the real world.  (1) Health care prices are largely ‘opaque’, i.e., non-transparent. For the most part, no one knows what anything costs.  Because much of the cost is socialized (see below), patients don’t have much personal incentive to ask about cost, let alone bargain or shop if the price/value equation is not right for them.

Doctors themselves are typically unaware of the cost of things.  A recent study of hospital-based doctors found their estimates of patient costs for basic procedures off by thousands of dollars.

Attempts to build in some systemic transparency have in some cases been stifled.  Legislation in Florida that would have required providers to post out-of-pocket prices for common health care services was recently defeated in the state Senate after aggressive lobbying by hospitals and doctors.


(2) Health care payments are largely ‘socialized’.  Of the $2.2 trillion we spent last year in the US on personal health care, only $300 billion—one dollar in seven—were borne by the ‘consumer’ (the patient and/or his family).  The balance is paid either by the government (Medicare for seniors, Medicaid for the needy and infirm, Tricare for servicepeople) or by commercial health insurers.  The ‘economic buyer’ (who pays for care) and the ‘consumer’ (who uses care) operate at arm’s length—and sometimes at odds with each other, as anyone who has ever disputed a claim knows.

(3)  Health care payments are largely based on inputs, rather than outcomes. The ‘fee-for-service’ payment system that largely prevails is based on paying for each service—test, procedure, operation—as it is used, regardless of what effect it has on the outcome—the wellness of the patient.  Hospitals and doctors are incentivized to do more ‘work’—tests, procedures, operations—rather than to create healthy patients.

This is changing.  Massachusetts, which has seen costs escalate rapidly since its own version of universal health care was introduced in 2007, is moving toward value-based payments that would cover a group of patients under a ‘global budget’.  Caps pegged to state economic growth have also been proposed.

The Accountable Care Organization (ACO) model is also a move in this direction.  However, given that much of the pilot funding for this approach falls under the new Affordable Care Act (ACA, also known as “Obamacare”), it’s way too early in the implementation cycle to tell how well it works in practice.

Where does this leave us?

These three factors—pricing opacity, socialized payments, and input-based payment structures—form a dangerous cocktail of economic inefficiency and ignorance, and an environment ripe for waste, and even fraud.  We have created an ‘all-you-can-eat’ buffet of health care services that has driven costs much higher than in other countries, while producing results that by most measures fall far below the top tier.  The value proposition erodes further as we continue to pay more and more, and get less and less in return.

Does ‘health care reform’ fix this?

It’s clear that this is unsustainable and has to change—comprehensively and quickly.  But there seems to be little political will to do so.  The ACA contains changes around the margins in the payments systems for health care, but leaves the elephant-in-the-room issue of cost control largely unaddressed.  Now that the law has been found constitutional and is being implemented, the issue of escalating costs will still be with us.

As in many situations where people are faced with a crisis of this proportion, our reaction is largely a deer-in-the-headlights inability to think, and even see, clearly and move toward some positive collective action.

2 Responses

  1. george witt says:

    Form regional not-for-profit health cooperatives.
    They would provide health services with transparency (for the patients/members and to federal 3rd party payers) as to costs. They would also provide an outcomes-based payment to providers. Membership fees would cover costs. Medicare and Medicaid payments would be sent to the cooperative.

  2. Obviously Alice can’t get along with other children and needs a social worker. She probably needs a tutor because she’s always playing with rabbits and not doing her homework. Alice should also be tested for the pasteurella multocidia organism because rabbits are common carriers.

    Given Alice was allowed to tumble down the rabbit hole in the first place, the government needs to put Alice and any siblings in a foster home, and her parents in jail for child neglect. Alice and all family members need a complete health evaluation.

    It is important that The Knowledge Agency has a very good year because it has a duty to provide for Alice, especially because next year she wants a pet alligator.

    P.S. – According to the Affordable Care Act on page 1,712 paragraph two: “Persons can also not be discrimated against in terms of healthcare premiums or care because of pet or wild animal ownership, including, but not limited to, ownership of spiders, snakes, or alligators.”

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