OP-ED

The End of the World as We Know It

One aspect of religious dogma that has entered the medical world is that fee-for-service pricing of medical services is bad and should be replaced by a capitated, or global, arrangement that establishes an annual budget for care for different risk groups of patients. Like other religious beliefs, this is often offered without rigorous analytic support. Some insurance companies are particularly pleased with this approach because it shifts risk from insurers to providers and makes it easier for the insurers to create budgets and price their products.

Don’t get me wrong. This may be the right way to go, but the topic is worth more time and discussion than it has received.

It may be illustrative to think about other sectors of our economy and see which of them are characterized by global payments. Not many. Sure, there are products like cellular phone service that are sold in monthly fixed dollar amounts. But that is because it is a high fixed-cost product, where the marginal cost of additional phone calls is essentially zero. Fixed prices offer revenue stability to the vendor and a way to recover those fixed costs.

But most other goods and services in our economy are sold on a piece-work basis. Think of groceries, automobiles, electricity, gasoline, televisions, and clothing. Why is fee-for-service pricing appropriate for these? Or, in economists’ terms, why does such pricing lead to a reasonably efficient solution? The answers are pretty straightforward. Other markets are characterized by open entry and exit and by transparent information concerning quality, value, and pricing. Consumers can make more or less knowledgeable choices based on that publicly available information. New firms enter the market when they see an opportunity. Successful firms grow. Other firms fail.

Dartmouth Atlas have noted, this leads to supply-driven treatment patterns. If there are more radiologists in a given community, the usage of imaging will be greater than in less well staffed communities.

Likewise, hospitals generally do not come and go. They, too, represent huge investment in fixed costs, and they stay in the marketplace for decades.

But in addition to this, the main attribute of the practice of medicine is opacity. You and I as consumers (patients) have no idea what a given service costs because it is covered by insurance, and the actual rates paid to doctors and hospitals by each insurer are confidential. You and I also have no metrics by which to judge the quality of the service being provided. You have every incentive to request or demand more service for your medical problem.

If you are an insurance company holding a hammer, every problem looks like a nail. What is the most direct thing you try to do to influence levels of care that might be excessive? Design a pricing system that shifts risks to providers and is subject to an annual budget.

But, that is not the only solution. In the post below, I discuss the path being taken by Harvard Pilgrim Health Care. It is good for Massachusetts that two of the largest insurers are trying different approaches. It establishes the possibility of comparing results across the two populations.

Now, though, let me let you in on a little secret with regard to capitated care. Underneath the global budget, there is still a fee-for-service arrangement establishing the transfer prices among the providers in a network. That GI specialist will still get paid for each colonoscopy. The big thing to work out in this system is the allocation of any surplus or deficit in the annual budget among the various specialists.

Unless that allocation is skewed heavily towards primary care doctors, decisions about the level of care given will not change. But, if the allocation is skewed too heavily towards the PCPs, there is no real income signal for the specialists, leading to a danger that they will not feel invested in the end result. Unless the system is accompanied by intensive, real-time reporting, along with clear penalties for excessive care, it will not work.

Did I say penalties? You bet. Without those, there is no enforcement of the global budget. But with those, global budgets are likely to raises hackles and resentment among specialists. I predict that the biggest issue facing physician groups in the coming years is the perceived interference by the global payment risk unit in the clinical decisions made by specialists.

If we were designing the health care system from scratch, I am guessing that the HPHC approach would be more likely chosen than a global payment approach. It would be accompanied by a shared savings mechanism, where physician groups and hospitals that beat an annual budget target would get a cash reward. It would also have a hefty dose of transparency with regard to clinical outcomes, so that the pricing levels charged by each provider would be accompanied by meaningful medical information that could help consumers make more rational choices. In short, a lot of the opacity of the health care delivery system would be eliminated.

That does not solve the problem of friction with regard to market entry and exit by doctors and hospitals. But global payments are weak on that front, too. Such friction may be an inherent characteristic of this sector for some time to come — unless, as appears likely, overall payment rates for Medicare, Medicaid, and private insurers fail to keep up with the cost of living. In that case, the future will belong to the efficient, hospitals and doctors who implement Lean or other front-line driven process improvement.

Paul Levy is the former President and CEO of Beth Israel Deconess Medical Center in Boston. For the past three years he blogged about his experiences in an online journal, Running a Hospital. He now writes as an advocate for
patient-centered care, eliminating preventable harm, transparency of clinical outcomes, and front-line driven process improvement at Not Running a Hospital.

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9 replies »

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  3. “I think medicine should either go the full socialism or the full capitalism. This mixed system we have is fail.”
    Or a choice, I have no problem allowing people that choose to engage in socialist behavior do so as long as they are fully and solely responsible for the outcome. Same with Capitalism, if someone chooses to go without insurance that is their right as an american but don’t expect someone to provide you care if you do get sick.
    To me the key is its not our federal governments right to dictate either system to us, they have no business in the discussion at all. It is a State issue and goes no further.

  4. Two years ago a physician I know asked to come by my office to talk about health policy. I braced for a lecture because he was somewhat disconcerted about a piece I had written on medical outsourcing (i.e. medical tourism). What ensured was an hour long monologue lamenting the sad state of physician care. In his opinion physician had fallen from being a noble profession (whose only interest was patients) to one where money was the primary interest. He blamed insurance companies. He was partially correct. The reason the negotiations Lynn discusses do not take place in health care is because third-party payers were inserted (by tax policy and government) between the doctor and the patient. Negotiations between doctor and patient would accomplish little when payers have already established what they will pay for and how much they will pay for each service. Lynn negotiates because his clients are price sensitive and demand it.
    Dr. Vickstrom is correct that a hybrid system is bound to fail. However, I personally believe capitalism would provide more services and a better customer experience than a socialistic system.

  5. I think medicine should either go the full socialism or the full capitalism. This mixed system we have is fail.

  6. As a consulting health care economist, I offer my clients two pricing options: pay me by the hour and trust me to be honest about keeping track of the hours, or let me draft a proposal for a fixed fee engagement. My client and I negotiate. I work hard to provide my clients with information — a work plan or product delivery schedule so they have a reasonable idea of what the engagement is going to cost them.
    Occasionally events happen that change the nature of the engagement, if my time, talent, energy is less, I make adjustments in my invoices. If those increase because of no fault, I renegotiate.
    This relationship is based on professional trust, experience and clearly articulated expectation. When did those important factors disappear from the practice of the profession of medicine? Dr. Arnold Relman began warning about this in the late 1970s and early 1980s when medicine evolved from being a profession to being a service business.
    Service businesses are difficult to effectively price but it can be done. Most service business however don’t have the “third party” complication. Maybe we need to return the responsibility of pricing care back to patient and the physician and remove the third parties.

  7. I don’t see how capitation could work in our fragmented system with everyone competing for resources.
    Fee for service compensates people for the work that is done. However, it has become corrupt in the US where there are no limits to feeding at the trough. The result is overuse of overpriced services that often is bad for patients.
    A solution would be to look at the rest of the developed world which has solved this problem at less than half of the cost of what we spend in the US with better quality. They do this through various mechanisms but all of them have in common a large amount of government regulation of prices and services. I know that this view is not popular but it is the only way to restrain the current destructive rampant free market in the US which only serves the medical industrial complex.
    Look at Switzerland for a good parallel of how things could be done. They have mandatory purchase of insurance from private companies (the same as the goal of the US system) but they also have strong regulation of prices and services. The result is better quality of care than the US, universal coverage and a per capita cost that is less than 50% of what we currently spend.

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