Thursday, July 16, 2009

The Pottery Barn Rule of health care

[Note: my wife challenged me to write a post with no links…here goes]

img_pb_catalog_515One of the things I have struggled with over the past year is there is no nice, clean solution to improve health care. Another thing I have struggled with is that Medicare and Medicaid are a large part of the problem in health care.

Yes, it is heresy to criticize two programs that filled huge vacuums for vulnerable populations neglected by the private sector. But it is true.

The acceleration of health care costs basically started a little over forty years ago (i.e. when Medicare and Medicaid came to be). Now you ask, “How can this be if Medicare and Medicaid pay so low compared to the private sector?” Well, to answer this question, I ask you to go through two thought experiments.

First, imagine starting a new business. One of the main things to do when starting a new business is to manage uncertainty and to do so, one often accepts some clients that pay less but give long-term arrangements with minimum hassle. This allows one’s business to cover its capacity costs (i.e. fixed costs like turning on the lights, rent, insurance, etc.). Once the company’s basic costs are covered, they can negotiate from firmer ground for higher-margin clients. This is basically what happened in health care…the money from the government for Medicare and Medicaid gave a lot of thrust…like pouring fuel into an afterburner.

Second, imagine you own an apartment building where half of the apartments are rent-controlled and paid for by the government. Furthermore, imagine that the fixed rent is not by apartment but by tenant. As any rational person, you have certain financial expectations and to the extent the revenue from the rent-controlled apartments fall below your expectation, you make up for it by adding more people into the rent-controlled apartments and you charge more to the other tenants. Additionally, since you are prohibited from treating tenants differently whether or not they are in a rent-controlled apartment, you also add more tenants to the non rent-controlled apartments. This is basically what is going on in health care – fee schedules are like rent controls and providers respond to price controls by increasing utilization and cost-shifting to the private sector.

This cost shift constitutes, in large part, a hidden tax on families with private insurance amounting to about $1000 per year. The graph below from the American Hospital Association and Avalere Health is about as clear an example of the relationship between government payment and cost-shifting that I have ever seen. As Medicaid/Medicare go up, commercial goes down, and vise versa.


An example of what I talking about that is specific to Medicaid is its managed care program. When Medicaid FFS pays a hospital in Florida, it typically pays about 60 percent of costs. For special hospitals that get an exempt rate, they receive about 97 percent of costs. But when a Medicaid managed care plan tries to negotiate with a hospital on behalf of Medicaid beneficiaries, the Medicaid rate does not apply. One hospital system in Florida demanded 150 to 200 percent of cost for a Medicaid managed care contract. That is some serious cost-shifting within the Medicaid program itself.

This is what I mean by the Pottery Barn Rule. - once you break PART of it, you are responsible for ALL of it.

Thinking back to the apartment building example, once the government perturbs the market with its rent-control subsidies, the only way it can stop a spiral that raises rates for all tenants is for it to get more involved in regulating the entire building. That is kind of scary when you think about it…

There are only two real “clean” solutions to health care reform and by clean, I mean that the policy is neat and consistent. One is government all-in and the other is government all-out. Pretty simple huh? By all-in, I mean the VA for all and by all-out, I mean capitalism featuring high-deductible plans, full quality and price transparency, etc. Now, neither of these is going to happen because we either unwilling from a public standpoint or unable from an infrastructure standpoint. So that leaves us in the messy middle, so to speak.

Image10In this messy world, health care policy is like the proverbial balloon…squeeze on one side or even two sides, it just bulges elsewhere. That is why most of the potential reform legislation being discussed will have little effect in that they do not address cost, quality, and access all at the same time and all across-the-board (i.e. the Pottery Barn Rule).

So, we all need to admit that government is both part of the problem and part of the solution in health care. Furthermore, since government is part of the problem, it has to be the guiding source for the solution. Harkening back to our apartment example, the only way to control total costs is for the government to regulate the entire building. As they say, in for a penny, in for a pound. Thus, we are counting on the same legislative system that helped make this mess now get us out of it. That is kind of defeatist but it is real.

Since I refuse to end on a sour note, let me note that health care is so big, that it does not take a lot of “bending the curve” in order to make a significant difference. We need to recognize that even though we are not going to get fundamental change, we do have an opportunity to address cost, quality, and access all at the same time and slow the balloon’s growth just a bit. Let’s hope that any resulting legislation meets these criteria. ~BAA