We Can’t Have Everything: The Role Of Payment For Volume And Choice Of Providers In Fueling Health Care Expenditures

Editor’s note: This blog was first published by Health Affairs on April 28, 2021.

President Biden’s administration faces a plethora of major domestic and international problems; priorities must be established. The most urgent task is to end the COVID-19 pandemic and provide relief for those who have been most adversely affected by it. Subsequently, another high priority should be ending the increase in health care expenditures’ share of the total economy, which has grown to almost 18 percent, from 4.6 percent in 1950. Continuation of this trend would create major budget crises for the federal and state governments; result in stagnant wages and higher taxes for millions of middle class households; and hurt the poor in particular by decreasing the money available for government funding of income support, social services, and public transportation.

Over the last 70 years, national health expenditures (NHE) have increased at an average rate of 4 percent per annum; the gross domestic product (GDP) has increased at 2 percent per annum. (Both rates are per capita adjusted for inflation by GDP deflator.) As long as NHE increases more rapidly than GDP, NHE’s share of GDP will get larger. At some point, the need for higher taxes and more debt will put the entire U.S. economy at risk.

To control health care expenditures, several health policy reforms are necessary. Important among these, policymakers must confront the fact that the interaction between insured patients’ free choice of providers and payment for volume (i.e., fee-for-service) can be toxic for efforts to restrain spending. The stimulus to expenditures from this interaction can be seen clearly in community hospitals. Except during the pandemic, U.S. community hospitals have had an average occupancy rate of 65 percent. Most also have high overhead. Many compete for insured patients with the newest technology, more clinical staff per patient, rooms that offer more space and privacy, deluxe meals, and other amenities. This “race to the top” affects expenditures like an elevator that only goes in one direction–up.

In health policy as in life, we can’t have everything; we must decide what we are willing to give up. Below, I discuss several reform options, each of which involves sacrificing some aspects of complete consumer freedom to some extent. I also consider the obstacles to major health policy reform in the United States.

What Can Be Done?

The Role Of Health Insurance

Health insurance increases the demand for care, but eliminating insurance is not a viable option because of its value to patients and providers. Except for routine checkups and childbirth, individual need for care is usually uneven and unpredictable. Most patients do not have enough cash or money market funds to pay for such care in a timely fashion.

Moreover, in any given year, health care bills are concentrated on relatively few patients. In 2017, only 5 percent of patients accounted for more than 50 percent of expenditures. Without insurance, many of those patients would be financially ruined and some physicians and hospitals would not get paid. Deductibles and copays decrease demand for care, but they exacerbate income inequality because they burden lower-income households more than their higher-income counterparts.

Regulating Fee For Service

Fee-for-service payment doesn’t always result in very high expenditures, as demonstrated in France, Germany, Japan, and several smaller countries that pay for physician visits that way. These governments embed their physician payment in extensive cost controls through various combinations of low fixed-fee schedules, expenditure limits, regulation of the number and specialty mix of physicians, and other policies. Such government intrusion into the private practice of medicine would probably not be workable or acceptable in the United States.

Competing Capitated Plans

A significant alternative to fee-for-service insurance is a system that pays health plans a risk-adjusted capitation fee for each person enrolled in a plan; the fee covers physician care, hospital care, drugs, tests and scans, and other clinical services. Patient choice is limited to providers in the plan, but annual open enrollment provides the opportunity to choose among plans. Within a plan, patients can choose their primary care physician—a good match results in greater patient satisfaction and possibly better outcomes. Choice of surgeon within a plan also has psychological benefits; although several surgeons of equal skill may be available, many patients think that the one they chose is the “best,” and this belief may contribute to better outcomes.

This type of plan, which combines insurance with comprehensive care, is spreading, especially in public insurance such as Medicare Advantage and Medicaid. (Traditional Medicare, which covers 60 percent of beneficiaries, allows free choice of providers and pays for volume.) There is resistance to such plans in some areas of the country, and they are more difficult to organize where population density is low.

Obstacles To Major Reform

Large scale change in the almost one-fifth of the economy represented by the health care sector would inevitably result in “winners” and “losers.” Political experts from Machiavelli to the present have concluded that those who expect to lose from a change will oppose it more vigorously than those who think they might gain will support it. Most affluent households prefer the U.S. system to those in other high-income countries because it offers (1) easier access to specialists and subspecialists; (2) more abundant supplies of expensive medical technologies, unconstrained by national cost-benefit standards; and (3) payment for care through employment-based insurance rather than tax-financed public insurance.

Also benefitting from the current system are manufacturers of drugs, devices, and equipment who earn above-normal profits from the system’s emphasis on new medical technologies. Many communities resist change because the local hospital is the largest employer. Many specialist physicians resist change because their fees are at least double those of their peers in other high-income countries.

Major reform is also opposed by millions of workers who mistakenly believe that employers bear the cost of so-called “employer-provided” insurance. Most economists believe that workers actually bear the cost in the form of stagnant wages. Trends over the last 25 years strongly support that conclusion. Between 1991-93 and 2016-18, health insurance premiums increased 150 percent while the wages of the median worker increased only 28 percent. By contrast, the earnings of the Standard and Poor’s 500 companies have increased 200 percent. (All statistics adjusted for inflation by GDP deflator.)

Many beneficiaries of public insurance also misperceive the cost of these programs. They think that their care is a “free gift” from the government. They don’t realize that the increasing cost of care adversely affects government funding of social programs that are of great value to them. A one percentage point increase in health care’s share of GDP means there is $200 billion less every year for other goods and services that might do more for health of the poor than the increase in health care expenditures.

The U.S. political system with its “checks and balances” is also a barrier to large scale change: There are many “choke points” ranging from a subcommittee vote to table a reform bill to a presidential veto. It may require a political crisis resulting from a world war, a depression, or large-scale civil unrest to overcome the “status quo.” Some experts believe that the COVID-19 pandemic will provide the political shock needed for major health care reform. That is uncertain, and control of expenditures should be more prominent in the suggested reforms. Another political obstacle can arise when those favoring reform cannot agree on a compromise regarding improvements in access, cost, and quality of care. Diverse supporters of reform must also agree on a balance between a much larger role for government and changes in incentives and other reforms of the private sector.

Looking Forward

Despite these obstacles, future increases in health care expenditures’ share of GDP will pressure the system to change. Minor adjustments will be suggested, but they will like treating cancer with pain killers. Government price controls could provide short-term symptomatic relief but would delay treating the systemic problems that are responsible for the high cost of care.

In comparison with health care systems in other high-income countries, U.S. health care is too costly (18 percent of GDP rather than 12 percent), too unequal, and comes with too much uncertainty about insurance eligibility and coverage. Limiting but not eliminating patient choice of provider, and limiting or preferably replacing payment for volume, should both be part of the solution. A system of competing, capitated plans offering comprehensive care is the most promising vehicle for the United States to reform its health care system and control health care spending.