Improving the Harvest: Farming and Health Care

I love Atul Gawande’s writings on health care.  He has a rare talent for describing technical details of health care, insurance and finances in terms that most people can understand.   His recent article in the New Yorker discussed the current health reform bills’ approach to curbing costs, using the agricultural industry as a potential model.

One of his basic points is similar to one I have made before.  He describes two kinds of problems: “those which are amenable to a technical solution and those which are not.  Universal health care coverage belongs to the first category . . . Problems of the second kind [referring to rising health care costs], by contrast, are never solved, exactly; they are managed.” I would frame it somewhat differently.  The two basic kinds of problems are those which are amenable to a government solution, and those which are best addressed using decentralized market forces.

There are two serious shortcomings in our current health care system: lack of access to health care and insurance coverage for many low-income people, and the rising costs of health care.  While private market forces do have the potential to address cost issues –”efficiency” in the jargon of economists – they don’t do very well at handling issues of “equity”.  Specifically, private markets can’t do the following very well in the health care system:

  • Provide access to insurance or health care to low-income or very ill people
  • Ensure that reliable standardized information is available to consumers
  • Maintain the appropriate balance of power between providers and consumers

This means there is an important role for government:

  • Ensuring that coverage or care is available to low income and very sick people
  • Providing information is reliable and available
  • Maintaining healthy markets.

In the latter role, it is appropriate for government to establish the rules for the structure of the market in order to create:

  • Real choice
  • Healthy competition
  • Incentives for improving value (quality/cost)

Government can also play a role in providing financing for innovations (i.e., start-up funding for pilots).  After this point, however, it’s probably better for government to get out of the way and let the market do what it can do best – drive improved value for consumers.

So far, so good.  I basically agree with Gawande’s observation that different problems should be addressed by different means.  But is Gawande correct in using the developments of the agricultural industry as a model for what might occur in health care?  While there are a lot of parallels (e.g., fragmented and inefficient production, resistance to change), I am concerned that there are some important differences between agriculture and health care.  I won’t offer a critique of the outcomes of U.S. agriculture (lower prices, yes, but also the growth of corporate farming at the expense of family farms and small town economies, as well as serious concerns about food safety); I want to focus on two other issues about the relevance of the agriculture model to health care.

First, the economic incentives in agriculture seem much more direct and consistent with consumer welfare.  If the farmer can find more efficient ways to produce crops, it will result in higher net income.  Lower production costs also allow the farmer to reduce prices, gain market share and increase revenue.  Other farmers then have a strong financial incentive to adopt better production methods; otherwise they will lose market share, revenues and profits.  This healthy competition results in lower prices and improved value for consumers.

In the health care world, however, the financial incentives for improving efficiency are much weaker.  The knowledge about how to be more efficient is available, but the adoption of these methods is very limited.  Simply introducing the health care equivalent of USDA extension agents and financing a lot of pilot projects are unlikely to change this.  The incentives are weak for a variety of well-known reasons: health insurance, which shields most consumers from the real costs of health care; federal tax policy, which excludes employer-sponsored health benefits from personal income taxes; the ability for insurers to use risk management strategies to avoid high-risk enrollees; the ability for providers to use payer-mix strategies to avoid low-reimbursement patients; the well-entrenched use of fee-for-service payments that reward volume instead of outcomes, etc.  Unless we make structural changes to address these issues, the financial incentives will not be aligned in a way that will cause the health care industry to embrace more efficient production methods.

The second potential problem is the difference in relative market power of buyers and sellers.  In agriculture, the sellers (farmers) are much weaker than the buyers (consumers and middlemen), which forces the farmers to compete aggressively on price and quality.  In health care, however, the sellers (physicians, hospitals, drug manufacturers) are more powerful than buyers.  There are several reasons for this: providers have professional knowledge and expertise that consumers rely upon, and many areas have a high concentration or even monopolies of providers.  Even if the provider payment incentives were aligned with consumer interests, health care providers would probably still be able to charge relatively high prices.

How do the current Senate and House bills line up with the issues raised by Gawande and my analysis?  The underlying philosophy of the legislation is consistent with the two-sector approach described above: government helps low-income people to get access to health care and sets the rules for the health care market, while private sector providers and insurers compete to offer the best value to consumers.  The bills also begin to address the issue of financial incentives, by encouraging alternatives to fee-for-service, eliminating the use of risk skimming by insurers, and taxing high cost health plans.  Not surprisingly, the bills do not directly address the market power issue, although the proposed strengthening of the Medicare payment commission would be a small step toward curbing costs.

Will all of this work?  We don’t really know, but at least the bills are built on a framework that has some chance of success.  We do know, however, that the current system is cruel in human terms and unsustainable in economic terms, and we have to try something.  We will have more work to do to get this right.

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One Response to “Improving the Harvest: Farming and Health Care”

  1. Dan Smith Says:

    A journey of a thousand miles begins with one step. Let’s talk about the first step. This first step should address healthcare cost which is pushing us over the edge. Why has the concept of state Medical Public Service Commissions (PSC’s) not surfaced? We have seen in areas where there is a competition problem that PSC’s can do a good job. Let’s turn the problem of healthcare costs over to state PSC’s.

    In so doing there are numerous hidden benefits that you would not expect at first blush as follows:

    1. PSC’s will determine the basic cost of each Medical Charge Code used by providers to bill insurance. If the current medical charge code manual is not specific enough for some procedures, new medical charge codes can be added to help narrow these costs. Then these determined costs will be adjusted for inflation annually until reviewed again and a new cost basis set. In addition, the PSC will calculate a market adjusted mark-up percent for fair and reasonable provider profits for the coming year. The provider mark-up percentage will be determined by a new market ‘check and balance ‘ mechanism unavailable until now. More on this later.

    2. Because some Zip Codes have inherently higher costs than rural areas, the co-pays may vary by Zip Codes to offset these cost differentials so the Medical Charge Code cost basis can be leveled across the state. These office visit co-pays would be standard across all insurers in a Zip Code and paid by the patient. These co-pays should not deter patients from seeing their doctor.

    3. The PSC eliminates provider networks and provider service contracts. Thus, competition between providers is increased because insurance no longer delivers a pool of patients. Patients can go anywhere in the state and use their insurance because all insurers pay the same for identical services as set by the PSC.

    4. Insurers now compete solely on the price of their policies because the doctors/hospitals are no longer tied to their networks. All insurance is accepted by the doctors/hospitals because they all pay the same PSC rates.

    5. The elected State Insurance Commissioner may increase insurer competition quickly, if needed, by soliciting outside insurers to come into the state and compete. There are no network or provider service contract requirements.

    6. The PSC can greatly reduce the over prescribing of medical services by the way the provider mark-up (profit) percentage is determined. It can tie the profitability of the providers to the profitability of the insurers. If the profitability of the insurers decline because of the overuse of medical services, then the mark-up percentage for the providers is reduced on every Medical Charge Code. The providers will then think twice about how they prescribe healthcare because it now directly affects their profits. This one feature alone will cut healthcare costs significantly.

    7. Tying the provider mark-up to the net profit margins that private insurers earn in the state creates a healthy ‘check and balance ‘ mechanism. If provider costs go up, profits of both go down. If profits go up above what the average state business earns, the State Insurance Commissioner can intervene and license new outside insurers to compete and lower premiums, if necessary. But both the insurers and providers have a right to earn a reasonable profit, so the elected State Insurance Commissioner will only increase insurer competition when it becomes necessary to reduce average insurer profits for the benefit of the public when these profits noticeably exceed what other state businesses earn.

    Note: If insurer profits surge due to the more efficient delivery of healthcare, then the insurer can invoke a mechanism to reduce gross profits with offsetting insurance policy premium reductions. This results in a lower net profit for the insurers which the PSC will use to determine the provider mark-up percentage for the coming year. Thus by lowering premiums, the insurer gains a direct cost reduction for the coming year from a lower provider mark-up percentage. This allows the insurers and providers to earn fair and reasonable profits and policyholders to pay lower premiums. If the insurer refuses to lower excessive gross profits, then the State Insurance Commissioner may intervene and policyholders may react by dropping the insurer for a new one during the end-of -year sign-up period while retaining their same doctors/hospitals.

    8. The PSC does not make healthcare decisions and does not affect the doctor-patient relationship. The full time job of the state Medical PSC is determining the cost of Medical Charge Codes. The PSC will standardize these codes to make filing claims easier for doctors/hospitals.

    9. The above discussion on computing the provider mark-up percentage eliminates the current adversarial relationship between providers and insurers and lets market forces determine the common profit. Another more simple but less ideal approach would be for the PSC to set the mark-up percentage based on some other criteria. The choice of method would be up to each state.

    10. As you will note, the previous discussion portrays the Medical PSC as more a state Price Commission than a regulatory body. The role that this PSC plays in each state would be up to the state legislature and could evolve over time.

    The state Medical PSC concept has amazing potential. Not only does it break the bond between doctors/hospitals and insurance companies, but it relies on a ‘check and balance ‘ system to spread the wealth among providers, insurers and policyholders. Without a doubt, this approach has never been seen before and will position the American Healthcare system to control costs as healthcare is expanded by Washington. Congress does not know about this brilliant idea. Please write/call your representatives and tell them that we must have state Medical PSC’s.

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