Trillion Dollar Question: Cost Shifting in Health Care Reform

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Employers and others are enormously worried about what health care reform will mean to them. High on the list of worries is whether the large expansion of Medicaid and the subsidized state individual and small group plans will mean such dramatic provider pay cuts that providers will universally raise the rates for any employer-sponsored health plan.
In 1997, when the federal government passed the Balanced Budget Act which lowered hospital payments, hospitals effectively shifted costs to private payers.  

Will this pattern repeat in 2011 and beyond?  I don't think so.

In most businesses, when one purchaser strikes an exceptionally good deal, prices are eventually suppressed for all purchasers. When Wal*Mart lowers its acquisition cost for duct tape, sooner or later all duct tape manufacturers figure out how to wring efficiencies out of their production.  They often move production to places with lower labor costs, and they retool their factories to remove unnecessary steps and friction.  Manufacturers who maintain their pre-Wal*Mart resource requirements fail, and eventually prices come down for all purchasers.

Health care, of course, is different. We can’t send hospitals to developing countries (there’s a little bit of medical tourism, but not much), and many of us regard health care as a necessity and a social good, and not a mere consumer product.  The purchaser of duct tape doesn’t care so much about what the factory looks like, while the consumer of health care (the patient) is right in the middle of the exam or operating room, and cares a lot about the conditions there.   So, health care delivery is not like manufacturing duct tape.

But employers are not willing to pay continually higher prices for health care they purchase.  The demand for lower costs per unit from newly enlarged public payers won't possibly be fully funded by increases in the prices to employer-sponsored health plans. 

In January, I argued that Medicare payment cuts would not lead to dollar for dollar decreases in the cost of care.   Still, I believe it won’t be possible for health care providers to increase prices to make up for the entire shortfall from Medicare cuts, Medicaid expansion, and likely lower prices from subsidized state exchanges. Our costs per unit in the US are very high compared to the rest of the developed world., and this difference is likely to decrease.   I believe the downward price pressure from health care reform will be severe enough to promote delivery system reform, and thus lower overall health care costs substantially.  We’ll be well advised to look to other countries, including developing countries, to learn how to lower the cost of health care delivery.   We’re also likely to need substantial reform of primary care.

By the way, here’s a link to Ezra Klein’s graphics showing the very small incremental cost under health care reform, compared to the huge decline in the uninsured population.