Pricing and the next best alternative

The Incidental Economist passes along a pair of interesting studies as to how Medicare pricing and provider reimbursement influences private payer provider reimbursement.  The short story is that over a long time period, private pricing imperfectly tracks Medicare pricing.  The longer story will be after the quotes:

 Jeffrey Clemens, Joshua Gottlieb, and Adam Shapiro make the case that Medicare cuts in rates paid to hospitals induce private insurer cuts….

A study of this relationship in the hospital setting by White (2013) estimates that a 10% reduction in Medicare’s hospital payments results in a 4 to 8% reduction in private payments. White and Wu (2013) further find that hospitals handle these cuts by reducing their operating costs; this and related findings are summarized in Frakt (2013).

I think there are two seperate channels of pricing in play.  The first is simple and mechanical.  Quite a few provider contracts are based on Medicare plus 30% or Medicare plus 50%.  Medicare in this case is a base rate, so a decrease in the base rate results in a decrease of the derived final rate.  The sequester was a noticable decrease in the base rate so a provider getting paid at 150% of Medicare is now getting paid at 147% of non-Sequester Medicare rates now. 

The more interesting story is the search for the next best alternative.

In any negoatiating, the agreement space is defined by the parties’ constraint of what the next best alternative.  For medical providers, they have lots of different options as to how to make money.  They can choose to go the conceriage medicine route which is strictly cash and carry or they can do high cost, low volume specialty route of being the surgeon whose name strikes fear into the heart of all fantasy baseball players when their starting pitcher goes down to his clinic for a consultation concerning elbow tightness.  Or, far more commonly, providers will adapt a mixed position of maximizing their payment and patient mixture

Providers want to maximize the number of privately insured, low deductible, high reimbursing, privately insured individuals.  These claims pay quickly, they pay richly and they pay completely.  However, very few providers can solely build their practice and their income off of Cadillac covered individuals. So they fill out the rest of their roster with a variety of people who are covered in a variety of ways.  This means adding slots for Medicare patients, adding slots for CHIP patients, adding slots for narrow network/Medicare plus a little bit Exchange patients, adding slots for commercial high deductible plan patients, and adding slots for Medicaid patients. 

As I discussed last May, different insurance types have different expected values. 

Medicare pays roughly the average cost of a procedure, so the reimbursement rate is fairly low, and the paperwork constraints are fairly high.  Traditional fee for service Medicare will pay clean claims quickly…

People with commercial insurance with high coinsurance but low deductibles are a twist.  The provider knows that they’ll see 60% or 70% or 80% of their contracted rate charge fairly quickly from the insurance company.  However, the remaining fraction will have some uncertainty attached as to the amount paid and how quickly it is paid….

 Medicaid will pay quickly but at a low rate.  Pre-PPACA, Medicaid paid significantly less than Medicare…. Docs and providers will fill out their roster with Medicaid patients, or use Medicaid as a means of building out a practice when they are fresh out of Med School, but a practice that exclusively sees Medicaid patients will be in constant financial stress. 

Once a provider practice begins having difficulty filling out their roster with Cadillac covered individuals, the rest of their choices have significant trade-offs.  Medicare is fairly desirable as they pay fast with minimal deductibles that have to be collected.  Medicare is usually the best of the second options for providers who are looking to maximize their revenue.

As the best of the second options, Medicare acts as an anchor on private reimbursement as a provider who rejects Medicare’s pricing agreement will see a significant immediate hole in their business model that could slowly be rebuilt by taking on more deductible risk of patients with high deductible plans or lower and slower Medicaid reimbursement.  Marginal tweaks in Medicare makes it marginally less attractive than Medicare’s next best alternatives, but not significantly so, so everything else is recentered on the new Medicare base rates. 


3 replies
  1. 1
    StringOnAStick says:

    As a side topic, that whole idea that hospitals make up for the payment decreases by “reducing costs” is I suppose where the idea of keeping the nursing roster understaffed came from.

    As usual though, your very informative posts just make it clearer that the only sane solution is single payer, but with so many profit-making entities in the mix it just doesn’t look possible or probable in the US in any reasonable amount of time.

  2. 2
    satby says:

    There just shouldn’t be profit in healthcare, it should be treated like a utility or a common good. Profit corrupts.

  3. 3
    Harish says:

    Yeah I’m sure when hospitals cut their operating costs it’s by finding magical inefficiencies in the system and cutting administrator pay rather than by firing nurses, janitors, techs… Cutting corners…

Comments are closed.