America's Healthcare Nightmare

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Amro S's picture

The US is the world’s top healthcare spender, and spends more than the next ten top spenders, combined. A McKinsey study found that the US overspends by $750 billion annually on healthcare than it would spend if it spent the same per capita as other developed countries. There is a myriad of explanations about America’s unhealthy healthcare system but, and originally detailed in Steven Brill’s 2013 Time Magazine Article “Bitter Bill” (this essay's main source), closely examining the market players who set prices reveals a non-competitive market, one left unchecked and, as a result, has led to outlandish costs not unlike in a monopoly.

 

One might argue that this would be a foregone conclusion considering that, since 1998, the healthcare-complex (pharmaceuticals, medical device firms, and organizations representing hospitals, doctors, clinics etc.) spent $5.36 billion on DC lobbying, about double the amount spent on lobbying over the same period by the military-industrial complex and the oil & gas industry, combined.

 

Created in 1965 by Lyndon B. Johnson, Medicare was to tackle the problem of impoverished seniors lacking health insurance. Medicare plans are typically private health insurance policies that are government-subsidized and as such, Medicare has acquired a reputation as the bone-fide government entitlement program afforded to senior citizens who, ideally in retirement, would require it most. At the time of its creation, the government predicted that the program would cost $12 billion by 1990. It’s actual cost in 1990 ? $110 billion. In 2013 ? $600 billion .

 

The unique way by which Medicare works provides a reliable measure for just how unruly America’s healthcare system really is. By law, Medicare analyzes a hospital’s cost of every item related to any service, including direct costs, overhead, capital expenses, executive salaries, insurance, regional cost differences of living and even the education of medical students. Then, based on the cost, it pays that amount out to the healthcare provider.

 

Every hospital has what is called the chargemaster price list, their internal price list. There is no law or rule regulating what prices hospitals can charge as they are free to set them as they please. To this end, they set exorbitant prices that end up on bills sent out to Medicare, insurance, and individuals with neither. This would certainly help explain why out of Houston’s top 10 employers, five are hospitals, while only three are energy firms. It would also similarly explain why, in New York City, of the top 18 largest private employers, eight are hospitals and just four are banks.

 

For example, an uninsured Connecticut woman was charged at Stamford Hospital $199.50 for a blood test, which is the chargemaster price. However, Medicare would have only paid $13.94 for the test after closely scrutinizing the cost of that particular service, and the hospital would have no choice but to accept this payout should they accept Medicare patients, which they are not legally obligated to do.

 

The CT scan employed for the Connecticut patient was billed at nearly $8000; Medicare would have paid $544. A closer examination reveals the economic incentive behind America’s obsession with the use of CT scans, where they are used 71% more, per capita, than in Germany for example where the government controlled system does not incentivize over-usage. According to the McKinsey study, a typical medical piece of equipment will pay for itself in one year if it conducts 10 to 15 procedures per day; with CT machines costing around $250,000 with a lifespan of seven to ten years, every scan, which costs little to operate, ordered by a doctor after the first year is pure profit, less maintenance and doctor fees.  The use of CT scans in the US has more than quadrupled in the last few decades.

 

Medical Devices

 

At Mercy hospital in Oklahoma, an uninsured patient’s bill for just the basic supplies such as a marker, surgeon’s gown, table strap and blanket was nearly $8000; none of these items would be paid for separately by Medicare or an insurance company as they are part of the hospital’s facility fee. Then actual billing began: $49,000 (i.e the chargemaster price) for the stimulator, whose wholesale price is $19,000, meaning a profit margin of 150%. The company that manufactured the stimulator, Minnesota-based Medtronic, states in its financials that it’s cost is 24.9% of sales, meaning a gross profit margin of 75%. To place that in perspective, Apple, the most valuable company in the world, has a gross profit margin of 40%.

 

Pharmaceuticals and Drugs

 

A cancer patient at MD Anderson Cancer Center in Houston was charged $13,702 for an injection of a cancer wonder drug called Rituxan. Factoring in MD Anderson’s heavy negotiating power, the center probably gets a volume discount that would place the drug’s cost at between $3,000 and $3,500, a markup of 400% for the nonprofit. MD Anderson has an overall profit margin on $2 billion in revenue of 26%. However, hospitals do not sit at the beginning of the drug supply chain, pharmaceutical firms do, and they not only have negotiating power, they are insulated by seemingly illogical federal laws. The drug Rituxan is made and sold by Biogen Idec and Genentech, the latter entity being a subsidiary of Swiss drug giant Roche. Biogen Idec’s cost of sales is 10% of sales, a figure lower than even software firms, who don’t normally even produce physical products or ship items. This means that the $13,702 drug actually cost only $300 to make, test, package and ship.

 

‘Legal Fallacies’ fostering non-competitiveness

 

Congress explicitly prohibits Medicare from negotiating any price a drug maker quotes, mandating it to pay the average sales price of any drug from a pharmaceutical to a hospital, plus 6%. Although this should, in theory, limit hospitals' margins on drugs to around 6%, drug firms give rebates to hospitals on the drug. This way, the hospital gets the difference plus 6%, and is incentivized to buy more of the product. The McKinsey report found that prescription drug prices in the U.S. are 50% higher for comparable products than in other developed countries.

 

Medicare is also legally prohibited from even deciding a drug’s cost effectiveness. In medical circles this is known as "comparative-effectiveness ". This means that even if exhaustive research finds cancer drug A, with a fraction of the cost of drug B, to be just as effective as or more effective than drug B, the entity paying the bill (e.g. Medicare) would not have the right to decide between the two. A law passed by Congress in 2003 requires Medicare to reimburse for any cancer drug approved by the Food and Drug Administration, and most states require insurance companies to do the same thing.

 

In addition to drugs, Medicare is also not allowed to drive down the prices of durable medical equipment through comparative effectiveness. Essentially, Congress forces Medicare to pay 25% to 75% more for this equipment than it would cost at Walmart and, as a result, Medicare spends $15 billion per year on durable medical equipment. Under pressure from the Obama administration, Congress allowed a pilot program to use comparative effectiveness in a few regions; the result: a whopping 40% reduction in costs. If implemented nationwide, it would mean savings of $6 billion per year for taxpayers (40% of $15 billion) on just this equipment.

One cancer clinic in New York, Sloan Kettering, became so frustrated with rising costs that it decided to no longer dispense the $11,063 per month cancer drug Zaltrap. Research showed the drug Avastin, which costs $5,000 a month, to be just as effective. Zaltrap initially dismissed the move but then four weeks later remarkably cut its price in half. A typical new cancer drug on the market a decade ago cost about $4,500 per month (2012 dollars); since 2010, the median price has been around $10,000.

 

The numbers are unmistakable: the US has a medical cost binge problem. A problem enabled by a market left to be largely a sellers-market. In addition, there is no price transparency or controls to ensure that healthcare, for which demand is highly price inelastic, is not abused by service providers. As hospitals grow and expand, they will gain even more negotiating power over insurance firms, who will respond by raising premiums on the insured. Additionally, such consolidation can only mean that whatever little price competition that currently exists will further erode, hurting the uninsured the most. Similarly, laws handicapping buyers of drugs introduce non-competitiveness, incentivizing the drugmakers to continue pricing high while dis-incentivizing the motive to research improvements on existing drugs or create new drugs because high profits are intact. Thus, the real problem in America’s healthcare nightmare is that the industry’s very structure is one of a monopoly, and as such, high prices prevail. It is then no wonder that over 60% of all bankruptcies in the US are due to medical bills [2]. If the US is to address this very serious issue, it must foster competitiveness, rendering the industry transparent, price-justified and thus, efficient and sustainable.

References: 

1) Brill, S. 2013, February 20. Bitter pill: Why medical bills are killing us. Time Magazine.

2) Tamkins, T. (2009, June 05). Medical bills prompt more than 60 percent of u.s. bankruptcies. CNN, Retrieved from http://www.cnn.com/2009/HEALTH/06/05/bankruptcy.medical.bills/