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The Restructuring of the AmericanHealth Care System

Donald W. Light

The American health care system, one of society’slargest and most influential institutions, is under-

going profound cultural and structural changes as largebuyers of services wrest partial control from providersin order to restrain escalating costs. Major corporationsand state health programs have awakened from thehabit of passively paying medical bills and are aggres-sively pursuing ways to stop medical costs from contin-uing to rise at about twice the general rate of inflation(Burner et al., 1992). Government programs, especiallyMedicare and Medicaid but also the Veterans Adrninis-tration, the armed services, and federal employee bene-

This essay is based on a policy research project analyzing the restructuringofAmerican he&b M and in consequences for society. Support from TheTwentieth Century Fund is gratefully acknowledged. I also wish to thankHoward Fteeman, Sol Levine. Odin Anderson, Tbcodor Litman, andAdrian Wagnet for their suggestions and critical remarks.

fit programs, are under constant pressure from Con-gress to keep costs down.

These large purchasers are buying medical services involume at wholesale prices and even dictating terms, aradical change from the long-held custom of individu-aIs or their insurers paying for their care retail on a case-by-case basis. Institutional buyers want to know whatthey are getting for their money-a simple question thathas threatened the autonomy of physicians and hospi-tals to the core because the answers require detailed data,close scrutiny, and ultimately outside judgment ofwhether the services are worth their cost. The nature ofinsurance is being changed as buyers and insurers shiftthe risk of costs to patients and providers. Increasingly,the fiduciary relation between doctor and patient isstressed, perhaps even tainted, by competition for busi-ness and prepayment, while before it was compromised

46

ln

iure from Con-

&al services inictating terms, aom of individu-: retail on a case-,t to know whatple question thatcians and hospi-lire detailed data,ie judgment ofst. The nature oftnd insurers shiftlets. Increasingly,r and patient ispetition for busi-{as compromised

CHAPTER 2 l Tbc Reshwtwing of the Amoirrrn Health Gtrr Syttem l 47

by paying physicians every time they carried out a pro-cedure.

These fundamental changes-and the resistance tothem-are easier to describe than to analyze. Our pur-pose here is to provide readers with a framework for un-derstanding the current reconstruction of the Americanhealth care system. Central to that framework is newhistorical research showing that corporations and otherinstitutional buyers were setting terms and contractingwholesale for medical services around 1900 as part ofindustrialization at that time. As a result, physicianswere providing medical services for a fixed annual fee(capitation) or according to a discount fee schedule liketoday’s preferred provider organizations. These buyers’markets were vigorously opposed through legal, eco-nomic, and political pressure by medical societies andsuppressed until the late 197Os, when institutional buy-ers once again asserted themselves.

EARLY CORPORATE HEALTH CARE

During the nineteenth century, the corporate prac-tice of medicine began in the railroad, mining, andlumber industries, where remote locations, high acci-dent rates, and the growth of lawsuits by injured work-ers called for some corporate form of health care. Theseindustries contracted for medical services on a retainerbasis or on salary; some even owned hospitals and dis-pensaries for their workers. Some textile industries alsoestablished comprehensive medical services in milltowns. Thousands of doctors were involved in these con-tracts or worked on salary (Williams, 1932; Selleck &Whittaker, 1962).

By the end of the nineteenth century, however, moreand more businesses with none of these special needsalso began to contract on a competitive basis for thehealth care of their employees. For example, the Michi-gan State Medical Sociery reported in 1907 that manycompanies (of no particular size or reputation) werecontracting for the health care of their employees(Langford et al., 1907). The Plate Glass Factory con-tracted with physicians and hospitals for all medical andsurgical care of its employees and families for a dollar

per month apiece. The Michigan Alkali Company didthe same, but did not include family members. Severalother companies had contracts for the treatment of ac-cidents and injuries. Commercial insurance companiesof the day also got involved, putting together packagesof services for a flat amount per person per year (capi-tation) or for a discounted fee schedule.

More widespread than early corporate health careplans were rapid comprehensive health care services of-fered for a flat subscription price per year to membersof the fraternal orders that had proliferated rapidly dur-ing the same period. The national and regional ordersof the Eagles, the Foresters, the Moose, and the Oriolesas well as other national or regional fraternal associa-tions offered medical care at deeply discounted pricesthrough their local lodges (Ferguson, 1937; Gist,1940). Various reports from medical societies and com-missions in Louisiana, Rhode Island, California, andNew York attest to the prevalence of such plans and of“contract practice,” as competitive health care was thencalled. “[Tlhe growth of contract practice has been soamazingly great during the last twenty-five years as al-most to preclude belief,” reported a committee ofphysicians in 1916 (Woodruff, 1916, p. 508). “Practi-cally all of the large cities are fairly honeycombed withlodges, steadily increasing in number, with a constantlygrowing membership.”

The government also became heavily involved in or-ganized buying near the turn of the century. Most of themore comprehensive reports on wntract practice de-scribe municipal, county, and state agencies putting outfor bid service contracts for the poor, prisoners, andcivil employees. At the federal level, the armed servicesand Coast Guard had long contracted for medical ser-vices at wholesale prices (Burrow, 1971; Richardson,1945).

In response to these developments, more and morephysicians competed to provide medical services at dis-count fees or for a low capitation fee. This greatlythreatened independent practitioners, who were alreadyfacing keen competition from the glut of doctors beingtrained at proprietary medical schools, and from otherkinds of providers such as homeopaths, osteopaths,

48 l PART ONE l Health Politics and Policy in Pmprctiw

naturalists, and chiropractors. Equally threatening toprofessional status, the institutions or organizationswriting these contracts set the conditions under whichmedicine should be practiced.

SUPPRESSING CONTRACT MEDICINETo battle contract medicine, county and state soci-

eties took a number of actions. They conducted studiesand reported on the terrible conditions under whichcontract physicians worked. Strangely enough, how-ever, the few times that remarks were published byphysicians doing contract work, they said they liked theguaranteed income rather than having a quarter of theirpatients (on average) not pay their bills. They remarkedon how they learned to handle hypochondriacs andother abusers of free medical care, and they pointed outthat contract medicine was an excellent way to build upa private practice. Societies were also forced to ac-knowledge that a sizable proportion of their membersactively bid for contracts and did contract work (Lang-ford et al., 1907; Lytle, 1909; Bulletin, 1909; Haley etal., 1911; Woodruff, 1916).

To those leading this campaign, however, complicityappears to have been a good reason to redouble their ef-forts and save their colleagues from their own bad judg-ment. Some societies drew up lists of physicians knownto practice contract medicine in order to embarrassthem. Others drew up “honor rolls” of members whopromised to swear off competitive contracts. Commit-tee members would ferret out recalcitrant colleaguesand make group visits to pressure them to abandoncontract practice. Some societies threatened expulsionor censure of those members who did not cooperatein stamping out price-competitive medicine (Burrow,1971).

These pressures worked much more effectively thanthey had in the nineteenth century, because medical so-cieties succeeded in getting hospitals not to grant priv-ileges to any physician who was not a member in goodstanding. The hospital had established itself as the cen-ter of modern medicine and professional status so thatprivileges became a powerful control mechanism. Mal-

practice insurance and other professional needs werecontingent on membership too. More broadly, the suc-cess of practice depended on good relations with one’scolleagues.

Although organized medicine never eliminatedcompetitive contracts entirely, it greatly reduced theirnumber. Fraternal orders did not want to cause a rowwith doctors and shifted their coverage to reimbursingmedical bills rather than contracting for services. Re-imbursement allowed doctors to set their own fees andeliminated any middlemen setting the terms of service.Several court decisions supported the profession’s op-position to the corporate practice of medicine, eventhough its legal basis was (and is) weak. In a number ofstates, the medical profession persuaded legislators topass legislation prohibiting the corporate practice ofmedicine or the practice of medicine by organizationsrun by nonphysicians. They also enabled other laws tobe passed against the organized practice of medicine forprofit. Medical societies meanwhile dusted off their oldfee schedules and raised their prices to a professionally“respectable level” (Schwartz, 1965; Burrow, 1963;Rosen, 1983; Starr, 1982).

The goal of these and other efforts to gain controlover the practice of medicine has nevef been to elimi-nate competition entirely but rather to keep outsiders(i.e., consumers and buyers) from setting terms, espe-cially prices. As Max Weber (1968, p. 342) understood,guilds secured a monopoly over a domain and then letmembers compete freely within it. By the 192Os, themedical profession had contracts confined to a few in-dustries with special needs, to group purchasing of ser-vices for the poor and the military, and to maverickexperiments on the periphery of medicine (Williams,1932).

MAKING INSURANCEPROVIDER-FRIENDLY

Although organized medicine had successfully op-posed national health insurance, unpaid bills during theGreat Depression made subscriptions and forms of pre-payment appealing. Groups of physicians, county and

CHAPTER 2 l The Rtmwttoi~g of thr American Hrahb Can System l 49

sional needs weree broadly, the suc-:lations with one’s

never eliminatedatly reduced theirnt to cause a rowge to reimbursing; for services. Re-heir own fees ande terms of service..e profession’s op-rf medicine, evenk. In a number oflded legislators tojorate practice of: by organizationsbled other laws toce of medicine forusted off their old0 a professionally; Burrow, 1963;

ts to gain controlrer been to ehmi-to keep outsiderstting terms, espe-342) understood,nain and then letly the 192Os, thefined to a few in->urchasing of ser-and to maverickdicine (Wiiiiams,

I successfully op-id bills during theand forms of pre-:ians, county and

state medical societies, individual hospitals, employers,and unions all began to experiment with prepaid con-tracts again. Although the American Medical Associa-tion (AMA) remained adamantly opposed to any sucharrangement, especially if it placed a middleman be-tween doctor and patient, the American Hospital Asso-ciation (AHA) listened more sympathetically to theplight of member hospitals. Many could not meet pay-roll and had “payless days.” An unknown but probablyconsiderable percentage of them started to sell hospitaldays to one group or another on a prepaid basis of fiftycents per member month or a dollar per family month@eland, 1932; Williams, 1932; Schwartz, 1965; Ste-vens, I97 1; Rayack, 1967; Sigmond, 1989; Greenberg,1971). Again the profession and now the hospital in-dustry faced the threat of competition pitting one pro-vider against another.

Out of this turbulence emerged what came to beknown as Blue Cross. Few readers today realize thatBlue Cross and Blue Shield formed as ptovider-con-trolled vehicles for pass-through insurance and thatmore cost-effective and comprehensive alternatives werepassed up. Justin Ford Kimball is usually credited withhaving the genius to find the solution, because of hisdynamic charisma and travels throughout the countryadvocating his hospital prepayment plan. In fact, how-ever, Kimball’s Baylor University Hospital was not thefirst to implement such a plan (it was Grinnell Hospi-tal in 1917). Moreover, Kimball advocated competinghospital plans and opposed middlemen, such as BlueCross would have to be, as the insurance administratorsfor multihospital plans. Instead, it was the soft-spoken,self-effacing Quaker, C. Rufus Rorem, along with asmall group of colleagues, who realized that a prepaidhospital plan would have to include many or all of thehospitals in an area if the doctor and the patient wereto have free choice like the multihospital plans that hadarisen in Essex County, New Jersey, Sacramento, Cah-fornia, and West Virginia.

On other basics, Kimball and Rorem seemed toagree: the plan should be nonprofit and should not in-clude doctors’ services so as to avoid opposition fromthe AMA. They also understood that they were selling

the middle class access to semiprivate services (not nec-essarily semiprivate rooms) instead of the ward servicesthey would get if they went to the hospital and were un-able to pay. The genius of Rorem’s vision lay in per-suading state legislatures that in lieu of the sizable re-serves required of insurance plans, hospitals couldsubstitute guaranteed services. Indeed, the trick of earlymultihospital plan administrators was to negotiate acontract of payments with hospitals for their servicesthat lay within the limits of the fifty cents to a dollar permonth that subscribers were willing to pay.

Because prepaid hospital plans freed up patients’purses to pay doctors’ fees, and because noncompetitiveplans avoided the awkward problem of a doctor beingaffiliated with one hospital but his or her patient hav-ing a subscription with another, local physicians andmedical societies backed Rorem’s approach. Althoughmany hospitals had at least one prepaid contract with agroup, the idea quickly spread as a form of insurancethat provided the working and middle classes with freechoice and semiprivate services (Rorem, 1940; Reed,1947; Rayack, 1967, Chapter 5).

From a comparative and historical point of view,Blue Cross is notable for providing only voluntary hos-pital insurance coverage for groups of workers whocould afford the premium. Moreover, the special en-abling legislation passed in many states to circumventinsurance laws required that hospital administrators,trustees, and physicians hold the majority of seats onthe Blue Cross boards. Even though there was tensionbetween Blue Cross plans and member hospitals in ne-gotiating how much the plans would pay, from the startBlue Cross focused on what the profession valued most:hospital-based specialiid care and surgery in the tem-ple of medicine.

When the AMA and state and local medical societiesdecided a few years later that prepaid hospital planswere an idea worth imitating, they made Blue Shieldeven more provider-friendly by emphasizing paymentfor services rather than service contracts. This left thedoctor free to bill as much as he or she wanted.

Instituting health insurance along professional linesand defeating prior efforts to legislate national forms of

50 9 PART ONE 9 Health Pohics and Policy in Pmpccth

social insurance completed what Anderson calls “thehealth service infrastructure” (Anderson, 1991). Thenature of that infrastructure is outlined in Figure 2-land could be characterized as a professionally drivenhealth care system. At the heart of that system is thegoal to provide the best possible clinical care to everysick patient where physicians choose to practice. Com-plementary goals include developing scientific medi-cine to its highest level and protecting the autonomy ofphysicians.

These goals asserted themselves at critical points insubsequent decades. When, after World War II, severalproposals were made for government support of healthcare, ranging from national health insurance underPresident Truman to a GI bill for medical education,the AMA at the height of its power opposed all pro-

FIGURE 2-1 Ideal Type of a Profession-Based Health Care System

Key Values and Goals To provide the bestpossible clinical care toevery sick patient (whocan pay and who livesnear a doctor’s practice)

To develop scientificmedicine to its highestlevel

To protect the autonomy ofphysicians and services

To increase the power andwealth of the profession

To increase the prestige ofthe profession

Image of the Individual A private person whochooses how to live andwhen to use the medicalsystem

Power Centers on the medicalprofession, and usesstate powers to enhancefts own

Key Institutions Professional associationsAutonomous physicians

and hospitals

posals except the rebuilding of hospitals under theHill-Burton Act and the support of national researchinstitutes. As a result, over the next fifteen years, theAmerican health care system became even more hospi-tal- and subspecialty-based (Starr, 1982; Somers &Somers, 1961).

Then, when the pressure to insure the elderly and thepoor became too great for the AMA to oppose in themid-l 96Os, the AMA insisted that Medicare and Med-icaid be structured as pass-through reimbursement of“usual and customary” fees with no interference (over-sight) in the practice of medicine. The American Hos-pital Association insisted that debt service and a guar-anteed surplus be built into the bed day-rate. Thisspawned a generation of debt-financed expansion ofhospitals. Further, the rules for depreciation allowed ac-

Organization Centered on doctors’preferences of specialty,location, and clinicalcases

Emphasizes acute, high-tech interventions

A loose federation ofprivate practices andhospitals

Weak ties with other socialinstitutions as peripheralto medicine

Division of Labor Hierarchical, doctor-controlled

Specialty-oriented

Finance and Costs Private fees paid byindividual to doctorwhen feasible

Private, voluntaryinsurance as passivevehicle to pay bills

Highly inflationary

CHAPTER 2 l Tbc Remring of the American Heahb Cm Sjmm l 5 1

celerated depreciation on replacement cost, so that ahospital could depreciate the entire value of majorequipment in less than three years while keeping it forseven to ten years and charging a fee every time it wasused. A critic at the time called these provisions a “li-cense to steal” (Somers & Somers, 1961).

The goals of a professionally driven health care sys-tem may be worthy in their own right, but one can seehow they led to excesses and distortions that resulted inwidespread discontent and revolt by consumers andbuyers in the 1970s. One might call them the ironies ofsuccess. For example, professional goals lead to empha-sizing state-of-the-art clinical interventions but ignor-ing primary care and prevention. Costs rise sharply, es-pecially if reimbursed by provider-controlled insurance.Physician autonomy at the clinical level leads to hag-mentation and underserved areas at the system level. Anintegrated delivery system that serves rural and inner-city patients as well as others would require a loss of in-dividual autonomy.

As Figure 2-l indicates, the resulting system consistsof a loose federation of local offices and hospitals or-ganized around physicians’ preferences, with weak tiesto other sectors such as the school or the workplace.Power centers on professional associations, which usethe legal powers of the state to enhance their positionbut protest state interference in the practice of medi-cine. The American system differs from its counterpartsin many other countries by the relative weakness of thestate (Larkin, 1983; Willis, 1983; Coburn et al., 1983;Wilsford, 1987). Whereas the medical profession inthose countries faced many similar issues of legitimacyand control, they worked with the state in matters of or-ganization and financing.

CRlXilNGAHAVENFOR CAPITALISM

An ironic consequence of the American case is thatthe medical profession created protected markets wherecapitalism could flourish and eventually exert controlover the profession itself Although today we think ofthis happening with health care corporations, it was

foreshadowed by the earliest and perhaps most impor-tant case of the medical profession harnessing the drugindustry (Burrow, 1963; Rorem & Fischelis, 1932; Cap-Ian, 1981).

As early as 1906, the AMA mounted a vigorous cam-paign against nostrums and patent medicine. Joined bydruggists, who were also feeling the competition frompatent medicine manufacturers, the AMA and somestate medical societies sought to cordon off and controlthe sale of those drugs whose recipes were revealed,tested, and approved by the AMA. They succeeded andcreated a protected professional market of prescriptiondrugs available only through physicians. Given that theprofession opposed any state participation and thatcapitalism constituted the “natural” economic environ-ment of the nation, it was inevitable that “e&&l” drugcompanies (i.e., companies and drugs that conformedwith AMA ethics) experienced tremendous growth andprofits. What the profession did not anticipate is thatthese companies would soon influence professionaljudgment and make many facets of professional life de-pendent on them, not the least the AMA itself(Goldfinger, 1987; Lexchin, 1987; Mints, 1967).

Corporations flourished in every other protectedmedical market-hospital supply, hospital construc-tion, medical devices, laboratories, and insurance-un-til the only large sector left untouched was medical ser-vice itself. The profession somehow thought that itcould allow corporations to dominate every other sec-tor of medicine without their touching physicians.Meanwhile, professional judgments and decisions werebeing commercialiid in numerous ways-by how in-surance policies were written, by what medical deviceswere promoted, by how supplies were packaged, bywhat new lab tests were made available, by which com-pany sponsored a professional presentation, and bywhich salespersons they saw.

Finally, by the 1960s only medical care itself had notbeen corporatized. Yet in creating a protected domainwhere physicians could order what they wanted andhave someone pay the bill, the profession created anideal environment in which corporations could flour-ish. With the passage of Medicare and Medicaid, which

had special provisions that made the corporate practiceof medicine very profitable and made it almost impos-sible to lose money, for-profit hospital and nursinghome chains flourished. Soon all kinds of other med-ical service corporations sprang up. This greatly dis-turbed the medical profession. Leading physicians sawthese corporations as alien invaders who threatenedeverything they stood for (Relman, 1980), and indeedmany observers still do not reahze that the rise of cor-porate provirters was an integral part of the system thatthe profession put in place. The irony of professionaldominance was corporate dominance.

THE BUYERS’ REVOLTDuring the 1960s and 197Os, the movement toward

a professionally driven health care system increased. Fi-nally, corporate buyers, other employers, and legislatorsbecame alarmed at the sharp rise in medical expensesand a number of related problems. The 1970s openedwith a burst of criticisms against unnecessary surgery,excessive drug prescriptions, inefficient hospitals, toomany specialists who did not care about the patient asa person, the lack of primary care, and the neglect of thepoor despite Medicaid. From every sector of societycries arose for national health insurance and a total re-vamping of what was seen as a chaotic, wasteful system(Forcunc, 1970; Greenberg, 1971; Ehrenreich & Ehren-reich, 197 1; Bodenheimer et al., 1972; Kennedy, 1972;Ribicoff, 1972). Numerous proposals for nationalhealth insurance, combined with reforms to containcosts, were made. In response, President Niion pro-posed a national network of health maintenance orga-nizations (HMOs). Following the advice of Paul Ell-wood, Nixon took these long-despised, anti-Americanhotbeds of “socialist medicine,” and presented them asthe ideal business system that integrated all levels of careunder one management and managed all aspects ofhealth care in a cost-effective manner. This may be thegreatest rhetorical reversal in the history of Americanhealth care.

The struggle for national health insurance and re-form brought to the surface how deeply entrenched the

American system was in a commercial, profit-makingindustry. Hospital supply companies, medical technol-ogy companies, pharmaceutical companies, health in-surance companies, hospitals, physicians, and the nurs-ing home industry all mounted intensive campaignsagainst any bill that would slow down their growth orprofits. Of course, universal health insurance would in-crease their markets, but it came with government reg-ulations if not government administration that wereideologically offensive. Various groups of politiciansdug in their heels over different measures. For example,a tax-based system was simply unacceptable to a signif-icant block of legislators, regardless of its fairness to theworking class and its much lower administrative costs.Endless politicking over amendments made the choiceseven more tortured. In the end, nothing passed (Davis,1975).

In the meantime, during the 1970s. Congress, as thebuyer behind Medicare, passed several bills to controlcosts through regulation. They focused on planning(health service agencies [H&l), regionalizing expen-sive facilities and equipment (certificates of need[CONS]), and reviewing physicians’ orders (profes-sional services review organizations [PSROs]). Theseand similar measures, however, lacked the powers of en-forcement, and they had loopholes that health care ad-ministrators and consultants quickly learned to exploit.By the end of the 197Os, policymaken concluded thatregulation does not work It would have been more ac-curate to conclude that weak and partial regulationdoes not work The 1970s ended with health care fromthe medical-industrial complex costing about threetimes what it had in 1970 and consuming 9.5 percentof GNP (up from 7.5 percent in 1970). Compared topeople in other countries who faced similar budgetarycrises and brought health care expenditures under con-trol, Americans were not really serious about cost con-tainment. For those costs were the revenues to the med-ical-industriaI complex, one of the strong growth areasin the American economy.

The legal basis of provider dominance and sup-pressed competition that the medical profession had socarefully built up faced new challenges. In a landmark

CHAPTER 2 l The Rmtmcturing of the Am&an HcaItb Can System l 53

case involving the issuance of a fee schedule by the Vir-ginia Bar Association, the U.S. Supreme Court ruledfor the first time that “learned professions” were exemptfrom anti-trust laws (Goldfarb, 1975). The Court evendismissed the fact that the fee schedule had been ap-proved by the Supreme Court of Virginia and wastherefore exempt as a state action. It was judged to beprice fling, plain and simple.

The Federal Trade Commission realized that theGoldfarb ruling applied to the practice of medicine, andwithin months began gathering evidence against med-ical societies and several specialty societies for restrictingadvertisement by members and restraining price com-petition (Pollard, 1981). Soon the dominance of physi-cians and hospital administrators on Blue Cross andBlue Shield boards came under scrutiny. Laws that themedical profession had put through against the corpo-rate practice of medicine and prepaid health care planscame under attack In short, the entire structure of legalprotections against competitors began to crumble (Ha-vighurst, 1980; Weller, 1983; Gee, 1989). Moreover,many states began to pass new laws to facilitate the cre-ation of HMOs and preferred provider organizations(PPOS).

If one believes that shifts in the law usually reflectshifts in the body politic, and especially in priorities ofmajor interest groups, then the Goldfar-6 case and sev-eral other key cases reviewed by the Supreme Court andother senior courts must be seen as part of the profes-sion’s fall from grace and the rise of institutional buyers(Havighurst, 1980). It also reflects the almost sacredstatus that competition holds in American culture.Competition is assumed in most textbooks and conver-sations to foster high quality at the lowest price, effi-ciency, productivity, democracy, and liberty. One doesnot hear about the cases of competition producing dis-location, waste, higher prices, inefficiency, deception,or inferior quality. The Supreme Court captured thecompetition ethos when it wrote:

The Sherman act was designed to be a comprehensivecharter of economic liberty aimed at preserving free andunfettered competition as the rule of trade. It rests on thepremise that the unrestrained interaction of competitive

forces will yield the best allocation of our economic re-sources, the lowest prices, tbe highest quality and thegreatest material progress, while at the same time provid-ing an environment conducive to the preservation of ourdemocratic political and social institutions (356 U.S. 41958).

Evidence for competition doing all these things inhealth care is scant, except under quite specific circum-stances (Light, 1993).

During the 198Os, institutional buyers went intoopen revolt against the professionally driven system un-der the banner of competition. Increasingly, they in-sured themselves and as a consequence managed thehealth care services for their employees or enrolleesmore actively. They soon discovered facts about healthcare that shaped their thinking and have changed thecourse of medicine. First, evidence had been mountingfor years that health care did not improve people’slongevity much; the major factors were genetics, socialclass, environmental haxards and pollutants, and peo-ple’s health habits. While this interpretation of the evi-dence can be challenged, doubts about the value ofmedicine raised the question of what we were gettingfor our money.

Second, evidence had been mounting that doctorsvary greatly in how much they hospitalize or operate onpatients with the same kinds of problems, after con-trolling for many variables that might explain the dif-ferences. This further discredited the medical profes-sion and raised the question of whether the high userswere wasting other people’s money and profiting fromit. Given numerous studies indicating that 20 percentto 40 percent of many tests and procedures were un-necessary, buyers suspected that doctors and hospitalswere running up bills for overtreatment.

Third, when employers and other buyers brought inspecialists to ask them which of several treatments theyshould be paying for to relieve lower back pain (a com-mon occupational disorder) or to treat breast cancer,they got a roomful of conflicting answers. The implica-tion was that physicians, even board-certified specialists,did not know what worked and what did not. Whenemployers asked their health insurance carriers the same

54 l PART ONE l Hdth h?itics and Policy in Pc~p-tiue

questions, they found that insurance companies did nothave any answers either. The issues about the relative ef-ficacy of alternative interventions are in fact subtle, butthe message that buyers took away was not.

As a consequence of these rude awakenings, and thegoals, values, and policies of institutional buyers (sum-marized in Figure 2-2), the buyers’ revolt led to severalnew actions. Congress, as the largest buyer of all, got SO

frustrated that it inaugurated large-scale studies on theoutcomes of alternative treatments. Employers wereready to accept any set of criteria by utilization reviewfirms that seemed reasonable for identifying unneces-sary tests and procedures. In both responsible and irre-sponsible ways, these initiatives meant that buyers weretaking over the core clinical function of medicine: thatof deciding what tests and procedures were clinicallyuseful and which patients needed which ones.

Buyers also campaigned to dismantle and reshapethe laws, customs, and institutions so that buyer choiceand competition could take place. No longer was therethe sacred trust in physicians that had prevailedthrough the mid-1960s. Doctors were seen as orderingtoo many tests, prescribing too many drugs, perform-ing too much surgery, and bouncing too many patientsfrom specialist to specialist.

Buyers demanded detailed accounts of what serviceswere being rendered at what wst. To most people’s sur-prise, providers did not know what their services actuallywst (only what they charged) and did not have good dataon the services they gave. Detailed clinical data systemsare inherently intrusive; they lead to buyer controlthrough monitoring systems. The battle over the controlof data intensified. Even more sign&a t tthe demandfor accountability has shifted from measuring inputs(supplies, equipment, facilities, and medical procedures)to outcomes (whose patients get better f3ste.r and cheaper).

Employers also started to restructure their wntractsto cover all or large portions of health care services.What they sought were organized provider groups thatwould bid on a package for a price and then deal withthese issues of excessive and unnecessary services. Thisprompted providers to restructure into forms that of-fered coordinated care. Large group practices, joint ven-tures between hospitals and physician groups, managed

From Emphasizing To Emphaslzing

Provider dominance (asystem run and shapedby doctors)

A sacred trust in doctors

Qualii assured by medicalprofession as high (butunevenandunattended)

A “nonprofit” guildmonopoly

Cottage industry structure

Specialization and subspe-cialization

The hospital as the “templeof healing”

Fragmentation of servicesas a byproduct ofpreserving physicians’autonomy

Payment of costs incurredby doctor’s decisions

Cross-subsidization of thepoor by the more afflu-ent, of low-tech and ser-vice departments byhigh-tech departments,of medical education byeveryone

Buyer dominance (an effortto dismantle and reshapethe laws, customs, andinstitutions establishedby organized medicine toallow buyer choice andcompetition)

A distrust of doctors’values, decisions, evencompetence

Qualii as something buy-ers want documentedand reviewed

Competition for profit (evenamong nonprofitorganizations)

Corporate industry structure

Primary care and preven-tion, with minimal refer-rals to specialists

The home and office ascenters of care, with thehospital as a last resort

Coordination of services tominimize error andreduce unnecessary andinappropriate servicesand costs

Fixed prepayment, withdemand for a detailedaccount of decisions andtheir efficacy

Cross-subsidization seenas “cost shifting,” a sus-pect maneuver that im-poses hidden chargeson buyers. An unwilling-ness to pay for anythingbut direct services

FIGURE 2-2 The Buyers’ Fkvolt: Dimensions of Change inAmerican Health Care

care systems, and many other kinds of organizationalarrangements have grown. The practice of medicinebegan to change from cost-p16 treatment to resuhs-oriented managed care. .

CHAPTER 2 l Thr Restructuring of tbc American Health Cm $tem l 55

Medicare and the Powerof Buyer Dominance

In the meantime, as by far the largest institutionalbuyer, Medicare and its administrators at the HealthCare Financing Administration (HCFA) sponsored awide range of research projects and demonstrations inpayment schemes, competitive delivery systems, andmethods for monitoring costs. Behind them, as thevoice of taxpayers, Congress has steadfastly pressuredthem to find ways to keep Medicare expenses from ris-ing so fast that they would bankrupt the MedicareTrust Fund. Using its capacity as a dominant buyer tomake long-term investments in research and develop-ment, HCFA funded a project for over ten years at Yaleto design a system for allocating resources within hos-pitals by diagnostically based utilization rather than byprocedure. A bold commissioner of health in New Jer-sey, Joanne Finlay, proposed using this system to payhospitals-a radical departure from the way that hos-pitals had ever been paid, but one that promised to re-ward hospitals for getting a job done within budgetrather than for doing as many procedures as possible.With the support of HCFA, New Jersey imposed thisradical payment system by diagnosis-related groups(DRGs) on almost all of its hospitals (Widrnan &Light, 1988), and in 1983, Congress adopted a stricterversion of this system for paying hospitals for Medicarepatients. Called the prospective payment system (PPS),the federal version meant that when a patient was ad-mitted, Medicare knew in advance that they would payonly a fixed amount, unless it was a costly outlier.Given Medicare’s dominance in the market, almost allhospitals agreed to comply. Subsequently, insurancecompanies, large employers, and large health care sys-tems adopted it.

PPS had a tremendous impact on the hospital in-dustry and on the health care system in general. Hospi-tal administrators seemed so concerned about PPS thatthey quickly cut staff, reduced inventory, and had brief-ing sessions with physicians to encourage shorter stays.They established internal monitoring systems to weedout or reeducate those providers who ran up expenseswith too many tests or procedures. Secondary indus-

tries arose around maximizing payments and aroundclinical management systems. Profits (or surpluses)subsequently reached an all-time high, but the era ofdehospitalization had begun. Congress responded tothe profits by paying less. It did not give the hospitalsan increase as large as overall medical inflation until1989. As a result, profits and surpluses quickly droppedto razor-thin levels, and many hospitals ran deficits. Ad-missions and length of stay continued to decline.

In addition, Medicare and the administrators ofHCFA have developed stronger, more unified programsthan the private sector in other areas as well. They re-structured and strengthened a national network of peerreview organizations and developed specific targets ofoveruse in each region of the nation. They made an-other long-term investment in developing a relativevalue scale based on actual costs of training, time, andresources for paying physicians. The resulting paymentsystem, the resource-based relative value system(RBRVS), is the first nationally used fee schedule in theUnited States. Finally, HCFA has steadfastly sponsoredresearch on risk factors and how to adjust payments toproviders for the risks of their patients.

Each of these tools for cost management is rife withpolitics and controversy, making it easy to forget froma historical perspective what large advances they were.Although HCFA has been slow to develop and struc-ture Medicare managed care contracts in a sensible way,and in the mid-1990s, was the object of severe criticism,for twenty years it led the private sector in cost controlsand developed several tools for controlling costs.

Ironically, although these strong measures weretaken in the name of competition under Ronald Rea-gan, they constituted “the most intrusive governmentintervention since Medicare . . . by the most conserva-tive President since Herbert Hoover” (Goldfield, 1994,p. 78). One could see the same irony in strong actionstaken in the purchase of health insurance coverage bylarge companies that dominated their local markets.Americans believe deeply in competition, but whenthey can use their anticompetitive muscle, they will.Likewise, competitive sellers will dominate or controltheir markets when they can in the name of competi-tion. As Alan Maynard (1993, p. 195), the leading

56 9 PART ONE l Hcaitb Politics and Po&y in Penpcm’ve

health economist in Britain, where belief in competi-tion is less ideological, has pointed out, the goal of cap-italists is to “ensure that they restrict competition,maintain market share and enhance profits: capitalistsalways and everywhere are the enemies of capitalism!”

The Rise of Managed Care Systems

Besides developing the DRG and RBRVS systems aspowerful forms of fiscal management, the federal gov-ernment strongly supported HMOs. At the time,HMOs were proclaimed to deliver all health care for 10percent to 40 percent less money than fee-for-serviceproviders and hospitals, and the HMO Act of 1973required employers to offer HMOs as an alternative toregular health insurance (Falkson, 1980). One mightcall this forced competition, but it did create a nationalmarket for cost-effective managed care systems.

The medical and hospital lobbies, however, weighedthe HMO Act down with requirements and stipula-tions that became burdens to growth, and by the early198Os, the act was considered an obstacle to HMO de-velopment-another example of how government reg-ulations keep private markets from developing cost-effective delivery systems. But in fact it was an exampleof private practitioners using the government to ad-vance their (anticompetitive) goals, for it was the bene-ficiaries of the cost-plus private market that loaded upthe HMO Act with obstructive regulations.

Besides offering HMO options and fostering otherforms of managed care, employers increasingly limitedtheir premium contribution for benefits and then leteach employee choose from a “cafeteria” of alternativebenefit health plans that varied in choice, coverage, andprice. That is, employers increasingly went from “de-fined bene$t,” which guaranteed a certain level of cov-erage for health care (usuaBy very comprehensive), to“defined contribution,” which only guaranteed a certainamount of money for health insurance and other ben-efits. While the cafeteria plan approach gave the em-ployee great choice and fostered intense competitionamong providers, it protected the company from the re-lentless increase in health care premiums. Employees

thought the cafeteria plans were giving them more ben-efits, when over the long run they were getting less. Inthis context, managed care systems that had few or nocharges to patients became increasingly attractive.

During the 197Os, HMOs and employers bothpressed for amendments and changes in administrativerules that would make HMOs more competitive. Onecan see a gradual relaxing of requirements right onthrough the 1980s to allow HMOs to respond to a widearray of market demands by employers. In addition,preferred provider organizations (PPOs) were inventedto provide still more alternatives and flexibility. Essen-tially, a PPO is any group of providers who agree to dis-counted fees in return for an employer giving employ-ees incentives to use them. Typically, an employerwould cover through health insurance all or most of thetreatment provided by a PPO, but if the employeechose another physician outside the plan, he or shewould pay anything billed above that discounted level.

Throughout the 198Os, the boundaries betweenPPOs and HMOs began to blur. On one hand, somePPOs agreed to capitated payments, like HMOs. Onthe other hand, some HMOs did not provide compre-hensive care but were targeted to certain types of med-ical service, like PPOs. The basic point, however, is thatbuyers from Medicare on down to mid-sired companiesin local markets were hiring managed care companiesto tell providers what services they wanted and whatprices they thought were reasonable. The buyers’ mar-ket was greatly aided by a surplus of sellers, that is, byan excess number of hospital beds and an increase inphysicians that greatly exceeded population growth.

Paradoxically, these managed care systems, and com-petition between them and traditional medical services,did not save money. While business leaders proclaimedsuccess at using competition to end professional domi-nance and spiraling costs, HMOs were attractinghealthier employees and shadow-pricing the premiumsfor traditiona plans. This meant healthy profits for theHMOs and rising costs for employers as they paid fortheir sicker employees (or their dependents) in theopen-ended traditional plan. The syndrome feeds on it-self: the more sicker employees got left in the traditional

lg them more ben-rere getting less. Inhat had few or nogly attractive.1 employers boths in administrativecompetitive. One

irements right on) respond to a widekyers. In addition,OS) were inventedI flexibility. Essen-s who agree to dis-rer giving employ-ally, an employer: all or most of the: if the employeee plan, he or sheL discounted level.llndaries between1 one hand, somelike HMOs. On

I provide compre-:ain types of med-It, however, is thatl-sized companiesd care companieswanted and whatThe buyers’ mar-sellers, that is, bynd an increase intlation growth.ystems, and com-I medical services,nders proclaimedrofessional domi-

were attractingng the premiumshy profits for thes as they paid for>endents) in thehome feeds on it-in the traditional

CHAPTER 2 l The Rcmwtwing of the Amrrican Health Care Syttcm l 57

plan, the faster its premiums would rise, and thus thefaster HMO premiums could rise at a slightly lowershadow price, and the more the employer would payoverall. When the dust settled, the costs of health ben-efits had risen as fast in the 1980s as in the 197Os, de-spite the greatest effort in history to use competition inhealth care.

Crisis and Paradigm Shiftin Health Insurance

Several aspects of the buyers’ revolt shook the healthinsurance industry and forced it to rethink its pur-pose-even what business it was in. After enjoying sev-eral decades of an expanding market, the health insur-ance industry found itself facing a saturated market inthe I 970s. Getting new business meant taking it awayfrom a competitor, and the use of risk selection ex-panded (Light, 1992). When employers started to self-insure, insurance companies not only faced a shrinkingmarket, but were also reduced to being third-party ad-ministrators. No longer did they hold huge reserves offunds on which they could earn investment income.Bather they became little more than claims processors.

Certain insurers took the lead in redefining theirbusiness and their services by developing managed careservices. Initially, some of them served as packagers whowould put together a health care network for a largeemployer. They also developed capacities to do pro-spective, concurrent, and retrospective utilization re-view, to do quality assessment, and to assess providers.During the 198Os, these skills and capacities came to-gether to form a paradigm shift: from writing insuranceto owning or operating managed care systems. Profits,they discovered, were much greater for them as mid-dlemen who could keep the difference between premi-ums and the deep discounts they could extract fromproviders. The surplus of doctors and hospitals hasmeant that each yeat they could drive down what theypaid providers stii farther. Given that contracts in thesesystems pass nearly all the risk on to the providers, thenew business and its sources of profit have little to dowith traditional insurance.

National Health Care Reformas a Watershed?

After twenty years of buyers’ efforts through compe-tition and direct attempts at regulating medical prac-tices, the United States was the only First World nationthat still had not restrained the health care costs of themedical-industrial complex (MIC). Bather, revenues tothe MIC (and costs to citizens) had risen from $75 bil-lion or 7.6 percent of GNP in 1970, to $250 billion or9.2 percent of GNP in 1980, to $666 billion or 12.1percent of GNP in 1990 (Burner et al., 1992). Thecosts to employers equaled 100 percent of their post-taxprofits. Meanwhile, fewer and fewer working peoplehad health insurance. The “inverse coverage law” of pri-vate health insurance (Light, 1992) meant that throughexclusion clauses, coverage limits, waiting periods, andreimbursements limited to what the insurance com-pany determines are “reasonable” or “customary” or“prevailing” charges, those with insurance who mostneeded comprehensive coverage had less coverage.

Dismantling the legal, institutional, and economicfeatures that were built earlier in the century to mini-mize price competition and cost containment by insti-tutional buyers has been a slow process. Throughoutthe 1980s and into the 199Os, medical schools stilltrained largely specialists and provided leadership forthe entire profession in state-of-the-art clinical medi-cine, subspecialization, and new technology-the corevalues of the professional model and a chief cause of es-calating costs (Light, 1989). Licensing and certificationrules form a battlement around this core of the profes-sionally driven health care system. The high pay tophysicians and great differential in payment betweensurgeons and primary care physicians remained largelyin place. Despite notable savings by some large corpo-rations in some places, the spiraling cost of health caredid not slow down; even though politicians proclaimedthat it did (Light, 1984, 1994).

Almost twenty years after everyone had demandednational health insurance and reform, everyone de-manded it once again. The range of reform proposalswas much narrower than twenty years earlier, so that

58 l PART ONE l Health Politics and P&y in Penpem’ve

Clinton’s proposal was less comprehensive than Nixon’sin 1971 (Garfield, 1994). Nevertheless, 1993 felt like1973, because the institutional and economic structureof the health care system that had been set during thefirst half century created entrenched interests against re-form. The only difference was that the size of the med-ical-industrial complex was much greater, and the cor-porations involved had much more to lose.

The major beneficiaries would be the large insurancecompanies and the managed care corporations, becauseall the major reform bills except the single-payer plan ofRepresentative James McDermott (D-WA) and SenatorPaul Wellstone (D-MN) would place the nation’shealth care in their hands. By the end of 1993, however,they realized that the Clinton plan, at least, would closeup the loopholes they were so profitably exploiting, andthey turned against it. They realized they could do bet-ter without it.

Once again, ideological convictions played a majorrole. Some parties again wanted only a tax-based sys-tem; others passionately opposed a tax-based system.Some thought that government intervention was essen-tial to make health care fair and cost-effective; othersthought only private markets could do that. The lob-bying effort was far larger than in 1973, with far moredistorted and erroneous information (Kolbert, 1995;Carlson & McLeod, 1994; Reinhardt, 1995). Most in-teresting is that employers opposed bills that would re-lieve them from spiraling costs. Their opposition ap-peared to be due to three factors. First, employers arewedded to the 50 percent tax break they get on healthbenefits, even though economists contend that tax-exempt benefits have been a powerful engine drivingcosts up. Second, national health reform would greatlyreduce the size and power of corporate benefits depart-ments, whose directors were the chief advisers to theircompanies’ presidents and board chairs. Third, em-ployers wanted to keep control of benefits as a way tocontrol labor, even though the cost of that control hadrisen from 50 percent to 100 percent of after-tax prof-its. Such thinking is oddly American; for employers inno other industrialized country want to add the head-aches of health benefits to the complexities of running

their businesses. To put it another way, health benefitsis itself a big business inside big business.

A long view leads one to conclude that the Clintonreform effort was not a watershed but rather one moreturn in the cycle of spiraling costs and shrinking cover-age leading to demands for reform that threaten the in-stitutional, economic, and ideological sources of thespiraling costs and shrinking coverage.

Corporate Medicine in a New Guise

The Clinton reforms seemed to have accelerated ef-forts by managed care companies and insurance compa-nies, born again as managed care corporations, to buy,build, merge, and otherwise attain market control as oli-gopolies or monopolies in their principal markets beforeany die was cast. Thus, in the 1990s. things look differ-ent. As the drive for national health reform was collaps-ing, managed care corporations and insurance compa-nies made a fierce and successful effort to win deepdiscounts and drive down hospital admissions and beddays per thousand. In ateas where they had high marketpenetration, they succeeded and saved billions of dol-lars. These savings, however, went largely to executiveofficers, management teams, and investors’ profits, notto the employers and employees who foot the bill.

Employers in a few areas have joined or formedhealth care coalitions and empowered them to do col-lective buying. But this is hard to do when each em-ployer has a somewhat different health plan, is struc-tured in a somewhat or very different way, and has adifferent board of directors. As always, a few large buy-ers report impressive savings for themselves, but howmuch these savings are being shifted to others is un-known. One needs to look at declines in real (inflation-adjusted) growth for an entire region, not just for thebig buyers.

In short, the principal force behind reducing healthcare use and cost in the 1990s has been for-profit mid-dlemen and packagers, not employers or Medicare.Many of the major HMO corporations actually provideno health care. These are the new-breed HMOs that arepachgm, not health service organizations. They take

CHAPTER 2 9 The Ramrtwing of rhr AmtAn Hraltb Cm Sjssm l 59

wealth benefits

at the Clinton.ther one moreuinking cover-hreaten the in-sources of the

hise

accelerated ef-iurance compa-rations, to buy,:t control as oli-I markets before.ngs look differ-rm was collaps-iurance compa-rt to win deep&ions and bedtad high marketbillions of dol-

;ely to executive:ors’ profits, notot the bill.ined or formedthem to do col-when each em-h plan, is struc-: way, and has aa few large buy-tselves, but howto others is un-n real (inflation-not just for the

I reducing healthn for-profit mid-:rs or Medicare.s actually provided HMOs that aretions. They take

fixed premiums in the front door, pay provider groupsunder deep-discount contracts out the back door, andkeep 18 percent to 30 percent for themselves in the mid-dle. Managerial and marketing costs are high, but thereis plenty left for profits. Employers may even save a bitof money. For example, a national survey by A. FosterHiggins found that employers’ medical costs declined by1.1 percent in 1994 (Freudenheim, 1995). However,Harvard health economist Joseph Newhouse sees littleevidence of expenditures slowing down (Huskamp &Newhouse, 1994). Rather, most of the 30 percent dis-counts that the managed care companies negotiate fromproviders just about matches what they keep. In otherwords, the managed care revolution of the 1990s haslargely been a matter of transferring biiions of dollarsfrom doctors, nurses, hospitals, and other providers toexecutive management teams and investors.

Three-quarters of the new HMOs are for-profit, andconsolidation has led to ten firms controlling 70 per-cent of the HMO market. In mature metropolitan mar-kets like San Francisco, Los Angeles, or Minneapolis,five or fewer firms dominate the market. The largerthey are, the deeper the discounts they can negotiate,the more reserves they have to drive out smaller com-petitors, and the more political clout they have to struc-ture markets to their advantage.

Even more than the early HMOs, which ended upwith healthier patients through self-selection, this newbreed uses tactics that defy regulation to avoid sickersubscribers. According to two physician-researchers(Woolhandler & Himmelstein, 1994, p. 586), they“place sign-up offtces on upper floors of buildings withmalfunctioning elevators; refuse contracts to providersin neighborhoods with high rates of HIV infection (anexample of medical redlining); structure salary scales toassure a high turnover among physicians (the longerthey are in practice, the more sick patients they accu-mulate); provide luxurious services (even exercise clubmemberships) for the well, and shabby inconveniencefor those with expensive chronic illnesses [so that theywill disenroll].”

Given that just 10 percent of the population con-sumes 72 percent of all medical costs, risk avoidance is

the quickest and easiest way to make money “As a re-sult, society pays twice: once for the high risk peopleconcentrated in high cost plans, and again for the ex-cess profits in plans that succeed in risk selection” (Em-ployee Benefits Research Institute, 1995, p. 586). In themeantime, the number of persons with no health in-surance keeps rising, up by about one million in 19 93and another million in 1994 (Employee Benefits Re-search Institute, 1995).

Soon the discounting will have run its course, andthen managed care companies will have to extract prof-its from direct clinical services. Evidence indicates thatthis is already happening. A national survey of all man-aged care enrollees found that they were 2.5 times morelikely to rate the quality of services they receive as justfair or poor, and over 4 times more likely to rate theirdoctors as fair or poor compared to enrollees in tradi-tional plans (The Commonwealth Fund, 1995). Re-markably, people in managed care plans were just aslikely to report not having a regular source of care, notgetting preventive services, and postponing neededcare-the very problems that managed care is supposedto solve. Concerning access, managed care enrolleeswere much more likely to rate ease of changing doctors,choice of doctors, access to emergency care, and wait-ing time as only fair or poor. Forty percent had tochange their doctors when they joined their currentmanaged care plan. Discontinuity of care was directlyrelated to dissatisfaction. Yet employers and employeesare constantly pressured by plans to switch for short-term gains or inducements.

A more telling I99 5 survey sponsored by the RobertWood Johnson Foundation focused only on patientssick enough to be seeing a specialist. Compared to thosein traditional unmanaged care, sick patients in man-aged care were 3.3 times more likely to report that theyreceived inappropriate care, 4.0 times more likely to re-port that their examination was not thorough, 2.5times more likely to report they had inadequate timewith their physician, and 2. I times more likely to reportthat the doctor did not care. Moreover, the out-of-pocket expenses of these sick patients were not zero, asmany imagine them to be in managed care systems, but

W

60 l PAR T ONE l Health Politics and Policy in Pmpcctive

$1,502. This is only slightly less on average than theout-of-pocket expenses of sick patients in fee-for-ser-vice care ($1,735). The picture that emerges is thatmanaged care corporations are already providing worsecare for the sick for very little savings to either employ-ers or employees in return for high salaries, large man-agement expenses, and high profits.

Conclusion: The Rhetoric of Competition

American business leaders and politicians continueto believe unquestioningly in the power of competitionto make health care efficient and hold down costs. Theyalways prefer the free market though no market is free.Even the market for street vendors is structured by cityordinances, informal but powerful rules about territory,and norms about practices. In fact, health care marketsare among the most structured and least free of any onearth. Moreover, competition was widely regarded asimpossible in health care until the current period be-cause of the many problems of market failure outlinedin Figure 2-3 (Light, 1993, 1995).

There is little evidence that competition can reallysave money afrer biased selection, cost shifting, and sig-nificantly higher transaction costs are taken into ac-count. It seems like once again the United States is notlearning how to contain costs from nations that havedone it without sacrificing high-quality care for every-one, but rather has come up with another policy inno-vation that will not achieve its stated goals. Health carewill continue to take money from education, housing,industrial development, and welfare as it consumes anincreasing percentage of state and federal budgets.

What makes American health care policy fascinatingis that alongside an undying faith in competition, em-ployers and the government impose unilateral changesthat are anticompetitive just to be sure competitionworks! The Reagan administration, for example, talkedabout PI’S being competitive, but it was basically pricefLving on a grand scale, and it worked. Just to be surecompetition works, employers are cutting benefits. Wehave already described the continued thinning of cov-erage for working Americans, and the number with noinsurance is rising by about a million per year.

Ideal of Perfect MarketsActual Hazards of Health

Care Markets

Transaction and marketcosts zero

Many buyers and sellers

Nature, qualii, effective-ness, and price ofproducts or serviceknown; no market failure

Power, rules, hierarchy donot exist

Manipulations, gaming,cost shifting unknown

Losers collapse, disappear

Maximum efficiency

Responsive to customers

Large transaction andmarket costs

Few buyers and sellers;market capture

Nature, quality, effective-ness, and price of prod-ucts or service incom-pletely known andvariable; some marketfailure

Power, rules, hierarchiesfound everywhere

Manipulations, gaming,cost shifting prevalent;induced market failure

Losers stay around; systemcarries their inefficiencies

Maximum inefficiencies

‘Responsive” to cus-tomers; induced de-mand, product or servicedilution or substitution,misleading information

FIGURE 2-3 Perfect vn-sus Health Cam Markets

Congress is acting out the same ironic syndrome. Onone hand, it is seeking to push the elderly and the poorinto managed care systems, while on the other hand, ithas proposed historically large cuts in the budgets forboth Medicare and Medicaid. Put these together and itmeans that for-profit organizations with a unclear trackrecord of saving money but a good track record of mak-ing money are in charge of rationing care to fit withinreduced budgets for the elderly and the poor. But evenmore interesting is the conflict between buyer domi-nance and competition as two different strategies forkeeping costs in line. Strong restraining actions by mo-nopoly buyers are as anticompetitive as restraining ac-tions by sellers, even though the buyers may say they arefostering competition.

Given all the difficulties in creating competitive con-ditions in health care, competition also fits health carepoorly because a competition strategy may destroy pro-