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Why is Non-Profit Dominant?
What is their Objective?
Cost Shifting vs. Price Discrimination
How do Hospitals Compete?
Consolidation
Pricing
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Downward trend in the number of hospitals
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Expected to continue as consolidation continues and
care moves out of the hospital.
For-profit hospitals are on the rise, but
Nonprofits are still a large majority, why?
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NFP do not distribute accounting profit to
individual equity holders
Rather it goes as a dividend to its sponsors
NFP exempt from corporate income and
property taxes
Better access to tax exempt bond financing
Eligibility for private donations
For-profits have access to tax exempt bonds and
can raise equity capital through sale of stock
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Contract failure
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Asymmetric information
Shopping problem
Trust between patient and physician
Public goods
Inertia
Many “nonprofits” make a large
profit
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Tax exempt vs. nontax exempt
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Most firms exist to maximize profits
But for a NFP, what is their objective?
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“Profit” Maximization
 No Margin, no mission?
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Utility Maximization
Physician Control
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Costs and Pricing
Uncompensated Care 4.5% vs 4%
Quality
Entry and Exit
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NFP quicker to enter a new market and slower to
exit
Bottom Line: Very hard to “see” a difference
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1.4
36.8
1.2
1
38.7
14.9
1.7
0.8
0.6
0.4
5.8
0.2
0
Private
Medicare
Medicaid
Other
Uninsured
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Price Discrimination – Selling different units of
output at different prices based on the buyer’s
willingness/ability to pay
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Senior citizen discounts, hardback vs. paperback books,
new car prices, hospital pricing
Cost Shifting – special case of price discrimination
where the lower price from one group causes the
firm to charge higher prices to another
Both require some degree of market power, but cost
shifting implies more
Firm not maximizing profits to begin with
 Payer is passive/powerless
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Hospital are victims of inadequate public spending
 “hospitals shifting costs from Medicare to
private payers and employers is seen as the
number one reason for higher medical cost
trends [of private insurers].” PwC
 A dollar reduction in public payment will result
in a dollar increase in private payment
 2007 study estimates $88.8 Billion shifted to
private insurers
 $51.0 from hospitals (24.8 Medicare, 16.2 Medicaid)
 37.8 from physicians (14.1 Medicare, 23.7 Medicaid)
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Relying on the private sector to curb health care
spending will be inadequate.
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Most economist don’t buy it
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Empirical support is limited
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Thought experiment
Some evidence prior to the 1990s
Much less evidence in recent research
Unless….
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Hospital consolidation
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Normally competition leads to lower prices and
decreased costs.
In hospitals it is often argued the opposite
occurs.
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Some research shows that when hospital markets
become more competitive there is increased costs
and higher prices to consumers
Policy implications are to discourage competition
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Medical Arms Race
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“Consumer-Driven” Competition
Hospitals compete not in the price/quality space but
in a “relative” competition
 Physicians
 Perceived quality relative to competitors
 Incentive to over-invest in technology and expand into
“unprofitable” services
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Policy Reaction to MAR
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CON Laws
 Hospitals must justify the need is there for a particular
service or facility prior to adding it.
 Non CON states such as Texas have seen some of the
largest examples of this type of behavior
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Anti-Trust Policy
 Implication is that monopolies are not so bad
 Mergers that would have been blocked in other
industries have been allowed in hospitals
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Evidence on MAR
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Research prior to the 1990s tends to find that when
markets become more competitive, then there is an
increase in costs and consumers face higher prices.
 Contrary to standard economic theory
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Research looking at data in the 1990s found the
opposite:
 More competitive markets resulted in lower prices and
costs
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Payer Driven Competition
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When hospitals compete for patients via insurance contracts,
we find markets tend to work well.
 In most markets the individual paying the bill and consuming the
product are the same so this is not an issue
 Selective contracting
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By the end of the 1990s the Medical Arms Race was
considered dead
But as consumers have demanded choice in providers,
selective contracting has become much less selective
 Robotic Surgery
 Proton Beam Therapy
 Children’s hospitals
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Policy should be focused on getting providers to
compete for contracts.
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Consolidation Trends in the 1990s
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Rise of Local Hospital Systems
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The Affordable Care Act represented a "tectonic
shift" in the way hospitals do business and many
are left with few choices but to be acquired or
merge with another entity.
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Affiliation
Most flexible form of consolidation
 Utilized to increase footprint, gain economy of scale,
create referrals, etc.
 Do not necessarily change management or governance
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Joint Venture
Mildly flexible
 Used to create something new that might be
overwhelming to do solo
 Shared governance
 Some form of profit/risk sharing
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Joint Operating Agreement
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Virtual mergers – assets may separate but services
are coordinated
New overarching governance board, but hospitals
maintain independent boards as well
May borrow for capital investments as one
organization
Similar to JV but larger
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Merger
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Mutual decision of two companies to combine
Leadership may be a combination of the two
hospitals or from an outside source
Hospitals absorb each other’s assets and debts
Acquisition
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Purchase of one hospital by another
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Horizontal Consolidation
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Hospital to hospital
Vertical Consolidation
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Hospital to physician practice
Hospital to long-term care
Hospital/physician group to payer
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Economies of Scale
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As the size of the organization increases the average
cost of producing the good declines
 Specialization of labor
 Efficient use of capital
 Lower input prices for buying in bulk
HITECH
 ICD-10 (18,000 to about 150,000 codes)
 New forms of financing
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 Accountable Care, Bundled Payment and other forms of
capitation
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Consolidations lead to lower costs, benefit consumers
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“Hospitals with private rates below 160 percent of Medicare
will have difficulty” Journal of Healthcare Management
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Bargaining power
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If consolidation helps hospitals by allowing them to
negotiate better rates from payers, then this is not
good for the consumer.
From the hospital’s perspective it doesn’t matter if it
is economies of scale or bargaining power, but from
society’s perspective it matters
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Coordination
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Competition
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Essential for delivering high quality care
Breaking down the silos
Essential for innovation and driving higher value
There needs to be a balance
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If coordination leads to integration that can reduce
competition
 Need to watch quality and quantity as well as price
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Hospital pricing has received much attention
lately
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Prices that private plans pay are opaque to both
consumers and to payers
 Details of contracts are kept secret
 Complexity of medical care
 Employers and employees pay the prices but are not
aware of the contract details
 Silos in health care
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It is clear that high prices lie at the heart of the
health spending problem in the US
We don’t fully understand why prices vary
across services and across providers.
Research from the Center for Studying Health
System Change, September 2013
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Examined 13 metropolitan areas
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High degree of variation in pricing both within
and across markets
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Larger for outpatient than inpatient
5 of the 13 markets are in Michigan which has an
unusually concentrated insurance market
 One insurer has 70% of market share
 Yet even here there is large variation
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Reference Pricing
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Other “value based” insurance contracts
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Payer sets a maximum amount for a specific
procedure
“Nudge” consumer to high value providers – similar
to prescription drug formularies
Return to selective contracting
Regulation
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All-Payer Model
Price Transparency
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1)
2)
3)
4)
5)
6)
Dominance of Non-Profit – contract failure most
logical, although less likely to apply today
Non-profits competing goals of profit and
utility maximization
Cost Shifting and Price Discrimination are two
different things
How hospitals compete makes a difference
Trend in consolidation is a two-edged sword
Pricing??
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