Why Doesn’t the Healthcare Industry Evolve Like Other Industries?

If you think about almost any industry and how it changes over time, you can see an obvious shift from high cost, low quality to lower cost, higher quality (and, thus, greater access to the product/service). Think about computers, or portable music players, or cars, or flat-screen TVs, or indoor plumbing, or airline flights. . . .

Average yearly productivity growth of industries is estimated to be about 2.4%. But healthcare is different–it receives negative estimates year after year. So what’s the cause of this? Why doesn’t healthcare evolve toward higher productivity over time? If we can figure this out, then maybe we’ll know what we should work on changing with how the industry is structured. And then we’ll be able to permanently solve this crazy trend of healthcare spending, which has been increasing at a rate of 2 – 4% faster than the rest of our economy for a long, long time.

People often blame the lack of evolution (toward lower cost, at least) on healthcare providers not having an incentive to compete on price. Patients don’t price shop, so why would they compete on price? And patients don’t price shop because insurance just covers everything for them, even the small, routine things.  We’re all contributing to this because, no matter which doctor we choose, we still have a $15 co-pay, so why would we waste our time finding out which provider will send the cheapest bill to our insurer? It’s reasonable, this argument, which says that the insurance structure is the reason healthcare providers don’t have to compete on price, and that that is causing the industry not to evolve like it should.

Are there any solutions to this?

The most commonly proposed solution is high-deductible insurance plans. It makes sense. If nothing is covered until you surpass a $1,000 or $2,000 or $5,000 deductible, price starts to really matter unless you’ve already surpassed that deductible for the year (which would be unusual for healthy people). The hard part about this is actually being able to find out prices from providers, but we’ll ignore that with the assumption that if enough people start requesting prices, providers will start making them more readily available. So the result would be that providers finally have to compete on price, they now have an incentive to find ways to reduce prices, and problem solved!

Not so fast.

Did anyone ever consider that providers already do compete on price? No, they don’t compete on prices for patients, but they do compete on price to win insurance contracts. How do you think insurance companies choose which doctors will be in their network? By price! Yes, providers definitely compete on price already. They do it to win insurance contracts, which then guarantees them a steady flow of patients and revenue.

But why doesn’t price competition for insurer contracts provide enough of an incentive for providers to find ways to cut costs and help the healthcare industry to evolve like almost every other industry?

I don’t know. But here’s my guess:

Management is in charge of negotiations to win insurance contracts, so they feel the pressure to find ways to lower costs, but that pressure isn’t conveyed strongly down to the people who have the knowledge required to actually recommend cost-cutting changes: doctors and nurses. If management isn’t working with the current business model’s routines and processes day in and day out, they aren’t going to see the inefficiencies in how things run. Doctors and nurses need to do that, so maybe most healthcare organizations aren’t giving doctors and nurses enough/any incentives to do that.

But, management’s specialty is figuring out completely new processes, routines, and business models that can achieve the same job for the patient but at a way lower cost. So why aren’t healthcare management people figuring out and experimenting with those in an effort to secure more insurance contracts (and, thus, market share and higher profitability)? You’d think the price competition for insurance contracts would at least motivate those kinds of experiments.

The answer may lie in the fact that healthcare provider organizations are known as some of the most complex organizations conceived by man. Possibly this complexity deters innovations like that. They’d be so hard to predict financial outcomes and market response! And with fewer ideas being tested, the evolution of healthcare will necessarily be slower than most industries. I’d love to see some research comparing the complexity of organizations with their speed of productivity growth. And I’m also interested to see the results of all sorts of government-funded “pilot programs” that allow providers to test new ideas out.

So, those are my conjectures, that price competition for insurance contracts isn’t enough because doctors and nurses aren’t given enough incentives to root out inefficiencies and because healthcare organizations are so complex that they deter business model innovations. Maybe I’m way off. Ideas?

UPDATE: I’m wrong. Providers don’t compete on price to convince insurers to add them to their networks. I’ve since learned that prices between insurers and providers are pretty much decided by Medicare prices as an anchor and adjusted up or down depending on bargaining power. This means prices will stay the same even if providers find lower-cost ways to deliver care. So, the question remains: Why aren’t providers finding all sorts of ways to lower costs if any cost reduction would not be followed by price reductions and, therefore, go straight to their bottom line? I still haven’t figured this one out, but Clay Christensen seems to think providers need to encompass the whole value chain to be successful at it, so maybe that has something to do with it.