This blog is going to change a little bit, starting today.
Now that I’m finally done all my clinical training and am a fully licensed internal medicine physician and working as a hospitalist, I can start dedicating more regular time to my main passion–health policy. I will be releasing weekly blog posts on Tuesdays (supposedly the day of the week that needs the most morale boosting!). I will avoid any tendency to make these posts too formal, and I will try to keep them short as well.
I have two main reasons for doing this, both of which I would like to be up front about. The first is for me to keep learning. When I write, I’m forced to synthesize my thoughts more deliberately. The second reason is to get more people reading what I write, which will provide me more feedback about my ideas and hopefully (even in a small way) influence greater support for worthwhile policies.
How will regular posts help more people read what I write? My understanding is that a blog needs five things to gain traction: (1) worthwhile material, (2) a dependable timeline for when to expect new posts, (3) persistence in posting that new material regularly for a long time, (4) advertising, and (5) luck. Keeping the same URL helps, too, which I learned the hard way. I will advertise by working to syndicate my posts on other sites, plus sharing on social media.
This is the final installment of the Building a Healthcare System from Scratch series, and it begins with the same caveat as Part 7—to understand the rationale behind the ideas presented, you need to read and understand all the prior parts of the series, beginning at Part 1.
Now that I have explained the Healthcare Incentives Framework (Parts 1 through 6) and described what various types of systems would look like that have implemented the principles of it (Part 7), we are ready to look at something more complex: rather than building an optimal system from scratch, how can this framework be applied to an existing system that needs fixing? The American healthcare system will be a perfect case study for this.
Where it sits right now, the American healthcare system seems to land somewhere in between the libertarian-type system and the single-payer system described in Part 7, except that it fails to implement the majority of the principles of the framework. It is also overly complex, which contributes greatly to its impressive administrative expenses. So what could a much-simplified American healthcare system look like that also maximally implements the principles of this framework? With consideration for and much guessing about Americans’ preferences regarding healthcare, here is an imagined description . . .
The United States eventually chose to strengthen its individual mandate. The government now mandates all people, without exception, to have a healthcare insurance plan that covers all services included on its list of “essential health benefits.” For those who forego insurance coverage, they pay a tax penalty that ends up being nearly the same as the premiums they would have paid. If uninsured individuals receive care that they cannot afford, they usually end up having to either go on long-term repayment plans or declare bankruptcy because there is no bailout available for them.
The website healthcare.gov has become the ultimate source for healthcare insurance shopping. All qualified insurance plans (i.e., plans that cover all the essential health benefits) are listed there, along with their coverage level (according to the metal tiers), prices, and a short description that highlights any other benefits the plan offers that may help prevent healthcare expenditures.
Premium subsidies are available to all whose premiums will exceed a certain percentage of their income, and the subsidy amount is pegged to the second-cheapest qualified insurance plan available to them. The subsidies are automatically applied at the time people are choosing a plan on healthcare.gov. Because this system worked so well and was basically duplicative of Medicare and Medicaid, both programs were slowly phased out, which decreased insurance churn and increased time horizons. However, a vestige of Medicaid remains in that, depending on an individual’s annual income, there are also limits on how much they can be required to pay out of pocket for care.
The government also did away with the employer mandate and somehow found the political willpower to repeal all tax breaks for healthcare expenditures, which eventually led to employers getting out of the business of providing healthcare insurance for their employees and just giving that money to employees directly as regular pay.
Altogether, these changes mean that all Americans shop for their healthcare insurance on healthcare.gov. For anyone who is unable to do this themselves, there is a phone number to call to connect with someone who can assist them in selecting the plan that seems best for them.
A few changes were also made to encourage more insurance options. First, many regulations were eliminated, including the medical loss ratio requirement and state insurance department approvals of rates. These became unnecessary after people began to be able to compare the value of different insurance plans and choose based on that because overpriced or low-value plans (either from too much overhead or too high of rates in general) lost market share and profit. State-specific insurance regulations were standardized so that insurers can easily expand to new markets. And a law was passed requiring transparency of all price agreements between providers and insurers, which made the process of forming contracts with providers in a new region easier. These policies led to almost all markets having multiple options for each coverage tier.
In this way, the United States achieved universal access to affordable healthcare insurance relying on the private market while preserving the ability and incentive for all people to select the highest-value insurance plan for them. As a result, insurance plans aggressively innovate to find ways to prevent care episodes so that they can offer lower premiums and attract higher market share. Insurers also found that implementing differential cost-sharing requirements led people to start choosing lower-priced providers, which also enabled the insurer to lower premiums further. Finding provider prices has become easier ever since the price transparency law was passed.
The government has had to help overcome the problems caused by a multi-payer system by enforcing some standardization, including uniform insurance forms/processes, standardized bundles of care that all insurers in a region either agree or disagree to implement together, and standardized quality metrics that providers are required to report. These quality metrics are not used for bonuses, so they have been changed to be more focused on what patients need to know to choose between providers for specific services.
These quality metrics are now reported on an additional section on healthcare.gov that lists all providers, their quality metrics, and their prices (seen as your expected out-of-pocket cost if you log in) in an easy-to-compare format. Due to patients’ differential cost sharing requirements for most services, as well as broad common knowledge of the existence and utility of this website, most patients have begun to refer to it before choosing providers. This part of healthcare.gov has even been developed into a highly rated smartphone app.
In response to these changes, providers found that their value relative to competitors largely determined their market share and profitability, which unleashed an unsurpassed degree of value-improving innovation. The cost of care in the United States was previously so high that the majority of those initial innovations led to much cheaper care, which led to much lower insurance premiums and eased the premium subsidy burden on the federal government. Thanks to these changes, the federal deficit has begun to sustainably diminish quicker than any budgetary forecasting model could have predicted, which has also helped stabilize the American economy.
There are still barriers to people being able to identify and choose the highest-value insurers and providers. There are many important aspects of quality that are unmeasurable. Many people do not have the health literacy required to figure out which insurance plan or provider would be best for their situation and preferences, despite the ease of comparison enabled by healthcare.gov. There are medical emergencies that do not allow shopping (although the number of these has turned out to be much less than was previously thought because most of what used to present to emergency departments were not actually emergencies).
In spite of these lingering barriers, enough patients are choosing the higher-value options that providers and insurers still have a strong incentive to innovate to improve their value so they can win the market share and profit rewards available to higher-value competitors. And the result is that Americans are being kept healthy more often and are receiving care that is higher quality and more affordable.
That concludes my imagined description of how the American healthcare system could look with the principles from the Healthcare Incentives Framework fully applied. Just as a reminder, it represents merely a guess of how it could end up given the current system. This is by no means the only way to apply the principles of this framework, nor is it my secret idealized version of how it could end up. But I hope it was useful and thought provoking as a case study!
We have come a long way in this series. Throughout it, I worked hard to make the principles of the Healthcare Incentives Framework clear, and I hope the concrete examples have helped solidify those as well as demonstrate their potential for sustainably fixing healthcare systems around the world. If you want a more academic treatment on this framework (at least the part of it that applies specifically to providers), I published that as a medical student.
I intend to help policy makers of all types find ways to apply the principles discussed in this series. Please contact me if you have questions or would like me to help work through potential applications. Contact info is on my About Me and This Blog page. In the meantime, I hope you will follow along as I continue to blog about how to fix our healthcare system!
In Part 5, we talked about the three requirements for getting market share to flow to the highest-value options, which is necessary if we want higher-value parties (insurers and providers) to be rewarded with profit. The context for why this is the crucial feature of our optimal from-scratch healthcare system is discussed in parts 1, 2, 3, and 4.
As a reminder, those three requirements were for patients to have (1) multiple options, (2) the ability to identify the highest-value option, and (3) incentives to choose the highest-value option. Let’s look at examples of the common barriers to each of them so we will know what to avoid when we build our optimal healthcare system.
Our goal: Avoid any policies that directly or indirectly limit the number of competitors in a market.
For providers, this means allowing them to build hospitals and clinics whenever and wherever they want. They will not do this with reckless abandon because they will know that, if they choose to build in a new region and end up delivering lower value than the incumbents, they will not get many patients and their new endeavor will not be profitable.
For insurers, this means avoiding regulations that make it difficult for them to enter new markets. Nationally standardized regulations will simplify the process of selling insurance in multiple markets, but this does nothing to ease insurers’ greatest challenge of entering new markets, which is the challenge of negotiating prices with providers in that region. But having many provider options in a region should help with this.
And as for things that affect both providers and insurers, we will need good antitrust laws to prevent too much consolidation. And we will need to avoid policies that limit the freedom of them to vary their price and quality so that they can offer unique value propositions (otherwise we end up with many options that all are effectively the same, which defeats the purpose).
Identifying the Highest-value Option
The barriers to this are different for providers and insurers.
On the insurer side, the most difficult aspect of identifying the highest-value option is being able to predict which mixture of premium, copay, deductible, coinsurance, etc. will cover what you need in the cheapest way possible, as well as identifying/predicting which services will be needed and whether they are covered in the benefits. Having some standardization can make this much simpler (but still challenging), such as what healthcare.gov does with multiple standardized quality tiers of insurance plans and grouping all those options together to be compared apples to apples.
On the provider side, one of the first challenges is getting people to recognize that they have multiple options that are of very different value. In almost every other industry, people are great value shoppers, but they have been conditioned historically not to even think about it when choosing healthcare providers, which is probably a consequence of the chronic unawareness of the huge variations in the quality of providers as well as the third-party payer system that so often causes people to pay the same no matter which provider they choose. This is one reason why healthcare provider quality reporting websites are so infrequently used even when they are available.
The other issues with identifying the highest-value providers can be divided into barriers to knowing price beforehand and barriers to knowing quality.
Barriers to knowing price beforehand: The biggest one is uncertainty about what services will be needed—for example, most people do not present to the emergency department with a diagnosis already, nor can they predict what additional complications might arise during a hospitalization. But for specific, well-defined episodes of care, such as an elective surgery, there are great ways to make prices knowable beforehand (look up bundled pricing for an example).
Barriers to knowing quality: People do not know where to find quality information even if they do go looking for it. And if they find it, most of what they find are quality metrics geared specifically toward comparing providers for the purpose of allocating bonuses rather than quality metrics that actually provide metrics that are relevant to helping a patient choose between providers. For example, a hospital’s overall mortality rate or readmission rate has little bearing on the quality of care a patient will receive for something like a straightforward elective gallbladder removal. Standardized, easy-to-understand, appropriately risk-adjusted, patient decision-oriented quality data are needed.
And the last thing to mention in this section are the barriers to identifying the highest-value option that will not likely be overcome. For example, medical emergencies don’t allow time to make a thoughtful decision about which hospital to go to. And low health literacy is a barrier for many people. And there are many important aspects of care that cannot easily be measured, such as a primary care doctor’s ability to diagnose the cause of ambiguous symptoms. Does the presence of these more insurmountable barriers mean that no health system will ever be able to get market share to flow to the higher-value options? No—even if many decisions about which provider to go to are not particularly logical or value-focused, as more people start choosing providers based on price and quality information, higher-value providers will begin to win more market share and the desired incentive scheme that motivates value-maximizing behaviors will arise.
Incentives to Choose the Highest-value Option
Even when people (1) have multiple insurer and provider options and (2) are able to identify the highest-value options, there are still barriers to them choosing the highest-value options.
The first barrier is when anyone but the patient is acting as the decision maker. These alternative decision makers typically have a financial stake in the decision and want to choose the cheapest option without regard for quality. For example, insurers that offer very narrow networks act almost like a first-cut decision maker to narrow patients’ possible provider choices down to only providers that are willing to accept the lowest prices. Patients/patient advocates should be the decision makers because only they will adequately weigh the quality aspects that are most important to and impactful on them.
But even when the patient is the decision maker, they will ignore prices if they are required to pay the same amount regardless of the provider or insurer they choose. This is usually not an issue with insurance plan selection, but it is a major issue with provider selection. For example, flat copays require the same payment from the patient regardless of the full price of the providers. High-deductible plans solve this problem for any service below the deductible, but, once that deductible is surpassed, they have the same problem. Ideas such as reference pricing, multi-tier provider networks, or even paying patients for choosing lower-cost providers can help with this.
If the above discussed barriers to the three requirements for getting market share to flow to the highest-value options are minimized, the healthcare system will naturally and continuously evolve toward higher value because it will motivate providers and insurers to perform their jobs in value-maximizing ways. Government interventions may still be considered for areas where natural incentives will not motivate those parties to do all the jobs we want them to do (particularly in the area of equitable access), but the “healthcare market” will start functioning to benefit patients and what they value.
This concludes the big-picture explanation of this Healthcare Incentives Framework. In other words, we have now discussed all the ingredients that need to go into an optimal from-scratch healthcare system. In Part 7, we will solidify the implications of this framework by imagining up a few examples of different types of healthcare systems with the Healthcare Incentives Framework implemented to show how all those ingredients can come together.
We established in prior parts of this series that, in this Healthcare Incentives Framework, there are specific identifiable jobs we want a healthcare system to do for us, and that there are parties that have incentives to perform those jobs for us. The focus then turned to how to get those parties to perform those jobs in ways that maximize value, which we saw is achieved by rewarding them with more profit when they perform their jobs in higher-value ways. And in Part 4, we saw that the only effective way to do that is by getting market share to flow to the higher-value options. In this post, we examine what needs to happen for people to choose those higher-value options.
There are three requirements that all must be in place at the same time to enable someone to choose the highest-value option:
Requirement 1: Multiple options. This one seems straightforward–no market share can flow anywhere if there is only one option available. But there is another, less obvious aspect of this. Parties also need the freedom to vary their price and quality in ways that create unique value propositions, otherwise they will all look pretty similar, so the effective options people have would be severely limited, even if the total number of options is not. For example, if there is a price floor created by some administrative pricing mechanism, it will prevent any innovation that lowers quality a little bit but significantly lowers price. Why? Because those parties contemplating that kind of innovation will know that, without the ability to offer prices significantly lower than their competitors, they will be unable to win the market share necessary to make their innovation profitable.
Requirement 2: Ability to identify the highest-value option. Remember that value is determined by two things: quality and price. People choosing from among multiple providers or insurers need to be able to compare, apples to apples, the quality and price of all their options before they select one. But having apples-to-apples comparable price and quality information is not enough. The quality information would have to be simple enough to be easily understood and also relevant to the specific dimensions of quality people actually care about. And price information would need to reflect the expected total price of the product or service, otherwise it’s mostly useless. Both quality and price can be challenging in healthcare, which creates barriers to people being able to identify the highest-value option, but those barriers will be discussed in part 6 of this series.
Requirement 3: Incentive to choose the highest-value option. Even if people have multiple options and are able to easily tell which is the highest-value option, they will not choose that highest-value option without the right incentives. This applies to both their insurance plan selection and their care providers selection. Consider this example about choosing the highest-value care provider: suppose a patient has the choice to have a procedure at a nearby world-renowned hospital (95% success rate, $80,000) or the local community hospital (92% success rate, $40,000). Further suppose that this patient will pay $10,000 out of pocket (their annual out-of-pocket max) regardless of which hospital they choose. Which will they choose? An additional 3% chance of success for an extra $40,000 seems steep, but since they’re not paying the difference, most people would go for the world-renowned hospital regardless of the difference. Extracting the principle from this example, people need to pay more when they choose a higher-priced provider (or less when they choose a lower-priced provider); this doesn’t necessarily mean they always need to pay the complete difference between the two, but they at least need to pay some of that difference. Same goes for the quality aspect of value. If someone other than the patient (say, the insurance company) is choosing where the patient will receive care, they generally care a lot more about the price than about the quality differences between the options since they aren’t the one who bears the consequences of going to a lower-quality option. So, in summary, regardless of whether the discussion is about choosing providers or choosing insurance plans, the individual making purchase decisions needs to bear the price and quality consequences of the decision.
By now it should be clear that if any of these three criteria are not fulfilled, market share will not flow to the highest-value options, and the whole incentive scheme we are creating falls apart.
There are, you may have figured, many many barriers to these things working in current healthcare systems, some of which would be present even in our optimal healthcare system we are building. But that’s the topic of Part 6.
In parts 1, 2, and 3, we looked at what we want a healthcare system to do for us (the “jobs”), we figured out which parties in a healthcare system have an incentive to perform those jobs, and then we discussed that, for those parties to have an incentive to maximize value while performing those jobs, they need to make more profit when they deliver higher value.
The next part of the Healthcare Incentives Framework takes a look at the different levers that affect profit to see which can be used to reward higher-value parties with more profit.
Let’s review how profit is calculated:
Profit = Revenues – Costs
Profit = (Price x Quantity Sold) – Costs
And since most companies sell more than one product or service, . . .
Profit = ∑((Price x Quantity Sold) – Total Costs)
These are the only four factors that determine a company’s profit: service mix, price, quantity sold, and total costs. So, which can be used to reward higher-value parties with more profit?
Service mix: Companies in healthcare already generally have the freedom to dedicate their resources in ways that maximize the amount of higher-profit services they deliver (why do you think my hospital renovated the orthopedics floor first?), so I won’t go into depth on this one other than to say that we need to allow them to continue doing that.
Price: Could we use prices somehow to reward higher-value parties with more profit? How about we try giving bonuses to higher-value providers? Those bonuses would essentially raise their prices, which actually lowers their value (remember, Value = Quality/Price). Sure, other providers would be motivated to raise their quality to get the higher prices too, but all we’d end up with is a little better quality at a little higher price, with no clear path to much else. Therefore, this approach doesn’t do a very good job of accomplishing the core goal of rewarding higher value with more profit. It’s not the lever we are looking for. But, while we’re talking about prices, there’s one crucial aspect of price that we need to include in our optimal healthcare system: providers and insurers need the freedom to set their prices themselves. The reasons for this will become clearer in subsequent posts.
Costs: Finding a way to lower the costs of higher-value providers is basically the same as raising their price–either way, more money is given to them, which raises their profit but lowers the value people obtain from them. So, the same problems exist with using costs as a lever to reward value with profit.
Quantity Sold: We’re left with one last lever, and I saved it for last on purpose. What would happen if higher-value insurers or providers all of a sudden were getting more patients flocking to them? They would certainly get more profit (assuming they have the capacity to take on more patients/subscribers). And the patients are happy because more of them are getting higher-value services. Now think beyond that static world. Over time, higher-value parties would continue to make more money and expand, and lower-value parties would be forced to improve their value or just go out of business. Parties would have an incentive to take big risks on innovations that improve value because they would know that, if the innovation ends up improving value for people (lower price, higher quality, or both), it will be rewarded handsomely with profits.
In summary, the best way to reward higher value with more profit is to get more patients to flow to them. This is how to permanently “bend the cost curve” and weed out low-quality options.
In Part 5, I will enumerate the core elements required for people to do that.
In Part 1, I enumerated the jobs we want a healthcare system to do for us. In Part 2, I explained which parties in the healthcare system (providers or insurers) have incentives to perform each job. The next part of the Healthcare Incentives Framework is the biggest challenge: how do we shape those incentives so that they don’t just reward parties for merely performing those jobs, but so they also encourage them to perform their jobs in the best way possible? (“Best way possible” will be more precisely defined below.)
To understand this discussion, two key definitions must be absolutely clear.
High value can be found at any price point. For example, it could be reasonable quality for a super low price, or it could be the absolute best quality for a not-crazy-high price. It just depends on how much money is available to be spent.
And just as a brief sidenote, I’ll mention that “quality” has many facets, and it’s the patient who–as the person consuming the service–ultimately gets to decide what constitutes quality. And “price” denotes the actual total amount of money paid for the service.
Second, the definition of a financial incentive. A financial incentive is something that rewards behavior with increased profit. Profit is the key here. Companies (or, the people who run them) don’t take huge risks and expend great effort that won’t result in more money for them. (This also applies to non-profit organizations, only they call it “surplus.”) So a project that is projected to increase revenues but also increase costs just as much is a waste of effort from a company’s standpoint.
With those two definitions in mind, here is the principle: Our goal is to create financial incentives that reward value for patients. In other words, a provider or insurer needs to make more profit when they provide higher value for patients. This would motivate them to out-compete and out-innovate their competitors. And the form of that competition wouldn’t be destructive corner-cutting and responsibility-avoiding–it would be to actually provide higher value for patients.
Instead of hospitals spending fortunes on beautiful lobbies, they would be competing on how to make care cheaper, faster, and more convenient. Because that’s how they would make more profit.
Instead of insurers climbing over each other to find ways to cream skim the healthiest patients and creatively design networks to get sick patients to avoid them, they would be competing on how to most efficiently provide cost-saving prevention and how to have the best customer experience. Because that’s how they would make more profit.
Some say financial incentives have no place in healthcare. What they don’t understand is that there will always be financial incentives in any industry where people get paid for their work. We can’t ignore the inescapable presence of financial incentives in healthcare. But we can shape them in a way that motivates providers and insurers to maximize the value delivered to patients.
In Part 4, I’ll enumerate the four levers that affect profit, which will then lead to an explanation of the barriers healthcare systems commonly have to those levers being used to reward value with profit.
This series explains my framework for understanding healthcare systems. For ease of reference, I call it my Healthcare Incentives Framework. I use it to make sense of everything I see happening in a healthcare system. And one could use it to build a healthcare system from scratch. Each subsequent post builds on all the prior posts, so I strongly recommend reading them in order. For convenience, here are links to parts 2, 3, 4, 5, 6, 7, and 8.
I developed the majority of the Healthcare Incentives Framework over 5 years (2010 – 2014), during which time I was thinking/reading/studying about healthcare policy almost every spare thinking moment. I just had this insatiable drive to make sense of the evidence I was reading as well as what I was seeing in the world. It was the ultimate puzzle. Luckily, my wife was patient and convincingly interested in my thoughts, which I shared almost daily. Every time I came up against a phenomenon that I couldn’t understand or explain within the context of the greater Framework I was developing, I would struggle with it in my mind, sometimes for weeks, until I figured out what it meant and how it fit. Most of the posts on this blog came as a result of those struggles, and everything I now write about health policy is based on the foundational understanding encapsulated in this Framework.
The Healthcare Incentives Framework starts by enumerating the jobs you want a healthcare system to do for you. Initially, it seems like only two jobs: prevent disease and treat the disease that cannot be prevented. But, because incentives work differently for different kinds of prevention, I will split that job into cost-saving prevention and cost-effective prevention.
Cost-saving prevention saves more money down the road than it costs up front. For example, maybe hiring someone to visit the homes of people with really bad heart failure will prevent enough hospitalizations that it more than compensates for the salary of the person doing the home visits.
Cost-effective prevention ends up increasing total spending–that is, the money saved (if any) doesn’t outweigh the upfront investment–but the benefit is large enough to justify that investment. For example, screening for colorectal cancer costs a lot, but it catches a lot of cancers early and saves enough lives that the investment is worth it. The exact definition of what’s cost-effective and what isn’t depends on the society, but the metric used is the cost for each quality-adjusted life year you gain ($/QALY).
In addition to those three jobs related to maximizing health, and because healthcare is characterized by rare, unpredictable, potentially financially catastrophic treatment episodes, a healthcare system must also provide financial protection in the form of risk pooling.
And, finally, most people in most societies believe a healthcare system has a responsibility of providing these services even for people who cannot afford them, so equitable access (as defined by the society) can be added as the fifth and final job of a healthcare system.
The utility of enumerating these jobs will be seen in Part 2, when we will look at which parties in a healthcare system have financial incentives to perform which jobs.