Arnold Kling  

Thoughts on Administrative Costs in Health Care

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Do we want to eliminate the middle man in the health care industry? I do, but what I want to see is consumers pay providers directly. More thoughts:

[UPDATE: see also Ezra Klein, who agrees with me that a lot of the people shouting about this issue do not know what they are talking about.]

1. It seems that if you compare what happens to dollars that flow into Medicare and dollars that flow into private insurance companies, a greater percentage of dollars flow through to health care providers under Medicare. That is what many people suggest makes government better than private insurance. As an analogy, if we were to nationalize the music industry, we could make sure that of the revenues that flow in, a greater percentage would go to musicians. Everybody hates the middleman, so nationalizing health care and nationalizing the music industry both seem like good ideas, as a first approximation.

2. To my knowledge, everyone who talks about this phenomenon is huffing and puffing without knowing exactly why the private-sector insurance middle man takes a bigger charge than the government middle man in health care.

3. For example, I have seen it asserted that the private insurance sector goes to great expense to keep sick people away, but I have never seen a breakdown of costs that shows how much they spend on screening of applicants. I suspect that in fact it is not very much. Most of the private insurance in this country is employer-provided, where applicant screening does not even take place.

4. I have seen it asserted that private health insurance spends more resources denying fraudulent claims. I believe that they spend a lot of resources denying claims, but from what I can observe personally they fight non-fraudulent claims with fierce determination. I cannot imagine they are spending nearly as much resources on fraudulent claims.

5. Medicare has to reduce its spending rate in order to keep the government Budget from exploding. Clearly, if most Medicare dollars flow through to health care providers, then this means that at some point Medicare is going to have to reduce its payments to providers. That creates an incentive for each provider interest group to spend big bucks lobbying to explain why its share of payments should not be cut. That is the very definition of rent-seeking, which is the deadweight loss that comes from political competition for economic resources.

6. Both the private health insurance industry and the music industry are operating business models that to me appear to be unsustainable and anachronistic. The music industry developed in a world of vinyl records. Our health insurance industry and Medicare developed in an environment in which most major diseases were untreatable and the most exotic diagnostic tool was the X-ray. Now, we do 50 million CT scans and 25 million MRIs per year. Now, people with cancer or heart disease expect to survive. As weekend athletes, we expect our knees, shoulders, and hips to be reconstructed by the same technologies that keep Tiger and A-Rod playing.

7. I do not think we know for sure what a sustainable music industry will look like ten years from now. Similarly, I do not think we know what a sustainable health insurance industry will look like ten years from now. The one thing I can predict is that because government will be less involved with the music industry, over the next ten years the music industry will evolve more rapidly than health insurance. We claim to want reform, but in fact we are terrified of change.


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COMMENTS (7 to date)
Zxcv writes:

There is a utopian streak evident in point number 7. A rapidly changing health care industry is exciting, but perhaps not desirable. Even if it works somehow in the long run, it could cause considerable pain in the near future. Libertarians have their grand plans as well I suppose.

Matt writes:

Shouldn't the biggest fear be that a public plan will stifle change in the middle man himself? Why not only get cancer insurance? Heart attack and stroke insurance? What about an insurance plan that gives back all the premium you put in minus what you used on medical expenses? These ideas might not be financially viable but I bet there's a greedy evil capitalist (or several) out there right now trying his hardest to think of an idea that is. But don't worry, Obama will protect us from him.

Stephen writes:

I think your music/healthcare indusry analogy is good, but it's not exactly how you portray it. The government actually has (or rather, had) a large hand in the music industry, by way of copyright protection. Regardless of whether you believe in intellectual property or not, you have to recognize that it does take the violent coercive measures above and beyond what would be necessary in pure anarchy (where it's reasonable to expect someone to defend their real property in the absence of a state, but clearly there would be no intellectual property until a state congealed).

The difference between the two is that technology is breaking the government's hand in copyright matters and the music industry, whereas no similar technological breakthough has occured with medicine.

David C writes:

"The difference between the two is that technology is breaking the government's hand in copyright matters and the music industry, whereas no similar technological breakthough has occured with medicine."

The problem isn't copyright protection.

http://freakonomics.blogs.nytimes.com/2007/09/20/whats-the-future-of-the-music-industry-a-freakonomics-quorum/

The problem is that their business model is built on promoting a single to buy a CD. Now people are just buying the single, and ignoring the CD. But groups like Radiohead and NIN have proven that it's possible for music to survive in this new age, there's just no room in it for record labels. Artists have rarely made money off of CD sales. The artists just get free advertising, and the record labels absorb all the profits.

http://www.negativland.com/albini.html

The artist then uses that advertising to increase attendance at their live shows, and make money there. The inability of labels to make money off of new album sales just pushes them out of the picture. Word-of-mouth advertising will increase in value. With no record label machine to choose your music for you, this means you have fewer gigantic bands (no more Beatles or Michael Jackson), but a much wider variety of options.

fundamentalist writes:

You can't eliminate the middle man. All you can do is take him inhouse. The middle man exists because of federal law which requires paperwork that would strangle doctors and hospitals. Whole forests die every year to provide the paper. Get rid of the insurance companies and the doctors/hospitals will hire firms to handle the paperwork for them. You will save the 5% profit that insurance companies make and that's all. But the firms the doctors hire to handle the paperwork will require some profit.

Mr. Econotarian writes:

"13.2% of U.S. health care costs were paid by individuals out of their own pockets in 2004. This is the fifth-lowest average rate of cost-sharing in the OECD, even including the effect of the uninsured."

CRS Report "U.S. Health Care Spending: Comparison with Other OECD Countries"

http://wikileaks.org/leak/crs/RL34175.pdf

Out-of-Pocket costs as % of medical expenditures:

France 7.6%
United States 13.2%
Germany 13.3%
Canada 14.9%
Japan 17.3%
Australia 20.0%

N.J. writes:

The reason that the French out of pocket expenses are so low?

As usual conservatives tend to insist that Obama and other attempts to create some form of nationalized system will be run by the government, when in fact, every in government plan that currently exists so far, the government merely collects the premiums and the plans are run by PRIVATE health providers. Medicare is administered in most cases,state by state, by Blue Cross/ Blue Shield. The military version of Medicare, Tri-Care, is administered by Humana.

Companies fall all over themselves to get the government bid to administer Medicare and Tri Care. Even with their low administrative costs, the private sector makes enough of a profit off of them to seek out getting the right to administer them.

In the French national health system the government pays 70 percent and the patient pays 30 percent of the cost.

When the French set up their system, they went to the doctors first and asked what they wanted out of a system, and they was that doctors would have the last word in what the insurer would have to pay, and that no insurance company would act as "gatekeeper" approving or denying what would be paid for.

In exchange, private health insurance companies were allowed to ADMINISTER the national program. But they were also legally allowed to sell private add on policies that would pick up part of the 30 percent patient co-payments and this brings the out of pocket expenses down from 30 percent, to 7.6 percent and the insurance companies are making a bundle selling these policies.

But the simplest truth of the matter is, that no nation is seeing a voters revolution demanding that national health care be scrapped in favor of doing it the American way. You don't hear the British, the Canadians, the French, the Germans, the Swedes or the Costa Ricans demanding an American style system.

As far as choice goes, the conservatives again, mislead. There is only the illusion of choice in the American system. The employee has his choice limited by his employer. Then the insurance company limits the doctors the employee can see, the procedures that will be paid for, the drugs that they will pay for,the hospitals they can go to, and on and on.

The American insurers that allow the greatest degree of choice. Again, Medicare and Tri Care.

On average a person on Medicare or Tri Care has greater choice than a person who has employer provided health insurance and the average co-pay that the person on Medicare will pay is about half that of a person who has employer based health care. Currently the co-pay for a visit to a G.P. for someone who has employer based health care is 25 dollars. A person on medicare seeing the same doctor will pay between 10 and 13 dollars, depending on what area of the country they live in.

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