Why Does U.S. Health Care Cost So Much? (Part II: Indefensible Administrative Costs)

By Uwe E. Reinhardt
The New York Times
November 21, 2008
In my previous blog post, I showed that America suffers from “excess spending” in its health care system. Here I will discuss one factor that drives up that spending: indefensibly high administrative costs.
To review: “Excess health spending” in this context refers to the difference between what a country spends per person on health care, and what the country’s gross domestic product per person should predict that that country would spend. (The prediction is based on trends in other countries in the Organization for Economic Cooperation and Development.) The word “excess” here should not be taken as “excessive” unless one could demonstrate that what the other O.E.C.D. nations spend is appropriate and what we spend is ipso facto wasteful.
The United States spends nearly 40 percent more on health care per capita than its G.D.P. per capita would predict. Given the sheer magnitude of the estimated excess spending, it is fair to ask American health care providers what extra benefits the American people receive in return for this enormous extra spending. After all, translated into total dollar spending per year, this excess spending amounted to $570 billion in 2006 and about $650 billion in 2008. The latter figure is over five times the estimated $125 billion or so in additional health spending that would be needed to attain truly universal health insurance coverage in this country.
One thing Americans do buy with this extra spending is an administrative overhead load that is huge by international standards. The McKinsey Global Institute estimated that excess spending on “health administration and insurance” accounted for as much as 21 percent of the estimated total excess spending ($477 billion in 2003). Brought forward, that 21 percent of excess spending on administration would amount to about $120 billion in 2006 and about $150 billion in 2008. It would have been more than enough to finance universal health insurance this year.
The McKinsey team estimated that about 85 percent of this excess administrative overhead can be attributed to the highly complex private health insurance system in the United States. Product design, underwriting and marketing account for about two-thirds of that total. The remaining 15 percent was attributed to public payers that are not saddled with the high cost of product design, medical underwriting and marketing, and that therefore spend a far smaller fraction of their total spending on administration.
Two studies using more detailed bilateral comparisons of two countries illustrate even more sharply the magnitude of our administrative burden relative to that in other developed countries.
One of these is an earlier McKinsey study explaining the difference in 1990 health spending in West Germany and in the United States. The researchers found that in 1990 Americans received $390 per capita less in actual health care but spent $360 more per capita on administration.
A second, more recent study of administrative costs in the American and Canadian health systems was published in 2003 by Steffie Woolhandler and David Himmelstein in The New England Journal of Medicine. The study used a measure of administrative costs that includes not only the insurers’ costs, but also the costs borne by employers, health-care providers and governments – but not the value of the time patients spent claiming reimbursement. These authors estimated that in 1999, Americans spent $1,059 per capita on administration compared with only $307 in purchasing power parity dollars (PPP $) spent in Canada.
More and more Americans are being priced out of health care as we know it. The question is how long American health policy makers, and particularly the leaders of our private health insurance, can justify this enormous and costly administrative burden to the American people and to the harried providers of health care.
http://economix.blogs.nytimes.com/2008/11/21/why-does-us-health-care-cost-so-much-part-ii-indefensible-administrative-costs/?scp=2&sq=Uwe%20Reinhardt&st=cse

Professor Reinhardt already said it: “More and more Americans are being priced out of health care as we know it. The question is how long American health policy makers, and particularly the leaders of our private health insurance, can justify this enormous and costly administrative burden to the American people and to the harried providers of health care.”

By Uwe E. Reinhardt
The New York Times
November 21, 2008

In my previous blog post, I showed that America suffers from “excess spending” in its health care system. Here I will discuss one factor that drives up that spending: indefensibly high administrative costs.

To review: “Excess health spending” in this context refers to the difference between what a country spends per person on health care, and what the country’s gross domestic product per person should predict that that country would spend. (The prediction is based on trends in other countries in the Organization for Economic Cooperation and Development.) The word “excess” here should not be taken as “excessive” unless one could demonstrate that what the other O.E.C.D. nations spend is appropriate and what we spend is ipso facto wasteful.

The United States spends nearly 40 percent more on health care per capita than its G.D.P. per capita would predict. Given the sheer magnitude of the estimated excess spending, it is fair to ask American health care providers what extra benefits the American people receive in return for this enormous extra spending. After all, translated into total dollar spending per year, this excess spending amounted to $570 billion in 2006 and about $650 billion in 2008. The latter figure is over five times the estimated $125 billion or so in additional health spending that would be needed to attain truly universal health insurance coverage in this country.

One thing Americans do buy with this extra spending is an administrative overhead load that is huge by international standards. The McKinsey Global Institute estimated that excess spending on “health administration and insurance” accounted for as much as 21 percent of the estimated total excess spending ($477 billion in 2003). Brought forward, that 21 percent of excess spending on administration would amount to about $120 billion in 2006 and about $150 billion in 2008. It would have been more than enough to finance universal health insurance this year.

The McKinsey team estimated that about 85 percent of this excess administrative overhead can be attributed to the highly complex private health insurance system in the United States. Product design, underwriting and marketing account for about two-thirds of that total. The remaining 15 percent was attributed to public payers that are not saddled with the high cost of product design, medical underwriting and marketing, and that therefore spend a far smaller fraction of their total spending on administration.

Two studies using more detailed bilateral comparisons of two countries illustrate even more sharply the magnitude of our administrative burden relative to that in other developed countries.

One of these is an earlier McKinsey study explaining the difference in 1990 health spending in West Germany and in the United States. The researchers found that in 1990 Americans received $390 per capita less in actual health care but spent $360 more per capita on administration.

A second, more recent study of administrative costs in the American and Canadian health systems was published in 2003 by Steffie Woolhandler and David Himmelstein in The New England Journal of Medicine. The study used a measure of administrative costs that includes not only the insurers’ costs, but also the costs borne by employers, health-care providers and governments – but not the value of the time patients spent claiming reimbursement. These authors estimated that in 1999, Americans spent $1,059 per capita on administration compared with only $307 in purchasing power parity dollars (PPP $) spent in Canada.

More and more Americans are being priced out of health care as we know it. The question is how long American health policy makers, and particularly the leaders of our private health insurance, can justify this enormous and costly administrative burden to the American people and to the harried providers of health care.

http://economix.blogs.nytimes.com/2008/11/21/why-does-us-health-care-cost-so-much-part-ii-indefensible-administrative-costs/?scp=2&sq=Uwe%20Reinhardt&st=cse

Comment:

By Don McCanne, MD

Professor Reinhardt already said it: “More and more Americans are being priced out of health care as we know it. The question is how long American health policy makers, and particularly the leaders of our private health insurance, can justify this enormous and costly administrative burden to the American people and to the harried providers of health care.”

5 Myths on Our Sick Health Care System

By Shannon Brownlee and Ezekiel Emanuel
The Washington Post
November 23, 2008 (Web posting Nov. 21)
… we dispel a few myths about how health care works and how much reform Americans are willing to stomach.
3. We would save a lot if we could cut the administrative waste of private insurance.
The idea that we could wring billions of dollars in savings this way is seductive, but it wouldn’t really accomplish that much. For one thing, some administrative costs are not only necessary but beneficial. Following heart-attack or cancer patients to see which interventions work best is an administrative cost, but it’s also invaluable if you want to improve care. Tracking the rate of heart attacks from drugs such as Avandia is key to ensuring safe pharmaceuticals.
Let’s just say that we could wave a magic wand and cut private insurers’ overhead by half, to what the Canadian government spends on administering its health-care system — 15 percent. How much would we save? Not as much as you may think. Private insurers pay a little more than a third of what we spend on health care, which means that we’d cut a little more than 5 percent from our total budget, or about $124 billion. That’s not peanuts, but it’s not even enough to cover everybody who’s currently uninsured.
More to the point, we only get to save it once. That’s because administrative waste isn’t what’s driving health-care costs up faster than inflation. Most of the relentless rise can be attributed to the expansion of hospitals and other health-care sectors and the rapid adoption of expensive new technologies — new drugs, devices, tests and procedures. Unfortunately, only a fraction of all that new stuff offers dramatically better outcomes. If we’re worried about costs, we have to ask whether a $55,000 drug that prolongs the lives of lung cancer patients for an average of a few weeks is really worth it. Unless we find a cure for our addiction to the new but not necessarily improved, our national medical bill will continue to skyrocket, regardless of how efficient insurance companies become.
http://www.washingtonpost.com/wp-dyn/content/article/2008/11/20/AR2008112002420.html

The authors understand that a single payer or “Medicare for all” model of reform is the most rational competitor to their preferred model of reform – thus their attack on the administrative savings that a single payer system would bring us. They concede that the savings are not a myth as they are considerable, but they still understate the savings because they exclude the tremendous financial burden that our dysfunctional, fragmented, multi-payer system places on the health care delivery system. They also incorrectly state that the administrative savings are a one-time event. In fact, the efficiencies that are achieved are permanent, shifting the trajectory of health care cost increases downward.
Their dismissal of single payer reform (see Emanuel’s “Healthcare, Guaranteed”) as merely an inadequate administrative measure, considering the complexity of the systemic problems in our health care delivery system, ignores the most important benefit of the single payer model. A single payer system creates our own public monopsony, or single purchaser of health care services. Many economists agree that, by controlling the spending of our health care dollars, we can finally demand value in our health care purchasing, introducing infrastructure changes that will lead to the high-performance system for which we are already paying, but not experiencing.
Because Medicare controls health care spending for only about 15 percent of our population, it is a very weak monopsony. Nevertheless it has been able to introduce some spending efficiencies. Think of how effective it would be if it covered all of us.
Medicare is our most popular, most efficient, and most equitable health care financing program, yet it is being dismissed as a model for all of us because of the idea that it somehow represents an ideological extreme. In health care, political compromise based on ideology is not only bankrupting individuals, it is killing them.
http://www.washingtonpost.com/wp-dyn/content/article/2008/11/20/AR2008112002420_Comments.html
11/21/2008 12:36:15 PM

By Shannon Brownlee and Ezekiel Emanuel
The Washington Post
November 23, 2008 (Web posting Nov. 21)

… we dispel a few myths about how health care works and how much reform Americans are willing to stomach.

3. We would save a lot if we could cut the administrative waste of private insurance.

The idea that we could wring billions of dollars in savings this way is seductive, but it wouldn’t really accomplish that much. For one thing, some administrative costs are not only necessary but beneficial. Following heart-attack or cancer patients to see which interventions work best is an administrative cost, but it’s also invaluable if you want to improve care. Tracking the rate of heart attacks from drugs such as Avandia is key to ensuring safe pharmaceuticals.

Let’s just say that we could wave a magic wand and cut private insurers’ overhead by half, to what the Canadian government spends on administering its health-care system — 15 percent. How much would we save? Not as much as you may think. Private insurers pay a little more than a third of what we spend on health care, which means that we’d cut a little more than 5 percent from our total budget, or about $124 billion. That’s not peanuts, but it’s not even enough to cover everybody who’s currently uninsured.

More to the point, we only get to save it once. That’s because administrative waste isn’t what’s driving health-care costs up faster than inflation. Most of the relentless rise can be attributed to the expansion of hospitals and other health-care sectors and the rapid adoption of expensive new technologies — new drugs, devices, tests and procedures. Unfortunately, only a fraction of all that new stuff offers dramatically better outcomes. If we’re worried about costs, we have to ask whether a $55,000 drug that prolongs the lives of lung cancer patients for an average of a few weeks is really worth it. Unless we find a cure for our addiction to the new but not necessarily improved, our national medical bill will continue to skyrocket, regardless of how efficient insurance companies become.

Comments:

By Dr. Don McCanne, MD

The authors understand that a single payer or “Medicare for all” model of reform is the most rational competitor to their preferred model of reform – thus their attack on the administrative savings that a single payer system would bring us. They concede that the savings are not a myth as they are considerable, but they still understate the savings because they exclude the tremendous financial burden that our dysfunctional, fragmented, multi-payer system places on the health care delivery system. They also incorrectly state that the administrative savings are a one-time event. In fact, the efficiencies that are achieved are permanent, shifting the trajectory of health care cost increases downward.

Their dismissal of single payer reform (see Emanuel’s “Healthcare, Guaranteed”) as merely an inadequate administrative measure, considering the complexity of the systemic problems in our health care delivery system, ignores the most important benefit of the single payer model. A single payer system creates our own public monopsony, or single purchaser of health care services. Many economists agree that, by controlling the spending of our health care dollars, we can finally demand value in our health care purchasing, introducing infrastructure changes that will lead to the high-performance system for which we are already paying, but not experiencing.

Because Medicare controls health care spending for only about 15 percent of our population, it is a very weak monopsony. Nevertheless it has been able to introduce some spending efficiencies. Think of how effective it would be if it covered all of us.

Medicare is our most popular, most efficient, and most equitable health care financing program, yet it is being dismissed as a model for all of us because of the idea that it somehow represents an ideological extreme. In health care, political compromise based on ideology is not only bankrupting individuals, it is killing them.

11/21/2008 12:36:15 PM

http://www.washingtonpost.com/wp-dyn/content/article/2008/11/20/AR2008112002420.html

Health Plans Propose Guaranteed Coverage for Pre-Existing Conditions and Individual Coverage Mandate

AHIP (America’s Health Insurance Plans)
November 19, 2008
Summary of AHIP’s Proposal to Guarantee Coverage for Pre-existing Conditions and Promote Affordability in the Individual Insurance Market:

• Guarantee-issue coverage with no pre-existing condition exclusions;
• Establish an individual coverage requirement with an insurance coverage verification system, an automatic enrollment process and effective enforcement of the requirement that all individuals purchase and maintain coverage;
• Promote affordability by: providing refundable, advanceable tax credits for moderate-income individuals and working families; and promoting tax equity whether coverage is obtained through an employer or the individual market; and
• Ensure premium stability for those with existing coverage through a broadly funded reimbursement mechanism that spreads costs for the highest-risk individuals.

http://www.ahip.org/content/pressrelease.aspx?docid=25068

And…

BCBSA Announces Support for Individual Mandate Coupled with a Requirement for Insurers to Offer Coverage to All

BlueCross BlueShield Association (BCBSA)
November 19, 2008
To assure truly meaningful reform, the Blue Cross and Blue Shield Association (BCBSA) and the 39 member Blue Cross and Blue Shield companies today announced support for every individual being required to have coverage and all insurers being required to accept everyone regardless of their health status.
http://www.bcbs.com/news/bcbsa/bcbsa-announces-support-for.html

If anyone has any remaining doubt that comprehensive reform is close at hand, just look at the response of the private insurance industry. AHIP, representing 1,300 insurance companies, and BlueCross BlueShield Association, insuring over 100 million individuals, in simultaneous press releases have confirmed that they understand that, if they want to continue to insure the majority of Americans, they must abandon their current business model and come to the table with policies that work. Policies that work means that everyone must be included, and that risk must be distributed in an equitable manner, based on ability to pay.
So what is their current business model that no longer works? They have been successful in limiting their exposure to the very large numbers of us who are relatively healthful: the healthy workforce, their young healthy families, and the healthy sector of the individual insurance market. But health care costs are now so high that the premiums that must be charged for these healthy risk pools are no longer affordable for the majority of us.
The industry’s response was to reduce benefits thereby reducing the upward pressure on premiums, but that has resulted in the rapidly growing epidemic of underinsurance. As a result, health care is now often unaffordable even for those who do have insurance. Also, in response to high premiums and mediocre coverage the numbers of uninsured continue to rise.
The private insurance industry has been trying to ride this out, but no more. Their hand is being forced by the political tidal wave that is sweeping over our health care system with the demand for reform that works for all of us.
They understand that in a truly universal system they must guarantee coverage for everyone regardless of preexisting conditions. Since that would push premiums up, they know that they must add larger numbers of healthy individuals to dilute the risk in their pools. An obvious source is the large numbers of young, healthy individuals who are uninsured. But the only way those individuals would pay the high premiums would be by forcing them to participate. Thus an individual mandate must be coupled with guaranteed issue.
The industry pretends that an individual mandate with guaranteed issue is all that they need to be major players, but they are reticent on revealing the most crucial barrier that they face. Although premiums for private plans are already too high for average-income individuals to afford, they must reverse the innovations that have led to underinsurance. Obviously that will significantly increase premiums. Also, since they currently sell to mostly healthy individuals, adding those with preexisting disorders will result in even higher premiums.
What to do, what to do? The AHIP release gives us a couple of hints.
Those supporting universal coverage through private health plans have long conceded that tax credits (or vouchers) must be used to assist low-income individuals with the purchase of their plans. In their press release, AHIP now states that we must use “refundable, advanceable tax credits for moderate-income individuals and working families.” Finally, the industry explicitly concedes that most of us can no longer afford to purchase their health plans. So who is going to help? The taxpayers. Gee, isn’t that us?
The other problem is how are they going to pay for the high-risk individuals who now must be covered? Their solution is somewhat more cryptic. They are going to “ensure premium stability for those with existing coverage through a broadly funded reimbursement mechanism that spreads costs for the highest-risk individuals.” “Premium stability” means that other sources will be paying the higher costs of the higher-risk individuals. What other sources? They propose “Guarantee Access Plans” which are “loosely modeled on state high-risk pools.” Oops. The taxpayers – us – again.
Think about it. The private insurance industry has just the solution for us, but only if we agree to foot the bill for those who actually need health care, while they continue to collect large premiums to pay for their egregiously wasteful administrative excesses.
Their proposal is to shift the real costs of health care to the taxpayer. They are right. We need to establish a universal risk pool and fund it equitably based on ability to pay. The only sensible way to do that is through a single payer national health program. Why would we want to implant on our health care financing system the cancer of private health plans?