The Trigger: Hacker’s Competitive Check?
Jacob Hacker, the “godfather” of the public option, doesn’t like the Senate’s compromise as it would apply to those below 55 years old. It would tap the Office of Personnel Management to oversee national non-profit health plans, which Hacker believes will increase the market share of Blue Cross and Blue Shield, the “most likely national non-profit to take advantage of this new opening”. He continues,
Without an imminent threat of real competition, a strong benchmark, and effective regulations to back them up, private insurers are likely to raise premiums in anticipation of the implementation of reform.
Hacker is right. While a dominant insurer, or several large ones, can negotiate lower prices, there is no guarantee those low prices will be passed on to consumers in form of lower premiums. One way to get them to do so is via an “imminent threat of real competition” in the form of a federal plan (a real public option) that would enter if premiums are not sufficiently close to costs. That is, a trigger should be defined in terms that protect consumers from the otherwise monopolistic behavior of insurers, among other things. However, preserving the monopsonistic feature of a large buyer is still worthwhile.
This is precisely the notion of contestability, identified in the health economics literature (and elsewhere) and about which I wrote before. A government plan in waiting that serves to keep pressure on private insurers is the right role for a triggered public option even within the current compromise. Whether it is crafted to work in the fashion Hacker seems to endorse and I just sketched out remains to be seen. I am skeptical but hopeful.
Has Additional Insurer Consolidation Increased Premiums?
Leemore Dafny, with colleagues Mark Duggan and Subramaniam Ramanarayanan, has produced yet another fascinating paper on consolidation in the health insurance industry (I mentioned another of her papers in this area in a prior post). Their latest, “Paying a Premium on Your Premium? Consolidation in the U.S. Health Insurance Industry” (NBER, October 2009) examines the effect of health insurer consolidation on premiums and health care workers’ employment and earnings.
Three of the authors’ main results are that due increases in insurer concentration: (1) Between 1998 and 2006 premiums increased 2.1 percent. (2) Between 1999 and 2002 physician earnings declined by 2 percent. And (3) over the same period health worker employment declined 2.4 percent. Let’s put these results in context.
Recall the figure I introduced in an earlier post and reproduced below. It illustrates my hypothesis about the effect of insurer concentration on premiums, for a fixed level of provider market power. In the region in which insurers have a high degree of concentration (around point “C”), I would expect additional concentration to lead to higher premiums. This is exactly what Dafny and colleagues found.
Moreover, the authors find that the additional market power held by insurers not only led to premium increases, it also led to a reduction of input prices (physician salaries) and employment (a signal of reduced demand). The first of these phenomena is consistent with monopolistic behavior while the latter two are consistent with that of a monopsonist.
In brief, the findings suggest excessive insurer market power relative to providers. But how excessive is it? That is, is the market operating closer to point “C” or to point “B”? We don’t know, but a related piece of evidence is that over the time period of the study premiums increased 100%. So the measured effect of insurer concentration on premiums–a 2.1% increase–is quite small relative to the overall increase in premiums and the degree of increase in concentration in the insurance market (the fraction of the market deemed “highly concentrated” rose from 68% to 99% in the study period).
Whether the market was operating closer to point “B” or “C,” the slope of the curve in the region it was operating is modest. Despite the large increase in concentration, the vast majority, about 98%, of the observed increase in premiums was due to other factors, including additional provider concentration, medical technology, increased consumer demand, and so on. This suggests that additional insurer concentration is not an important factor relative to all others. Note that this is a result on the change (the additional) market concentration and says nothing about the level.
Can we therefore conclude that insurer concentration is not a substantial factor in premium inflation? That would be going a bit too far. After all, this study, like all studies, has limitations. It is beyond the scope of this post to go into them but there are several reasons why the results may not be generalizable to the entire health insurance market. Some of the reasons are provided in the paper itself, and a few others were raised when this paper was presented at the 2009 Annual Health Economics Conference hosted by the BU School of Public Health (at the time of this writing some conference papers are still online at the bottom of the web page).
So I am very enthusiastic about this paper but interpret the results with caution. This measured reaction is totally normal. All studies, even good ones such as this, have limitations. That’s why one should base conclusions on a body of work that looks at the same issue from multiple perspectives, using different data and methodology. Nevertheless, this is a good paper on an important problem using appropriate methodology. I encourage you to read the entire manuscript.
Will a Monopsony Health Insurer Reduce Premiums?
I keep coming back to this question: if a health insurer has considerable market power (even to the point of monopsony) will that translate to lower premiums for consumers? Pauly says “yes” if that insurer is nonprofit.
A 1996 paper by Foreman, Wilson, and Scheffler in Ecnomic Inquiry 34(4) Monopoly, Monopsony, and Contestability in Health Insurance: A Study of Blue Cross Plans is all about this question. It is also one of the early papers (though not the earliest) that recognizes the two-sided nature of the health insurance market (consumers of care on one side, providers on the other).
Foreman, et al. bring in another concept I had not yet considered: contestability. They use the term to include the expectation of competition, not just actual competition. Thus, an insurer can use monopsony power to obtain low provider prices, still be a monopoly with respect to consumers, yet pass savings on to consumers due to the threat of competition. The threat is that other firms would move in and undercut the monopsony/monopoly insurer’s premium prices. Thus, despite being a monopsony and a monopoly, the firm cannot fail to pass savings on to consumers.
Foreman, et al. found that Blue Cross Plans behaved exactly in this way: a monopsony in a contestable insurance market. They observed increased administrative efficiency, reduction of provider payments, and competitive pricing of health plans, all consistent with what is expected of a monopsony in a contestable market.
This is a relatively old paper so I would not claim that the findings are relevant today. I am also not aware of other studies focused on this topic so the findings may be specific to their investigation. Nevertheless, the notion of contestability is worth remembering. A monopoly doesn’t necessarily have monopoly pricing power. A monopsonistic insurer may reduce premiums due to fear of competition.
Who Has Market Power?: Health Insurers vs. Providers
This post has been cited in the 5 August 2009 Health Wonk Review, hosted by Disease Management Care Blog.
Several recent reports and journal articles describe considerable market concentration among health insurers. And there has been debate in the blogosphere about the merits of competition among insurers. Should consumers worry that increased market power by insurers means higher premiums than would otherwise exist in a more competitive market? Or should consumers rejoice that the buying power of a larger insurer will command lower prices from providers thereby keeping health care costs in check?
These are tricky questions and ones I’ve raised before. But now I have some answers from–wait for it–health economists (naturally).
In his 1998 Health Services Research article Managed Care, Market Power, and Monopsony, Mark Pauly lays out some helpful theory. In the case of a monopsony insurer (a market with only one health insurance plan) overall welfare (consumer plus producer surplus) is lower than in the case of a more competitive market. However consumer surplus (the value of the product to consumers less the price they pay) may increase depending on the type of insurer. A for-profit monopsony health insurer may not pass the lower provider prices to consumers through lower premiums. A nonprofit monopsony health insurer, on the other hand, will (in theory).
OK, what does this mean? It means that, according to theory, consumers get the best deal when the health insurer has considerable market power (monopsony or market share concentrated in very few insurers) and when the insurer is a nonprofit entity (as would be the co-ops recently proposed by Senator Kent Conrad). Nevertheless, a monopsony insurer reduces producer surplus (and therefore overall welfare) by extracting prices from providers below those of a competitive market.
If you care about the welfare of producers (doctors, hospitals), as the American Medical Association (AMA) does then this is a concern. To what extent should consumers care about the welfare of producers? Perhaps it is relevant to know whether or not the producer market is competitive or monopolistic? If producers are monopolistic and extracting extra profit (rents) then there is justification in breaking them up, doing so would be welfare improving. If the provider market is already competitive then perhaps providers would be unfairly taken advantage of via a monopsony insurer.
This suggests two ways to achieve lower health care prices: (1) support a trend toward monopsony in the insurer market (welfare reducing though possibly consumer welfare improving, but not always) or (2) break up monopolistic providers (welfare improving). Both would lower prices, and they are not mutually exclusive. If a policy is implemented and we observe a reduction in prices is it welfare improving or not? The answer hinges on distinguishing between cases (1) and (2). Pauly explains that if the quantity of care declines along with price then that signals a trend toward monopsony insurers. A monopsonistic insurer achieves lower prices by holding down demand. On the other hand, if the quantity of care does not decline with price then that signals a trend away from monopolistic providers.
At least two papers have used the theory expressed by Pauly to test whether insurer market concentration reflects monopsony power or monopoly-busting power. In Do HMOs Have Monopsony Power? (International Journal of Health Care Finance and Economics 1(1), 2001) Feldman and Wholey found that HMOs used their market clout to offset the monopoly power of hospitals. They also found no evidence of monopsonistic behavior with respect to physician services.
The findings of Bates and Santerre (Do Health Insurers Possess Monopsony Power in the Hospital Services Industry? International Journal of Health Care Finance and Economics 8(1), 2008 [free working paper version]) are consistent with those of Feldman and Wholey. Greater health insurer market concentration is not associated with monopsony power and suggests that insurers use their power to offset monopolistic providers.
Taken together, the articles reviewed above indicate that insurer market power should not be the focus of attention. Instead, provider (hospital) market consolidation ought to be more closely examined. I would be overstepping my knowledge of the literature to say that antitrust action against large provider groups is the key to more competitive health care markets, but the papers I described above are consistent with that idea. But what of the consolidation implied by the notion of accountable care organizations (ACOs)? I raised this question in a prior post. Some commentators have already pointed out that ACO-type incentives have led to provider consolidation. I hope policymakers are paying attention.
On the other hand, how do you think Democrats will get/keep provider organizations on board? Not by threatening to break them up, that’s for sure.
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