Bilateral market power and the inappropriateness of HHIs: From the literature

In their recent paper on hospital pries and hospital and insurer market structure, Moriya, Vogt and Gaynor hit two key points I’ve been pondering. First, they note correctly that hospital prices are set in relation to market power of not just hospitals and not just insurers, but of both.

[W]e analyze the bilateral exercise of market power by both insurers and hospitals, whereas most of the previous literature analyzes the exercise of market power on only one side of the market. Only Staten et al. (1987, 1988), Sorensen (2003), and Melnick et al. (1992) analyze the bilateral exercise of market power. However, the first three studies focus on the concentration of insurers and the last one focuses on that of hospitals, and the measurement of the concentration of the other side is not very precise.

More needs to be done in this area. On that very point and why it is important I’ll have more to say later in the month (publication pending).

Next up, a thorny issue I’ve raised before. I wrote once,

A more technically useful notion of market share is the Herfindahl index (hereafter denoted H), which is the sum of squared market shares.  H is proportional to the degree to which the prices firms charge exceed marginal costs in homogeneous goods markets, those for which products produced by one firm are perfect substitutes for those produced by another. The higher H the higher the price markup.

However, few markets are perfectly homogeneous, but some are closer than others. Actually, hospital and health insurance markets are very far from homogeneous. One hospital can be quite different from another in many ways. It matters where you get your surgery! Insurance products differ in many dimensions. A high-deductible plan is not the same as a plan with first dollar coverage, for instance. Despite this, the FTC and DOJ still use H as a measure of market concentration in these industries. Thus, so do health economists, and so will I.

And so do Morya, Vogt, and Gaynor, writing,

A criticism of the […] use of the HHIs in a pricing equation [is that they] can only be directly derived from a theoretical model with Cournot competitors. That model clearly does not apply here. Hospital services are a differentiated product, and even more importantly, we are considering bilateral oligopoly. As stated previously, there is no theoretical consensus on bilateral oligopoly, hence no definitive empirical predictions. As a consequence, our analysis is best thought of as an empirical exploration of the idea that more concentrated markets has less price competition that is reflected in prices (higher for more concentrated sellers and lower for more concentrated buyers).

Were I doing this work I’d have done about the same thing and, perhaps, justified it the same way. So the following is not a critique of the authors, but of the state of health economics. We need far more theory on bilateral oligopoly. Get cracking theorists!


Melnick, G., J. Zwanziger, A. Bamezai and R. Pattison (1992), ‘The effect of market structure and bargaining position on hospital prices’, Journal of Health Economics, 11(3): 217–233.

Sorensen, A. T. (2003), ‘Insurer-hospital bargaining: negotiated discounts in post-deregulation Connecticut’, Journal of Industrial Economics, 51(4): 469–490.

Staten, M., W. Dunkelberg and J. Umbeck (1987), ‘Market share and the illusion of power: can Blue Cross force hospitals to discount?’, Journal of Health Economics, 6(1): 43–58.

Staten, M., W. Dunkelberg and J. Umbeck (1988), ‘Market share/market power revisited, a new test for an old theory’, Journal of Health Economics, 7(1): 73–83.

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