Brian Klepper, PhD
RAND Corporation recently published a report showing that, on average, private health plans (and the employers and unions that typically sponsor them) pay hospitals 241% of what Medicare pays for the same procedure or service. Of course, there’s lots of variation around that number, both regionally and by condition/procedure category. Private health plan reimbursements to hospitals ranged from 150% to more than 400% of Medicare reimbursement. Some hospitals have demanded and received 500% of Medicare or more for specific procedures. Because they can.
This is hardly news. The reference-based pricing sector has boomed by showing purchasers that saying no to a discount off an imaginary number – i.e., charges – is, in most cases, a workable and pragmatic strategy. But for uninitiated purchasers, the 241% figure helps convey the magnitude of the problem and the need for being pro-active. The strength of this development is that it is pricing transparency aimed at groups, who make purchasing decisions affecting thousands or sometimes hundreds of thousands of covered lives, rather than individuals.
Some simple arithmetic puts the RAND number into perspective. For a procedure that Medicare pays hospitals $10,000, the average employer typically pays more than 2.4 times as much, $24,100, a $14,100 difference. The employer does not pay this far higher figure because the patient care is riskier or more complex, or because the provider consistently delivers higher quality, but because the system has been set up to extract more from private purchasers as a class. It is as straightforward as that.
Hospital execs may be quick to point out that Medicare reimbursement doesn’t cover costs, which is true. The numbers are significant and worrisome, and the financial penalty associated with providing care through the Medicare program needs to be fixed. MedPac, an independent Medicare advisory group, reports that efficient hospitals operate on -2% Medicare profit margins. On average, hospitals experience about a -10% Medicare profit margin. That said, the three-quarters of hospitals that are inefficient and consistently lose money on Medicare typically lose about 18% on Medicare reimbursement. On a $10,000 procedure, that’s an $1,800 hit, or about 12.8% of the excess that built into the typical private health plan rate. Medicare pays efficient health systems more, and they realize more modest financial penalties.
MedPAC has recommended that Congress enhance Medicare’s hospital payment to reward greater quality and to significantly lessen or eliminate the program’s built-in financial penalties for efficient health systems. While there are no assurances, a step in that direction might also set the stage to reduce the fee structure in other payment streams, like commercial coverage.
The 241% of Medicare figure gives group health care purchasers a common reference for health care pricing negotiations. Woody Waters, co-founder of ELAP, a pioneering reference-based pricing company emphasized the value of using Medicare as the referent. “Medicare is not perfect, but it is perfectly transparent. Everyone knows it or can access it. Thus, it’s THE benchmark, like ‘Bluebook’ when shopping for a used vehicle. Both sides negotiate or measure value, from the same starting point. Large hospital systems are now recognizing the fundamental fairness of working on Medicare chassis. Across the US, ELAP now has a dozen name-brand systems under these types of contracts, with two more on the way.”
Even so, better pricing alone is not by any means enough to drive good purchasing decisions. Quality information is critical, and a good place to begin on health system evaluations is with the Leapfrog safety ratings. The principles are sensible. Medical errors, many of which occur in hospitals, are the 3rd highest cause of death in the US. About 1 in 25 hospital patients will acquire an infection. Health systems that have invested in the skills and systems to reduce medical errors and enhance patient safety – that get a higher Leapfrog safety rating – are more likely to consistently deliver higher safety, with better health outcomes and lower cost.
It’s in patients’ and purchasers’ interests for hospitals to participate in Leapfrog’s programs. If at all possible, avoid contracting with hospitals that refuse to participate, because they’re signaling that they don’t want you to be able to compare their safety performance with other organizations. Instead, favor organizations that participate and that have higher scores. That conveys that you believe safety and cost-effectiveness matter, and encourages hospitals to want to work to get your business.
The drive toward health care value is really about bringing health care markets to life, about rewarding those that focus first on what’s best for patients and purchasers and penalizing health care organizations that are focused on excess and what’s primarily good for them. A value-focused health care community has emerged and is rapidly growing through far better care and cost management approaches, and they’ve generally begun by displaying numbers that show just how out of kilter the current system is, the exorbitant degree to which we’re being taken advantage of.
Efforts like the RAND study and Leapfrog’s programs are facilitating our transition to that marketplace. That should delight us, because it means there may be a way out of this after all.
Brian Klepper is EVP of Validation Institute.