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Monday, January 5, 2009

US Health Care Industry: Picturing the Obituary

One safety technique that we use in climbing before deciding on a particular route, crevasse passage, or even whether or to head out at all is to picture your obituary if you had an accident. If it starts with "Completely unprepared climber heads right off a cliff" or "Meteorology-challenged climber decides to ascend despite typhoon-like conditions and horizontal snow fall", than that's generally a sign to save your climb for another day.

The Washington Post put together a very comprehensive article about AIG's near death experience that I found on The Health Care Blog. Not an obituary but definitely a post-postmortem. The story of how the credit default swap business led to AIG negotiating with death contained the following elements that have been a common thread in the recent demise of financial companies.

  1. Experts built a computer program that could use decades of data to model financial instruments that were risk-free by hedging these instruments. However, the financial world changed and the existing data (corporate debt) did not account for the new instruments based on consumer debt.
  2. These amount of dollars involved in these instruments (credit default swaps) started to resemble the GDP's of nations.
  3. The company started to really think that these financial instruments were really risk free.

However, AIG's obituary wasn't the story of rogue employees or the climbing equivalent of deciding to descend a mountain by sledding down an icy glacier with numerous holes. They kept their controls in place but didn't recalibrate their assumptions as conditions changed.

This story led me to think about the postmortem or obituary of the US health care industry as it is streaking to an increasingly unsustainable position. Who are the rogue traders going to be, what assumptions is the industry going to miss, or what is going to be that moment that causes future business school students to giggle about the ineptitude when the case study is read? Is the industry going to look like climbers who got lost in the parking lot or like careful practitioners who just got hit by a surprise weather storm or freak piece of falling ice?

While letting risk or leverage get out of control was the financial firms downfall, the health care industry's downfall will likely be the increasing costs or the prices the industry charges. The obituary will be something like, "Did you really think that people were going to pay that much forever?" Here's the candidates for havnig that inscription on their tombstone.

Health Insurance Companies: Currently, it looks like health insurance companies would have their graves descreated as they are about as popular as a cold sore outbreak. However, the insurance premiums are just the lipstick on the pig as carriers have the data to show that the costs are from health care delivery. A local health reform group, called the Archimedes Movement recently blogged about the how health insurance companies spend 30% of premium dollars on administrative costs and profits, listing Ted Kennedy as a source. I recently pulled the financial filings from the Oregon Insurance Division for all local carriers through 2008 Q3 and saw that only 9.6% of premium dollars was spent on administrative costs. When you add in the total margin in operating dollars for all carriers, it's 0.6%. If you believe Teddy Kennedy's 30%, I've got a bridge for you to drive off.

We need health insurance companies to pay claims, figure out who gets paid what, enroll members, and answer questions that everyone has. While their role will probably be diminished in the afterlife of the US health care industry, they are not the rogue trader. Insurance companies administrative costs are not as exorbitant as claimed, someone needs to be the information intermediary, and they have the best data so they will be able to better tell the story.

Hospitals: The fees that hospitals charge are based on how much money they need to run their facilities not how much the market has valued their services. Since hospitals can't negotiate with government payers like Medicare, they negotiate with private insurance companies based on how much they need. There has been enough consolidation that the hospitals that are left can get paid what they ask for. However, if asked to demonstrate why they need to get paid what they do and why their services are worth the cost, a hospital would have little data. Without any data and costs that are receiving more and more public scrutiny, hospitals are not in a good position.

If some single payer enity, asked all of the hospitals what they should get paid for a service, that entity would get a wide range of prices, limited data to support those prices, and no explanation for the variation other than "we have sicker patients". That is what could make hospitals very vulnerable to an unflattering obituary.

Pharmaceutical Companies: There was a very interesting New York Times article a few months ago about how earlier generation, old school hypertension medication was just as effective as the new fancier, blinged out versions. A government study came to that conclusion and the pharmaceutical companies responded by ramping up their lobbying and marketing might to defend, discredit, and suppress the information. Well, that's according to the New York Times who can really sharpen their talons on any industry to claw out some choice pieces of meat. However, the response from the drug companies does sound logical to me. They are very good at marketing and spreading their message since they have to be in order to get providers and consumers to understand the differences between all the drugs in a various class.

Parmaceutical companies have a difficult cost structure to defend since it cost pennies to make their pills but they price has to pay back all the research and marketing over the life of its patent before revenue drops when drugs reach generic status. This structure makes it very beneficial to retain patent protection and stave off generics for as long as possible which may lead to some questionable practices. I think that there are some skeletons in the closet which would be very hard to defend if they came to light and could really dance around the tombstones of this industry.

Conclusion: I believe that the entities above are the prime candidates to be crucified for the current health care systematic deficiencies, issues, and other break downs. Overall, the hospital industry is the biggest and has the toughest sins around cost to defend which is why they may take fall and have the worst obituary written. Now, all these entities do play an important role in health care, have made some great contributions, and they will continue to play a role in some form. However, from reading the AIG article, when there is a collapse of any industry, an obituary will be written. The grave dancers will outnumber the givers of eulogies. None of us look very good laid out on a medical examiner table.


Rick Ray said...

Thanks for your mention of the Archimedes Movement (www.WeCanDoBetter.org).

I'd like to clarify that the post on our site that referred to 30% of insurance costs going towards administration was a comment from one of our supporters, and not the position of the Archimedes Movement.

We seek to engage all participants, including the health insurance industry, in our efforts to move towards a new health care system that has as its explicit goals improving the health of Americans, reducing per-person cost of health care, and improving the patient experience.

Deadhedge said...

Thanks for the clarification Rick. I tried to respond to the post via the Archimedes blog but couldn't figure out a way to do it/didn't have posting rights.

I've been interested in the work that Arichimedes is doing, enjoyed following the dialogues, and it has kept me informed. The conversations have showed me that insurance companies (where I work) need a lot of improvement to continue to be part of the health care industry and also we need to better explain ourselves. Quoting from others at my organization, insurance companies are the only ones in health care who say no.

On the other hand, if insurance companies don't demonstrate their value, our best case scenario is becoming government employees.

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