The Role of Medical Profits

from The New Yorker, a review on the book America’s Bitter Pill by Steven Brill.  The review is by Malcolm Gladwell.

excerpt:

On  May 2, 2009, Brill writes, the domestic-policy group at the White House blindsided the economic team with a second memo. It concerned something called the medical loss ratio, or M.L.R. The medical loss ratio compares what an insurer earns in premiums with what it pays out in benefits. An insurer who takes in a dollar and gives back eighty-five cents has a loss ratio of eighty-five per cent. Jeanne Lambrew wanted to place a floor on every insurer’s loss ratio: if a company kept too much of that dollar—if its M.L.R. fell below eighty-five or eighty per cent, say—it should have to refund the difference to its customers.

“Lambrew was certainly on firm political ground,” Brill writes. One senior White House aide called the proposal a “winner.” The rule would make it impossible for one of the economy’s least liked sectors to make excess profits. The feeling was, Brill says, that “it might end up being the single most politically appealing piece of healthcare reform.”

The economic team, however, wasn’t so sure:

Summers called it a “stupid idea,” and told his people to try to kill it. It was “dumb for us to cap anyone’s profits,” he said, dismissing the idea much the way the legendarily blunt Summers might have taken down a freshman economics student at Harvard who said something in class that he thought was “dumb.”

Summers’s point was that an M.L.R. floor distorted the insurer’s incentives. The argument goes like this: Suppose your doctor sends you to an imaging center to get a thousand-dollar MRI. But then your insurance company calls you and says that it’s found an equivalent provider just down the street that charges two hundred dollars. This, presumably, is what we want insurers to do. The market for medical procedures lacks price transparency and competition, and it’s scandalous that insurers routinely pay thousands of dollars for an MRI scan when the true cost of the procedure, by any metric, is a fraction of that. By taking steps like this, Summers thought, insurers could finally rein in, or even reduce, health-care premiums, which had been rising faster than inflation for years. But it is also highly likely that the insurer will keep a chunk of that eight-hundred-dollar savings for itself, in the form of higher profits. The prospect of higher profits is an insurer’s incentive for going to the trouble of looking for a cheaper MRI. In other words, if insurers do what we want them to do—cut costs and rein in premiums—it is likely that their loss ratios will fall. Why, Summers wondered, would you want to penalize them for doing that?

HKO

While Phds sit around DC and devise ways for the central planners to create a lower cost health care system it is not easy for even the highly credentialed to comprehend how their actions may have the opposite effect.  This is the nature of economic systems that confounds central planning even from the most educated elites.

Profit is poorly understood.  The insurers can increase their profit by reducing medical costs, but the elites are more outraged by the profits the insurers earn that the profits the medical device market makes.