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Healthcare: An Economic Cancer

Subtitle: Cancerous Growth,  and How To Save the Patient

by Big Issues Today

Introduction

This article is about the economics of healthcare.  It is instructive to consider an example of one of the most devastating and costly diseases as a metaphor for the problems that the U.S. healthcare system faces – out of control growth.

Cancer starts benign enough. In a way, it does something most normal cells in a human body do: absorbs nutrients from the environment, and grows by multiplying. They differ in only one trivial aspect: normal cells have internal control and generate replacement cells only when need to, thus a particular organ remains stable and does not grow in size. Cancer cells do not have such internal mechanism and grow exponentially, uncontrollably.

Cancer cells do not need to secrete poison to kill; their growing colonies’ insatiable need for resources simply starve the normal cells around them of needed nutrients. The cancer cells may also migrate to other physical locations, replicating the same successful growth strategy and launching passive attacks everywhere. Eventually normal organs are shut down due to a lack of blood flow or other forms of blockage, and the patient dies from the failure of one or more vital organs.

If this most studied disease ever teaches us one lesson about human society, it is this: the disproportional growth of one part could cause a global failure of the entire organization.

Growth of the Healthcare Industry

Here’s one example in the US society: The healthcare industry has grown around 10% per year on average in the last 40 years, outpacing the overall US GDP growth by 2.4 percentage point since 1970. 2.4 percentage point higher rate than overall GDP growth sounds trivial enough, but as a result, this industry has grown from $75 billion in 1970 to $2.5 trillion, or $8,160 per capita in 20091.

How much is $2.5 trillion?

Based on the numbers from the White House, in 2010 the federal government revenue (all taxes, including individual and corporate taxes) was about $2.2 trillion2, slightly lower than $2.5 trillion. Now the picture becomes this: If we ask the White House to give all its federal government revenue in 2010 to pay for this one industry, it would not be enough. (Nobody is asking the government to pay for the cost of this entire industry – as many other industrial countries actually do – we’re only using this comparison to illustrate the sheer size of this industry.) Any president who can do subtraction will realize that if he ever wants to pay the $8,160 for each citizen out of “government” money, he will have to eliminate all military presence from 100 foreign countries plus the US, shut down postal service, aviation control, department of justice, agriculture, energy, and so forth. Secret service will have to be let go, and the President will hand a federally issued IOU to First Lady to get the groceries that do not already grow in the White House vegetable garden.

And after all this is done the government will still come up short.  So the president will have to get a tax increase on top of removing all existing government functions.  (Or, of course, just increase the deficit.)

Of course this will never happen. The shuttering of Country USA by one cancerously-growing industry that uses up too much of the society’s resources will take other forms of transformative turmoil, domestic as well as global. But, you get the point.

It is quite logical to call the healthcare industry a cancer, and it sure is malignant. Its current rate of growth continues to outpace the rest of the US economy, recession or no recession. And its growth is getting stronger, spurred on by an aging population.

Who Will Pay for Healthcare?

The healthcare debate has so far been focusing on “who pays for it”, and specifically Government involvement, who should be covered, at what cost and for what treatments. What is the role of insurance companies?  Should healthcare be a responsibility of businesses?  These are all very technical, complex questions, involving micro-managing by definition.  Such a debate can get contentious, emotional and treacherous as all parties have their own interest to defend:  politicians, pharmaceutical companies, insurance companies, patients of various age and profession groups.

“Who pays for healthcare” and “how to share the risk” are the same question. This debate will not yield a solution. Instead, the only viable answer to the U.S. federal healthcare debate is “No”.   At the current consumption, the society as a whole cannot afford it, and should not pay for it at such unsustainable level. The “magic” payer scheme will not emerge because there is none.

Ultimately there is Only One Payer

We have established the fact that healthcare industry has enjoyed a cancerous growth to the point that it surpassed the entire US federal government in size. Now let’s examine how we cannot wish for a magic payer to emerge and save the consumers from the $8,160 a year in financial burden.

Let’s examine a simple transaction. Three typical payers are involved to cover the expense:

  1. The people who use the service, or the consumers, and their employers who subsidize this cost on the employees’ behalf.
  2. The health insurance companies / plans.
  3. The government.

On the surface healthcare consumption transaction goes like this:

The consumer uses the service. The provider, be it physician, pharmacy, hospital, a treatment or diagnostic center, charges a fee.  One of the three payers, or any combination of the three, then writes (a) check(s) to the payers to settle the liability.  Transaction complete.

The healthcare debate would have been more meaningful if the three parties were independent of one another. They are not:

Private insurance companies as a “payer” is a misnomer. They simply carry out the following transaction:

  1. Receive premium payment on consumers’ behalf.
  2. Pay out a substantial portion of received premium to service providers on consumers’ behalf.

Use Humana, one of the largest for-profit health insurance companies, as an example3:

In 2010, Humana collected $33.2 billion in premium and fees. $25.9 billion (78%) was from government in the form of Medicare, Medicaid and Military Services. The remaining $7.3 billion (22%) of the premium and fees was from commercial sector, an expense shared by consumers and their employers.

Out of the $33.2 billion premium and fees, Humana paid out $27.1 billion, or 82%, in “benefits”,  i.e. payments to providers. The rest covered Humana’s expenses and profit. If the government demands that it pays out more to some (for example, members with extremely high life-time medical cost), the company has to charge everyone else more to cover the “benefit”.  As long as the insurer stays in business, it has to take in more than it pays out.

Commercial sector premium is paid by companies and their employees.  A typical premium sharing arrangement can be 50-50 between employees and their employers.  The cost of office visits and hospital stays is shared by insurance companies and the consumers at a pre-arranged fashion, with some kind of annual maximum out-of-pocket amount, with or without total annual coverage or life-time cap.

We thus established that insurance companies are not true “payers”.  They are pass-through entities where the government, consumers / businesses use to facilitate transactions and risk sharing.  With such an understanding, we can modify the game of “who pays for healthcare”:

Out of the two payers left, the government does not create wealth to pay for either the Premiums (to insurance companies) or Benefits (directly to Providers). Instead it taxes consumers and companies and allocates this amount to cover health insurance programs such as Medicare and Medicaid:

Now we established that government is another pass-through entity with no real funding that it generates through value-creation activities independent of consumers and commercials sector. Hence the third round of “who pays for healthcare” game becomes:

Now we realized that people’s medical bills have to be paid for by consumers and businesses, and nowhere else.  And the part that comes from employers is actually coming from the employees also – it is something that they earn as part of their “wages”.  When we face this fact and rid of all illusions about the cost-sharing role of government or health insurance industry, the thinking is transformed: The $8,160 per capita healthcare cost for the entire 300 million US population – not just those employed – will not magically be shared by some non-existent payers; consumers and businesses alone are responsible for this amount, the full $2.5 trillion of it.  Individuals or businesses have to stop pretending that imaginary wealth can magically come from health insurance companies or the federal government. The wishful thinking that a combination of paying options, including consumers, private insurance companies, and government can somehow make the burden “shared” and thus affordable, only delays the moment of rude awakening.

When Obesity is the Problem, Slim Down

There’s only one solution: drastically slim down the society’s entire healthcare industry by means of regulation, market force, and smart value mechanisms that steer consumption / prescription towards less quantity and less expensive options.  Concentrate on using the most efficient diagnosis and treatment processes, not the ones that can generate the most revenue for the providers.  Such a change is urgently needed and it cannot come from painlessly trimming the peripherals such as inefficiency in transactions, unrealized group purchase discounts, or cracking down on the devil everyone loves to hate – the growing malpractice liability insurance cost.  Yes, it needs to be reduced, but, even if eliminated altogether it is far from enough to bail society out of the healthcare cost crisis).  The core of healthcare cost must go down significantly.

The Latest Healthcare Legislation Does NOT Address the Problem

The debate of “who should pay” for healthcare is an attempt for better risk-sharing. The cost-saving aspect of the current healthcare reform is not significant enough to interrupt the cancerous growth of the healthcare industry. This risk-sharing discussion can and will become meaningful only if society as a whole CAN afford such a risk.  If collectively we cannot afford it, the redesigning of the healthcare pay structure essentially degenerates into a fascinating intellectual exercise of “should we sink together, or should we drown one group after another?”

Our healthcare industry has reached an unsustainable size through cancerous growth regardless of the wellbeing of the rest of the society. The reasons mostly rest upon poorly designed risk-sharing mechanisms and governmental interventions that encourage over consumption (by means of over-prescribing), over pricing, and over production. To solve this problem, we first have to recognize the need to directly deal with these three problems.  A consensus must be reached that such growth not only has to be contained, it has to be quickly reversed.  Otherwise the national patient – the U.S. economy – can suffer massively.

It sounds like a simplification, but it is this simple: if we cannot personally write a healthcare check in the amount of $8,160 (and growing) for every member of our own family every year, from birth to death, then the society should not pay $25 trillion (and growing) collectively for it either. A real, sustainable solution can only start from here.

References:

  1. Kaiser Family Foundation Publication #7692-02: “Trends in Health Care Cost and Spending”.  http://www.kff.org/insurance/7692.cfm
  2. 2010 Financial Report of the US Government, US Department of Treasury, Page 42. http://www.gao.gov/financial/fy2010/10frusg.pdf
  3. Annual Report, Humana Inc., 2010. http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9ODQ2ODh8Q2hpbGRJRD0tMXxUeXBlPTM=&t=1

Related Articles

Analysis Blog articles on healthcare

Opinion Blog articles about healthcare

Patient Needs Larger Role in Health Care by John Lounsbury (TheStreet.com Aug. 3, 2009)


About the Author

Born in China, the author obtained a Ph.D. in Biophysics (Baylor College of Medicine) and an MBA in Strategy, Finance, Marketing (U. Chicago). The author has worked in the consulting and insurance industries.


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2 Responses to Healthcare: An Economic Cancer

  1. This comment was submitted by e-mail from Elliott Morss:

    I think there is a solution. Ever heard of John Wennberg? He has found that health care is supply driven and that economic incentive structures in health are all wrong. For more on this, see http://www.morssglobalfinance.com/us-health-care-costs-wennberg-part-4/. In essense, Wennberg says hospital managers are required to employ all their resources – hospital beds, testing machines, doctors, medical consultants, and medicines. But Wennberg finds that outcomes are just as good in South Dakota as they are in NYC. If so, tremendous cost savings, and Wennberg’s thinking was built into the Obama health care bill. Will the lobbyists for the health care industry let provisions to focus on low cost outcomes as a model survive. Probably not. But there are clearly options on what we should do to reduce US health care costs….

  2. Pingback: Healthcare: An Economic Cancer | Global Economic Intersection | The "Official AndreasCY" Daily Magazine | Scoop.it