In a free market economy, businesses usually set their prices any way they deem fit. However, if potential customers see these prices as being too high, they may reject them, and instead opt for lower priced competitors’ goods or services. Thus, the majority of price regulations aim at ensuring that customers have full pricing information before the creation of the contract. In the healthcare business though, consumers often purchase medical services, more so the ones provided by the hospitals, without full pricing information. For care provided by the hospital, even the hospital is not aware of the exact amount the patient is billable at the time of purchase. Instead, patients sign an open-ended agreement committing to pay the amount billed under the chargemaster prices. The use of these chargemaster prices, which are often grossly inflated, poses a big problem to insurers during contract negotiations. Thus, this paper addresses the use of Medicare rates as a possible way that the insurer can use to induce hospitals to provide actual rates.
As the primary payer in the market and one of the largest insurance companies, various strategies are applicable in order to induce the hospitals to provide the actual costs. One of these strategies is to insist on basing negotiations on the Medicare rates. As the largest payer, this firm has the largest number of customers. The firm can thus provide these customers to the hospital that accepts their negotiation proposal. Since the hospitals are in competition with each other, they will have no option but to comply.
The Medicare payments at present represent approximately 31% of the hospitals’ net revenues (Reinhardt 15). This is divided into payment for both inpatient and outpatient care. In the case of inpatient services, flat fees are paid per hospital case. These are paid according to a certain schedule of unique diagnosis-related groups, commonly referred to as DRG’s (Reinhardt 15). Each DRG is assigned a payment weight, which is multiplied by the monetary conversion factor for that year. Regional variations in items such as the cost of labor, as well as hospital inputs, provide a further basis for adjustment.
In the outpatient cases, full sets of supplies, as well as services that are associated with a major procedure, are bundled into a lump-sum fee for the particular procedure. The grouping, in this case, is done based on an ambulatory payment classification model (Reinhardt 15).
Thus, the insurance firm can use these Medicare rates as the basis for negotiations with the hospitals. The firm would insist on these rates, or else threaten the hospital that it will discourage customers from going to these hospitals. Since the hospitals will not be ready to apply these Medicare rates, they would be compelled to provide their actual costs. These costs would then be applied with a certain mark up slightly above the amounts but lower than the exorbitant rates.
The disparity between the Medicare rates and the chargemaster rates is best illustrated using an example such as the case of Janice, the 64-year-old woman who had worked as a sales clerk in the past. When she experienced chest pains and was rushed to the Stamford Hospital for tests and checkup. Upon arrival at the hospital, she underwent various tests designed to check for evidence of a heart attack. Since Medicare coverage begins at the age of 65, Janice was not eligible for the care. Since she had been out of work for a year, she had no insurance. Hence, she was forced to pay out of pocket for her treatment. The threat of a heart attack later turned out to be a false alarm. One of the tests she underwent was a Troponin test, for which she paid $199.50, against the Medicare charge of $13.94 (Brill 26). This exorbitant overpricing is typical of the Chargemaster pricing.
Competition in health care markets is an important element that would go a long way towards offering patients lower costs as well as improved quality and more options. To the insurers, competition is also important since it forces the hospitals to engage in price wars (Grennan 158). These price wars force the prices for services on the hospitals’ chargemasters to fall.
In order for the insurer to realize these gains, however, competition must exist. Thus, as the largest insurer, we must come up with ways of inducing this competition. One of the methods that the firm may adopt in this regard is directing the customers to the hospitals with the lowest prices (Ho 397).
As the largest insurance payer, our firm has the most customers. Thus, this firm maintains a list of healthcare providers that it has approved for use by its customers. Customers who seek insurance services from our insurer are only allowed to pick their health care providers from the hospital that are on this list.
In case of care received from a hospital that is not on the list, the firm will not be liable for payment. Thus, our company may foster competition through threatening these hospitals with removal from the list of approved providers. This would apply to the hospitals with the highest charges for their services. Removal from the list would definitely have a severe impact on the hospitals’ customer base. Since no hospital would want to be dropped, they would definitely have to reduce their prices. These price wars would then have a beneficial impact on the insurer since it reduces the amounts we have to pay, which cuts costs (Ho 410). This reduction translates to the customers in the form of reduced premiums.
Negotiation refers to a process through which two parties or more, who have varying perspectives on an issue attempt to reach a consensus (Grennan 147-177). Negotiation can take place in various domains, and the ultimate aim is to yield better understanding and outcomes.
One of the possible areas of negotiation between the insurer and the hospitals is the area of reimbursements. In this regard, the insurer may aim at ensuring that the payments made to various hospitals for identical services are the same (Grennan 147-177).
The disparity between the various hospitals’ pricing for similar services is at present simply shocking. An example of how large the disparity is in the case of Emilia Gilbert, who in 2008 was taken to an emergency room at Bridgeport Hospital after she slipped and fell.
In this emergency room, various tests were done. Among these tests was a troponin blood test, similar to the one Janice got. However, she had to pay $239 for this test, whereas the same test cost Janice $199.50 at Stamford Hospital (Brill 24). This huge disparity is evident despite the fact that the test is the same one applied, and the same procedure is applied.
One strategy that an insurer may employ, in this case, is to encourage the hospitals to form purchasing coalitions (Ho 393-430). These coalitions refer to several hospitals, which come together to form a group to take advantage of the power of the collective. The hospitals may form these coalitions in order to increase their bargaining power over the insurer. Once the hospitals are in a coalition or a group, they are able to negotiate terms together. In order for these hospitals to push for a better deal from the insurer, they will be forced to have a common ground. Since the aim of this group is to introduce an oligopolistic market structure, prices must be around the same level for similar services. This will ensure that there is no differentiation based on price.
Whereas concern may arise that the hospitals could take advantage of this in order to set prices at a high level, this is misplaced. Being the largest payer in the market ensures that the firm has bargaining power over the firms on an individual basis (Bhattacharya, Hyde and Tu 57). This is because size is the chief determinant in as far as bargaining power is concerned.
The insurer will yield power over the firms individually by threatening to direct customers away from them, should they attempt to gang up. Besides, the formation of these groups ensures that the oligopolistically competitive firms have to engage in tacit collusive pricing (Bhattacharya, Hyde and Tu 58).
This tacit collusive pricing is important to avoid undercutting. Thus, this collusive pricing, combined with the dominant market share ensures the insurer will pay identical reimbursement for the same products regardless of the hospital.
One argument proposed by Hospitals is that the Medicare and Medicaid payments do not cover the actual costs incurred. Hence, the argument is that they can only cover this shortfall through the payments made by private insurers. Thus, there is a possibility that some pushback may come from the hospitals in order to cover for this shortfall (Brown 11-58).
This theory is however only true if the hospitals gain greater market power through consolidation strategies. These would then allow the hospitals to have great bargaining power through which they can push back the costs to the insurer. However, one strategy that the insurer can employ in order to reduce this is to reduce the number of specialty hospitals.
Specialty hospitals refer to the hospitals where certain illnesses that require special care are referred. An example of these specialty hospitals is cancer care centers. Since it is these centers that are responsible for the greatest amount of the push back cases, the insurer may react by cutting down on the number of the centers. This in turn leads to reduced premiums since the higher priced providers are eliminated.
In conclusion, whereas it is evident that the hospitals sometimes have great bargaining power over the insurers, this can be countered. In cases where the insurer controls a large share of the market, the insurer possesses the greatest bargaining power. In this case then, the insurer dictates the terms and is able to control matters to their advantage. Through employing strategies such as basing their payment on Medicare rates, the insurer can control costs and hence ensure that they reduce their premiums.
Works Cited
Bhattacharya, Jay, Timothy Hyde and Peter Tu. Health Economics. Houndmills, Basingstoke, Hampshire ; New York, NY: Palgrave Macmillan, 2014.
Brill, Steven. "Bitter Pill: Why Medical Bills Are Killing Us." Time 20 February 2013.
Brown, Erin C. Fuse. "Irrational Hospital Pricing." Houston Journal of Health Law & Policy (2014): 11-58.
Grennan, Matthew. "“Price Discrimination and Bargaining: Empirical Evidence from Medical Devices." American Economic Review 103.1 (2013): 147–177.
Ho, Katherine. "Insurer-Provider Networks in the Medical Care Market." American Economic Review 99.1 (2009): 393–430.
Reinhardt, Uwe E. . "The Pricing Of U.S. Hospital Services: Chaos Behind A Veil Of Secrecy." n.d. Health Affairs. 20 April 2015 <http://content.healthaffairs.org/content/25/1/57.full#ref-21>.
