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CONTROLLING HEALTH CARE COSTS

Mark Merlis *

ABSTRACT

Concerns about rapid growth in U.S. medical expenditures have led to a variety of proposals for controlling health care costs. This report reviews current health care cost control proposals, including both regulatory and competitive options. The report provides an overview of the concepts underlying these basic approaches and the evidence available about their ability to achieve savings and their potential impact on access and quality of care.

SUMMARY

Inflation in the medical sector has outpaced inflation in the rest of the economy for many years. There are concerns that continued growth in health care costs could impede efforts to improve access to health care and could eventually erode the access that already exists. While efforts to control medical spending have been a central issue in health policy at least since the early 1970s, these concerns have given the issue a new urgency.

Most proposals to limit health care spending have relied on one of four basic approaches. The first is to change the behavior of consumers by holding them directly responsible for a larger portion of the costs of their own care. Increases in required deductible and coinsurance payments by enrollees in health plans can reduce overall costs. However, they may have a disproportionate impact on low-income persons, deterring even necessary care, and may not affect the treatment decisions of providers, who control much of total health spending.

The second major approach is to change provider behavior through direct modification of medical prac

⚫ Report prepared by Mark Merlis, Specialist in Social Legislation, Education and Public Welfare Division, Congressional Research Service, January 26, 1990.

tice, or by controlling the overall supply of medical resources. Insurers have had some success in controlling inpatient hospital services through external review systems, but savings have been largely offset by a growth in outpatient services. These have proved harder to manage, in part because there is little agreement about what constitutes appropriate care. There are hopes that further research on the effectiveness of medical treatments can provide a basis for limiting unnecessary care. If reductions in utilization are to achieve their full savings potential, however, they may need to be accompanied by controls on the overall supply of medical resources. Supply controls through local health planning systems were attempted in the 1970s, but encountered political barriers and had limited success.

The third cost control approach is to change provider behavior through reimbursement systems that provide incentives for greater efficiency. Several States, as well as Canada and other nations, have adopted payment systems that fix in advance the resources a provider can consume in treating an individual patient or an entire patient population. These systems may encourage more cost-effective treatment, but may also delay the introduction of new medical technologies or otherwise compromise quality. Their long-term potential for cost savings may rest on the willingness of the public to accept trade-offs between cost and other priorities.

The last major approach is to encourage consumers to choose from among multiple health plans that compete on the basis of their ability to develop structured and efficient delivery systems. Health maintenance organizations (HMOs) and other managed care systems have shown some ability to control costs, using utilization controls, financial incentives for providers, and other methods. The ability of these programs to achieve their full savings potential may be limited by the reluctance of higher-cost patients to accept the restrictions on choice of providers imposed by HMOs.

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INTRODUCTION

The United States spends more per capita, and a greater proportion of its gross domestic product (GDP), on medical care than any other industrialized nation. U.S. health expenditures in 1987 reached $500 billion, 11.1 percent of GDP, as compared to 8.6 percent in Canada, 6.8 percent in Japan, and 6.1 percent in the United Kingdom.1 Despite its higher expenditures, the United States performs no better than other industrialized nations, and worse than many, on such measures of health care outcomes as life expectancy or infant mortality rates. These international comparisons have led many observers to conclude that our medical care system is much less efficient than those elsewhere, spending more for less.

Not everyone would agree. Gross measures of health status may reflect, not the relative efficiency of our medical care system, but other differences between the United States and other countries. Life expectancy, for example, may be tied to diet or environment, while infant mortality rates may in part reflect such factors as the rate of teenage pregnancy. Other aspects of quality may not be captured by these measures at all. For example, Americans (or at least insured Americans) may have greater access to advances in medical technology than persons in other countries or may be less likely to have to wait for non-emergency treatment. Assessing the efficiency of the American system depends in part on how one defines quality, a problem that will be considered further at the end of this report.

Whatever the relative quality of American medical care, there are concerns about the rate at which health expenditures are increasing. Inflation in the medical sector has outpaced inflation in the rest of the economy for many years. National health expenditures rose an average of 13 percent a year from 1970 through 1981. The rate of growth declined over the next several years, chiefly because of a decline in inpatient hospital admissions. Between 1984 and 1985 total costs rose just 7.9 percent, the lowest annual rate of increase since the enactment of Medicare and Medicaid in 1965 (though still greater than the growth in GDP). This moderation in expenditure growth proved short-lived. Costs rose 9.8 percent in 1987, and employers and insurers have reported dramatic cost increases over the next 2 years. For example, one recent survey has found that employers' average cost per employee for health benefits rose 19 percent in 1988.2

1 George J. Schieber and Jean-Pierre Poullier, “International Health Care Expenditure Trends: 1987," Health Affairs 8 (3) (Fall 1989): 169–177. (Hereafter cited as International Health Care Expenditure Trends: 1987.)

2 Jerry Geisel, "Health Benefit Tab Rises 19% to New High," Business Insurance (December 11, 1989): 1.

The return of double-digit medical care inflation after a temporary respite has led to concerns that continued growth in medical care costs could impede efforts to improve access to health care and could eventually erode the access that already exists. Many employers have already reduced their contribution to employees' insurance expenses, while the costs of public insurance programs are consuming an increasing share of State and Federal budgets. Proposals to extend coverage to the uninsured have raised concerns that any expansion of the insured population might lend a further impetus to medical care inflation, as did the enactment of Medicare and Medicaid in 1965. While the issue of health care costs and ways of controlling them has been a central one in health policy at least since the early 1970s, these recent developments have given the issue a new urgency.

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result in the performance of unnecessary tests or procedures. Such measures might well play an important role in any comprehensive initiative to control medical care spending. They are omitted in order to allow this report to focus more directly on the medical care system itself and on proposals to change the way consumers and providers behave within that system.

Cost Sharing

Proposals to hold consumers responsible for more of the costs of their own medical care begin with the premise that comprehensive insurance coverage, largely funded by employers or government, has distorted the health care market by freeing consumers of any need to consider the utility or price of the services they are consuming. While not all observers share the view that growth in health care costs is driven by consumer choices, there are increasing calls for measures to encourage consumers to become more conscious of the price and utility of the medical services they use.

There are two broad ways of doing so. The first is to require consumers to pay a higher share of the premiums for their health care coverage, thus giving them an incentive to choose the most efficiently operated plan. This approach is the subject of the final section of this memorandum. The second method, considered in this section, is to make consumers pay more of the direct costs of the services they use by increasing the deductibles or coinsurance payments required under their insurance plans.

Increases in enrollee cost-sharing responsibility can reduce overall medical expenditures only if they deter some enrollees from obtaining care. Otherwise, they merely shift expenses from the insurer to the consumer. The major study of the impact of costsharing on health care utilization and costs was the Health Insurance Experiment (HIE) conducted between 1974 and 1982 by the RAND Corporation, under contract to the Health Care Financing Administration. The HIE randomly assigned 7,700 enrollees to a variety of health insurance plans, including a plan that included no cost-sharing (the "free" plan) and plans requiring coinsurance payments ranging from 25 to 95 percent (subject to overall limits on out-ofpocket expenditures).

3 Deductibles have other behavioral effects that may also produce cost savings. Enrollees whose costs during a year exceed the deductible by only a small margin may not go to the trouble of filing a claim. Other enrollees who are careless in record-keeping may be unable to document all of their out-ofpocket expenditures and may therefore spend more than the nominal deductible before the insurance takes over.

The key findings of the HIE were these: 4

• Cost-sharing reduced the probability that individuals would seek care for any particular medical condition. The strongest deterrent effects occurred among the poor, especially poor children. They were at least 40 percent less likely to obtain care for a given condition than children in the free plan.

• Cost-sharing deterred enrollees from obtaining both "appropriate" and "inappropriate" medical care. Low-income enrollees in the cost-sharing plans were less likely to seek care for conditions for which medical care is highly effective, as Iwell as for conditions for which medical care is rarely effective. Those in the cost-sharing plans had worse outcomes for specific conditions (such as hypertension) that can be improved by medical treatment.

• While cost-sharing prevented enrollees from initiating an episode of medical care, it did not change the course of treatment once an individual had entered the medical care system. Within any given episode of care, the cost-sharing enrollees received the same services and medications as other patients.

These findings raise several important concerns about the utility of cost-sharing as an approach for reducing medical expenditures. First, as would be expected, its impact is greatest on enrollees with the least income. This effect might be modified by developing cost-sharing requirements that varied by income. Such a system might be administratively cumbersome for employers or insurers. It might also defeat its own purpose, since cost-sharing may not reduce utilization unless it is financially burdensome. (The HIE enrollees in the least burdensome cost-sharing plan actually incurred slightly higher costs than those in the free plan.)

Second, cost-sharing may deter necessary as well as unnecessary care. The goal of making consumers more prudent in their use of health services may demand a degree of sophistication about the value of different services that not all enrollees possess. There have been attempts to develop more carefully targeted cost-sharing systems, to control only inappropriate utilization or to channel utilization in particular ways. For example, a higher coinsurance amount may be imposed for emergency room visits, in order to

This summary is drawn from Kathleen Lohr, et al., “Use of Medical Care in the RAND Health Insurance Experiment: Diagnosis and ServiceSpecific Analyses in a Randomized Controlled Trial," Medical Care 24 (9) (Supplement) (September 1986): S74-S77; and Robert H. Brook, et al., “Does Free Care Improve Adults' Health?: Results From a Randomized Controlled Trial," New England Journal of Medicine 309 (23) (December 8, 1983): 14261434.

prevent enrollees from using the emergency room for non-urgent care; this approach is common in health maintenance organizations (HMOs) and has been adopted by some State Medicaid plans. It is not certain, however, that even such narrower measures will deter only unnecessary care.

Finally, and perhaps most important from the perspective of cost reduction, cost-sharing may not modify the course of care once treatment has begun, presumably because the decision-making has generally shifted from the patient to the physician. This finding of the HIE is partly a result of the design of the experiment. Regardless of the level of cost-sharing required, each plan had an out-of-pocket limit, a point beyond which the insurer assumed full responsibility for all further expenses. In the absence of such a limit, enrollees might have been more likely to decline the services ordered by their physicians. At the same time, however, the most severely ill would have been subject to catastrophic financial losses.

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In 1978, 10 percent of U.S. families accounted for 67 percent of total health expenditures. U.S. Congress, Congressional Budget Office, Catastrophic Medical Expenses: Patterns in the Non-Elderly, Non-Poor Population (Washington, D.C.: Government Printing Office, December 1982), xviii.

These techniques are sometimes referred to by health insurers as "managed care." Others restrict the term "managed care" to the more aggressive interventions in the health care system represented by HMOs or similar entities. This is the sense in which the term will be used later in this report.

• Concurrent review, under which patients already admitted to the hospital are monitored to ensure the appropriateness of their continued stay;

• Voluntary or mandatory second opinions before elective surgery;

• Case management, under which the payer or the payer's agent attempts to assume control of the overall delivery of services to an individual highcost patient;

• Various approaches for shifting the locus of care from high-cost to low-cost settings. These include requirements that certain surgical procedures be performed on an outpatient basis, or that diagnostic tests ordinarily required for inpatients be conducted before the patient is admitted to the hospital.

Utilization controls, especially pre-admission certification and concurrent review, have become a standard feature of health insurance plans during the 1980s. They are now used in the Medicare program, in 29 State Medicaid programs (as of 1987), and in 72 percent of employer-sponsored health plans (as of 1988), up from 59 percent just a year earlier. Despite the rapid adoption of utilization control systems by both public and private payers, they have received little systematic study, and evidence that they actually reduce spending is limited. Pre-admission review has the strongest track record; one controlled study found that it produced net savings for an average employee group of 7.3 percent, with even higher savings for groups that had very high utilization before the programs were initiated. The evidence on some of the other approaches is less clear. For example, some studies have suggested that voluntary second surgical opinion programs may not deter enough unnecessary surgery to offset the costs of the second opinions themselves; mandatory programs appear to be more successful.9

There are also concerns that even the most successful utilization control approaches focus only on inpatient care and may merely shift the site in which care is delivered without fundamentally changing medical practice.10 If a reduction in inpatient admissions is

7 Phoebe A. Lindsey, "Medicaid Utilization Control Programs: Results of a 1987 Study," Health Care Financing Review 10 (4) (Summer 1989): 79-92; and Jon Gabel, et al., “Employer-Sponsored Health Insurance in America," Health Affairs 8 (2) (Summer 1989): 116-128.

8 Paul Feldstein, Thomas Wickizer, and John Wheeler, "Private Cost Containment: The Effects of Utilization Review Programs on Health Care Use and Expenditures," New England Journal of Medicine 318 (20) (May 19, 1988): 1310-1314.

For a review of the literature, see Danny Ermann, "Hospital Utilization Review: Past Experience, Future Directions," Journal of Health Politics, Policy and Law 13 (4) (Winter 1988): 683-704.

10 For a discussion of this issue, see Institute of Medicine, Controlling Costs and Changing Patient Care? The Role of Utilization Management (Washington, D.C.: 1989).

followed by an increase in outpatient services, savings may be only temporary; soon costs may begin to rise again as rapidly as before. One observer has argued that, because technologies that were once available only in hospitals are now widely diffused in the community, the hospital is no longer the appropriate focus of cost-containment efforts. At the same time, however, utilization controls for ambulatory services have been slow to develop. In part, this is because most ambulatory services have relatively small prices. The administrative costs of reviewing each service may outweigh any potential savings. 11 Some insurers have begun to require prior authorization for the most costly outpatient services, such as CAT scans or other major diagnostic procedures. Whether such measures are actually producing savings is not yet known.

Utilization controls face another barrier that may be even more important than administrative costs: the subjective nature of medical practice. Each patient is somehow unique, and external reviewers may have difficulty overriding the clinical judgments of individual practitioners in specific cases. This may be especially true when there is little consensus about the most appropriate treatment for a given condition, a problem to be discussed in the next section. In any event, some observers have contended that a persistent physician who is prepared to appeal a denial of authorization will often prevail. (The relative leverage of the individual practitioner may have been enhanced by recent legal decisions subjecting external utilization control agents to malpractice liability for denials of necessary care.) In consequence, utilization review may function as a delaying tactic rather than an absolute control, achieving savings only because some physicians will not take the trouble to protest the reviewers' decisions. The result has been termed "rationing by inconvenience." 12 Such savings as are achieved may diminish over time as physicians become more skillful in dealing with the system.

For this reason, some analysts have suggested that savings over a longer term may depend on the extent to which providers "sign on" to the concept of eliminating unnecessary services. In this view, real utilization control will require voluntary changes in the way physicians practice medicine.

Modifying Practice Styles-Beginning in the 1970s, studies by Wennberg and others showed that there was substantial geographic variation in the rate of use of specific medical or surgical procedures. For example, the rate of tonsillectomies in one area of New

11 Jeff C. Goldsmith, "Competition's Impact: A Report from the Front," Health Affairs 7 (3) (Summer 1988): 162-173.

12 Gerald W. Grumet, "Health Care Rationing Through Inconvenience: The Third Party's Secret Weapon," New England Journal of Medicine 321 (9) (August 31, 1989): 607–611.

England was six times higher than the lowest rate in the region.13 While some of the variations uncovered in “small area analysis" might be attributable to differences in the incidence of illness in different populations, this explanation appeared to be insufficient to account for all the variation; some other factors had to be at work. One hypothesis was that physicians in different areas had different "practice styles." Each community had its own medical culture, its own characteristic way of diagnosing or treating particular diseases or conditions. Physicians adopted the practice style of their community in the absence of firm and objective information about which treatment approach was actually superior.

Other explanations have been offered for small area variations in medical practice; these will be discussed further below. However, the practice style hypothesis has won many supporters and has led to proposals for controlling medical care costs by (a) improving knowledge of the relative efficacy of different medical treatments and (b) disseminating this knowledge to practitioners in the expectation that they will modify their practice styles accordingly. The Omnibus Budget Reconciliation Act of 1989 (P.L. 101-239) establishes a new program within the Department of Health and Human Services for research on the effectiveness of medical treatments and the development of practice guidelines. Not all of the proponents of this initiative view it as a cost-containment measure. Some view it chiefly as a possible way of improving quality of care, and therefore worth pursuing whether or not any cost savings result. The following discussion, however, considers only the potential of medical practice research to reduce costs.

To have a significant impact, guidelines will need to address areas of practice on which there is real disagreement among physicians. There have been some efforts in the past to codify elements of medical practice on which there already existed a consensus. However, if most physicians already agree on the best treatments, promulgating that agreement in the form of guidelines may not have a measurable impact on medical practice. (This appears to have been the case, for example, with a 1984 consensus report on the treatment of high blood pressure. 14) For this reason, the treatment research initiative will focus on conditions for which there is found to be a wide variation in current practice. Because the Nation is just beginning to devote significant resources to research on the outcomes of alternative medical treatments, it may

13 John Wennberg and Alan Gittelsohn, "Variations in Medical Care Among Small Areas," Scientific American 246 (April 1982): 120-134.

14 Martha N. Hill, David M. Levine, and Paul K. Whelton, "Awareness, Use, and Impact of the 1984 Joint National Committee Consensus Report on High Blood Pressure," American Journal of Public Health 78 (9) (September 1988): 1190-1194.

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