1. Selective Contracting: Managed Care and Hospitals
Chapter 9

2. Selective Contracting
Some get contracts, and some do not
THE comparative advantage of managed care

3. Hospitals in the “Golden Age” —Medical Arms Race—
Typically competition is thought to drive price toward marginal cost
Healthcare markets “different”
Widespread insurance
Cost-based reimbursement
Competition for patients (and their doctors) based upon services, amenities, and quality, not price
This implies that greater competition can lead to higher, not lower, prices

4. Figure 9-1 Hospital Adjusted Average Cost Per Admission, 1982
Dollars
Neighboring Hospitals
Source: Robinson and Luft (1985), Figure 1

5. Selective Contracting
Purchasers able to exclude some providers from contracts
Potentially adds price to the services-amenities-quality competition for patients
Implies that in the presence of selective contracting, more providers could result in lower prices

6. California Legislation
MediCal (Medicaid) is allowed to enter into contracts with a subset of hospitals based upon a competitive bidding process.
Private insurers are explicitly allowed to contract with subsets of hospitals in any market.

7. Figure 9-2 Effects of California Selective Contracting Laws
Percentage Change in Hospital Costs
1980–1982
1983–1985
Source: data from Melnick and Zwanziger (1988)

8. Competition and Hospital Prices —California Experience—
Blue Cross of California PPO gets a lower price when:
o More hospitals in the market
o The PPO has a larger share of the hospital’s book
of business
o The hospital has a smaller share of the PPO’s
book of business
o Occupancy rates are lower
- Own hospital
- Neighboring hospital
Source: Melnick et al. (1992)

9. Managed care plans selectively contract:
—Studies Outside of California— Do Managed Care Plans Selectively Contract?
Managed care plans selectively contract:
13 largest metropolitan statistical areas (MSAs)
Typical managed care organization contracted with 44 percent of hospitals in its market
Typical hospital had contracts with several managed care organizations
Source: Zwanziger and Meirowitz (1998)

10. On What Bases Are Contracts Awarded? —What’s the Role of Price?—
City
HMO
HMO Type
Hospitals in Area
Hospitals Used
Percent of Hospitals Used 1 A
Staff 71 7 10 B
IPA
107 46 43 2 C 36 8 22 3 D
Network 32 15 47 4 E 33 25 F 53 18 34
Note: IPA = independent practice association
Source: data from Feldman et al. (1990) based on mid-1980s data

11. Who Gets the Contract, and Who Gets the Volume?
Those getting the contracts had better “quality”
teaching status and services provided
costs (as a proxy for prices) did not matter
Of those with contracts, price did matter
For staff and network HMOs, a 1 percent lower price was associated with a 3 percent increase in volume
Quality got the contract, price got the volume
Source: Feldman et al. (1990)

12. Which Hospitals Get Managed Care Volume?
1992–1997 study of Florida hospitals
Seek to explain a hospital’s share of the MSA’s HMO revenue as a function of hospital price, service offerings, teaching status, and location
Provision of high-tech services, price, and central location were most important, in that order
Investor-owned hospitals have greater share of HMO market
Teaching hospitals have greater share of HMO market
More than price matters
Source: Young, Burgess, and Valley (2002)

13. Which Hospitals Get Managed Care Contracts?
1997 survey of 50 nationally representative HMOs that could have potentially contracted with 447 hospitals for coronary artery bypass graft surgery (CABG)
Estimated whether or not a relevant HMO-hospital contract existed
Probability of contracting increased with hospital quality and decreased with distance and cost
Greater hospital competition decreased the likelihood of a contract
Greater HMO competition increased the likelihood of a contract
But no data on actual prices and patient volumes
Source: Gaskin et al. (2002)

14. Which Hospitals Get Managed Care Volume?
Study of 1995 and 1996 data from 80 large self-insured employers for angioplasty
Actual price data
Controlling for other factors, prices paid by HMOs were 27 percent lower than those paid by conventional plans
PPOs paid prices that were 8.5 percent lower
Source: Dor, Koroukian, and Grossman (2004)

15. Effects of Managed Care on Aggregate Hospital Costs
Does higher HMO penetration lead to lower costs?
1985–1993 study of hospital costs in 84 MSAs
Little evidence of effect in the late 1980s
By 1993, hospital costs 7.8 percent lower than in the absence of HMOs
Effects largest in markets with both large HMO market share and more rapid growth
Source: Gaskin and Hadley (1997)

16. Effects of HMO Penetration on Hospital Costs
Figure 9-4
Effects of HMO Penetration on Hospital Costs
Source: Gaskin and Hadley (1997), Figure 3

17. Managed Care and Hospital Market Structure
Do effects of managed care penetration differ with hospital market structure?
1989 and 1994 Medicare Cost Report data
Separate HMO and PPO penetration measures
No effect of penetration below 7 percent market share
HMO and PPO effects very different
Source: Bamezai et al. (1999)

19. Hospital Competition and Prices
Study of 2001 hospital prices paid by managed care firms on behalf of Federal Employees Health Benefit Plan
Hospital prices were 18 percent lower in the markets with the most competition compared to those with the least
Source: U.S. GAO (2005)

20. How Big Are Hospital Discounts?
Hospitals’ list prices are called “full billed charges” (FBC)
Contractual adjustments (CA) include:
Negotiated price reductions
Implicit price reductions in governmentt rates
Charity care
Bad debt
Discount = CA / FBC

21. Community Hospital Discounts
Aggregate Discount in 2004
Aggregate Discount in 2006
Alabama
69.6
70.6
California
71.8
72.4
Indiana
52.0
56.2
Missouri
59.4
60.4
New Jersey
75.4
76.1
U.S.
62.0
64.2
Source: computed from AHA (2006, 2008) aggregate data

22. Managed Care and Travel Distance to Hospitals
In seeking lower prices, managed care plans will seek contracts with distant providers that offer lower prices
Competition among managed care plans will reduce travel distances

23. California Travel Distance Studies
White and Morrisey (1998)
1985 and 1991 data
Private payer distance relative to Medicare
Weighted average distance and distance for selected DRGs:
hernia, appendicitis, heart failure and shock, back and neck surgery, joint procedures, open heart surgery, kidney transplant
No evidence that patients traveled farther relative to Medicare patients, and no pattern across DRGs
Mobley and Frech (2000)
1984 and 1993 data
Examined distance traveled controlling for HMO penetration
Evidence supports greater travel distance as HMOs search for lower prices
Evidence supports shorter travel distance when HMO penetration is higher
Effects cancel out: no net effect on travel distance

24. Managed Care and Hospital Service Offerings
Economies of scale implies specialization in particular services, allowing a hospital to offer a lower price
Economies of scope implies that a broader mix of services lowers costs, allowing a hospital to offer a lower price

25. Managed Care and Hospital Service Offerings
The evidence is mixed
Increased managed care penetration may be reducing the availability of high-technology services, but the few studies do not agree, and there is little evidence on the effects on new technologies

26. Managed Care and Hospital Uncompensated Care
Essentially, hospitals provide charity care out of “profits”
If managed care reduces hospital profits, it should result in less charity care being provided
Thorpe, Seiber, and Florence (2001) used 1991–1997 AHA data and concluded that a 10 percentage point increase in managed care penetration was associated with a 2 percentage point reduction in profit margin and a 0.6 percentage point reduction in uncompensated care.

27. Managed Care and Hospital Quality of Care
Surprisingly little evidence of the effects of managed care on hospital quality
Sari (2002) examined complication rates in 16 states between 1992 and 1997
Managed care increased quality of care when measured as inappropriate utilization, wound infections, and adverse/iatrogenic complications
No statistically significant effects on other measures

28. Favorable Selection Versus Selective Contracting
How much of the difference in costs between managed care plans and conventional plans is attributable to favorable selection into managed care plans, and how much to selective contracting?

29. “Enrollee Mix, Treatment Intensity and Cost in Competing Indemnity and HMO Plans”
Plans offered by Group Insurance Commission of Massachusetts
1 indemnity plan
10 HMOs
1 PPO
Offered to state and local government employees under age 65
Examination of data from fiscal years 1994 and 1995
Source: Altman, Cutler, and Zeckhauser (2003)

30. XPj = qPj [ ∑Ni=1 (dPij (∑Kk=1 tPijk rPijk))]
Model
XPj = qPj [ ∑Ni=1 (dPij (∑Kk=1 tPijk rPijk))]
XPj = average per capita costs in plan P for condition j
qPj = incidence of condition j in plan P
dPij = fraction of type i people, with condition j, in plan P
tPijk = fraction of type i people, with condition j, getting treatment k, in plan P
rPijk = average payment in plan P for…i,j,k
Source: Altman, Cutler, and Zeckhauser (2003)

31. Table 9-2 Incidence of Study Conditions
Overall Incidence
Incidence Adjusted for Demographics
Indem.
HMOs
Ratio
Acute myocardial infarction
0.67%
0.30%
2.23*
0.54%
0.40%
1.35*
Live birth
6.09
5.05
1.21*
6.80
4.82
1.41*
Breast cancer
1.33
0.59
2.25*
1.12
0.72
1.56*
Cervical cancer
.013
0.13
0.93
0.14
1.08
Colon cancer
0.21
0.08
2.62*
0.16
0.10
1.60*
Prostate cancer
0.75
0.26
2.88*
0.52
0.38
1.37*
Type I diabetes
1.39
0.55
2.53*
1.18
0.65
1.82*
Type II diabetes
2.33
1.07
2.18*
1.76
1.36
1.29*
* denotes that the ratio of the indemnity plan rate to the HMOs’ rate is statistically significant at the 95 percent confidence level.
Source: Altman, Cutler, and Zeckhauser (2003), Table 4

32. Table 9-3 Treatment Path Frequency and Payment
for Patients with Acute Myocardial Infarction (AMI)
Indemnity
HMOs
Two-year incidence of AMI
0.54%
0.40%*
Average cost per episode
$29,488
$19,821*
Share of treatment path
Null
52.0%
53.4%
Catheterization
22.3
13.2*
PTCA
13.1
20.0*
CABG
12.6
13.4
Payments, AMI episodes
By path: Null
$17,882
$10,573*
25,151
21,939
40,662
21,302*
72,693
51,885*
Weighted by treatment path
29,791
19,282*
* denotes that the means are significantly different at the 95 percent confidence level.
Source: Altman, Cutler, and Zeckhauser (2003), Table 7

33. Table 9-4 Decomposition of Cost Differences across Plan Types
Difference in Indemnity – HMO per Person Claims Cost
Percent Due to Mix of Enrollees
Percent Due to Treatment Intensity
Percent Due to Price or Unobserved Selection
Acute myocardial infarction
$143
62.1%
1.0%
36.9%
Live birth
152
51.8
11.3
36.9
Breast cancer
273
45.2
1.2
53.6
Cervical cancer 9
13.8
14.4
71.8
Colon cancer 56
41.1
5.3
Prostate cancer
100
64.5
-2.5
38.0
Type I diabetes 53
68.4 --
31.5
Type II diabetes 70
61.4
38.6
Average
107
51.0
5.1
45.1
Source: adapted from Altman, Cutler, and Zeckhauser (2003)

34. Discussion Questions
A colleague has described the difference between health policy and health administration programs as: “In health policy programs, one learns to break up little monopolies. In health administration programs, one learns to create little monopolies.” Evaluate the comment in light of selective contracting.

35. Discussion Questions
So-called any willing provider laws require a managed care plan to accept into its network any provider that is willing to abide by the terms and conditions of the contract. To what extent is a managed care plan able to assure volume under such a law? Is such a law likely to enhance or retard price competition?

36. Discussion Questions
Health savings accounts allow consumers to purchase a high-deductible health insurance plan and pay for the medical expenditures they incur prior to satisfying the deductible with tax-sheltered health savings. Advocates argue that this model gives consumers a strong incentive to shop for lower-priced, high value medical care. Based upon the analysis of selective contracting, under what conditions would consumers be successful in negotiating lower provider prices?

37. Discussion Questions
Suppose the dentists in a metropolitan area find that managed care plans have successfully negotiated substantially lower prices for dental services in their community. What does the theory of selective contracting and the empirical evidence from hospital markets say about how the dentists might respond?