WHY AMERICA WILL CURB THE FUTURE GROWTH OF HEALTH-CARE INCOMES AND -EMPLOYMENT

Uwe Reinhardt, Woodrow Wilson School of Public and International Affairs and Department of Economics

The National on Congress on Healthcare Clinical Innovations, Quality Improvements and Cost Containment Washington, D.C. October 26-28, 2011 OUTLINE OF PRESENTATION

I. THE DUAL SOCIAL ECONOMIC ROLE OF

II. THE MACRO-ECONOMIC CONTEXT

III. HOW HEATH CARE COULD HEAL ITSELF

IV. MORE RADICAL PROPOSALS I. THE DUAL ECONOMIC ROLE OF HEALTH CARE

A few decades ago, Harvard Philosophy Professor Alfred E. Neuman received the Nobel Prize in Medicine for his discovery of (a) an innovative definition and (b) a famous cosmic law..

He edited the first journal of U.S. .

TRADITIONL DEFINITION OF “A PATIENT” patient (pa’shent) - n. 1. A person under medical treatment. [Middle English pacient, from old French patient, from Latin patients, from pati, to suffer.] NEUMAN’S DEFINITION OF “A PATIENT” patient (pa’shent) - n. 1. A person under medical treatment. [Middle English pacient, from old French patient, from Latin patients, from pati, to suffer.] 2. A biological structure yielding cash – acronym BSYC [from 21st century fee-for- service medicine. ] AlfredAlfred E.E. NeumanNeuman’’ss CosmicCosmic HealthHealth CareCare EquationEquation

HEALTH SPENDING = HEALTH CARE INCOME (Including fraud, waste and abuse) THE DUAL OBJECTIVES PURSUED IN THE HEALTH-CARE SECTOR

The Health Care & Health Facet The Income--Employment Facet REAL HEALTH-CARE

HEALTH SPENDING HEALTH INCOMES PROVIDERS OF $ $ RESOURCES RETURN ON CAPITAL RETURN ON HEALTH- HOURLY INCOME

CARE PRICES OF OF PRICES

HEALTH SERVICESHEALTH SECTOR

HEALTH CARE REAL RESOURCES

OBJECTIVE I: OBJECTIVE II: Enhance quality of Enhance quality of patients' lives providers' lives Healthcare Incomes as a Percentage of GDP, 1980-2009

U.S. France Switzerland Germany Canada Sweden U.K. 19

17

15

13

11

Percent of GDP 9

7

5

2 6 8 0 2 84 88 90 94 06 9 9 9 99 9 99 99 00 0 1980 1982 1 1986 1 1 1 1 1 1 200 2 2004 2 2008

Source: OECD Data Base, 2011. What drives the difference in spending (i.e., health incomes)?

It is language and the mindset it begets.

European and Asian providers of health care get paid and manage back from available revenue to permissible costs. American providers of health care traditionally have gotten reimbursed for whatever it costs them to produce health care as they saw fit and then expected to be reimbursed for these costs. This will change because it has to change.

The word “reimbursement” will go out of style.

Increasingly, thoughtful policy analysts and politicians think of the following definition of “value” in health care:

Net Social Value Gross Value The Opportunity Added by the = Added by - Costs of that Care Health Care to for Society Patients Among these opportunity costs (other social priorities)of health care are:

• Neglecting the education of our young • Neglecting science and R&D • Neglecting the nation’s public infrastructure • Neglecting national security and safety of our warriors • Giving up other things households enjoy PROJECTED HEALTH SPENDING 2009‐19 BY SOURCE

Medicare Medicaid Other Public Priv. Insce. Out-of-Pocket Other Private $5,000 Projected NHE in 2020 = $$4.6 trillion or 19.8% of GDP $4,500 vate Pri Private ther $4,000 O OOP $3,500 $3,000 surance vate In $2,500 Pri Government $2,000 Other Public $1,500 Medicaid Billions of Dollars $1,000 $500 $0

2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 SOURCE: CMS Data and Statistics, Sept. 2010 Update. http://www.usatoday.com/news/washington/story/2011-10-23/states-limit-medicaid--stays/50886398/1 So the question is where the money for the government’s half of projected total health-care incomes (spending) is to come from, given the macro-economic and fiscal challenges our nation faces.

Let us briefly review these challenges. II. THE MACRO-ECONOMIC CONTEXT U.S. health care is being battered by a number of macro- economic forces, some of which are external and beyond our control, and some of which are self-inflicted wounds. Aging of the U.S. Outsourcing of jobs population, health- to computers and care costs and other nations health workforce

U.S. Health Care

High income Deficit-addicted, inequality and an dysfunctional federal inexorable erosion of government and solidarity in U.S. fiscally strained state health care governments U.S.U.S. fiscalfiscal policy:policy:

How`` cool! Sunshine all around!

© Tsung-Mei Cheng

In the words of Douglas Elmendorf, the Director of the Congressional Budget Office (CBO):

SOURCE: Congressional Budget Office, http://www.cbo.gov/ftpdocs/110xx/doc11047/05-13-CBO_Presentation_to_AAAS.pdf U.S. fiscal policy during the past three decades reminds me of this scientific observation that:

TheThe SurestSurest SignSign ThatThat IntelligentIntelligent LifeLife ExistsExists

ElsewhereElsewhere InIn TheThe UniverseUniverse IsIs TheThe FactFact ThatThat

ItIt HasHas NeverNever TriedTried ToTo ContactContact Us.Us. Nixon/ Ford Carter Reagan/Bush I Clinton Bush II Obama ????

$16,000 U.S.FEDERAL GROSS DEBT 1980-2011 $15,000 $14,000

$12,000

$10,000 $9,986

$8,000

$6,000 $5,600

$4,000 $4,000 $2,600 $2,000 $909

$0 1980 1988 1992 2000 2008 2011

SOURCE: Economic Report of the President 2011, Table B78. TOTAL TAXES AS PERCENT OF GDP, 2009

Denmark 48.2 Sweden 46.4 OECD AVGE. 44.8 Italy 43.5 Austria 42.8 France 41.9 Netherlands 39.1 Germany 37 United Kingdom 34.3 Americans Canada 31.1 are not an Spain 30.7 Switzerland 30.3 overtaxed Japan 28.1 people United States 24 26.1% IN 2008

0 5 10 15 20 25 30 35 40 45 50 55

Source: OECD Tax Data Base, http://www.oecd.org/document/60/0,3746,en_2649_34533_1942460_1_1_1_1,00.html#A_Revenu eStatistics

The growing U.S. federal debt – half of it owed to foreigners – and the fiscal straits of the states pose a major problem for health care, half of which already is financed by government. II. OUR UNSUSTAINABLE HEALTH SYSTEM During the past four decades, health-care spending in the U.S. have grown on average more than 2 percentage points faster than the rest of the GDP – called “GDP + 2.”

It is simple math to calculate that, if that trend continued for the next four decades, on top of the 17.6% of GDP we are spending on health care now, we’ll be spending close to 40% or so of our GDP on health care by 2050.

NHE

GDP

SOURCE: CMS Data & Statistics, 2011 MILLIMANMILLIMAN MEDICALMEDICAL INDEXINDEX (MMI)(MMI) AverageAverage AnnualAnnual MedicalMedical CostCost forfor aa FamilyFamily ofof FourFour

$25,000 CAGR 2001-11: 8.8% In more recent years: 7% to 8%. $19,393 $20,000 $18,200 $16,700 $15,600 $14,500 $15,000 $13,382 $12,214 $11,192 $10,168 $9,235 $10,000 $8,414

$5,000

$0 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 http://publications.milliman.com/periodicals/mmi/pdfs/milliman-medical-index-2011.pdf Although employers ostensibly pay the larger part of the premium for their employees’ health insurance, economists are convinced that virtually all fringe benefits come out of the take-home pay of workers, certainly over the longer run.

Talk in Washington now is that for Medicare we need to go from GDP+2 to something less than GDP+1 or even down to GDP + 0.5 .

But the very idea of even one single basis point less than GDP + 2% drives organized health care – the AHA, the AMA, PhRMA, Advamed, etc. – to utter despair.

ORGANZIED HEALTH-CARE LEADERS ANNUAL MEETING Organized health-care leaders when last sighted. Someone recently told me, however, that the health- care leaders are merely faking it for public consumption – that in reality they are bungee jumping.

III. INNOVATION FOR “VALUE” IN HEALTH CARE

I have heard about “value” at health-care conferences for so many years now that I deploy at these conferences the latest cutting-edge technology:

TheThe NioNio FenFen ProtectorProtector TMTM U.S. Veterans, for example, wear it whenever we prattle on how much we admire and love them. Among management consultants on the speaking circuit “value” is typically defined, “concretely,” as follows:

QUALITYQUALITY VALUEVALUE == COSTCOST

It’s a vector Q = {q1, q2, q3, ··· qN} divided by a dollar figure.

Nice try! Try to make it operational. So let us work instead with the value-ratio

QALYQALY e.g., QALYs added by a treatment VALUEVALUE == COSTCOST e.g., Cost added by the treatment

Which can also be written as

QALYQALY QALYQALY VALUEVALUE == == REVENUEREVENUE PRICEPRICE xx VOLUMEVOLUME

So providers could increase value by lowering their costs, their prices and their revenues. For example, the U.S. Business Roundtable – folks who buy private insurance on behalf of their employees – now openly speak of a value gap relative to other countries.

IV. COSTS, PRICES, REVENUE AND SPENDING In December 2010, the trade association of private health insurers in the US – the AHIP – published this report on the average prices charged to larger insurers by Oregon

QUESTION: Why did private insurers and employers behind them accept this steep price increase – in the midst of a deep recession?

COMPARATIVECOMPARATIVE PRICESPRICES FORFOR AA NORMALNORMAL DELIVERY:DELIVERY: TotalTotal hospitalhospital andand physicianphysician costcost

US 95 pctl. $13,799

US average $8,435

US low $6,379

Switzerland $3,485

Germany $2,147 But are these alien babies as good as France $3,768 American babies?

Canada $2,266

Australia $4,592

$0 $2,000 $4,000 $6,000 $8,000 $10,000 $12,000 $14,000 $16,000

SOURCE: International Federation of Health Plans, 2010 Comparative Price Report. COMPARATIVECOMPARATIVE PRICESPRICES FORFOR ANAN APPENDECTOMY:APPENDECTOMY: TotalTotal hospitalhospital andand physicianphysician costcost

US 95 pctl. $25,344

US average $13,123

US low $7,758

Switzerland $2,570

Germany $3,285

France $2,795

Canada $3,810

Australia $6,526

$0 $5,000 $10,000 $15,000 $20,000 $25,000 $30,000

SOURCE: International Federation of Health Plans, 2010 Comparative Price Report.

So let us work instead with the value-ratio

QALYQALY e.g., QALYs added by a treatment VALUEVALUE == COSTCOST e.g., Cost added by the treatment

Which can also be written as

QALYQALY QALYQALY VALUEVALUE == == REVENUEREVENUE PRICEPRICE xx VOLUMEVOLUME

So providers could increase value by lowering their costs, their prices and their revenues. We can cut utilization all we want in the U.S..

It will come to naught as long as so many (although not all) U.S. providers of health care can raise their prices seemingly at will, and as long as private employers are willing to pay those prices (on behalf of their employees).

Note: the prices set in the private sector become the benchmarks which public-sector payers must follow. V. INNOVATION TO ADD VALUE IN HEALTH CARE

A. Producers of health-care products Without abandoning innovations that increase both costs and clinical benefits and that pass a benefit-cost test, do put more emphasis than has hitherto been customary on innovations that lower the cost per QALY delivered.

Ponder carefully the next slide, taken from the most recent report of the Trustees of the Social Security System. SOURCE: Social Security Trustees Report 2010, p. 11. IV. INNOVATION TO ADD VALUE IN HEALTH CARE A. Producers of health-care products

B. Producers of health care services The producers of health-care services – physicians, hospitals, physical therapists etc. – may believe that they already work as hard and efficiently as is humanly possible.

Really?

I find it nothing less than stunning that the provider of health care – notably physicians and hospitals – so far have studiously ignored the provocative, decade-long research by John Wennberg and his associates at Dartmouth University.

Consider just these next few slides.

SOURCE: Elliott Fisher et. al., NEJM February 26, 2009

IV. INNOVATION TO ADD VALUE IN HEALTH CARE A. Producers of health-care products

B. Producers of health care services C. The health insurance industry If the industry wants to create value for patients throough properly run disease management – i.e., one managed essentially by physicians – or through well-coordinated chronic care, great.

But if the “innovation” takes the form of yet more “innovative” health-insurance products through mass-customization of these products – then heaven help us!

Risk segmentation is not the same as value creation for society as a whole. So my recommendations to private American health insurers would be:

1. If you really care about innovations that create net value for America, stop the mindless mass-customization of insurance products that

visit ever more administrative costs on providers.

2. Develop a finite set of standard products, a common nomenclature and a common claims form that would allow everyone to harvest the

power of electronic claims processing and of truly competitive markets.

3. There is no need to reinvent the wheel. Travel abroad and learn from those who have long used those streamlined billing practices.

And my recommendation to the CMS would be:

If Medicare and Medicaid wanted to create value through innovation, they, too, could learn from other nations how to operate health insurance systems more efficiently.

These foreign systems do no look upon every provider as a latent criminal and therefore do not visit hugely expensive compliance programs and legal fees on providers.

These systems manage by exception, with the aid of statistical profiles and spot audits, and they do not criminalize the entire enterprise. My recommendation to health policy makers would be:

If America really wanted value creation through innovation in its health insurance system, it would abandon the mindless and enormously expensive one-on-one negotiation of prices of each insurer with each provider, which merely results in cost shifting and inefficient, ethically indefensible price-discrimination all around.

That archaic and unwieldy system should be replaced with a modern all- payer system – perhaps on a state basis.

Here, too, much could be learned from other countries with multiple insurance carriers – e.g., Germany and Switzerland.

Finally, I wish all Americans would climb of this All-American horse when they look at other nations’ health systems and try to learn from them.

We’re the best!

How so? THETHE ENDEND

VI. MORE RADICAL PROPOSALS FOR THE NEXT DECADE Single-payer health system (e.g., Canada or Vermont(?)

All-payer health system with multiple payers (e.g. Germany or Switzerland)

Multi-tiered, market-driven health system that rations √ health care by income class For the longer run of, say, two decades, I could even see the U.S. health system evolve toward something like this (the third option):

1. Public hospitals and public clinics for publicly insured Americans, especially the poor, but perhaps also for a restructured Medicare. It allows politicians to ration health care without ever having to admit it.

2. For the employed middle class, a mixed system, tiered by cost through tiered reference pricing (now used mainly for prescription drugs) that can be camouflaged as “value-based purchasing. That approach also permits rationing of some health care by income class without anyone having to say so openly.

3. For the upper-income groups, boutique medicine, which is already growing in the U.S.

On top of all that, the American electorate appears to be

1. judiciously and maliciously misinformed by the messages beamed at it from left and right; 2. understandably, utterly confused;

3. very angry

American voters opposing the federal deficit, proposals to raise taxes and proposals to cut Medicare or defense spending.

I. THE MACRO-ECONOMIC CONTEXT A. Aging of the population PERCENT OF POPULATION OVER AGE 65, CHINA AND THE U.S.

30% 2000 2025 2050 25% 22.7% 21.1% 20% 18.5%

15% 13.2% 12.3%

10% 6.9%

5%

0% U.S. CHINA

SOURCE: U.N. at http://www.un.org/esa/population/publications/worldageing19502050/ RELATIVE PER-CAPITA HEALTH SPENDING BY AGE, 1999

5.65

6

5

4 3.08

3 2.01 2 1.39 GROUP 35-44 (=1) 35-44 GROUP 1.03 1 1 0.52 0.55 0.59 SPENDING RELATIVE TO AGE 0 0 - 5 '6 - 14 15 - 24 25 - 34 34 - 44 45 - 54 55 - 64 65 - 74 75+ AGE COHORTS OF AMERICANS

SOURCE: Meara, White and Cutler, “Trends in Health Spending by Age, 1963-99”, March, 2003. Ratio of older people to working-age people

There will be fewer workers to support a growing number of elderly Americans.

SOURCE: Report of the Trustees of the Social Security System, http://www.socialsecurity.gov/oact/tr/2011/tr2011.pdf I. THE MACRO-ECONOMIC CONTEXT A. Aging of the population B. Outsourcing and unemployment COUNCIL ON FOREIGN RELATIONS SOURCE: Michael Spence and Sandile Hlatshwayo, The Evolving Structure of the American Economy and the Employment Challenge, Council on Foreign Relations, March 2011 THE MAJOR JOB CREATORS IN THE UNITED STATES

22.5 Government 18.5

16 Health Care 10

14 Retail 12

Accommodation & 12 Food services 8.5

9 Construction 1990 2008 7

0 5 10 15 20 25 Millions of Jobs

SOURCE: Approximated from Spence and Hlatswayo, Figure 6. Most of the iPad’s components are procured from Korea and Japan, and some from Europe, although just where these components are actually manufactured is not clear to outsiders. Add to that the outsourcing of U.S. labor to computers, and it is not clear to me how any presidential candidate can promise to solve our long-run unemployment problem soon, until wages of US workers have fallen enough and their productivity has risen enough relative to that of labor in other nations to be competitive with Asia. This realignment of jobs in the U.S. has significant and serious effects on the nation’s income distribution. I. THE MACRO-ECONOMIC CONTEXT A. Aging of the population

B. Outsourcing and unemployment C. Income inequality Anthony B. Atkinson, Thomas Piketty and Emmanuel Saez, “Top Incomes in the Long Run History,” Journal of Economic

Perspectives 2011; 49:1, 3-71.

14% FIGURE 1 --AVERAGE INCOME GROWTH IN THE UNITED STATES

12% AVERAGE TOP 1% Bottom 99%

10% 10.3% 10.1%

8%

6%

4.4% 4% 4.0%

2.7% 3.0% Annual percentage growth percentage Annual 2% 1.2% 1.3% 0.6% 0% 1976-2008 1993-2000 2002-2007 70% FRACTION OF TOTAL INCOME GROWTH CAPTURED BY TOP 1%

60% 65% 58% 50%

45% 40%

30%

20%

10%

0% 1976-2007 1992-2000 2002-2007 Whether or not the rising inequality of wealth and income in the U.S. is deserved and fair is quite beside the point as far as health care is concerned.

The problem is that families in the bottom third or so of the income distribution will not be able to finance the ever rising cost of health care with their own earnings.

This poses a major moral dilemma for the nation’s politicians and a major financial problem for the supply side of health care.