The impact of hospitals on health care pricing decisions

Feb. 24, 2010

A study by USC researcher Vivian Wu finds that despite the increasing clout of HMOs in the 1990s, hospitals maintained a dominant position in determining health care pricing decisions.

The research is timely as the country re-evaluates its health care system to extend coverage to the uninsured, and considers whether to introduce a public health insurance option.  The findings, in effect, provide a glimpse of how hospitals might adapt or react to other external pressures on heath care pricing.

Wu’s research  – which appears in the March issue of International Journal of Health Care Finance and Economics – looked specifically at how cuts in the public insurance program Medicare lead to payment changes in the private plans in the aftermath of the 1997 Balanced Budget Act.

The Act aimed to cut  $115 billion dollars in Medicare spending growth, primarily through eliminating certain reimbursements for inpatient, long-term hospital services and outpatient department. To analyze the cuts, Wu used new data and improved methodology to determine how hospitals made up for the lost funding. 

Her findings: 21 percent of the Medicare budget cuts were shifted to private insurance plans, which can then be passed on to people who have their own health plans, in a process known commonly as “cost shifting.

Her estimates are lower than what some previous studies have come up with, but Wu said she used different methodology to try and eliminate other factors that might have pulled up the numbers.

“The amount is actually quite significant when you consider the environment hospitals were operating under the 1990s when managed care was believed to be dominant and powerful,” she said. “At that time, this was the first big Medicare cut in the HMO-dominated environment and few believed that hospitals could do this kind of cost shifting.”

Wu is a professor with USC’s School of Policy, Planning, and Development. She is also a senior research faculty member with USC’s newly-formed Leonard D. Schaeffer Center for Health Policy and Economics, which is conducting research and policy analysis to support evidence-based health care reform.

Wu said that her research shows that hospitals have a large amount of market power, even though many believed that HMOs have had the upper hand in pricing negotiations. Since HMO power has waned in recent years, she said, this would also indicate that hospitals’ pricing power is even stronger these days.

This means that that any future cost reductions are also likely to be passed on to private insurance plans, who in turn will charge consumers higher premiums.

Wu’s research finds that cost shifting is mainly dependent on how much a hospital relies on private insurers

Hospitals that rely less on Medicare typically shifted their funding mechanisms: In those cases, up to 37 percent of the 1997 cuts were transferred to private payers through higher payments.

These hospitals, typically located in higher-income areas, have a greater bargaining power because private payers value these hospitals more, Wu said, and that means hospitals can negotiate for higher prices.

Hospitals that relied more on Medicare funds – which are typically those in lower income, urban communities –  ended up struggling financially since they were limited in their abilities to shift the cost differences and since they have lower bargaining power.

However, Wu’s research also determined that in certain cases the presence of for-profit hospitals influenced how other hospitals reacted to the 1997 Medicare cuts.

 “If we look at a geographic region that is predominantly dominated by “for profit” hospitals, all the other hospitals in that area tended to react similarly in not raising the rates as much,” said Wu. “The study shows that for-profit hospitals carry some influence in the market that exceeds what may be initially construed by looking at their overall market share.”