CAS EC 387 Introduction to Health Economics

L8: Managed Care

Department of Economics

Spring 2020

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What is Managed Care? I

Escapes simple de…nition: “e¤orts by insurer directed to reducing

moral hazard or rents in the delivery of medical care” (Newhouse)

Managed Care combines various sets of mechanisms – integrated

framework

Coordinated e¤orts to arrange and provide all kinds of care to a

speci…c group of individuals

System assumes both clinical and …scal responsibility for enrollees –

the network coordinates health care providers (physicians, nurses,
hospitals) with …nancial managers and insurers

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Background Public Insurance I

Early public insurance

Germany 1883 - compulsory sickness insurance

France, Netherlands, Norway, Serbia, Russia, UK 1910s

Most OECDs by 1980

Single-payer systems

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Background Public Insurance II

US proposals
Wilson 1918

FDR 1935

Truman 1948

Nixon 1974

Clinton 1993

All failed

Insurance programs for partial national coverage (Medicare, Medicaid)

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Background Private Insurance
Fee-for-service
Baylor University 1929
Blue Cross
Blue Shield
3,000 members in 1930, 84 million in 2002
Prepaid group
Kaiser Permanente 1937
Group health insurance (Humana) 1937
Group health cooperative of Puget Sound 1947
General characteristics
Cost-plus reimbursement
Insurance covers all care (no copay)
Community rating
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Private Insurance Today

Conventional FFS

HMOs

PPOs

CDHPs

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Managed Care Organizations I
Organized delivery system as a network of organizations
hospitals
clinics
hospices
physicians

Arrangement to provide a coordinated continuum (from well care to

emergency surgery) of services to a de…ned population

Clinically and …scally accountable for the outcomes (the health

status) of the population served

Often the organized delivery system is de…ned by its association with

an insurance product

Today, very large variety of MCOs

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Why MC? I

Managed care is a response to increasing health care expenditures

A strong belief that health care practices must be managed in order

to achieve cost containment

Traditional indemnity
free provider choice
FFS reimbursement
separate insurance

Modern MCOs rely heavily on healthcare information systems

Modern MCOs characterized by de-emphasis of the acute care

hospital model
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History and Development I

Speci…c employer arrangements since 1800s

The Kaiser plan 1930

Intense resistance from organized medicine

Price discrimination and exclusion from medical

associations/community

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History and Development II

HMO act of 1973

enacted to increase tolerance of HMOs
favorable tax regime
government interest due to Medicare costs
HMO alternative option required

Enormous growth in enrollment

MCOs risen from 27% of employer-based insurance in 1988 to 93% in
2001

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Key Aspects and Distinguishing Features I

Selective contracting with providers

Monopsonistic element - bargaining with providers

Vertical integration/networks give large economies of scales in

information processing

Covered bene…ts reduced in quantity and intensity

limits on what providers to see
limits on what providers can do
lower use of hospital care
fewer specialists
more emphasis on preventive care

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Key Aspects and Distinguishing Features II

drug formularies

Utilization monitoring
second-opinion
pre-certi…cation
concurrent and retrospective reviews, procedure evaluations, audits
intensive case management
generic substitution
discharge planning
referral limits

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Key Aspects and Distinguishing Features III

Provider payment
FFS
salary
capitation
incentive schemes

Gatekeepers (primary health manager)

Less cost sharing – lower …nancial risk for enrollees

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Some MCO Varieties I

Traditional HMO (group/sta¤)

vertically integrated system

physicians employed/salaried
exclusive contracting
gatekeepers
hospital ownership

Newer HMO and IPA

contracted network
non-exclusive contracts
capitation

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Some MCO Varieties II

gatekeepers
supply-side limits on expenditures

PPO
contracted network
physicians selected mostly on price
discounted FFS
higher cost sharing outside network
more freedom in choice of provider

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Some MCO Varieties III

POS (HMOs without walls)

HMO-PPO mix
capitation
di¤erential cost sharing
gatekeepe

CDHP
high deductible plans
HSA
more consumer choice

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Di¤erences between Traditional Indemnity and MCOs I

Di¤erences in health outcomes

Compensation must be positive for those who choose the MCO if it
health outcomes are worse

Di¤erences in cost savings

Positive savings if the MCO provides less or cheaper treatment, holding
health outcomes constant

Di¤erences in …nancial risk

MCO preferred if it insulates enrollees against large out-of-pocket
payments

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Dynamic Incentives I

MCOs responsible for enrollees long-term health under high …nancial

risk

Fixed budget implies incentives to cut excessive care and to provide

preventive care to avoid cost later

Dynamic incentives for MCOs di¤erent from FFS

Incentive for MCOs to enroll fewer patients and/or provide less care

Externalities between di¤erent MCOs may lead to ine¢ ciently low

levels of care

Disenrollment

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Dynamic Incentives II
Long-term consequences of disenrollment may give incentives to
invest less in technology

Suppose MCO serves consumers in two periods and receives constant

revenue

Example
Two technologies
H - cost is M in period 1 and 0 in period 2
L - cost is m in both period 1 and 2 where m < M

Suppose g is disrenrollment rate and r is interest rate

MCO chooses low technology if:

m (1 g )
M >m+
1+r
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Dynamic Incentives III

Probability of low technology is increasing in g

If competition increases g , MCO more likely to provide technology L

even if it is more e¢ cient to use H

MCOs may overuse short-run cost reducing technology

How can this be remedied?

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Consumer Choice between PPO and HMO I

HMO preferred if health-adjusted cost savings are positive

Let ∆C denote cost di¤erence between PPO and HMO:

∆C = CPPO CHMO
= D + copay PHMO
= D + sz PHMO

where:
D is a deductible, z the coinsurance rate, and s is severity of illness

Suppose both PPO and HMO earn zero-pro…t:

π PPO = D + sz s PPO = 0

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Consumer Choice between PPO and HMO II

Hence, the market (average) deductible is:

D = (1 z )s PPO

HMO pro…ts:
π HMO = PHMO αs HMO = 0
where α is an e¢ ciency parameter

Hence, extra cost is:

∆E = (1 z ) s PPO αs HMO + sz

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Concerns I

Incentives to contain cost lead to incentives to under utilization

Skimping on care (providing less than optimal amount of health care)

Dumping (refusal to treat patients who exceed their limit)

Cream skimming (attract a favorable selection)

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Expenditure Growth I

Does MCO lead to lower growth in spending?

Example:
TC = qCHMO + (1 q )CPPO
Shift to MCOs led to lower cost, but this is a one time cost reduction
– if cost in‡ation similar between PPOs and HMOs, spending will not
grow less:

T1 T2 ∆% T3 ∆%
Proportion 0.4 0.5 0.5
Cost PPO 2, 000 2, 000 0 2, 200 10
Cost HMO 1, 000 1, 000 0 1, 100 10
Total Cost 1, 600 1, 500 6.25 1, 650 10

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Empirical Evidence of MCO Performance I

How do the MCOs compare with traditional PPO plans?

Generally mixed evidence – comparisons di¢ cult due to many

di¤erent mechanisms and plans, as well as risk selection and quality

Selection
some studies report that MCO members likely to be younger and
healthier (switchers 20% cheaper)

Utilization
clear that inpatient admission rates lower, mixed evidence on LOS vs.
FFS
MCOs (esp IPAs) higher out-patient visits

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Empirical Evidence of MCO Performance II
Cost
overall cost around 10-40% lower for closed group/sta¤ HMOs
no cost di¤erences between IPAs and FFS

Quality
Generally no evidence that MCOs perform worse than FFS

Technology
some evidence that MCOs adopt new technology more slowly

Competition
little evidence that MCOs exploit bargaining power with hospitals
con‡icting e¤ects in insurance markets

Concerns about increasing cost primary force behind the development

of MC
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Summary I

Large variety of MCOs – fully vertically integrated systems (less

common) to loser contractual networks

Clear evidence that MC has reduced hospitalization

In general, mixed empirical evidence of MCO performance - no real

evidence that quality of care is lower

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