Mastering Healthcare Regulation: A Comprehensive Case Study Approach

By Jessica Holmes, Robin J. Lunge and Betty Rambur

Trying to make sense of the regulatory landscape in healthcare can be difficult. The many federal and state entities and their rules may work together, yet they sometimes contradict one another. Mastering Healthcare Regulation will help readers understand and ultimately navigate the numerous layers of regulatory oversight within the healthcare system. This book clarifies laws and regulations with straightforward explanations and case studies that place readers in the shoes of regulatory decision-makers.

The first section presents an overview of healthcare regulation, including market dynamics and the interactions between the various regulatory organizations. Each section that follows focuses on a broad subject that regulations seek to address: cost containment; consumer protection; payment and delivery system reform; and patient access, health, and safety. Background is provided on each issue, and real-world scenarios are used to illustrate regulatory approaches and their economic, legal, and clinical ramifications.

The book will teach readers how to decipher the regulatory landscape's complexities and how to influence regulations rather than simply being impacted by them.

• Language: English
• Publisher: AUPHA/HAP Book
• Release date: Apr 30, 2024
• ISBN: 9781640554320

Jessica Holmes

Jessica Holmes is a Canadian comedian and writer best known for her work on the Royal Canadian Air Farce and The Holmes Show. As a stand-up comic, she has opened for Jerry Seinfeld, Ellen DeGeneres, and Russell Peters, as well as icons like Oprah Winfrey and Deepak Chopra. She’s performed with The Second City, Just for Laughs, and appeared on the TV shows Little Big Kid, The Itch, and Wild Card. Her first memoir, I Love Your Laugh: Finding the Light in My Screwball Life, was published by McClelland & Stewart in 2011. After battling post-partum depression and “regular, run-of-the-mill, garden-variety depression” (her words), Holmes began openly sharing her mental health story using humour. She is the daughter of a Mormon father and feminist mother (yes, that should be a sitcom), and she currently lives in Toronto with her husband and two kids.

Book preview

Front Cover: Mastering Healthcare Regulation, A Comprehensive Case Study Approach, Jessica Holmes, Robin Lunge, And Betty Rambur

MASTERING HEALTHCARE REGULATION

HAP/AUPHA Editorial Board for Graduate Studies

Sandra S. Murdock, DrPH, FACHE, Chair

Texas Woman’s University

Robert I. Bonar, DHA

George Washington University

Kim C. Byas Sr., PhD, FACHE

Union Institute & University

P. Shannon Elswick, FACHE

University of Central Florida

Renady Hightower, PhD

University of Detroit Mercy

Jonas Nguh, PhD, RN, FACHE

Walden University

Martha C. Riddell, DrPH

University of Kentucky

Karen M. Volmar, JD, FACHE

University of North Carolina at Chapel Hill

Asa B. Wilson, PhD

Southeast Missouri State University

Mastering Healthcare Regulation, A Comprehensive Case Study Approach, Jessica Holmes, Robin Lunge, And Betty Rambur, Health Administration Press, Chicago, Illinois Association of University Programs in Health Administration, Washington, DC

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This publication is intended to provide accurate and authoritative information in regard to the subject matter covered. It is sold, or otherwise provided, with the understanding that the publisher is not engaged in rendering professional services. If professional advice or other expert assistance is required, the services of a competent professional should be sought.

The statements and opinions contained in this book are strictly those of the author and do not represent the official positions of the American College of Healthcare Executives or the Foundation of the American College of Healthcare Executives.

Copyright © 2024 by the Foundation of the American College of Healthcare Executives. Printed in the United States of America. All rights reserved. This book or parts thereof may not be reproduced in any form without written permission of the publisher.

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Library of Congress Cataloging-in-Publication Data

Names: Holmes, Jessica (Professor of Economics), author. | Lunge, Robin, author. | Rambur, Betty, author.

Title: Mastering healthcare regulation : a comprehensive case study approach / Jessica Holmes, Robin Lunge, Betty Rambur.

Description: Chicago, IL : Health Administration Press, 2024. | Includes bibliographical references and index. | Summary: Trying to make sense of the regulatory landscape in healthcare can be difficult. The many federal and state entities and their rules may work together, yet they sometimes contradict one another. Mastering Healthcare Regulation will help readers understand and ultimately navigate the numerous layers of regulatory oversight within the healthcare system. This book clarifies laws and regulations with straightforward explanations and case studies that place readers in the shoes of regulatory decision-makers– Provided by publisher.

Identifiers: LCCN 2023054804 | ISBN 9781640554306 (cloth : alk. paper) | ISBN 9781640554313 (ebook) | ISBN 9781640554320 (epub)

Subjects: MESH: Delivery of Health Care–legislation & jurisprudence | Government Regulation | Health Policy–legislation & jurisprudence | United States

Classification: LCC RA399.A3 | NLM W 33 AA1 | DDC 362.10973–dc23/eng/20240214

LC record available at https://lccn.loc.gov/2023054804

ISBN: 978-1-64055-430-6

The paper used in this publication meets the minimum requirements of American National Standard for Information Sciences—Permanence of Paper for Printed Library Materials, ANSI Z39.48-1984. ♾™

Manuscript editor: James Fraleigh; Cover designer: Mark Oberkrom; Layout: Integra

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BRIEF CONTENTS

Preface

Acknowledgments

Section I    Introduction: Problems Addressed Through Healthcare Regulation

Chapter 1.    Background on the US Healthcare System

Chapter 2.    Overview of Healthcare Regulation and Regulators

Section II    Regulation to Contain Costs

Chapter 3.    Containing Costs Through Health Planning and Certificates of Need

Chapter 4.    Containing Cost Growth by Setting a Healthcare Growth Benchmark

Chapter 5.    Containing Insurance Premium Growth Through Rate Review

Chapter 6.    Cost Containment Through Transparency

Section III    Regulation to Protect Consumers from Anticompetitive Practices

Chapter 7.    Ensuring Competition Through Antitrust Review of Proposed Mergers and Acquisitions

Chapter 8.    Ensuring Competition Through Preventing Anticompetitive Contracts and Agreements

  Section IV    Regulation to Protect Patient Access to Health, Safety, and Quality Care

Chapter 9.    Protecting Patients Through Regulation of Healthcare Professionals and Professional Licensure

Chapter 10.  Improving Quality of Care Through Regulation of Hospital Access, Quality, and Safety

Chapter 11.  Protecting Patients by Regulating Drug Safety and Efficacy

Section V    Regulation to Reform the Payment and Delivery System

Chapter 12.  Changing Hospital Payments: Hospital Global Budgets

Chapter 13.  Reforming Care Delivery Through Accountable Care Organizations

Section VI    Concluding Thoughts and Emerging Issues

Appendix A

Appendix B

Glossary

Index

About the Authors

DETAILED CONTENTS

Preface

Acknowledgments

Section I    Introduction: Problems Addressed Through Healthcare Regulation

Learning Objectives

Overview of This Book

Conclusion

References

Chapter 1.    Background on the US Healthcare System

Learning Objectives

Background on the US Healthcare Industry

Healthcare Market Characteristics

Highlight on Impacts of Tax Status

Conclusion

References

Chapter 2.    Overview of Healthcare Regulation and Regulators

Learning Objectives

Introduction

Background on Federal and State Governments

Federalism

Executive Branch Powers and Process

Conclusion

References

Section II    Regulation to Contain Costs

Learning Objectives

Background on Healthcare Costs

Conclusion

References

Chapter 3.    Containing Costs Through Health Planning and Certificates of Need

Learning Objectives

Introduction

Brief History of Health Planning

Today’s Certificate-of-Need Landscape

CON Pros and Cons

Conclusion

Case Study: Certificate of Need: Setting Allowable Scope of Services at an Ambulatory Surgical Center in a Rural State

Case Study: Determination of Need: Expansion of Imaging Services at Brigham and Women’s Faulkner Hospital in Massachusetts

References

Chapter 4.    Containing Cost Growth by Setting a Healthcare Growth Benchmark

Learning Objectives

Introduction

Background on Benchmark Programs

Core Elements of Healthcare Cost Benchmark Programs

Effectiveness of Healthcare Cost Growth Benchmarks

Conclusion

Case Study: Setting a Healthcare Cost Benchmark in Washington State

Case Study: Enforcing a Healthcare Cost Growth Benchmark in Massachusetts: Mass General Brigham System

Case Study: Exceeding the Healthcare Cost Growth Benchmark: Mass General Brigham Performance Improvement Plan

Bibliography

References

Chapter 5.    Containing Insurance Premium Growth Through Rate Review

Learning Objectives

Introduction

Background on Health Insurance

History of Insurance Regulation

The ACA’s Rate Review Requirements

Today’s Rate-Review Landscape

Conclusion

Case Study: Use of Affordability Standards in Premium Rate Review in Rhode Island

References

Chapter 6.    Cost Containment Through Transparency

Learning Objectives

Introduction

Background on Price Transparency

Federal Transparency Provisions

State Transparency Provisions

Effectiveness of Price Transparency Laws

Conclusion

Case Study: Hospital Price Transparency: Enforcing Compliance by Northside Hospital Atlanta in Georgia

References

Section III    Regulation to Protect Consumers from Anticompetitive Practices

Learning Objectives

Background on Antitrust Law

Conclusion

References

Chapter 7.    Ensuring Competition Through Antitrust Review of Proposed Mergers and Acquisitions

Learning Objectives

Introduction

Background on Consolidation

Merger Guidelines

Conclusion

Case Study: FTC and State of Idaho v. St. Luke’s Health System, Ltd. and Saltzer Medical Group, P.A.: Proposed Hospital Acquisition of a Large Physician-Group Practice

Case Study: US et al. v. Aetna and Humana: Proposed Merger of Two Insurance Companies

References

Chapter 8.    Ensuring Competition Through Preventing Anticompetitive Contracts and Agreements

Learning Objectives

Introduction

Background on Anticompetitive Conduct

Collusive Behavior

Exclusionary Behavior

Collusive and Exclusionary Behavior: Group Boycotts

Conclusion

Case Study: United States v. DaVita, Inc. and Kent Thiry: A Case Alleging a No-Poaching Conspiracy Among Competing Healthcare Employers

Case Study: United States and the State of North Carolina v. the Charlotte-Mecklenburg Hospital Authority d/b/a Carolinas HealthCare System: A Case Alleging Anti-steering

References

Section IV    Regulation to Protect Patient Access to Health, Safety, and Quality Care

Learning Objectives

Background on Access, Safety, and Quality

Overview of Entities That Regulate Healthcare Quality and Safety

Conclusion

References

Chapter 9.    Protecting Patients Through Regulation of Healthcare Professionals and Professional Licensure

Learning Objectives

Introduction

Background and History of Regulating Healthcare Professionals

Scope-of-Practice Issues

Conclusion

Case Study: Regulation of Teledentistry: Restricting Access in Texas During COVID-19

Case Study on Scope of Practice Versus Competition: Teeth-Whitening Services in North Carolina

References

Chapter 10.  Improving Quality of Care Through Regulation of Hospital Access, Quality, and Safety

Learning Objectives

Introduction

Background on Regulation of Hospitals

Oversight by the Centers for Medicare & Medicaid Services

The Joint Commission’s Role

State Oversight

Conclusion

Case Study: Quality of Care for the State’s Most Vulnerable: Eleanor Slater Hospital, Rhode Island

Case Study: Patient Safety and the Hospital Workforce: Mandatory Nurse-to-Patient Ratios in New York

References

Chapter 11.  Protecting Patients by Regulating Drug Safety and Efficacy

Learning Objectives

Introduction

Background on Drug Safety and Efficacy

FDA Drug Approval Process

Conclusion

Case Study: Balancing Access, Safety, and Cost: FDA Approval of Aduhelm for Alzheimer’s Disease

References

Section V    Regulation to Reform the Payment and Delivery System

Learning Objectives

Background on Payment for Healthcare Services

Payment and Delivery System Reform

Conclusion

References

Chapter 12.  Changing Hospital Payments: Hospital Global Budgets

Learning Objectives

Introduction

Background on Hospital Global Budgets

Rationale for Using Hospital Global Budgets

Design Issues

Effectiveness of Global Budgets

Conclusion

Case Study: Setting Hospital Global Budgets in Maryland

Case Study: Sustaining Rural Hospitals Through the Pennsylvania Rural Health Model

References

Chapter 13.  Reforming Care Delivery Through Accountable Care Organizations

Learning Objectives

Introduction

Background on Accountable Care Organizations

Effectiveness of ACOs

State Regulatory Structures for ACOs

Conclusion

Case Study: Moving to Value-Based Payments: Regulation of Accountable Care Organizations in Vermont

References

Section VI    Concluding Thoughts and Emerging Issues

Artificial Intelligence

Telemedicine and Telehealth

Health Equity

Conclusion

References

Appendix A

Appendix B

Glossary

Index

About the Authors

PREFACE

Let’s face it: Healthcare in the United States is a very highly regulated, complicated industry, comprising myriad conflicting and paradoxical forces. It is a source of healing for some and a cauldron of annoyance, agony, and expense for others. It is lifesaving, yet—because of the magnitude of error and harm—it can be life threatening. It is one of the nation’s largest industries, yet it is riddled with workforce gaps. The focus of healthcare on illness care, because of what payers such as insurance companies deem reimbursable, largely ignores the upstream social influences (e.g., housing, nutrition, environment) that are the predominant determinants of health and illness. As a former president once stated, Nobody knew that healthcare could be so complicated.

This text aims to help readers who are neither lawyers nor regulatory experts navigate this complex, often uneven terrain. It employs a case study methodology from the perspective of the problems that regulation attempts to address. Each section provides explanatory background on specific regulatory approaches and real-world examples of their implementation. Ancillary materials include an instructor’s manual that offers additional guidance to help them confidently detail scenarios, case outcomes, and—when relevant— unintended consequences and ongoing controversies. These materials also provide experiential learning exercises, including mock trials, debates, town meetings, and regulatory board hearings, that the authors have tested in the classroom. Further, the case study method will be helpful in this era of artificial intelligence applications. For example, students might work on a case in class and then compare their perspectives with a chatbot-generated answer.

The wide array of scenarios, written in an easy-to-understand format, is designed to offer insights that extend beyond the practical realities of current healthcare regulation. A journalism student, for example, might find that the cases illuminate topics frequently in the news, thus providing an exciting background for a future career. An aspiring healthcare provider might gain insight into the motivation of the regulators who will someday influence their professional work. And future lawmakers might be moved by the complexity of the regulatory process and the potential fallout of their actions.

The text is organized into six sections. Section I provides background on the US healthcare industry, offers an overview of healthcare regulation, and clarifies the problems that regulation attempts to fix. Section II addresses regulation to contain cost, discussing cases involving certificate-of-need laws, healthcare cost growth benchmarks, insurance rate review, and price transparency to contain costs. Section III focuses on regulation to protect healthcare users from anticompetitive practices; it details antitrust cases involving both mergers and acquisitions and anticompetitive agreements. Protection of patient access to health, safety, and quality care is the topic of section IV, which includes cases about the regulation of healthcare professionals, the quality and safety of hospital care, and the safety and efficacy of new drugs. Section V describes payment- and delivery-system reform, emphasizing the regulation of hospitals’ global budgets and accountable care organizations. A key feature of the text is that sections II through V can be used in any order, and each can serve as a standalone learning unit. Section VI provides concluding thoughts about emerging policy and regulatory issues, such as artificial intelligence.

The authors—an economist (Holmes), an attorney (Lunge), and a healthcare professional and academic dean (Rambur)—have extensive experience in healthcare writ large and healthcare regulation specifically. All have served on Vermont’s Green Mountain Care Board, a quasi-judicial body that oversees multiple aspects of healthcare in the state, including insurance rate regulation, certificates of need, hospital budgets, the all-payer claims database, and the transition to value-based care, to name but a few elements of this regulatory body’s broad responsibility. The text deploys the authors’ unique backgrounds to underscore the economic, legal, and clinical implications of healthcare regulation.

Healthcare is rapidly changing, but the legions of competing forces shaping it are not. Through active learning, we aim to deepen readers’ understanding of healthcare regulation to enable them to shape these forces rather than be shaped by them. So, let’s get started.

Instructor Resources

This book’s Instructor Resources include PowerPoint slides, an instructor’s guide, test banks, and templates for interactive exercises.

For the most up-to-date information about this book and its instructor resources, go to ache.org/HAP and search for the book’s order code (2500I).

This book’s Instructor Resources are available to instructors who adopt this book for use in their course. For access information, please email [e-mail].

ACKNOWLEDGMENTS

The authors have enjoyed meaningful opportunities to work with many talented people and teams over the years. We particularly acknowledge our colleagues in health reform, health policy, and regulation, from whom we have learned a great deal. Key among these are Vermont’s Green Mountain Care Board members and staff. We also have been inspired by our many students, whose thoughtful questions and insights have forced us to expand our understanding of healthcare regulation and strive to create more engaging teaching and learning strategies. We are especially grateful to our student interns, Molly Colwell and Hannah Sayre, whose assistance and technical support are threaded throughout this text. In addition, we acknowledge students at Middlebury College and the University of Rhode Island, with whom we piloted earlier versions of the cases and interactive exercises. We are profoundly grateful to the team at Health Administration Press for their interest, support, and feedback. Special thanks to our inimitable and impeccable editor, James Fraleigh, whose suggestions made us better thinkers and writers. Last, we appreciate the patience of our family and friends; much of our attention has focused on developing this text, sometimes at the expense of quality time with them. This text is dedicated to our colleagues, families, and students, past, present, and future.

Jessica Holmes

Professor of Economics, Middlebury College

Member, Green Mountain Care Board

Robin Lunge

Member, Green Mountain Care Board

Betty Rambur

Routhier Endowed Chair for Practice and Professor of Nursing, University of Rhode Island

SECTION

I

INTRODUCTION: PROBLEMS ADDRESSED THROUGH HEALTHCARE REGULATION

Learning Objectives:

After completing this introduction, the student will be able to

identify the key problems in healthcare that regulation attempts to address and

understand the organization of this book and how the chapters fit together in each section.

Overview of This Book

In 2007, the Institute for Healthcare Improvement (IHI) in Cambridge, Massachusetts, developed the IHI Triple Aim framework. Focusing on three primary problems in the United States’ healthcare systems that merit improvement, IHI based the framework on the concept that successful healthcare systems will simultaneously deliver excellent quality of care, at optimized costs, while improving the health of their population (IHI 2023). The Triple Aim’s goals still inform many state and federal regulatory systems that focus on cost containment, quality, and patient safety. Although the healthcare problem that policymakers and regulators have considered most urgent has varied across time and place, cost has consistently been a primary concern. Regulatory goals also may shift depending on the industry’s responses to the processes in place.

Governments in the United States typically regulate industries as an attempt to remedy a problem. As discussed further in chapter 1, information asymmetries, uncertainty, and market power often create inefficiencies in healthcare markets. The free market, left to its own, does not allocate resources efficiently, often prompting government intervention. Given the high stakes and the share of healthcare spending in federal, state, and household budgets, protecting consumers from poor-quality care and high prices justifies regulatory oversight. However, significant debate continues over when, where, and how the government should intervene. The result is considerable variation in government regulation of healthcare markets among states, among federal and state agencies, and over time.

To best present the challenges facing policymakers, regulators, and industry participants, the book is organized as follows. Section I provides background on the US healthcare system (chapter 1) and offers the reader a brief overview of US healthcare regulation (chapter 2). Subsequent sections and chapters are organized by the problems that healthcare regulations are designed to solve, using case studies to highlight the complexities of the regulatory process. Section II focuses on regulations to contain healthcare costs, section III reviews regulatory oversight of anticompetitive practices, section IV examines regulations that ensure patient access to safe and quality care, and section V discusses regulatory attempts to better achieve the Triple Aim through payment and delivery reform. Section VI concludes the book by discussing emerging issues in healthcare regulation. We detail each section next.

Section II: Regulation to Contain Costs

The United States spends more on healthcare per capita than all other developed countries and about twice the average of comparable countries (OECD Data 2021). US healthcare costs also have risen faster and absorb a larger share of gross domestic product than in other high-income countries (OECD Data 2021; Peterson–KFF Health System Tracker 2023). Not surprisingly, cost containment has become a major focus of legislators and regulators, particularly at the state level.

In chapters 3–6, we look at several state regulatory efforts to contain costs:

Chapter 3, Containing Costs Through Health Planning and Certificates of Need: containing costs by limiting capital costs and capacity expansion

Chapter 4, Containing Cost Growth by Setting a Healthcare Growth Benchmark: containing costs by setting a state goal for healthcare cost growth

Chapter 5, Containing Insurance Premium Growth Through Rate Review: containing costs by regulating insurance premiums

Chapter 6, Cost Containment Through Transparency: containing costs by arming patients with price comparison data

Section III: Regulation to Protect Consumers from Anticompetitive Practices

Participants in markets that lack competition cannot rely on the forces of demand and supply to achieve efficient outcomes. Highly concentrated markets (e.g., few sellers of a product or service) are often characterized by high prices, restricted consumer choice, reduced quality, and stifled innovation. US antitrust laws aim to protect market participants from the harms associated with market concentration and anticompetitive behavior. Recent greater consolidation in the healthcare sector and rising prices have led federal and state governments to exert greater antitrust scrutiny.

In chapters 7 and 8, we look at federal antitrust regulation and efforts to combat industry consolidation and anticompetitive business practices:

Chapter 7, Ensuring Competition Through Antitrust Review of Proposed Mergers and Acquisitions: regulating mergers and acquisitions to ensure competition

Chapter 8, Ensuring Competition Through Preventing Anticompetitive Contracts and Agreements: regulating to ensure competition by protecting against collusive and exclusionary behavior

Section IV. Regulation to Protect Patient Access to Health, Safety, and Quality Care

People seeking care from a healthcare provider can reasonably assume the care delivered will be necessary, high quality, and safe. However, limited information makes it difficult for patients and their loved ones to discern between high- and low-quality care. In addition, most payment mechanisms also reward volume rather than value, which can lead to the provision of unnecessary and potentially harmful care. To mitigate the imbalance and protect consumers, federal and state governments, as well as private organizations, play a crucial role in regulating the quality and safety of healthcare.

In chapters 9–11, we look at the current state of regulation related to patient health and safety:

Chapter 9, Protecting Patients Through Regulation of Healthcare Professionals and Professional Licensure: defining licensing and scope of practice to protect patients

Chapter 10, Improving Quality of Care Through Regulation of Hospital Access, Quality, and Safety: ensuring access to safe, quality care

Chapter 11, Protecting Patients by Regulating Drug Safety and Efficacy: protecting patient safety through regulation of drugs

Section V. Regulation to Reform the Payment and Delivery System

Policymakers and researchers have recognized for some time that many of healthcare’s most vexing challenges stem from the dominant fee-for-service (FFS) reimbursement system. Citing the World Health Organization’s overview of healthcare financing systems, Ikegami (2015) describes FFS as a well-recognized evil practice leading to overprovision, inefficiency and uncontrollable health expenditures. FFS payment models have this reputation because they reimburse healthcare providers for each item, procedure, or service, creating a financial incentive for providers to unbundle services and offer treatments even if they are marginally effective or even harmful.

Shrank and colleagues (2021) confirmed that significant potential remains for payment models to accelerate value-based care delivery, but several barriers must be addressed. First, most alternative payment models remain anchored in a fee-for-service architecture. A 2022 Health Affairs research brief, citing Berwick and Hackbarth (2012) and Shrank, Rogstad, and Parekh (2019), estimates that 20 to 30 percent of all healthcare spending is wasteful.

In chapters 12 and 13, we look at emerging regulation designed to move away from FFS payment to reimbursement models intended to reduce costs, eliminate waste, and improve the quality of care:

Chapter 12, Hospital Global Budgets: changing how hospitals are paid to promote cost containment and quality improvement through global budgets

Chapter 13, Reforming Care Delivery Through Accountable Care Organizations: regulation of provider-based organizations that take responsibility for managing cost and quality

Conclusion

First, however, we begin with section I, which presents brief overviews of healthcare in the United States and of healthcare regulation and regulators. We describe central principles of economic theory along with taxation parameters and other foundational content. Together, these topics form the bedrock that undergirds every other chapter and are essential to understanding the contemporary US healthcare system.

References

Berwick, D., and A. Hackbarth. 2012. Eliminating Waste in U.S. Health Care. Journal of the American Medical Association 307 (14): 1513–16.

Health Affairs. 2022. The Role of Clinical Waste in Excess US Health Spending. Research Brief. Published June 9. https://healthaffairs.org/do/10.1377/hpb20220506.432025/full/.

Ikegami, N. 2015. Fee-for-Service Payment—An Evil Practice That Must Be Stamped Out? International Journal of Health Policy Management 4 (2): 57–59.

Institute for Healthcare Improvement. 2023. Overview. Accessed January 24. http://ihi.org/Topics/TripleAim/Pages/Overview.aspx.

OECD Data. 2021. Health Spending. https://data.oecd.org/healthres/health-spending.htm.

Peterson–KFF Health System Tracker. 2023. Total Health Spending. Accessed January 24. https://healthsystemtracker.org/indicator/spending/per-capita-spending/.

Shrank, W., N. DeParle, S. Gottlieb, S. Jain, P. Orszag, B. Powers, and G. Wilensky. 2021. Challenges and Strategies for a New Administration. Health Affairs 40 (2): 235–42.

Shrank, W., T. Rogstad, and N. Parekh. 2019. Waste in the U.S. Health Care System: Estimated Costs and Potential for Savings. Journal of the American Medical Association 322 (15): 1501–9.

CHAPTER

1

BACKGROUND ON THE US HEALTHCARE SYSTEM

Learning Objectives:

After completing this chapter, the student will

have a basic understanding of the scope of the healthcare industry,

understand how Americans pay for healthcare, and

learn to identify the unique market characteristics of the healthcare industry.

Background on the US Healthcare Industry

Healthcare represents a collection of services (e.g., provider visits, surgery, imaging), products (e.g., X-ray machines, drugs), institutions (e.g., hospitals, clinics, labs, insurance companies), and people (e.g., providers, technicians, researchers, administrators) that account for more than 18 percent of US gross national product (Centers for Medicare & Medicaid Services 2023). In other words, US consumers spend roughly $1 out of every $6 on healthcare, mostly on hospitals (37.8 percent) and physician services (27.6 percent) (Kaiser Family Foundation [KFF] 2023a). In addition, more than 11 percent of the nation’s workforce currently works in the healthcare sector (Nunn, Parsons, and Shambaugh 2020), and that proportion is expected to grow as the population ages and its healthcare needs intensify.

Nearly everyone has interacted with the healthcare sector. Most people are born in hospitals, require check-ups and vaccinations before starting school, and at different points in their lives endure health events that require medical intervention. Often those interventions are expensive. A complex private–public system has developed over time to pay for that care, commonly referred to as healthcare coverage or health insurance.

In 2021, 91.4 percent of Americans had some form of comprehensive healthcare coverage, either health insurance, employer-sponsored coverage, or government-provided coverage, leaving 8.6 percent (28 million people) uninsured and paying directly for their own healthcare. Almost half the population (48.5 percent) received coverage through their employer, with an additional 6.1 percent purchasing insurance on a state or federal exchange or directly through a commercial insurance company (KFF 2023b). Other types of insurance are plans purchased by a company or person to limit their financial exposure in case of an unexpected event. For example, people purchase car insurance to protect against the cost of repairs after an accident. Health insurance began with the same concept but has evolved to cover expected and routine care as well as unexpected illnesses or injuries.

Employers who pay for healthcare coverage for their employees, and often their employees’ families, may do so either by purchasing an insurance plan or by self-funding (termed self-funded plans) or self-insuring. In self-funded plans, employers take on the responsibility and financial risk of paying for employee healthcare costs. The employer typically hires a company, called a third-party administrator, to run the day-to-day operations of the plan. In contrast, when an employer purchases health insurance (termed fully insured plans), financial risk is shifted to the insurer; the employer pays a fixed monthly amount per employee for coverage, regardless of the medical expenses employees incur.

What Is a State or Federal Exchange?

Health insurance exchanges are state or federal online marketplaces where consumers can purchase health insurance plans that best meet their needs. Established under the Affordable Care Act of 2010 (ACA), exchanges are intended to help individuals and small businesses choose among standardized plans. Federal subsidies are offered to qualified individuals through the exchanges.

Slightly more than a third of the population benefits from government-provided health insurance. For example, 21 percent qualifies for Medicaid or the Children’s Health Insurance Program, which are joint federal and state programs that provide health coverage for low- and middle-income Americans. About 14 percent of the population is covered by Medicare, a federal program that provides health insurance for people aged 65 or older, with additional eligibility for individuals with specific disabilities and diseases. (See appendix A for the types of Medicare and corresponding eligibility.) Some individuals are eligible for both Medicare and Medicaid (dual eligibles); they are often among the most vulnerable Americans. Last, a small proportion of the population (1.3 percent) receives government health insurance through the military (KFF 2023b).

Healthcare Market Characteristics

The healthcare sector is genuinely unique. Kenneth Arrow, a Nobel Prize– winning economist, was one of the first to highlight the many ways in which healthcare is unlike any other sector of the economy (Arrow 1963). In most well-functioning markets, both buyers and sellers have complete information about the goods or services they are exchanging. This arrangement is rarely the case in the healthcare market, where uncertainty and information asymmetry dominate the landscape. For consumers, the decision to buy healthcare often results from an unpredictable, random event (e.g., a car accident, abdominal pain). Shopping around for the best medical deal is not the norm; even when consumers do, they often find assessing the quality of the needed medical product or service impossible. Unlike when they buy a car or book, patients purchase medical care with great uncertainty and limited information. Although providers know far more than patients, diagnosis and treatments are still uncertain, and recovery can be unpredictable. Few other goods or services carry such high stakes (sometimes life or death), yet the buyer relies on the altruism, goodwill, and honesty of the seller. Given the uncertainty, information asymmetry, and high stakes, the need for significant regulation and oversight of provider licensing, scope of practice, and safety and quality measurement is not surprising.

What Is Information Asymmetry?

Information asymmetry is an economic term that refers to a situation in which one party in a transaction has more material information than another. This imbalance of knowledge can produce inefficient outcomes. For example, in healthcare, patients neither possess nor can easily acquire the medical information necessary to ascertain appropriate treatment options; they must rely on healthcare professionals to act in their best interest. If providers are financially incentivized to offer more services, and patients cannot distinguish between necessary and unnecessary care, information asymmetry can lead to the overprovision of healthcare. Not surprisingly, information asymmetry is often a justification for regulation.

In the healthcare market, unlike most other industries, patients (and even many providers!) rarely know the price for the service purchased; in most encounters, a third party (the insurer) foots part or all of the bill. The mere presence of insurance means that patients are insulated from the true cost of care, which can drive up demand for goods and services and further increase healthcare expenditures (a concept economists call moral hazard). Providers, paid on a fee-for-service basis and reimbursed by a third party, may also be incentivized to provide more services, again adding cost to the system. Few, if any, other markets function this way. Given rising healthcare costs, these market imperfections and perverse incentives may explain why government payers have renewed their focus on reforming how healthcare providers are paid.

Information asymmetry and uncertainty also plague insurance markets. Buyers of health insurance know far more about their health risk than insurance companies and may have an incentive to conceal their true risk to pay lower premiums. For example, who wants to acknowledge their bungee-jumping pastime to their insurance carrier? Sellers of insurance have a financial incentive to positively select healthy people. If unchecked, this incentive may result in reduced or denied coverage for those who need high-cost healthcare. Regulation provides that check; regulatory bodies intervene to ensure that insurance access is widespread, provider networks are adequate, and essential services are covered.

In addition, healthcare is flooded with externalities, instances where someone not involved in the transaction benefits or is harmed. For example, vaccinated individuals confer benefits on others by slowing the spread of disease, and drug use imposes costs on society through violence to others. The existence of externalities often leads to what economists call market failures: conditions where free markets, left on their own, provide either too little or too much of a good. Achieving an efficient outcome may require government intervention (e.g., public subsidization of vaccinations, legal restrictions on drug usage).

Last, many (although not all) markets operate in a competitive environment where prices are determined by the free interaction of many buyers and sellers. In healthcare, there are commonly few sellers of a medical product or service—or even just one. Higher prices, fewer transactions, and slower diffusion of innovation often characterize these imperfect or monopolistic markets. As a result, US government entities such as the Department of Justice, the Federal Trade Commission, or state regulatory bodies may intervene to encourage competition or regulate prices.

Highlight on Impacts of Tax Status

The tax status of a healthcare entity affects how it operates. In the United States, healthcare entities, insurers, or provider organizations may be nonprofit, for-profit, or governmental. A for-profit entity pays property tax and state, federal, and local income tax; its purpose is to earn profits for the owners and investors, who are paid dividends. A nonprofit entity is defined as a charity by the Internal Revenue Service and does not pay taxes. In exchange for this tax-exempt status, the entity is expected to provide a community benefit, as detailed later in this chapter. Nonprofit entities have no owners or investors and must reinvest excess revenue into the organization. (Other differences between for-profit and nonprofit organizations are detailed in exhibit 1.1.) Governmental healthcare organizations are controlled by the local, state, or federal government; an example of the last would be Veterans Administration hospitals.

EXHIBIT 1.1. Characteristics of Nonprofit and For-Profit Healthcare Organizations

A table listing features of nonprofit and for-profit healthcare organizations.

Sources: Cheney (2019); Internal Revenue Service (2022).

The tax-exempt status of the US nonprofit healthcare enterprise has been under rising scrutiny over the past few decades. Estimated at $28 billion for 2020 (Godwin, Levinson, and Hulver 2023), policymakers increasingly have asked if the public receives corollary benefits that outweigh the lost opportunities taxation could yield (Levinson 2023).

Section 501(r) of the Internal Revenue Code was enacted as part of the ACA to address this issue. Under this section, hospitals were required to engage in a formal Community Needs Assessment every three years and meet requirements related to financial assistance and collections. The aim was to ensure that nonprofit hospitals support people in their community in exchange for reduced taxation so the community is not disadvantaged by a diminished tax base. (See Rosenbaum, Byrnes, and Hurt [2023] for a detailed description of the history of organizational tax-exempt status and its relationship to the ACA and community benefit.)

Bai and colleagues (2021) have found that for-profit and nonprofit healthcare yield about the same amount of charity care. They conclude that nonprofit and governmental charity-care provision is not aligned with the charity care obligations that stem from their tax-exempt status. Others have argued for the need to revise the standards and the process to ensure community benefit (e.g., Letchuman, Berry, Hole, and Bai 2022). Notably, recent evidence suggests that between 2012 and 2019, nonprofit hospitals with a growth in surplus (or profit) did not increase their provision of charity care, despite rising cash reserves. For-profit hospitals, however, did allocate increased profits on greater charity care spending, likely because of its tax deductibility (Jenkins and Ho 2023).

Conclusion

The US healthcare system is complex. In this chapter, we have explored how market dynamics and tax status shape the system. Because governments craft healthcare