Waste vs. Value in American Health Care

Uwe E. Reinhardt is an economics professor at Princeton. He has some financial interests in the health care field.

Give economists a drink - or not - and with a straight face they will tell you that the American health-care systems is one of the highest value-added sectors in the economy (see, for example, the book “Measuring the Gains From Medical Research,” edited by Kevin M. Murphy and Robert H. Topel.)

Give economists another drink - or not â€" and with the same straight face they will tell you that our system is alarmingly wasteful.

To illustrate, in a presentation, “The Value Equation in Health Care,” delivered at a conference at Rice University in 2007, the Harvard economist David Cutler, who has studied these issues extensively, noted: “I highlight two fundamental facts about health care. The first fact is that the average value of medical advance is very high,” and the second is that “most estimates suggest that about 20 percent to 30 percent of medical spending could be eliminated with no adverse effects on patient outcomes.”

Lest you wonder what economists like Professor Cutler are talking about, behold the chart below.

The horizontal axis denotes average health spending per capita. The vertical axis represents “quality-adjusted life years,” or QALY‘s, a widely used outcome metric in health-services research.

When economists speak of the health system as a “high average-value sector,” they have in mind an average such as the distance AB in the chart divided by the distance OB, but with a monetary value - very often $100,000 or more - put upon the QALY (see, for example, this article). Of course, what a QALY actually is worth leads one quickly into a philosophical and ideologically charged thicket, especially when someone asks whether a QALY has the same monetary value regardless of on whom it is bestowed. I will delicately sidestep that issue here, although I welcome those who wish to offer their views on it.

When economists talk about waste in our health system, they have in mind not an average, but what they call the marginal (incremental) benefits to the marginal (incremental) spending on them. The ratio is negative on the input-output curve beyond A. That segment represents not only pure, unambiguous waste, but waste that is inimical to the health of patients - e.g., unnecessary surgery or imaging or unwarranted drug therapy with antibiotics.

But in many economists’ minds - and in quite a few minds of clinicians and management consultants, there is waste also in the almost flat but still upward-sloping segment in the curve, say, from C to A. That incremental spending is called wasteful in the sense that the monetary value imputed to the few QALY’s added by the extra spending is judged below the amount of that added spending (EB on the horizontal axis).

Thus speak economists when they are in a vertical position and healthy.

From personal experience, however, I extrapolate that, once in a horizontal position on the operating table or in an imaging machine, most economists, like most other patients, are much more tolerant of moving along segment CA all the way up to point A, especially when they are well insured. Physicians diagnose this as the “V.H.P.C. syndrome” (for verticalis-horizontalis paradoxum cerebralis), said to afflict especially economists and management consultants, but also many politicians.

In a fine recent volume entitled “Best Care at Lower Cost,” the Institute of Medicine of the National Academy of Sciences deconstructed the “waste,” as its prestigious study panel saw it. The chart below, adapted form Table 3-1 of the report, enumerates the sources of estimated waste.

Institute of Medicine, “Best Care at Lower Cost (2013),” Table 3-1.

These numbers, of course, are merely the study panel’s best estimates and clinical judgments. One can imagine a lively debate over some of the estimates, especially the estimated $210 billion spent on “unnecessary services” or the estimated $105 billion attributed to “excessively high prices.”

What draws my attention, however, is the $190 billion imputed to “excess administrative costs.” It is not a trivial sum. Indeed, it is more than would be needed to attain truly universal health insurance coverage in the United States.

I have been at many conferences at which concerned clinicians explore so-called “evidence-based medicine,” replete with “evidence-based best-clinical-practice guidelines” and the associated “clinical pathways.”

I cannot recall a conference on the topic of “evidence-based best administrative practices,” although I may have missed it.

The typical American academic health center probably employs 300 to 400 full- time workers just for billing the 50 or more different insurers, each with its own rules, for services rendered patients. It is a safe bet that every American hospital spends multiples relative to peers in other countries as a percentage of patient revenue or per patient on administration.

The authors of a recent paper in Health Affairs estimated that the typical physician spent $82,975 annually in time costs interacting with multiple insurers. Other research has documented these high costs.

For some reason, Americans have always countenanced these high administrative costs with gracious equanimity, perhaps assuming that there must be commensurate benefits produced by all of this spending on administration, or a sensible nation such as ours would not incur that spending. On the other hand, perhaps these costs - income to many others, of course - are just visited on a hapless people, like climate and taxes.

Although many of the papers on excess administrative costs in the United States compare Canada’s spending on that item with American spending, considerable savings on administrative costs ought to be attainable even within our existing system. Unfortunately, the private sector - both buyers and sellers of private insurance - have shown little inclination to rise to that challenge over the decades. By constantly expanding the supply of different insurance products, each with different rules, they have enhanced administrative complexity.

Nor do I see much innovation on administrative simplification in the Affordable Care Act, which, among other things, now requires an armada of newly trained “navigators” just to help individuals navigate the complexity of the new health insurance exchanges called for by the law.

From the viewpoint of utility - the imaginary units of happiness that economists believe people seek forever to maximize - perhaps it is best that Americans keep on dreaming that they are actually getting something of great value for that $190 billion a year in excess spending on administration identified by the Institute of Medicine. But it is worth exploring just what that value might be.