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Health Plan Economies of Scale

By March 1, 2019Commentary

America’s health insurance markets are extremely concentrated with a few large national players, and a number of dominant regional and local ones.  One supposed justification for allowing this concentration to occur was that it would create economies of scale which would lower administrative expenses and premiums.  A brief from Sherlock Company finds little evidence that this has occurred.    (Sherlock Brief)   Looking at detailed state filings, the company determined that only about 37% of administrative expenses for Blue Cross plans and 28% for independent or provider-owned plans showed any evidence of scale benefits and that the benefit was very modest.   If a plan doubled in size, that 37% or 28% of expenses would only be reduced by about 10% to 14%.  So maybe a 3% or 4% total reduction of administrative expense, which has an insignificant effect on premiums.  Sherlock divided administrative expenses into about 60 activities and tried to ascertain scaling by each, as well as by product.  Few functions showed consistent scaling across both categories of plans and most showed little scaling at all.  For example, the only functions that appeared to have scale benefits for both Blue Cross and independent plans were actuarial and audit activities.  Blue Cross plans showed some information systems scaling, but independent plans did not.   Independent plans were more likely than Blue Cross ones to have some scaling benefit on medical management activities and on claims adjudication.  There should be significant administrative scale efficiencies for health insurers, but we shouldn’t be surprised that we aren’t seeing them.  Companies have to have a reason to be as efficient as possible, and that reason is usually the existence of competition on price or quality dimensions.  Since health insurance markets are very concentrated and companies rely on building brands to obfuscate consumer choice, that competitive spur is simply not present in sufficient degree to encourage efficiency.  We see the same phenomenon among provider systems, where consolidation has actually led to higher costs because the systems know they will get high price and revenue so why worry about costs.

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