Buyer Purchasing Power in Health Care

By August 1, 2019 Commentary

One advantage (maybe the only one and it is questionable if the effects are really advantageous) of a public health coverage program like Medicare or Medicaid is that the government can use its authority and its purchasing volume to get lower prices.  Medicare, for example, typically pays hospitals and physicians less than private health insurers do.  A new paper from the National Bureau of Economic Research examines this exercise of government purchasing power in health care.   (NBER Paper)   The exercise of market power by a buyer with extremely large market share, as opposed to a seller, is referred to as monopsony.  Governments are classic examples of monopsony.  Their exercise of buying power is typically only constrained by political considerations.  The authors sought to understand the extent to which differences in prices across various health systems reflect factors other than just an economic desire to extract the lowest possible price.  The US has a much more heterogenous system of health purchasing than do most other developed nations and the authors were also seeking to analyze what spending and prices would look like if we were a pure single government payer system, as is contemplated by Medicare for all systems.

How much could or would the government reduce prices paid?  The authors use Canada as a comparison system, because like the US it has a largely private system of actual medical care delivery, although it is a single payer country.  Assuming that the US could pay providers the same amounts Canada does, seems absurd on its face, for a variety of reasons.  (I have made this point before, are any of us looking forward eagerly to a 20% to 40% cut in our wage income, but that is exactly what the Medicare for All plan would do to physicians.)  And these authors identify several factors that would limit the ability to make such a change.  Even a monopsonist must recognize potential adverse consequences from too great a suppression of prices.  In this case, the supply of physicians and other health care professionals is clearly affected by income expectations and facilities like hospitals are limited in their ability to absorb price reductions.  The authors build a model of monopsonist decision-making.  Using that model they conclude that physicians in Canada are not subject to significant exercise of buyer pricing power.  While they earn about 26% less than counterparts in the US, this is similar to the general 22% lower pay for all skilled workers in Canada compared to the United States.  The Canadian single payer buyer’s restraint in pushing wages down further is likely due to concerns of the impact on supply, and in turn on access to care and quality of care.  (I think it is really a matter of politics, just like in the US.)

On the other hand, they find that Canada does exercise more buying power in regard to drug prices–pushing them substantially below the US equivalents, over 50% lower in fact.  But they can do this because drugs are a global market and Canada is a relatively small part of that market, so manufacturers will accept the lower price.  If a larger part of the total market, of which the United States is the single largest segment, were to dictate much lower prices, there would likely be an impact on the availability of new drugs.  As the authors note, their model, which just reflects common sense and basic economic principles, should be a splash of ice water in the face of the idiots who think Medicare for All can lower spending to even Canadian levels.  It can’t and it won’t, but finding that out the hard way can certainly lower access and quality for all of us.

Kevin Roche

Author Kevin Roche

The Healthy Skeptic is a website about the health care system, and is written by Kevin Roche, who has many years of experience working in the health industry through Roche Consulting, LLC. Mr. Roche is available to assist health care companies through consulting arrangements and may be reached at khroche@healthy-skeptic.com.

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