ECONOMICS

Research: Perhaps Market

Forces Do Work in Health Care
After All
by Amitabh Chandra, Amy Finkelstein, Adam Sacarny, and Chad Syverson
DECEMBER 05, 2016

For decades, experts and policy wonks have argued that health care is a uniquely inefficient
industry, insulated from conventional market forces that operate in the rest of the economy.
Patients are believed to be uninformed about hospital quality, insurance reduces the incentives to
shop for better deals, and government programs aren’t sufficiently responsive to quality. This
argument for “health care exceptionalism” supports the view that hospitals with superior
outcomes aren’t rewarded in the form of landing more patients, which stymies innovation and
quality-improvement efforts. Poorly performing hospitals do not feel pressure from patients to
improve quality because standard market forces do not apply to health care.

What is problematic with this assessment is that there has been little work done to prove it. There
are strong reasons to think that the conventional wisdom is right but also many reasons to believe
that it is untrue. Markets are good at aggregating information and disseminating it to consumers
who will use it sensibly — in this case, by picking hospitals with high quality. A hospital’s
reputation may reflect valuable information about its performance and may spread widely
without quality reporting or prodding. Embedded in this idea is the parallel notion that
consumers aren’t stupid, that they’re able to process information and not get systematically
duped by bad information or advertising. This is the idea of “market learning” that economist
and Nobel laureate Frederick von Hayek was celebrated for.

INSIGHT CENTER Our research group explored whether health

care is uniquely different and found evidence
Innovating for Value in Health Care
SPONSORED BY MEDTRONIC
that market forces operate in health care with
surprising consistency and impact. We assessed
Exploring cutting edge ways to lower costs and
improve quality. two separate but related components of market
forces in health care. In our first study, we
considered whether higher-quality hospitals had
more market share at a point in time and whether they experienced more growth over time when
compared to their lower-performing counterparts. Both should be true if market forces operate in
health care and not true if patients or their physicians haphazardly select hospitals or have no
idea which hospitals are better or worse.

We found that higher-performing hospitals do, in fact, control greater market share at a point in
time and do experience higher growth in that market share over time than do their lower-
performing competitors. We established this by looking at five high-volume conditions in the
Medicare system where patients are free to go wherever they like: acute myocardial infarction
(heart attacks), congestive heart failure, pneumonia, and hip and knee replacements. We defined
hospital performance using outcome-based measures such as risk-adjusted survival and risk-
adjusted readmission, process of care measures (whether specific, well-defined, evidence-based
practices were being used for each condition), and patient-reported satisfaction (as measured
through surveys). We found that for the conditions studied, higher-performing hospitals, as
measured by outcome-based measures and process-of-care measures (but excluding patient-
reported satisfaction), do, in fact, have greater market share and their market shares also tended
to grow.

This correlation between performance and market share supports the idea that patients are not
simply passive pawns when receiving medical care. Rather, our findings support the idea that
patients do exercise the ability to place demand-side pressure on care providers. This fact is
reiterated by our finding that even for emergency conditions, Medicare patients are willing to
travel to higher-performing hospitals to receive better care.

For heart attacks, patients studied were willing to travel 1.8 miles more to receive treatment at a
hospital with a risk-adjusted survival rate that was 1 percent higher. Similarly, we found that the
relationship between hospital performance and market share was more robust for patients who
had greater choice in which hospital they chose for treatment — for example, patients who did
not come to the hospital in an emergency setting, reinforcing the idea that many patients are
constrained in their choices.

The relationship between hospital performance and market share has also positively contributed
to the health of patients. We found that reallocation of patients to higher-performing hospitals
has contributed to patient-survival gains: Twenty percent of the improvement in heart-attack
survival for Medicare patients in the period 1996-2008 can be explained by reallocation. In-
hospital technology and treatment improvements alone were not enough to explain this
improvement in survival.

In our second study, we assessed whether productivity dispersion in the health care sector is

similar in magnitude to that of other manufacturing sectors. Productivity dispersion in an
industry measures the variation in productivity among the players within a market. If it’s larger
in health care — as proponent’s health care exceptionalism have argued — then one is likely to
find high- and low-productivity hospitals in the same city. In health care, productivity dispersion
is large: We found that Medicare patients treated for acute myocardial infarction (AMI) at a
90th percentile hospital had a survival rate 1.55 times higher than those treated at a
10th percentile hospital.
But if this dispersion is similar to that of manufacturing industries, it would lend support to the
argument against health care exceptionalism. One of us (Chad Syverson) has shown that
dispersion responds to greater competition. This means if market forces are at work in health
care, they should reduce variation in productivity by removing low-quality providers or creating
incentives for them to improve. To put it another way, the more competition there is in health
care or the easier it is for consumers (patients) to switch suppliers (hospitals) relative to another
industry, the tighter the distribution of performance in health care relative to the other industry
should be.

To assess this possibility, we measured whether productivity dispersion across hospitals

(measured as survival accounting for patient risks and the intensity of treatment) for the
treatment of  AMI was similar to that of companies producing ready-mixed concrete (measured as
cubic yards of concrete adjusted for such inputs as labor, capital and other intermediates).

The comparison of health care to concrete may initially strike some as nonsensical, but as we
discovered, the contrast is more informative than meets the eye. Prices for ready-mix concrete
aren’t set by government reimbursement systems; concrete is also homogeneous unlike hospital
care. But just like health care, it is consumed locally: A general contractor in Boston will not order
ready-mix concrete from Providence, Rhode Island, in much the same way that a heart-attack
patient in Boston will not travel to Providence. Surprisingly, we found that productivity
dispersion within the two markets were relatively similar.

What our studies suggest is contrary to the conventional wisdom that the health care sector is
insulated from consumer pressures the opposite largely is true. It means that efforts that
strengthen these forces may be beneficial to patients.  We have not pinpointed the precise
mechanism by which patients or their physicians learn about hospital care. But in a recent New
York Times piece Austin Frakt speculates that patients utilize their social network to make these
decisions — in other words, that families, physicians, and friends influence where we get treated.
It could also be that ambulance drivers and primary care physicians play an important role in
selecting hospitals.

Separately, while we did find that patients or their agents seem to pick hospitals with higher
patient-survival rates, we also found that patients do not penalize hospitals for using more tests
and procedures when producing better outcomes. In other words, we found that patients were
attracted to hospitals that used more inputs over hospitals that were just as good but used fewer
inputs. This is not a good thing because society is paying for those inputs. This divergence
between what a private citizen might desire versus what society may want is a ripe topic for
efforts to increase value in health care.

Finally, our finding that demand is a key force in influencing outcomes in the health care sector
means it is important to ensure that patients have the ability to make express choices. It suggests
that anti-trust efforts should focus on increasing competition and that governments should not
try to stall the closing of low-performing hospitals to protect jobs. Otherwise, lower-performing
hospitals are more likely to be able to stay in the market, stunting innovation and worsening
patient outcomes.

Amitabh Chandra is the Malcolm Weiner Professor of Public Policy and the director of
health policy research at the Harvard Kennedy School of Government and a visiting professor at
Harvard Business School. He is an elected member of the National Academy of Medicine.

Amy Finkelstein is the John & Jennie S. MacDonald Professor of Economics at the
Massachusetts Institute of Technology. She is a recipient of the John Bates Clark Medal and an
elected member of the National Academy of Medicine.

Adam Sacarny is an assistant professor of health policy and management in the Mailman
School of Public Health at Columbia University.

Chad Syverson is the J. Baum Harris Professor of Economics at the University of Chicago
Booth School of Business.
This article is about ECONOMICS
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Related Topics: POLICY | REGULATION | COMPETITION | HEALTHCARE

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3 COMMENTS

Peter Taft 6 months ago

Part of the pricing problem is the fact that those without insurance are charged more than either insurance
carriers and Medicare, even though they may be willing to pay cash on the spot. As a result, there is no free
market pricing of what services actually provided. Maybe if private parties could automatically pay the Medicare
price if paid in cash, we would see what changes would come to the market. I just abandoned a Medicare
Advantage plan with an annual cost of about $50, to go back to a Medicare supplement plan that costs $300 a
month because the Medicare Advantage plan just eliminated the UCLA heath community and doctors. It is worth
that much more to me to keep the doctors and UCLA facilities.

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