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    Medicare pricing distortion raises healthcare costs by 45%

    Eugen G Tarnow  June 12 2014 04:15:22 PM
    By Eugen Tarnow, Ph.D.
    Avalon Business Systems, Inc.
    http://AvalonAnalytics.com

    As ObamaCare has been implemented we are finding out that even the subsidized rates are too high for many people and that the rates will keep going up.  One of the reasons for this may have nothing to do with ObamaCare but everything to do with Medicare.

    Medicare recently released a dataset, prompted by a freedom of information request from the Wall Street Journal, which includes most approved claims for CY2012.  My analysis of this dataset shows that Medicare causes significant price distortions.

    A price distribution should follow what is called a log-normal distribution (like housing prices in the UK, for example) and look like this (below).  To be as inclusive as possible, I have plotted the probability of charging a certain list price as a multiple of the Medicare largest reimbursed price – that way I can average over all Medicare procedures.
    Image:Medicare pricing distortion raises healthcare costs by 45%

    Contrast this theoretical curve with what the provider pricing actually looks like for Medicare data from 2012.  I have limited it to procedures that Medicare reimburses more than $100 per encounter:

    Image:Medicare pricing distortion raises healthcare costs by 45%

    As you can see, the left tail of the distribution is gone.  All providers, without exceptions, charge at least the Medicare largest reimbursement.  Medicare provides a price floor.  It is a customer that is so huge (14% of the population with the majority of the nation’s health problems and the time to take care of them), that a provider (91% of non-pediatric physicians accept new Medicare patients, almost all have existing Medicare patients) can always find a person covered by Medicare and would never bother with any patient who cannot pay the Medicare price.

    The distortion caused by the Medicare price floor increases list prices.  I can estimate just how much by fitting a log-normal distribution to the actual price distribution and I get this:

    Image:Medicare pricing distortion raises healthcare costs by 45%

    From the fit I find that if there was no Medicare price floor, the log-normal pricing curve would yield an average list price of 2.05 * Medicare.  Once Medicare comes in, all the providers raise their list prices above the Medicare price floor.  The list prices that change the most are the lowest ones.  And some providers make this particularly obvious; they simply charge multiples of Medicare (peaks in pricing at 2, and 3 times Medicare).

    So how much does Medicare increase the list prices?  The list price after the Medicare price floor is 2.99 * Medicare, an increase of 45% from the log-normal distribution!

    In NJ we have a little publicized law which states that providers can only charge 20% over Medicare for patients making less than 4 times the poverty limit.  The effect of this law is to provide yet another incentive for providers to increase their prices.

    What could the government do to curb ever rising health care costs (without the corresponding rise in quality)?

    1. Medicare rates could be set much lower to minimize distorting health care prices for everyone else.  Since current Medicare recipients only paid for 35% of its cost this would seem fair.

    2. Laws that say that a provider can only get the maximum reimbursement from Medicare if their list price is higher than that of Medicare have to be repealed.  This may be a form of price fixing.

    3.  Medicare could be thought of as a privilege and this privilege could come with a hook: if you want Medicare patients, you must also treat non-Medicare patients for the same price.

    The
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