Health Care Provider Market Power

Overview

In September 2011, Paul B. Ginsburg, Ph.D., president of the Center for Studying Health System Change (HSC), testified before the U.S. House Ways and Means Subcommittee on Health about a growing but underappreciated force in American health care spending: the market power of hospitals and large physician groups to command higher payment rates from private insurers. Drawing on years of community-level research, Ginsburg presented evidence that consolidation among health care providers, combined with broad provider networks and weak consumer price sensitivity, had fundamentally shifted bargaining power away from insurers and toward providers — with consequences for premiums, spending, and the prospects for reform.

How the Balance of Power Shifted

The story of provider market power in the United States follows a distinct arc. In the early 1990s, during a severe recession, employers shifted workers into managed care plans with restrictive networks and tight utilization management. Health plans used this leverage to pressure hospitals and physicians into accepting lower payment rates and assuming financial risk. At the same time, hospitals began merging to address excess capacity and strengthen their position against insurers.

Within just a few years, the picture reversed. The economic boom of the late 1990s brought a backlash against managed care. Employers, more focused on recruiting and retaining talent than on controlling health costs, embraced insurance products with broad provider networks. Health plans lost their ability to credibly threaten to exclude providers from networks, and with it, their primary bargaining chip. Hospitals, now organized into larger systems, gained the upper hand.

When the economy slowed again, employers did not return to restrictive networks. Instead, they passed costs to employees through higher deductibles, copayments, and coinsurance. Provider demands for higher rates led to a wave of contract showdowns in the early 2000s, with some providers threatening to or actually dropping out of insurer networks. Eventually, plans and providers reached what Ginsburg called a "separate peace" — plans agreed to go along with higher payment rates to maintain broad networks and avoid disruptions.

The Evidence on Prices and Spending

American Hospital Association data showed that the ratio of private payer rates to hospital costs climbed from 116 percent in 2000 to 134 percent in 2009 — meaning private insurers were paying hospitals 34 percent above their costs. An HSC study of eight health care markets found stark variation in what private insurers paid hospitals. Average inpatient payment rates from four large national insurers ranged from 147 percent of Medicare in Miami to 210 percent in San Francisco. At the extremes, individual hospitals commanded nearly five times Medicare rates for inpatient care and more than seven times Medicare for outpatient services.

The variation within markets was just as dramatic. In Los Angeles, the hospital at the 25th percentile received 84 percent of Medicare rates for inpatient care, while the hospital at the 75th percentile received 184 percent. The highest-priced hospital with substantial volume was paid 418 percent of Medicare. Physician payment rates showed similar, though less extreme, variation. Specialist payment rates relative to Medicare were generally higher than those of primary care physicians.

What Gives Providers Leverage

Consolidation was clearly a factor, but it was not the whole story. Market concentration had increased through both mergers and the exit of weaker competitors. While mergers were subject to antitrust review, attrition-based consolidation was not. Research by economists had shown that hospital mergers consistently led to higher prices, though earlier arguments that mergers could lower costs through efficiency had led to Federal Trade Commission setbacks in blocking them.

Beyond consolidation, hospitals could achieve "must-have" status through reputation, geographic niche, or specialized services. A hospital's perceived quality — distinct from its measured clinical quality — could confer enormous pricing power. Ginsburg cited the example of Cedars-Sinai Hospital in Los Angeles, which reportedly commanded the highest rates in its market based on brand prestige and celebrity associations rather than horizontal integration. A respondent from a competing hospital observed: "Cedars has the highest rates in the world. The hospitals down the street have no market power. They have to fight for every penny." Children's hospitals, transplant centers, and trauma facilities similarly leveraged specialized services for pricing power.

Research by James Robinson provided additional evidence that hospitals in concentrated markets responded to Medicare payment shortfalls by raising prices to private insurers, while hospitals in competitive markets responded by cutting costs. This was consistent with MedPAC findings that hospitals with strong negotiating leverage could allow unit costs to rise because they could extract higher private insurance rates to compensate.

Hospital Employment of Physicians

Hospitals were also rapidly expanding physician employment, a trend that accelerated across many communities during HSC's 2010 site visits. The primary motivation was capturing market share through service-line strategies rewarded by fee-for-service payment. Physicians, for their part, were drawn to hospital employment by stagnant reimbursement rates, rising practice costs, and a desire for better work-life balance.

While greater hospital-physician alignment might eventually improve quality through better clinical integration, the immediate cost implications were concerning. Hospitals routinely charged facility fees for office visits performed in what had been independent physician offices but were now hospital-owned. In some cases, the same physician in the same office performing the same services generated significantly higher Medicare payments simply because the practice had been acquired by a hospital. Private insurers often faced the same billing practices. These facility fees raised costs not just for payers but for patients directly, since they were subject to deductibles and coinsurance.

Policy Options

Ginsburg outlined two broad categories of responses: market-based approaches and regulation. On the market side, tiered-provider networks offered enrollees lower cost sharing for choosing less expensive providers. Limited-network products excluded the most costly providers entirely. However, these approaches had not gained much traction. Dominant hospitals often refused to contract unless placed in the most favorable tier, and physicians resisted performance-based network designs over concerns about measurement accuracy.

Government could support market approaches through Medicare's development of value-based purchasing and performance measurement tools. If private insurers adopted similar methods, the consistent signals could strengthen the credibility of performance-based networks. Massachusetts had enacted legislation banning certain hospital contracting practices, such as refusing to contract based on tier placement or requiring insurers to contract with all facilities in a multihospital system.

On the regulatory side, options ranged from loose forms of rate review — such as caps tied to Medicare rates or triggered reviews for exceptionally high prices — to structured all-payer rate-setting systems like Maryland's, which had been in place since the 1970s. Antitrust enforcement remained important, particularly as rules were being developed for Medicare accountable care organizations (ACOs) to guard against using integration as a vehicle for increased pricing power.

Ginsburg concluded that addressing provider leverage would require tackling both consolidation and the lack of consumer incentives to choose lower-cost providers. Whether a market solution was feasible depended on the degree of existing consolidation in a given market and on whether consumers could be meaningfully engaged in price-conscious decision-making — something they had historically resisted.

About HSC

The Center for Studying Health System Change was an independent, nonpartisan health policy research organization affiliated with Mathematica Policy Research. HSC also served as the research arm of the National Institute for Health Care Reform, a 501(c)(3) organization established by the International Union, UAW; Chrysler Group LLC; Ford Motor Company; and General Motors to conduct health policy research and analysis.

Sources and Further Reading

Health Affairs — Peer-reviewed journal of health policy research.

FTC — Health Care Competition — Federal antitrust enforcement in health care markets.

Medicare Payment Advisory Commission (MedPAC) — Independent Congressional agency advising on Medicare payment policy.

American Hospital Association — Industry data and advocacy for America's hospitals.

Kaiser Family Foundation — Health Costs — Data and analysis on health spending and employer insurance.