Wall Street Comes to Washington:

Originally published as Issue Brief No. 31 by the Center for Studying Health System Change (HSC), September 2000. HSC was a nonpartisan policy research organization funded principally by the Robert Wood Johnson Foundation.

Wall Street Comes to Washington: Market Watchers Evaluate the Health Care System

Purchasers were tolerating double-digit premium increases for health plans and agreeing to employee demands for open-access products and wide physician choice, largely because of the robust economy and tight labor markets of 2000, according to a panel of Wall Street analysts at the fifth annual roundtable convened by the Center for Studying Health System Change. The analysts, all specialists in health care companies, discussed the forces driving managed care's evolution, techniques for controlling pharmaceutical spending, and the impact of the Internet on health care delivery. Their assessments painted a picture of a health care system in transition, with employers eyeing new strategies to control costs and limit their exposure to future premium volatility.

Double-Digit Premiums Expected to Continue

The panel predicted that the surge in health insurance premiums would persist for several years, with increases of 10 percent or more anticipated for 2001 and 2002. Norman Fidel of Alliance Capital Management noted that commercial premiums had risen 7 to 7.5 percent in 1999 and were tracking toward 9 percent for 2000. At the time, premium increases were outpacing underlying cost growth, a signal of a shift in the insurance underwriting cycle. Employers' ability to negotiate lower premiums was constrained by fierce competition for workers in a tight labor market. Merrill Lynch managing director Roberta Goodman estimated that the passage of patient protection laws in nearly every state had added 1 to 2 percentage points to the recent premium increases.

Goodman warned that employer tolerance for steep increases had limits. Many companies were facing their first premium spike since the rush from indemnity insurance to managed care in the early 1990s, and she questioned whether employers would maintain confidence in an industry that was not solving the cost problems it was designed to address. As labor markets loosened, the analysts expected employers to explore fixed-contribution arrangements -- offering a set dollar amount toward coverage regardless of which plan employees chose, with the contribution pegged to the lowest-cost option.

Defined Contribution and Consumer Choice

Beyond fixed contributions, the analysts discussed a range of ideas grouped under the broad term "defined contribution." None had been widely implemented, but they addressed employers' desire to shoulder less of the premium burden and reduce their accountability for how health plans were managed. One approach would give employees a voucher for a set amount to select a plan on the open market, with the employee bearing the cost of more expensive coverage. Another would eliminate the plan entirely, letting consumers choose any provider and pay from a medical spending account. Samuel Murphy of American Express Financial Advisors saw "a huge drive" behind defined contribution, arguing it might be the single development that brought health care spending under control by making consumers responsible for their own spending decisions.

Modest Improvements for Providers

Only a portion of premium increases was being passed through to providers, and what did flow through varied considerably across markets and provider types. Dennis Farrell of Moody's Investors Service noted that hospital systems in large markets had secured rate increases of 4 to 10 percent from managed care partners, while many smaller standalone institutions had seen no rate improvement in years. Hospitals were financially strained after a period of poor contracting decisions, Medicare funding reductions from the Balanced Budget Act of 1997, rising pharmaceutical costs, and labor shortages. One common response was divesting costly physician practices to refocus on core inpatient and outpatient operations.

Physicians faced even tougher conditions than hospitals. As Fidel observed, a well-entrenched hospital system in a specific region had strong bargaining power against managed care organizations, but individual physicians or even large physician groups typically could not match the negotiating leverage of the large health plans they dealt with.

Managed Care Challenges and Pharmaceutical Spending

The analysts acknowledged that managed care was evolving rapidly. Consumer and physician backlash had forced plans to loosen restrictions, broaden networks, and shift away from strict gatekeeping models. The challenge for health plans was finding new ways to manage costs without alienating enrollees. Pharmaceutical spending was a major driver of cost increases, and the analysts discussed strategies including formulary management, three-tier drug benefit designs, and growing interest in pharmacy benefit management companies as tools to moderate drug costs.

Sources and Further Reading

HSC Fifth Annual Wall Street Roundtable, 2000. | Issue Brief No. 31, Center for Studying Health System Change, September 2000. | The Kaiser Family Foundation and Health Research and Educational Trust, Employer Health Benefits Annual Survey.