Causes monopolies-bad for innovation and costs

How Health Insurance Compounds the Harms of Provider Monopoly The past several decades have witnessed extraordinary consolidation in local hospital markets, with a particularly aggressive merger wave occurring in the 1990s. By 1995, hospital merger and acquisition activity was nine times its level at the start of the decade, and by 2003, almost 90 percent of Americans living in the nation’s larger metropolitan statistical areas (MSAs) faced highly concentrated provider markets.3 This wave of hospital consolidation, predictably, was alone responsible for price increases for inpatient services of “at least five percent and likely significantly more,” and similarly responsible for price increases of 40 percent where merging hospitals are closely located.4 A second merger wave from 2006 to 2009 significantly increased the hospital concentration in thirty MSAs,5 and the vast majority of Americans are now subject to monopoly power in their local hospital markets. In economic theory, monopolies are objectionable because they enable sellers to charge higher prices and thereby cause some consumers (who would be willing to pay a competitive price) to forgo enjoyment of the monopolized good or service. Fortunately, such output-reducing effects are greatly lessened in health care markets because the many patients covered by health insurance can easily pay monopolist providers’ asking prices rather than being induced to give up these desirable goods and services. But unfortunately, precisely because there is no output reduction in response to monopoly price increases, health insurance both amplifies the redistributive effects of provider and supplier monopolies and inflicts allocative inefficiencies that are arguably more distortive and costly than those caused by typical monopolists. Supra-Monopoly Pricing. In the textbook model, a monopoly redistributes wealth from consumers to powerful firms. The monopolist’s higher price enables it to capture for itself much of the welfare gain, or “surplus,” consumers would have enjoyed if they had been able to purchase the valued good or service at a lower competitive price. In health care, insurance puts the monopolist in an even stronger position because consumers do not face, and therefore are not deterred by, monopoly prices. This effect appears in theory as a steepened demand curve for the monopolized good or service. Whereas most monopolists encounter reduced demand with each price increase, health insurance mutes the marginal consequences of rising prices. If health insurers perfectly represented their subscribers’ preferences, their policies would reflect consumers’ demand curves and pay for services at prices that individual insureds would, absent insurance, be willing to pay themselves. But deficiencies in the design and administration of real-world health insurance prevent insurers from reproducing their insureds’ preferences and thus heavily magnify monopoly power. For legal, regulatory, and other reasons, health insurers in the United States are in no position (as consumers themselves would be) to refuse to pay a provider’s high price even if it appears to exceed the service’s likely value to the patient. Instead, insurers are bound by both deep-rooted convention and their contracts with subscribers to pay for any service deemed advantageous (and termed “medically necessary” under rather generous legal standards) for the patient’s health, whatever the cost.6 Consequently, close substitutes for a provider’s services do not check its market power as they ordinarily would for other goods and services. Indeed, putting aside the modest effects of cost sharing on patients’ choices, the only substitute treatments or services insured patients are likely to accept are those they regard as the best ones available. Unlike the ordinary monopolist that sells directly to cost-conscious consumers, the rewards to a monopolist who sells goods or services purchased through health insurance may easily and substantially exceed the aggregate consumer surplus patients would derive at competitive prices. Thus, health insurance enables a monopolist of a covered service to charge substantially more than the textbook “monopoly price,” thereby earning even more than the usual “monopoly profit.” The magnitude of the monopoly-plus-insurance distortion has sometimes surprised even its beneficiaries.7 Of course, since third-party payers (and not patients) are covering the interim bill, these extraordinary profits made possible by health insurance are earned at the expense of those bearing the cost of insurance. Insureds, even when their employers are the direct purchasers of health insurance, are ultimately the ones seeing their take-home pay shrink from hikes in insurance premiums caused by provider monopolies. Discussions of antitrust issues in the health care sector rarely, if ever, explicitly observe how health insurance in general, or US-style insurance in particular, enhances dominant sellers’ ability to exploit consumers. Although scholars have previously observed that prices for health services are much higher in the United States than in other Organisation for Economic Co-operation and Development (OECD) nations (without observable differences in quality),8 and although many have observed that provider market power has been a significant factor in inflating those prices,9 few have observed the synergistic effects of monopoly and health insurance.