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COVER STORY

The New Goliaths

The 2010 health law was designed to lower costs. Instead, by encouraging hospitals to merge, it could boost the price of care.

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Godzilla versus King Kong: Hospitals increasingly have the edge on insurance companies.(Newscom)

In 1999, Evanston Northwestern Healthcare, a two-hospital group just north of Chicago, sought to merge with one of its smaller rivals, Highland Park Hospital. Executives promised board members of both companies that the deal would help all three hospitals succeed in the marketplace by enabling them to demand higher prices from insurance companies. It would “increase our leverage, limited as it may be, with the managed-care players and help our negotiating posture,” Evanston President Mark Neaman told the boards, according to meeting minutes. The directors approved the merger.

The plan worked, and the new company asked insurers to pay more. At the end of the first year alone, Neaman issued a memorandum trumpeting $24 million in increased revenue, about a 3 percent lift overall. Evanston was just getting started: Within four years, it had raised the price of care by as much as 48 percent, according to a government analysis. “None of this could have been achieved by either Evanston or Highland Park alone,” he wrote in a post-merger memorandum. “The ‘fighting unit’ of our three hospitals and over 1,600 physicians was instrumental in achieving those ends.”

 

The change was so extreme that it attracted the attention of the Federal Trade Commission, which ruled in 2008 that the merger was anticompetitive; it ordered the hospitals to negotiate their insurance contracts separately in the future. But the Evanston executives had vindicated their prediction that bigger companies could negotiate higher fees—a tactic that hospitals now use often. To pay those costs, insurers pass them along to consumers by marking up premiums.

Trouble is, this isn’t some ancillary problem in the industry. The 2010 health care reform law is likely to make it much, much worse. And consumers will have to foot the bill.

The aim of the Patient Protection and Affordable Care Act was to cover more Americans, but it was also designed to arrest ever-escalating costs by changing the system. Authors hoped to improve the quality of care and reduce unnecessary treatment (both of which would save money) by imposing new rules on providers and building a less profitable, more competitive insurance industry. It incentivized the use of electronic records (shown to reduce errors), punished hospitals that perform poorly, and launched experiments in which caregivers who work in teams to keep patients healthier could share in the savings.

 

The results would “bend the cost curve” and slow the rate of growth. “We agree on reforms that will finally reduce the costs of health care,” President Obama said in December 2009 as Congress was working on the bill. “Families will save on their premiums; businesses that will see their costs rise if we do nothing will save money now and in the future. This plan will strengthen Medicare and extend the life of that program. And because it gets rid of the waste and inefficiencies in our health care system, this will be the largest deficit-reduction plan in over a decade.”

But ultimately, the law could do the opposite. The new rules inadvertently encourage hospitals to buy smaller rivals for whom the requirements are too expensive. They push doctors to abandon their practices and join large health care centers. According to one analysis, the number of hospital mergers and acquisitions has increased by more than 50 percent since the law’s passage.

It will take some time for the economic effects to shake out, but decades of data show that hospital consolidations almost always lead to higher prices for patients. The last big wave of consolidations, in the 1990s, caused market prices nationwide to climb by at least 5 percent—and as much as 40 percent in some markets. To pay the rising hospital bills, insurers passed the costs along to consumers by raising premiums.

The result could create a nation of Evanstons. Which is to say, a law designed to lower costs will likely raise them instead.

 

UNINTENDED CONSEQUENCES

For Congress, the obvious way to reimagine health care was to start with Medicare, since it represents about 20 percent of the country’s health care spending and 15 percent of the federal budget. It has huge clout and a history of shaping the market: The medical industry has adopted Medicare’s billing codes, and most insurance plans are structured around the same fee-for-service payments that it uses. Legislators and the president thought that changes to Medicare wouldn’t just lower government costs; supposedly they would lower costs in the private-insurance system, too.

To do that, the law instructs hospitals that accept Medicare to track measures of quality—how often in the first month after being released, for instance, are patients readmitted?—and then pays less to those that underperform. It requires health care providers to adopt electronic medical record systems. It slows the annual increase in what Medicare pays for treatments. And it established a $10 billion center to test payment models that reward providers who keep their patients healthy rather than simply furnish care.

This article appears in the February 18, 2012 edition of National Journal Magazine.

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