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How Medicare's low prices inflate health costs

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By David Goldhill
Monday, March 11, 2013, 9:00 p.m.

Steven Brill's recent Time magazine cover story, “Bitter Pill: Why Medical Bills Are Killing Us,” is an extraordinarily well-reported look at medical pricing, demonstrating that high health-care prices have little relationship to underlying cost. For many commentators, the much lower prices paid by Medicare suggest an obvious solution to our health-care problems — “Medicare for all.” There's only one problem: Medicare has been a primary driver of the explosion of health-care costs in the United States despite — and perhaps because of — the low prices it pays.

Over the past decade, Medicare's spending per beneficiary has risen at roughly the same rate as spending for privately insured patients. Medicare's supporters have a simple explanation: Americans are living longer and this is driving up the program's costs. But Medicare's own data say that a much more important factor is the growing intensity of use: more demand for care at every age.

In the mainstream of our health-care debate, this growth in seniors' demand is considered organic — a need to be fulfilled. But this extraordinary growth in volume is better understood as a provider reaction to the perverse incentives of low prices.

Medicare beneficiaries get a lot of health care, and these amounts grow every year. In 10 years, the number of CT and MRI scans per beneficiary more than doubled; hip replacements increased by 36 percent between 1997 and 2007. The average 75-year-old is on five prescription drugs. Annual spending just on those in excellent or very good health was an astonishing $5,437 per person in 2008.

“Diagnosis creep,” the substitution of expensive drugs for cheaper ones and an increasing number of more expensive procedures seem like common yet subtle responses to Medicare's efforts to manage by price. Medicare claims that hospitals and other institutions lose money on services provided to Medicare beneficiaries and have suffered losses every year since 2003. Yet the number of hospitals taking Medicare patients has grown in every one of those years.

Brill referred several times in his Time article to the “protection” Medicare offers its beneficiaries from high prices. But the massive expansion of care unleashed by Medicare's perverse incentives means that just the tiny sliver of care paid directly by seniors — at the low prices established by Medicare — now accounts for a higher share of their income than before Medicare existed.

Single-payer advocates contend that other nations have managed to better control health-care spending by enforcing a true budget for cost. But any review of how our Medicare system works illustrates why a single-payer system would be so difficult here: Our government has a pervasive inability to say “no.” Our government promises to pay for any care seniors need and providers respond by relentlessly expanding the definition of need. It's no coincidence.

Medicare is a major source of votes and campaign contributions, both of which reinforce our politicians' unwillingness to address exploding volumes. The program's low administrative costs aren't an accomplishment; they're a refusal to discipline excess care. The program's low prices are a mirage. As any businessperson knows, with enough market power — not to mention political power — you can always make it up in volume.

David Goldhill, chief executive of GSN, a media company, is the author of “Catastrophic Care: How American Health Care Killed My Father — and How We Can Fix It.”

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