Health Care Math 3: Private Profits and Waste
By Dr. Mike Razar
It is undeniable that the following question is central to any discussion of the details of the health care system.
Can the Government provide health insurance at lower cost than the private sector?
It is no exaggeration that the current debate is about whether hatred and lack of trust for private insurers is greater than hatred and lack of trust for the Federal Government. Liberals pretty much believe that insurance companies could be profitable by charging much lower premiums and accepting all claims without question. However, Government can be trusted to fairly ration care and have the rich pay for most of it. Conservatives would rather take their chances with competitive profit seeking corporations than with political appointees.
No matter how one feels, there is a void where agreed upon facts ought to be. Here are a few facts that might be useful.
- Insurance companies are frequently accused of putting profits ahead of people. Just how much money could they save if they were run by “progressives”? It should be easy to agree on what percent of each premium dollar goes to the bottom line. The most cited figures fall into the 3% to 4% range. If this is true, then an across the board premium cut of 5% would bankrupt the industry. Hardly profit gouging. If anyone has hard facts to the contrary, it would be useful to put them forward. Insurance companies are accused of spending millions of dollars paying people to deny legitimate claims. The evidence is largely anecdotal and there are appeal mechanisms available for quick review. The fear of large punitive damage penalties further acts as a brake to abuse. Nevertheless, it is fair to ask why the companies even bother to deny any claims. The net effect of paying claim investigators must be cost effective, or else they really would not bother. If the profit to premium ratio were high, it would be worth a close look. But if there is less than 4% to work with, it seems likely that failure to scrutinize claims would also lead to bankruptcy. Progressives seem to think that claim denial by government experts is somehow superior to private sector denial. The principles proposed in Part 1 would go a long way toward reducing the need for close calls on what is covered
- Charges of excessive compensation abound not just in the insurance business, but in every business except for attorneys, movie stars, rock stars, athletes and super-models. Are shareholders not willing to pay lower salaries for the same talent? Why don’t they pay less? Could it be that better executives actually earn their salaries by generating more profit? Anyone who disagrees can start a new company to compete.
- Are compensation packages really lower in non-profit companies than in profit seeking companies? They probably are at the very top, but it is doubtful that below the top few executives, there are any meaningful differences. Cutting executive pay will not lower premiums significantly.
- To be fair, critics assert that the category of administrative costs is 10% to 25% of each premium dollar (excluding profits and taxes. The fact that these costs seem pretty uniform across the industry suggests that there is little fat to be trimmed here. As in the case of compensation, anyone who can be more efficient can cut premiums while increasing profits. It would be interesting to compare the overhead costs in not-for-profit or mutual insurance companies with the profit seeking behemoths.
- It is difficult to get accurate comparable costs for Medicare because government cost accounting is designed to hide the truth. Claims that creating dozens of new federal agencies and czars will cut administrative costs are highly suspect and should be scrutinized carefully.
- Reliable primary sources for data on total health care premiums and profits in the private sector are not easy to find. Here is a crack at estimating thes
- Total Annual Health Care Spending $2.5 Trillion
- Total Premiums $600 Billion
- Total Profits From Premiums $20 Billion
- Ten year economic projections, particularly without standard deviations and particularly ones made by the fool’s gold standard of economic projections, the Congressional Budget Office, deserve harsh scrutiny. It is claimed that more competition would drive down premiums. By how much? By at least enough to insure 40 million or more uninsured Americans and to pay for all the White House mandates. If ALL the profits were diverted to those 40 million people, it would provide $500 per person. That is only 5% to 10% of the amount spent per year on the average person. There are always the hypothetical administrative costs which leading progressives overestimate with abandon, but the mandates and the uninsured are going to be competing for any savings from cutting those costs.
- The most one can hope for from more competition among private companies, with or without a public competitor is to drive profit margins to zero and to save a small part of the administrative overhead. This applies to both liberal proposals to have a public option and conservative proposals to allow interstate competition. There simply isn’t enough profit for enhanced competition to make a difference.
- Anyone who thinks there are enough savings available from cutting administrative costs should be more explicit. Which costs incurred by private companies would be eliminated by a federal agency?
- One place where universal coverage is expected to lower costs is in the use of emergency rooms as a form of primary care by the uninsured. On the surface this seems like a major area to cut expenses. After all, ERs charge more than ten times as much for routine visits as private physicians and clinics. Would universal insurance change this? The math does not seem to support this. The reason the math is not there is that the argument ignores the primary cause of the high cost of emergency room visits, namely overhead. It is expensive to outfit and staff an ER at a hospital. In addition to direct costs and overhead purely due to the ER, cost accounting assigns to them a share of the overhead of the entire hospital. Even with the high prices, ERs routinely lose money according to these figures. If you have a heart attack, you depend on the hospital overhead to save your life. That is not true if you have a simple fracture or sprain or a strep throat. The overhead needed to keep the ER open for serious trauma victims covers a lot of underutilized resources that must be available 24/7. Using some of that slack to treat non-emergencies is actually a cost effective way to cover some of that overhead, and would still be so at a small premium to ordinary care. At the margin, routine care at the ER is way overpriced.
- The preceding paragraph reflects the complexity of cost accounting in medicine. How do you price an MRI? How sure does a physician have to be that the MRI will find something bad to order one? It is easy to hurl charges of defensive medicine at tort lawyers but if YOUR life or YOUR close relative’s or friend’s life is at stake, one chance in a thousand is more than enough. This is particularly true when you look at the marginal cost of a single MRI, rather than the fully amortized cost.
Going back to profits, where do the profits go today? Probably at least 75% of profits go to retirement funds and non-profit groups. Each time the private sector is cut there is less opportunity for investors to provide for their future. How do progressives plan to make up for that?