Healthcare Spending: Have We Reached a Tipping Point?

Last week, the Centers for Medicare & Medicaid Services (CMS) released its report on National Health Expenditures (NHE) for 2017. The highlights were:

  • Total national spending on healthcare in 2017 hit $3.492 trillion, an increase of 3.9% over 2016 and the slowest annual rate of growth since 2013. 

  • As a percentage of gross domestic product (GDP), spending was down slightly from 18% in 2016 to 17.9% in 2017.

  • Per capita spending hit its highest level yet, at $10,739 per person.

  • The government’s share of total spending remained unchanged at 45%: federal (28%) and state and local governments (17%).

  • Medicare now accounts for 20% of NHE. On a per enrollee basis, spending increased 1.7% though total enrollment increased 2.5%. A major reason: two of three of Medicare’s 59 million enrollees are covered by traditional Medicare fee-for-service (FFS), spending for these increased at 1.4% as more enrollees elected to use a private Medicare Advantage plan. Total spending in Medicare Advantage (MA) plans increased 10% due primarily to enrollment growth (+8%).

  • The three biggest sectors accounting for 63% of total healthcare spending saw a slowdown: hospitals (33% of total spending, up 4.6% vs. +5.6% in ‘16); physician and clinical services (20% of total spending, up 4.2% vs.’16); prescription drugs (10% of total spending, up 0.4% vs.+2.3% in ’16).

  • Health spending by households grew at a rate of 3.8% vs. 4.8% in 2016 “largely due to a deceleration in out-of-pocket spending”.  Out-of-pocket expenditures, the largest category of household spending (37%), increased 2.6% in 2017 compared to growth of 4.4% in 2016.  “Despite the slower growth in 2017, households represented 28% of health care spending, a share that has remained unchanged since 2014.”

No doubt, this report might prompt some to conclude that the health spending spiral is slowing. CMS had originally projected the 2017 increase to be 4.2% in February so the slowdown came as a surprise to many. And it’s even more surprising when considering the 3.49% medical inflation rate last year that drove up what we pay for each unit of service consumed i.e. a prescription, an outpatient test, an over-the-counter medication et al.

But is the 3.9% spending increase last year an anomaly? Many, including the federal government, think that’s the case. The Congressional Budget Office projects NHE will increase at 5.5% annually until 2026. That means healthcare spending will be 19.7% of total GDP. Individuals and households will pay almost 30% of the total tab directly in the form of insurance premiums, out of pocket co-pays, deductibles, and more. That also means government insurance plans will cover almost 60% of our total population as enrollment in Medicare, Medicaid, CHIP, Military Health, Indian Health, Veterans Health, et al increase and private coverage shrinks. That means funding for healthcare will increasingly be controlled by elected officials and a political process that’s dysfunctional and voters who are not-well-informed.

I’ve studied healthcare spending for 40 years. I’ve had a front row seat as hospital boards grapple with new technologies and programs to remain competitive. I’ve participated in insurer efforts to link payments to providers with clinical results and savings. I’ve advised entrepreneurs and investors where opportunities to improve the efficiency of the system remain strong. And I have experienced the system as a patient, and enrollee.

My conclusion: in spite of the spending slowdown last year, U.S. healthcare is at a tipping point due to its spending habits, the inadequacy of current solutions, and the public’s growing discontent. 

Spending in healthcare is a habit that’s hard to break: The spending in our system is well documented; at CMS.gov, every nickel spent in “U.S. healthcare” back to 1960 is available. But what’s not included are public health and social services programs that support lower income and disadvantaged populations who access the health system on an ad-hoc basis when they need care.

Programs like the Supplemental Nutrition Assistance Program (SNAP) which services 44 million and many others impact the health status of these populations, but they’re not included in these health spending calculations. Spending for public health, preventive health and primary care is under-funded in our system, and spending in specialty settings, prescription drugs absorbs more than it should. Not surprisingly, the former are more lucrative than the latter for investors, but that’s changing. Private investments in managed Medicaid, primary care business models and a new breed of insurance plans that lean heavily on tight primary care capitation are shifting the focus.

Healthcare spending habits are like eating habits: we all know what we should eat more of and less of, but we are unwilling to change what we eat. Spending habits are hard to break, especially in healthcare.

Current solutions to control spending are inadequate: The current cadre of solutions are directionally appropriate but may be too little too late.

Current Solutions to Control Spending But…
Replacement of fee for service payments to providers with alternative payment models that reward efficiency and effectiveness Most hospitals and physicians still develop their plans and budgets based on volume. Discounted fee-for-service is still their mainstay.
Incentives for private insurers to offer cheaper policies and expanded enrollment Regulation of insurance offerings, premiums increases, network design requirements remain volatile. 
Expansion of coverage via Medicaid expansion, reduced regulatory oversight of private plans and subsidies for the uninsured The insurance market is price-driven: consumers and employers buy what’s affordable to them and insurers offer increasingly “customized” coverage. But 10% lack coverage of any kind, 27% have a pre-existing condition that they think threatens their coverage and two-thirds worry about surprise bills.
Prescription drug pricing pressures via increased generic competition, reduced prices paid by Medicare/Medicaid (ISL pricing formula, blame and shame), court challenges to price gauging, et al The administration’s efforts to control prescription drug costs are gaining momentum but the public’s demand for precision medicines and costs for specialty drugs offer no easy remedies. Price controls are politically risky and a non-starter.
Promotion of consumer-directed healthcare via price transparency, access to individual insurance products, and expansion of outpatient and retail health options Consumers are increasingly price sensitive and brand-focused in their healthcare purchasing behavior. Digital health investments are increasing as employers and insurers use solutions to intensify consumerism. And retail clinics, freestanding EDs, urgent care clinics et al are gaining market acceptance. But B2C healthcare is distant.

There’s a flurry of activity in these areas, but the industry is slow to change. Its most notable response has been consolidation to achieve scale and hedge industry and economic uncertainty. But consolidation is also complicit with higher spending; studies show market concentration among insurers, hospitals and bio-pharma has two impacts: the bigger entities invest in infrastructure, innovation and market expansion activities above levels prior to their consolidation, and their operating costs increase. That’s spending!

Healthcare solutions, whether sponsored by the government or introduced by innovators outside the industry, must slow total spending to no more than the rate of GDP growth plus 1% for the rest of our economy to remain healthy.

The public’s worried: The public’s trust in the system is eroding because its costs seem excessive and its spending habit is not understood. 80% of Americans say the total cost of healthcare in their biggest concern about the U.S. system (Gallup November 2018) with enrollees on Medicaid/Medicare significantly less concerned than other cohorts. 69% believe Congress should act to limit hospital consolidation, and 36% think it should act to protect independent physicians against hospital employment as a way to slow costs. (YouGov.com August 2018 survey of 1191 adults). And 59% think “Medicare for All” might be the solution though they don’t have a clue what that might mean (Kaiser Family Foundation).

What’s ahead?

In November, officials from HHS and the Departments of Labor and Treasury, released a 119-page report in response to an Executive Order from President Trump (October 17, 2017) that outlined four areas whereby the private U.S. health system could remain competitive: workforce, providers, insurers and consumers. Its 50 recommendations included no new strategies, they protect a private health system and are sure to encourage competition. But will they result in healthcare spending that’s manageable? Academics and economists espouse a direct correlation between competition and price pressures, but does that apply in healthcare?

The reality is this: healthcare spending is the issue, not competition. If increased competition results in lower spending levels, then that’s good news for purchasers and users of the system. If it adds to the spending spiral, it is zero sum game. And many factors contribute to the spending spiral: some controllable by the players in the system and many outside their control.

Companies like Amazon, Apple, Boeing, Walmart and others do not accept 3.9% spending growth as good news. They see it as a clear sign the system is prone to spending habits that protect the interests of its payers, providers and suppliers and discount all others. That’s why venture funding in early stage healthcare companies is up 50% this year alone (Pitchbook) and private equity is making huge bets on deals that offer new ways of delivering and financing health services. 

That’s why the 3.9% healthcare spending increase for 2017 over 2016 is the tipping point. It’s a habit many think needs to be broken.

Paul