Health Care Costs: Market Forces and Reform

May 1, 1995
Oncology, ONCOLOGY Vol 9 No 5, Volume 9, Issue 5

After much anticipation regarding health care reform, 1994 ended without passage of any national legislation. The debate will probably resurface in the new Congress, since the issues and concerns surrounding the U.S. health care system still exist.

After much anticipation regarding health care reform, 1994 endedwithout passage of any national legislation. The debate will probablyresurface in the new Congress, since the issues and concerns surroundingthe U.S. health care system still exist. However, it is unlikelythat the discussion will be framed with the same sense of urgencyas in 1994. Furthermore, results of last November's electionssuggest a considerably reduced probability that health care reformwill entail a total overhaul of the system. Nevertheless, someaction can be expected at the national and state levels on issuessuch as pre-existing conditions and the accessibility of healthinsurance. Although some form of universal coverage may continueto be viewed as a goal, the time span for its achievement willlikely be lengthened.

Despite the absence of major health legislation at the nationallevel, the delivery and financing of U.S. health care have undergone,and will continue to undergo, modifications. Similar to the patternof recent years, much of the change will continue to be initiatedat the state level. While quality of care remains a major elementof the debate, cost has been the major driving force behind manyof the changes.

The desire to control sharply rising costs appears to have steeredthe U.S. health care system in the direction of managed care.Recent trends suggest that enrollment in health maintenance organizations(HMOs) for 1994 is close to 50 million, with market penetrationapproaching 20% [1]. Although surveys differ as to the estimatedlevel of enrollment, they are consistent in pointing to significantgrowth in recent years. Existing and prospective competition haveprecipitated a consolidation within the various industries thatencompass the health care system. Barring any dramatic shift incourse, these market forces are expected to intensify during theremainder of the 1990s.

National Health Expenditures

Many of the cost issues and other concerns over health care inthis country led to a focus on the level and growth of nationalhealth expenditures. The latest estimates from the Health CareFinancing Administration (HCFA) put 1993 health care expendituresat $884.2 billion, representing an increase of 7.8% over spendingin 1992 [2]. This was the slowest growth rate recorded by nationalhealth expenditures since 1986. As shown in the Figure 1,total health care spending is projected to exceed $1 trillionin 1995. The annual growth rate for the 1990 to 1995 period isexpected to average 8%, compared to 9.9% for the previous 5 years.

According to Health Care Financing Administration data, spendingon personal health care totaled $782.5 billion in 1993, an increaseof 7.2% over the prior year. Table 1 shows a breakdown by typeof expenditure and source of payment. Hospital care and physicians'services combined accounted for more than three-fifths of personalhealth expenditures. In the past, the relatively low out-of-pocketshare for these categories has been singled out as a main causefor the sharp increase in expenditures. Although this share remainslow for both categories, especially hospital care, each showedrelatively slow growth in 1993. Among the various categories,home health care continues to display the fastest growth, by far,while "other professional services" continues to recordabove-average growth.

Although the growth rate for health care spending has slowed inrecent years, it remains above that of the overall economy. Nationalhealth expenditures were equivalent to 13.9% of Gross DomesticProduct (GDP) in 1993. Current estimates for 1995 put the ratioof national health expenditures to GDP at 14.3%. Just 5 yearsprior, spending on health care represented 12.6% of the goodsand services produced in the United States, with the ratio 10years ago at 10.8% [3].

The rising share of resources being channeled into US health care,as evidenced by this ratio, remains one of the focal points ofthe ongoing debate in the United States. The extent of the healthcare claim on resources is even more apparent when viewed in acontext of marginal analysis, ie, looking at incremental changes[4]. The $70 billion increase in national health expendituresprojected for 1995 represents 18% of the expected dollar increasein Gross Domestic Product. Thus, despite a discernible slowingin spending on health care, still almost one-fifth of new economicresources in 1995 will be devoted to this category of spending.

International Comparisons

International comparisons have also played a central role in thequestions regarding resource utilization and health care in theUnited States. The latest data from the Organization for EconomicCooperation and Development (OECD) [3] show US health care spendingat a significantly above-average percentage of gross domesticproduct. In addition to the current relatively high share of grossdomestic product, the data show that during the 1985 to 1992 period,the United States exhibited a larger increase in the share comparedto other major industrial countries. Interestingly, Canada, whosesingle-payer system has been touted as a possible model for theUnited States, came in second in terms of both relative shareand growth since 1985.

Medical Care Inflation

Clearly, one of the most notable developments regarding healthcare costs has been the dramatic slowing in medical care inflationas measured in the Consumer Price Index (CPI), which measuresprice changes for a specific "market basket" of consumergoods and services. The difference in importance among variousitems between the medical care CPI and health insurance plansexplains, in large part, why cost experiences have shown gainssubstantially greater than the medical Consumer Price Index. Otherfactors include technology advances, higher utilization, and therise in catastrophic cases.

Although disagreement over some of the technical aspects of theConsumer Price Index persist, the deceleration in the medicalcare component of the CPI has been too significant to be dismissed.As indicated in Table 2, the increase for 1994 is estimated atjust 4.8%-the smallest increase since 1973. This result followeda gain of 5.9% in 1993, and was substantially below our forecastof a year ago [5].

Much of the difference from the projection was reflected in asharp slowing among hospital and related services. The categoriesin this grouping, ie, rooms, inpatient services, and outpatientservices, are displaying their slowest price increases since themid-1980s-a period when prospective payment and diagnostic relatedgroups were adopted into Medicare. Physicians' services also contributedto the lower-than-expected rise in the medical care componentof the Consumer Price Index for 1994.

While some of the slowing in the medical care CPI can be attributedto a lower level of general inflation, a significant narrowingof the gap between the two suggests the presence of factors specificto medical care. Projections for 1995 show the gap narrowing further,despite a slight increase in medical care inflation.

Regional Perspectives

Although the health care issue is viewed nationally, many of thedevelopments regarding health care are transpiring at the regionallevel. State health expenditure data prepared by the Health CareFinancing Administration reveal significant regional variations[6]. According to the data supplied by the HCFA in 1993, New Englandhas the highest spending relative to the country as a whole, withthe Rocky Mountain states at the other end of the scale. The fastestgrowth for the period was recorded in the southeast, at 10.3%annually, followed by New England and the mid-eastern states.The far west, at 8.2%, exhibited the slowest growth. Not surprisingly,the high-cost, high-growth regions were the same as those withan above-average proportion of the population aged 65 and older.The Plains states were an exception. Although showing the largestproportion of older residents, their spending and growth wereabout average.

Changing Landscape

The factors that differentiate health care from other parts ofthe economy have been widely discussed: consumers do not pay directlyfor a large proportion of expenditures; suppliers are intricatelyinvolved in the demand decisions; technology advancements increasedemand and, in many instances, do not improve productivity.

Despite these attributes, health care is not immune to marketforces and the laws of economics. Although much of the industryremains on a nonprofit basis, cost pressures are significantlyinfluencing behavior. Mergers and acquisitions have become commonplace,as firms jockey for position in the new environment.

Summary and Conclusions

The cry for health care reform has diminished somewhat. Nevertheless,more changes are forthcoming. For the foreseeable future, healthcare will demand a rising share of resources. Earlier estimatesput the proportion of health expenditures to Gross Domestic Productat almost 17% by the year 2000.

Although there is no magic number regarding this proportion, itsrelative level in the United States strongly suggests that changesneed to take place. It would appear that the population prefersthat changes be instituted through the private sector, and notthrough extensive government involvement and regulation.


1. Group Health Association of America: Patterns in HMO Enrollment:1994. Group Health Association of America, Washington, DC, 1994.

2. Levit KR, Sensenig AL, Cowan CA, et al: National health expenditures,1993. Health Care Financing Review 16(1):251-298, 1994.

3. Schieber GJ, Poullier JP, Greenwald LM: Health system performancein Organization for Economic Cooperation and Development countries,1980-1992. Health Affairs 100-112, Fall 1994.

4. Vincenzino JV: Developments in medical care costs: An update.Statistical Bulletin 74(1):29-35, 1993.

5. Vincenzino JV: Developments in health care costs-An update.Statistical Bulletin 75(1):30-35, 1994.

6. Levit KR, Lazenby HC, Cowan CA, et al: Health spending by state:New estimates for policy making. Health Affairs 7-26, Fall 1993.

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