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Will Value-Based Payments Really Work?

The optimist in me is hopeful, but the economist in me is doubtful.

No one denies that fee-for-service, which rewards the quantity but not the quality or efficiency of medical care, has been the single biggest obstacle to improving healthcare delivery.  So the new goal—embraced by public and private payers alike—is a system that rewards providers for delivering superior value to patients.  The problem is that all the proposed new payment models are based on value as defined and overseen by a remote, third-party payer, not the patient.  And what matters most to payers—and particularly to government payers—is very different than what matters to patients. 

The common denominator of the scores of value-based pilot programs currently being tested is that they represent an engineering approach to the reform of a dysfunctional payment system.  They rest on the belief that a new system devised by intelligent, well-intentioned experts and implemented through a complex web of rules and regulations can be expected to work as planned.  Predictably, there’s little or no patient input into the design and administration of this type of top-down, administrative approach. 

This engineering model has been the dominant approach to socioeconomic reform in the U.S. for over three quarters of a century, from small reforms such as rent control beginning in the 1930s to major ones such as the Great Society legislation of the 1960s, immigration reform in the 1980s and welfare reform in the 1990s.  All of these reform efforts were designed and implemented by experts with the best of intentions, but the ultimate consequences turned out to be quite different from the original objectives.

The problem is that healthcare is a dynamic, complex adaptive system.  Such a system is characterized by unpredictable spontaneous order, with all kinds of unintended consequences arising from purposeful intervention.  Its day-to-day operation is far too complicated to fully understand and fine-tune for even the most well-intentioned planners.  The key to improving such a system lies in adjusting the menu of incentives facing market participants in such a way that in pursuing their individual self-interest, they also advance the common good.  And the only way to get the incentives right is for prices and quality to be freely determined by agreement between customers and suppliers, and not by the controlling hand of a central authority.  This was the central premise of Scottish economist and moral philosopher Adam Smith’s “invisible hand,” introduced in his classic An Inquiry into the Nature and Causes of the Wealth of Nations published in 1776. 

There are three major barriers, however, to a more market-oriented healthcare system.   The first is the monopoly power of providers as expressed through Scope of Practice laws.  Defense of these laws is always based on safeguarding quality—as defined by the providers, not the patients.  Their primary effect is to limit supply and restrict choice.  

The second obstacle is information asymmetry.  Providers have much more and better information than patients, which creates a significant imbalance of power in healthcare transactions.  The information in question is not about provider quality, which is gradually being addressed by public reporting.  Rather, it is about what services an individual patient actually needs in a particular situation.  No amount of public reporting can correct this; patients will always be at a severe disadvantage relative to providers in knowing what medical services they need to address their condition. 

The third barrier is the most formidable.  It is a national sense of entitlement, that healthcare is a social good and a collective responsibility, not an economic good that is an individual responsibility requiring the purchaser to make choices and trade-offs.  This is a deeply entrenched value in the rest of the developed world, and it seems to be shared by most Americans. 

The cumulative effect of these three barriers to a more market-based approach has resulted in what we have today: an increasingly regulated, centrally directed system of healthcare delivery, bound up in a complex web of administrative rules and regulations (witness the 964-page proposed rule implementing the Medicare Access and CHIP Reauthorization Act of 2015).   

If the history of major U.S. reform efforts runs true to form, the consequences of leaving patients out of the equation and placing faith in the ability of well-intentioned experts to understand and control the healthcare system, representing 18% of the U.S. economy, won’t be nearly as successful as hoped for.   If that happens, the most likely evolution will be toward capitated provider payments based on global budgets, shifting financial risk and responsibility for rationing care onto the backs of providers.  The next ten years should tell the tale.

John McCracken, PhD