Episode 071: Why That Medical Bill is Crazy Expensive

1. Hospital Charges: Hospitals are encouraged to inflate their posted charges even though they have no expectation of collecting them because of a payment system known as Disproportionate Share Hospital Charges. Hospitals routinely contract with insurance companies for much lower payments for services which are sometimes less than 10% of posted charges. The reason is that the uncollected amounts the hospital will then claim as uncompensated care, ie, care for the indigent or charity care. This program funnels billions of dollars into hospitals nationwide (in 2017 it was $17.1 Billion).
2. Insurance Charges: One would expect that insurance companies would balk at these massively inflated charges but they don't because they too benefit from large posted prices even when they contract for lower prices with the hospitals. Oftentimes, a percentage of the insurance's business is a bounty they receive from employers for providing "savings". This means that in an inflated charge where they pay only 10% they count the 90% as a savings to the employer who will then turn around and pay an extra amount to the insurance company. For this reason, so long as the insurance company can get good contract rates it is in its best interest to have larger and larger posted charges.
3. Health Professional Fees: Similar to the insurance companies, health professionals (physicians, laboratories, physical therapists, etc.) have reasons to inflate their charges beyond what they can expect to receive. This is because small insurance carriers occasionally pay a per cent of charges rather than a set fee for certain services like Medicare/Medicaid. Therefore, the higher the charges, the greater the revenue (55% of $100 is bigger than 55% of $50).
4. Pharmaceuticals: Finally, pharmaceuticals are expensive because they rely on pharmacy benefit managers (PBMs) to get on hospital and pharmacy formularies (which are then used for insurance companies). These PBMs are very concentrated and hold a lot of leverage in getting drugs to the physicians and hospitals so the manufacturers of the drugs cut "rebates" to the PBMs in order to make it onto the formularies. Unfortunately, these rebates rarely make it back to the insurance companies or patients to allow for smaller premiums. Instead, the PBMs pocket these percentage rebates and use them to help their bottom lines. It also creates a perverse incentive for the PBMs to have expensive drugs when cheaper alternatives might be available. An example is that a 50% rebate on a $1000 drug yields the PBM $500 profit where an equally effective drug priced at $200 would only give them $100.

It's important to note that medical care is not solely expensive because of these four factors and there are a lot of things which make care so expensive. This is simply an example of the four most common reasons our bills are so inflated and the contribution to the high prices in health care is due to so many more distortions in the market. To learn more about why health care is so expensive, continue tuning into the Paradocs where we discover together the problems and some innovative solutions people are discovering to provide high quality, low cost care.