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Health Administration Press
Health Policy Issues: An Economic Perspective

Health Policy Issues: An Economic Perspective

by Paul Feldstein
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Healthcare affects the lives of most Americans and absorbs a large portion of the United States’ resources. It also is continually debated, prompting ongoing legislative changes and market restructuring. One of the best ways to understand healthcare, in all its complexity, is from an economic perspective—that is, from the perspective of the financial self-interest of all involved parties.
Health Policy Issues: An Economic Perspective takes just such an approach. Renowned author Paul J. Feldstein describes the forces that press for change in healthcare and explains why the US health system has evolved to its current state. This book’s 38 concise, issue-oriented chapters cover various aspects of the US health system, including the cost of medical care, health insurance, Medicare and Medicaid, physician and nursing shortages, medical school admittance, malpractice reform, prescription drugs, and more. Throughout, the book integrates information about the most significant health policy enacted in many years—the Affordable Care Act (ACA). Discussion questions, key points, and further readings round out every chapter.
Thoroughly revised and updated with current data and research findings, this seventh edition includes new and expanded content on the Medicare Access and CHIP Reauthorization Act, physician malpractice reform, employee health benefits, generic drug shortages, political versus economic markets, and much more. The updated content includes three new chapters:
“Should Profits in Healthcare Be Prohibited?” discusses the role of profits and the consequences of eliminating profit.“Health Associations and the Political Marketplace” focuses on the types of legislation demanded by different health associations and explores the economic self-interest of each association’s members and policy preferences.“The Affordable Care Act: Did It Achieve Its Goals?” examines one of the most important objectives of the ACA—to reduce the number of uninsured Americans—and complements the ACA coverage throughout the book.
For 25 years, Health Policy Issues: An Economic Perspective has been highly regarded in the field of health policy. By illuminating the intersection of economics and policy, this topical book helps readers gain a better understanding of the ever-changing and multifaceted healthcare delivery system.

Product Details

ISBN-13: 9781640550100
Publisher: Health Administration Press
Publication date: 11/28/2018
Series: AUPHA/HAP Book Series
Edition description: None
Pages: 708
Product dimensions: 7.30(w) x 10.20(h) x 1.60(d)

About the Author

Paul J. Feldstein, PhD,, has been a professor and the Robert Gumbiner Chair in Health Care Management in the Paul Merage School of Business at the University of California, Irvine, since 1987. Prior to Irvine, he was a professor at the University of Michigan in both the Department of Economics and the School of Public Health. In addition, he served as the director of the Division of Research at the American Hospital Association. Dr. Feldstein has written seven books, used widely in classrooms across the country, and more than 70 articles on healthcare, health economics, and health policy. He received his PhD from the University of Chicago.

Books published by Health Administration Press:

Health Policy Issues: An Economic Perspective, Seventh Edition

Read an Excerpt



The rapid growth of medical expenditures since 1965 is as familiar as the increasing percentage of US gross domestic product (GDP) devoted to medical care. Less known are the reasons for this continual increase. The purpose of this introductory chapter is threefold: (1) to provide a historical perspective on the medical sector; (2) to explain the rise of medical expenditures in an economic context; and (3) to set forth criteria for evaluating the Patient Protection and Affordable Care Act (ACA), which has been the most significant healthcare legislation since Medicare and Medicaid.

Before Medicare and Medicaid

Until 1965, spending in the medical sector was predominantly private — 80 percent of all expenditures were paid by individuals out of pocket or by private health insurance on their behalf. The remaining expenditures (20 percent) were paid by the federal government (8 percent) and the states (12 percent) (see exhibit 1.1). Personal medical expenditures totaled $35 billion and accounted for approximately 6 percent of GDP — that is, six cents of every dollar spent went to medical services.

Two important trends are the increasing role of government in financing medical services and the declining portion of expenditures paid out of pocket by the public. As shown in exhibit 1.1, the government paid 47.8 percent of total medical expenditures in 2016; the federal share was 38.6 percent and the states contributed 9.2 percent. Meanwhile, the private share dropped to 52.2 percent (from 79.5 percent in 1965); of that amount, 12.4 percent was paid out of pocket (from 52.4 percent in 1965).

The Greater Role of Government in Healthcare

Medicare and Medicaid were enacted in 1965, dramatically expanding the role of government in financing medical care. Medicare, which covers the aged, initially consisted of two of its current four parts — Part A and Part B. Part A is for hospital care and is financed by a separate (Medicare) payroll tax on the working population. Part B covers physicians' services and is financed by federal taxes (currently 75 percent) and by a premium paid by the aged (25 percent). Medicare Part C and Part D have since been added. Part C is a managed care option, and Part D is a prescription drug benefit — financed 75 percent by the federal government and 25 percent by the aged. Parts B, C, and D are all voluntary programs.

Medicaid is for the categorically or medically needy, including the indigent aged and families with dependent children who receive cash assistance. Each state administers its own program, and the federal government pays, on average, more than half of the costs. The ACA, enacted in 2010 and implemented in 2014, expanded Medicaid eligibility from 100 to 138 percent of the federal poverty level (FPL). The federal government reimburses states that choose to expand Medicaid for up to 90 percent of their costs for the newly eligible enrollees.

The rapid increase in total national health expenditures (NHE) is illustrated in exhibit 1.2, which shows spending on the different components of medical services over time. Since 2000, NHE per capita has risen from $4,884 to $10,365. During this time frame, hospital care and physician and clinical services — the two largest components of medical expenditures — surged from $416 billion to $1.083 trillion and from $291 billion to $665 billion, respectively. These data indicate the enormous amount of US resources flowing into healthcare.

In 2016, $3.338 trillion (or 17.9 percent of GDP) was spent on medical care in the United States. From 2000 to 2016, these expenditures climbed by about 9 percent per year. Since peaking in the early part of the decade, the annual rate of increase in NHE has been declining, although it remains above the rate of inflation. These expenditures continue to rise as a percentage of GDP.

The Relationship Between NHE and GDP

The growth in medical expenditures over time can be illustrated by comparing the rate of increase in NHE per capita to the rate of change in GDP per capita. (To show the relationship between the two series more clearly, a five-year moving average of the rates of change is used.) If NHE per capita is rising faster than GDP per capita, the former is becoming a larger share of GDP. If the two series are moving together, then changes in the economy and health spending are closely related. Exhibit 1.3 shows the relationship between the two series from 1965 to 2016.

The only major divergence between NHE per capita and GDP per capita began in the mid-1990s. Medical expenditures increased at a slower rate because of the growth of managed care (which emphasized utilization management) and price competition among providers participating in managed care provider networks. By the end of the 1990s, managed care's cost-containment approaches lost support because of public dissatisfaction with managed care's restrictions on access to specialists, lawsuits against managed care organizations (MCOs) for denial of care, government legislation, and a tight labor market that led employers to offer their employees more health plan choices. As a result, medical expenditures rose at a more rapid rate.

The decline in the annual NHE rate increase from about 2008 to 2013 (exhibit 1.3) can be attributed to the Great Recession, slow economic recovery, high unemployment levels, a large number of uninsured, a decrease in the number of employers paying for employee health insurance, and the rapid spread of high-deductible health plans (Fuchs 2013).

NHE is likely to rise at a slightly faster rate in the coming years as the economy continues to recover; more baby boomers become eligible for Medicare; new technology and specialty drugs that improve the quality of life (but are higher in cost) are developed; and increased demand occurs as a result of the ACA's Medicaid eligibility expansion and subsidies for low-income enrollees on health insurance exchanges.

By 2025, federal, state, and local governments are expected to increase their share of total NHE, which is expected to reach $2.6 trillion (almost doubling from $1.5 trillion in 2016) and to consume an even greater portion of GDP (19.9 percent) (Centers for Medicare & Medicaid Services 2017c, table 16). Exhibit 1.4 shows where healthcare dollars come from and how they are distributed among different types of healthcare providers.

Changing Patient and Provider Incentives

Medical expenditures equal the prices of services provided multiplied by the quantity of services provided. The rise of expenditures can be explained by looking at the factors that prompt medical prices and quantities to change. In a market system, the prices and output of goods and services are determined by the interaction of buyers (the demand side) and sellers (the supply side). We can analyze price and output changes by examining how various interventions change the behavior of buyers and sellers. One such intervention was Medicare, which lowered the out-of-pocket price the aged had to pay for medical care. The demand for hospital and physician services went up dramatically after Medicare was enacted, spurring rapid price increases. Similarly, government payments on behalf of the poor under Medicaid stimulated demand for medical services among this population. Greater demand for services multiplied by higher prices for those services equals greater total expenditures.

Prices also go up when the costs of providing services increase. For example, to attract more nurses to care for the higher number of aged patients, hospitals raised nurses' wages and then passed this increase on to payers in the form of more expensive services. Increased demand for care multiplied by higher costs of care equals greater expenditures.

While the government was subsidizing the demands of the aged and the poor, the demand for medical services by the employed population also was increasing. The growth of private health insurance during the late 1960s and 1970s was stimulated by income growth, high marginal (federal) income tax rates (up to 70 percent), and the high inflation rate in the economy. The high inflation rate threatened to push many people into higher marginal tax brackets. If an employee were pushed into a 50 percent marginal income tax bracket, half of his salary in that bracket would go to taxes. Instead of having that additional income taxed at 50 percent, employees often chose to have the employer spend those same dollars, before tax, on more comprehensive health insurance. Thus, employees could receive the full value of their raise, albeit in healthcare benefits. This tax subsidy for employer-paid health insurance stimulated the demand for medical services in the private sector and further boosted medical prices.

Demand increased most rapidly for medical services covered by government and private health insurance. As of 2016, only 3 percent of hospital care and 8.9 percent of physician services were paid out of pocket by the patient; the remainder was paid by a third party (Centers for Medicare & Medicaid Services 2017b). Patients had little incentive to be concerned about the price of a service when they were not responsible for paying a significant portion of the price. As the out-of-pocket price declined, the use of services increased.

The aged — who represent almost 16 percent of the population and use more medical services than any other age group — accounted for 35.4 percent of all hospital stays as of 2015 (Agency for Healthcare Research and Quality 2017). Use of physician services by the aged (Medicare), the poor (Medicaid), and those covered by tax-exempt employer-paid insurance also increased as patients became less concerned about the cost of their care. Historically, advances in medical technology have been another factor stimulating the demand for medical treatment. New methods of diagnosis and treatment were developed; those with previously untreatable diseases gained access to technology that offered the hope of recovery. New medical devices (e.g., imaging equipment) were introduced, and new treatments (e.g., organ transplantations) became available. New diseases (e.g., AIDS) also increased demand on the medical system. Reduced out-of-pocket costs and increased third-party payments (both public and private) — in addition to an aging population, new technologies, and new diseases — drove up prices and the quantity of medical services provided.

Providers (hospitals and physicians) responded to the increased demand for care, but the way they responded unnecessarily increased the cost of providing medical services. After Medicare was enacted, hospitals had few incentives to be efficient because Medicare reimbursed hospitals their costs plus 2 percent for serving Medicare patients. Hospitals, predominantly not-for-profit, consequently expanded their capacity, invested in the latest technology, and duplicated facilities and services offered by nearby hospitals. Hospital prices rose faster than the prices of any other medical service.

Similarly, physicians had little cause for concern over hospital costs. Physicians, who were paid on a fee-for-service basis, wanted their hospitals to have the latest equipment so they would not have to refer patients elsewhere (and possibly lose them). They would hospitalize patients for diagnostic workups and keep them in the hospital longer than necessary because it was less costly for patients covered by hospital insurance, and physicians would be sure to receive reimbursement. Outpatient services, which were less costly than hospital care, initially were not covered by third-party payers.

In addition to the lack of incentives for patients to be concerned with the cost of their care and the similar lack of incentives for providers to supply that care efficiently, the federal government imposed restrictions on the delivery of services that increased enrollees' medical costs. Under Medicare and Medicaid, the government ruled that insurers must give enrollees free choice of provider. Insurers such as health maintenance organizations (HMOs) that precluded enrollees from choosing any physician in the community were violating the free choice of provider rule and, thus, were ineligible to receive capitation payments from the government. Instead, HMOs were paid fee-for-service, reducing their incentive to reduce the total costs of treating a patient. Numerous state restrictions on HMOs, such as prohibiting them from advertising, requiring HMOs to be not-for-profit (thereby limiting their access to capital), and requiring HMOs to be controlled by physicians, further inhibited their development. By imposing these restrictions on alternative delivery systems, however, the government reduced competition for Medicare and Medicaid patients, forgoing an opportunity to reduce government payments for Medicare and Medicaid services.

The effects of higher demand, limited patient and provider incentives to search for lower-cost approaches, and restrictions on the delivery of medical services were escalating prices, increasing use of services, and resulting in greater medical expenditures.

Government Response to Rising Costs

As expenditures under Medicare and Medicaid increased, the federal government faced limited options: (1) raise the Medicare payroll tax and income taxes on the working population to continue funding these programs; (2) require the aged to pay higher premiums for Medicare, and increase their deductibles and copayments; or (3) reduce payments to hospitals and physicians. Each of these approaches would cost successive administrations and Congress political support from some constituents, such as employees, the aged, and healthcare providers. The least politically costly options appeared to be number 1 (increase taxes on employees) and number 3 (reduce payments to hospitals and physicians). The aged have the highest voting participation rate of any age group, as well as the political support of their children, who are relieved of the financial responsibility to pay their parents' medical expenses.

Federal and state governments used additional regulatory approaches to control these rapidly rising expenditures. Medicare utilization review programs were instituted, and controls were placed on hospital investments in new facilities and equipment. These government controls proved ineffective as hospital expenditures continued to escalate through the 1970s. The federal government then limited physician fee increases under Medicare and Medicaid; as a consequence, many physicians refused to participate in these programs, reducing access to care for the aged and the poor. As a result of providers' refusal to participate in Medicare, many Medicare patients had to pay higher out-of-pocket fees to be seen by physicians.

In 1979, President Carter's highest domestic priority was to enact limits on Medicare hospital cost increases; a Congress controlled by his own political party defeated him.

The 1980s

By the beginning of the 1980s, political consensus was lacking on what should be done to control Medicare hospital and physician expenditures, and private health expenditures also continued to rise. By the mid-1980s, however, legislative changes and other events imposed heavy cost-containment pressures on Medicare, Medicaid, and the private sector.

Legislative and Government Changes

President Nixon wanted a health program that would not increase federal expenditures. The result was the Health Maintenance Organization Act of 1973, which legitimized HMOs and removed restrictive state laws impeding the development of federally approved HMOs. However, many HMOs decided not to seek federal qualification because imposed restrictions, such as having to offer more costly benefits, would have caused their premiums to be too high to be competitive with traditional health insurers' premiums. These restrictions were removed by the late 1970s, and the growth of HMOs began in the early 1980s.

To achieve savings in Medicaid, the Reagan Administration removed the free-choice-of-provider rule in 1981, enabling states to enroll their Medicaid populations in closed provider panels. As a result, states were permitted to negotiate capitation payments with HMOs for care of Medicaid patients. The free choice rule continued for the aged; however, in the mid-1980s, Medicare patients were permitted to voluntarily join HMOs. The federal government agreed to pay HMOs a capitated amount for enrolling Medicare patients, but less than 10 percent of the aged voluntarily participated. (As of 2016, 34 percent of the 48 million aged were enrolled in Medicare HMOs, referred to as Medicare Advantage plans [Centers for Medicare & Medicaid Services 2017a].)


Excerpted from "Health Policy Issues"
by .
Copyright © 2019 Foundation of the American College of Healthcare Executives.
Excerpted by permission of Health Administration Press.
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.

Table of Contents

List of Exhibits,
Chapter 1. The Rise of Medical Expenditures,
Chapter 2. How Much Should We Spend on Medical Care?,
Chapter 3. Do More Medical Expenditures Produce Better Health?,
Chapter 4. In Whose Interest Does the Physician Act?,
Chapter 5. Rationing Medical Services,
Chapter 6. How Much Health Insurance Should Everyone Have?,
Chapter 7. Why Are Those Who Most Need Health Insurance Least Able to Buy It?,
Chapter 8. Medicare,
Chapter 9. Medicaid,
Chapter 10. How Does Medicare Pay Physicians?,
Chapter 11. The Impending Shortage of Physicians,
Chapter 12. Why Is Getting into Medical School So Difficult?,
Chapter 13. The Changing Practice of Medicine,
Chapter 14. Physician Malpractice Reform,
Chapter 15. Do Nonprofit Hospitals Behave Differently Than For-Profit Hospitals?,
Chapter 16. Competition Among Hospitals: Does It Raise or Lower Costs?,
Chapter 17. The Future Role of Hospitals,
Chapter 18. Cost Shifting,
Chapter 19. Can Price Controls Limit Medical Expenditure Increases?,
Chapter 20. The Evolution of Managed Care,
Chapter 21. Has Competition Been Tried—and Has It Failed — to Improve the US Healthcare System?,
Chapter 22. Comparative Effectiveness Research,
Chapter 23. Who Bears the Cost of Employee Health Benefits?,
Chapter 24. Will a Shortage of Registered Nurses Reoccur?,
Chapter 25. The High Price of Prescription Drugs,
Chapter 26. Ensuring Safety and Efficacy of New Drugs: Too Much of a Good Thing?,
Chapter 27. Why Are Prescription Drugs Less Expensive Overseas?,
Chapter 28. The Pharmaceutical Industry: A Public Policy Dilemma,
Chapter 29. Should Kidneys and Other Organs Be Bought and Sold?,
Chapter 30. Should Profits in Healthcare Be Prohibited?,
Chapter 31. The Role of Government in Medical Care,
Chapter 32. Health Associations and the Political Marketplace,
Chapter 33. Medical Research, Medical Education, Alcohol Consumption, and Pollution: Who Should Pay?,
Chapter 34. The Canadian Healthcare System,
Chapter 35. Employer-Mandated National Health Insurance,
Chapter 36. National Health Insurance: Which Approach and Why?,
Chapter 37. Financing Long-Term Care,
Chapter 38. The Affordable Care Act: Did It Achieve Its Goals?,
About the Author,

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