Philadelphia Reflections

The musings of a physician who has served the community for over six decades

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Impact of Financing on Medical Technology. Pennsylvania Medicine July 1983

What financing has done to technology is far more upsetting than anything technology ever did to financing. We have here a classic collision of viewpoints. The medical world each thinks the other is getting in its hair, and each thinks it o more important than the other: "I may need you to be able to eat, but you need me to stay alive." Detente would seem to be the wisest policy for both.

Let's begin an exploration of peace terms with several random illustrations, In 1950, I was acquainted with Dr. John Gibbon of Philadelphia, who is given main credit for developing the heart-lung machine. I was able to see the water pump and the boxes of screening, wire and plastic hoses from which it was constructed. The work of developing it was enormous, but the machine looked pretty rickety. I remember thinking the whole project wasn't going to amount to much. In another basement of Jefferson Medical College at the same time, one of the prototypical nuclear scanners was developed. Across town at the University of Pennsylvania, Mauchly and Eckert had just built the world's first computer, financed by barrels of government money a war effort. Because of that cost, Time magazine predicted a probable maximum world market of four machines.

Perceptions obviously have changed in the intervening 30 years. Today, the cost of heart operations and nuclear scanners is a problem worthy of convening invitational conferences, whereas. the cost of computers has declined so dramatically that I own three of them with greater power and reliability than ENIAC.

What moral do these experiences teach us: that technology destroys budgets, or that technology becomes drastically cheaper and more available? A third possible moral is that technology responds primarily to the signals society sends or the incentives society creates. Money, as the common measures of value in society, is the telegraph by which society sends its signals. A fourth moral is no we don't want to believe: that pouring money into something makes it immediately harder to get. The best way to make something universally available may be to leave its price alone.

The Price of Technology Instead of leaving the price of technology alone, we created service benefit, cost-reimbursed health insurance during the Great Depression of the 1930s. On the whole, that experience seems successful. Later, we used post-war wealth and exuberance to provide service-benefits, cost-reimbursed health insurance to those who could not afford the premiums and finance it federally. At the time, the difference was thought to be only a matter of quantity or degree, but the 1965 programs actually invoked an entirely new principle without our recognizing it.

The Blue Cross principle of the 1930s stimulated medical demand by encouraging the "moral hazard" of all insurance; that it makes benefits seem free, hence stimulates profligate usage. What was new about the 1965 programs was unlimited medical demand invading the budget of the federal government, the only entity that can print money to cover deficits. Since we obviously cannot fine-tune health care to synchronize with the business cycle, an inherently inflationary stimulus was placed where it would do most damage whenever the business cycle pointed up.

Indeed, as the cost of medical care was driven upward by nearly unlimited demand, an old stimulus began to get into gear. During the 1930s, the spread of the then-novel prepaid health insurance idea was encouraged by the Internal Revenue Service, which took the remarkable position that an employer paying for health insurance premiums on behalf of a salaried employee was not providing in-kind income or making a gift.

Accordingly, the IRS allowed this financial transaction to be treated as a business expense for the maintenance of a business asset, the good health of employees. This tax loophole encouraged the enlargement of health insurance benefits into what amounts to tax-sheltered income, thus spreading the moral hazard of insurance to new segments of the health field, creating a clamor from other groups (even chiropractors) that they had been excluded unfairly from this Santa Claus largess.

At least one union negotiated more benefit money than there existed I any insurance policy for the money to buy. It reacted to that discovery by demanding that the insurance company create something to use it up. In recent years, such stimulated expansion of benefits has been at least as large a factor in the escalation of health insurance premium as the inflation of units costs of preexisting benefit areas.

The healthcare industry quietly makes rude noises at hearing other industries complain that their international competitive position has deteriorated because of escalating fringe benefit costs. (If those noises have not been load, it is time they got louder.)

During a typical conversation at the bargaining table, the union would ask for a dollar an hour more management would respond by offering 50 cents, plus 30 cents in fringe benefits. That package was as good as a dollar to the union and only cost management 80 cents. The other 20 cents was hidden subsidy of our export prices, of a type we so bitterly criticize in the French and the Japanese. And it ultimately came from the Bureau of Printing and Engraving.

All of the financial pressure pushed up medical prices, particularly hospital prices, and eventually was transmitted through Medicaid and Medicare to the Treasury bond market. If you like inflation, you must love hospital cost reimbursement and tax-exempt fringe benefits.

Efforts at cost control

In 1965, the American Medical Association told the country what was going to happen and was thoroughly vilified for its trouble. There are plenty of doctors still around who were active in the 1965 Medicare battle, and you can easily learn they did not take their position because they were blind to the economic benefits that inevitably would flow to doctors but because they recognized that programs of such stripe inevitably provoke regulatory cost controls.

More than others, doctors live their lives close to the unlimited health care demand of public seeking immortality. Furthermore, as doctors generally are self-employed, they usually share the viewpoint of business owners rather than salaried employees (including those with six-digit salaries plus 24 percent in fringe benefits).

The provoked reaction was not long in coming. When cost overruns immediately appeared, Lyndon Johnson requested a control system in 1967, although the country felt the program had not been given a chance. Richard Nixon imposed wage and price controls in 1972, but they were brief and merely inspired a determination by hospitals to put on fat for the coming winter, usually in the form of depreciable construction projects.

Then Jimmy Carter, with the help of Joseph Califano, unsuccessfully attempted to obtain enactment of a hospital cost containment program patterned after what laughingly was called the experimental programs of Maryland and New Jersey. Today, we are seeing the emergence of sponsorship of the Reagan Administration.

Thed DRG system

New regulations outlining the DRG (Diagnostic Related Group) concept provides that a hospital cannot be reimbursed a total gross amount per case greater than what becomes defined as its peer group. Regardless of gross costs per case, each hospital's year-to-year increase in cost per diagnosis also will be limited.

Since the Standard Nomenclature of Disease and Operations makes theoretical provision for 900,000 diagnoses, and the International Classification of Disease consolidates them into 10,000 fairly common ones, you can be sure that the 480 payment limitation categories to be used under the new reimbursement system will lead to instant chaos. When the outcome is in our favor, we'll remain quiet. When the outcome is adverse. we'll point angrily to the obvious scientific distortion.

The principle for beating the DRG system is really quite simple. If you are going to be paid the same amount of money for simple cases as for complicated ones, find ways to get rid of the complicated cases. That's little tough on the patient with a complicated illness, but business is business. A hospital can't do any good for anybody if it goes bankrupt.

The best solution is to refer complicated cases to centers with more up-to-date specialists than you have. New Jersey is an excellent place for a pilot study of this game plan because complicated cases in North Jersey traditionally have gone to New York City, and in South Jersey, to Philadelphia. Because of employment patterns, such cases not only disappear from New Jersey hospital statistics, they often are covered by out-of-state insurance plans.

The general outline of this system can be seen clearly in the Canadian health system. Being paid the same amount to do a vaccinates as to treat a case of jaundice, the Canadian general practitioner vaccinates like crazy and refers the jaundice to an internist, who refers the case to a gastroenterologist, who refers it to a liver specialist, who, having no one to refer it to, emigrates to the United States. This incentive system takes a profession in which a doctor who receives referrals from colleagues traditionally has been the best in the field, and converts it into a profession in which the doctor who accepts referrals is an idiot.

Perhaps you begin to see why the medical profession in its collision with the financing world sees itself as more sinned against than sinning, and why in 1965 the doctors were willing to forego the certainty of more income rather than witness the soiling of their mission.

A classical error

Hospitals have made a classical error in the way they have used the premier technology, the computer. I pointed out earlier that the meteoric fall in the cost of general purpose computers sharply contrasts with the rising cost of scanners and heart-lung machines, and suggested as an explanation the different ways their use was financed during the past 35 years. If that explanation is to have force, it ought to demonstrate a unique use of computers in hospitals, compared with more overtly entrepreneurial industries.

Almost every industry has its horror stories about computers. However, the financial industries (such as banking and insurance) have more to be proud of in their adoption of computer technology than hospitals do, despite the common estimation that 40 percent of the cost of running a hospital is consumed by information management. A considerable number of hospitals have been spending more than $1 million per year on their computer departments for more than a few years.

Yet, in general, bank computers seem to work pretty well while hospital computers struggle along. What hospital could claim to have exploited computers in the way that Merrill Lynch has done with the cash management account?

I contend that money and numbers are at the heart of the financial business, so if computers are employed to facilitate money and numbers, the bank, insurance company, or brokerage house will prosper. But the practice of medicine is at the heart of a hospital, so if hospital computers are used primarily to facilitate money and numbers, the outcome may be a misdirected mess.

Hospital computer systems should be designed from the inside out, starting with the main mission of the organization, and not from the outside in, starting with the payroll. It is difficult to imagine an organizational philosophy more in conflict with the practice of medicine than batch processing.

The inexpensive silicone chip has made it possible for doctors to get their hands on the computers, and you can expect the history computing to be quite different in the next 10 years from what it was in the era when the machines were too valuable to waste on medical care. As Humpty Dumpty said to Alice in Wonderland, "The question is: who is to be master, that's all."

Technology as measurement

So technology is really a way of measuring organization and incentives, just as money is a way of measuring value and achievement. It isn't good and it isn't bad; it isn't a problem and it isn't a solution. Let me continue with the example of general purpose computers.

Philadelphia is little miffed that, although it nurtured the creation of the general purpose computer, von Neumann gets most of the credit for it and IBM of New York, not Univac of Pennsylvania, gets most of the money from it. The lack of acclaim for Mauchly and Eckert can be set down to traditional Philadelphia distaste for the cult of personality and is a small matter. But in this city, money is another thing entirely.

What happened? Among other things, marketing, management, and luck. I have been told, however, that a central feature of the brilliant marketing of successive computer generations has been synchronization of those generations with the depreciation cycles of the one ones.

The purchaser of a computer has to have enough money to buy it, and he gets that money by depreciating his old one. When it can be predicted that his old machine is fully depreciated, he is ready to be told that a new generation has just emerged from the research department is told to cool it.

I know of at least one purchaser who put in an advance order for a multimillion-dollar machine before it was announced, feeling certain that it was time for a new generation to appear. The announcement actually appeared within a month of his prediction.

IBM's competitors often rushed to announce breathtaking scientific breakthroughs, only to find themselves with a great news release but without production capacity or customers with cash. With a more hard-nosed attitude toward the business of technology, IBM could anticipate years in advance when it was going to be producing and marketing a new generation, even though management had only a hazy idea of what the machine would look like.

Things occasionally work the other way, too, as in the famous story of the introduction of the 360 lines of computers at a time when the software operating system didn't work. While the sales staff sold thousands of 360s, 1,700 programmers were sweating in Poughkeepsie, trying to make it rule. They did get it running and the gamble proved to be one of the most successful in the history of corporate endeavor.

The point is that what was driving the computer industry was not programming, electronics, or genius; it was the tax code defining the depreciation cycle. Just as what is driving the medical industry now is the reimbursement system.

The incentive approach

My advice from the world of technology to the world of finance is if you want technology to be less of a problem, there are some things you can do. You can give up your fringe-benefit tax loophole, for example. Self-employed people like me won't miss it, you can be sure. And you can give up cradle-to-the-grave first dollar coverage and assignment of benefits. You can start to make overt payment for teaching, research, and charity instead of forcing the medical system to bury these costs in the cost of sickness. And you can encourage the state and local governments to shoulder their proper load, instead of dumping it on Washington.

Some of my colleagues worry that I may encourage you to kill the goose that laid the golden egg. While I think cost reimbursement (retrospective or prospective) laid an egg all right, I don't think doctors need to worry much. Sooner or later the realization is going to dawn that there is only one really effective way to reduce hospitalization costs. That is to choke down all the class warfare talk about physician income and offer to pay doctors a higher incentive fee to perform the same service in a less expensive setting.

When you want someone to do something that will save you money, the traditional approach has been to offer to split the savings with him. There are other ways of persuading people to do what you want, of course, including scolding and threatening them. But until the incentive approach is tried and found to fail, it will be reasonable to suppose that people really aren't serious about the matter. After all, it was the incentives in the system that made technology whatever it is today, and it will be incentives that make it whatever it becomes tomorrow.

Originally published: Tuesday, November 27, 2018; most-recently modified: Tuesday, May 21, 2019