Without doubt, the American healthcare system has numerous interrelated problems, but at the core none of them relate to a “market failure”, but rather to the impossibility of the market accommodating all of the market-distorting governmental interventions that have been laid on, layer by layer since the early part of the 20^th century.

The problem with prescriptions for “solving healthcare” is that they are addressed to a specific shortcoming, or a select few shortcomings, without fully addressing what is a systemic problem that all parties participate in, variously. In many if not most cases, the parties contribute to the overall problem unknowingly; they are simply responding to the incentives they are presented, without realizing the history of unintended consequences that produced those flawed incentives. Having accommodated themselves to maximizing their benefits within the existing structure, most fight vigorously to hold their ground in the “game”, while assuming that “fixing” the perceived abuses of some other “player” or players will set things right. Others may simply hope that they exit the game before it is all over. More ominously, in terms of proposing and achieving meaningful change, is the embrace by many providers and patients of the fundamental economic fallacy that somehow there really is such a thing as a free lunch, and that more government intervention is necessary to receive it.

The list of significant issues affecting the costs and complexity of healthcare are essentially these:

·         Governmental insurance programs must inevitably over-promise and under-deliver. As Milton Friedman put it, “Legislation cannot repeal the non-legislated law of demand and supply: the lower the price, the greater the quantity demanded; at a zero price, the quantity demanded becomes infinite. Some method of rationing must be substituted for price, which invariably means administrative rationing.” In more euphemistic terms, politicians get “paid” to say “Yes”; bureaucrats get paid to say “No” – to clean up after profligate politicians. Budgetary reality ultimately sets in, even when a society “decides” to limit its economic future in the interest of “free” healthcare for all. As the great Thomas Sowell says, reality is not optional. John Stossel is doing yeoman’s work in exposing Americans to the real, unacceptably low, service levels that are common under socialized medicine.

·         Recipients of government health insurance programs bear virtually no financial responsibility for any care; their major limitations have only to do with the fact that there are providers who either do not accept or limit those patients on government plans.

·         According to census figures, in 1960 the government covered 21.4 percent of personal medical care expenditures. Americans covered 55.2 percent of all the medical care out of their own pockets. Only 23.4 percent was covered by private medical insurance. In 2000, the government covered 43.3 percent of personal medical expenditures, through various programs. Only 17.2 percent of the total was out-of-pocket spending. Over the same period, total personal medical spending increased from an inflation-adjusted $111 billion in 1960 to $1130 billion (1.13 trillion) in 2000. And obviously, with 83 percent of medical care being provided by a third party, incentives for personal vigilance have largely fallen by the wayside.

·         Various state and federal coverage mandates for treatments ranging from in vitro fertilization, various behavioral healthcare treatments and providers, obesity treatment and occupational therapies drive up the overall price of policies and remove consumer choice in benefit design.

• Private health insurance is predominately an employer-provided phenomenon, since employers have been able to deduct premiums while individuals could not, itself an artifact of governmental action – specifically WW II -era wage controls that prohibited cash raises, prompting employers to provide noncash benefits, like health insurance, to attract workers. This has led to a number of consequent distortions:

• The vast majority of insured Americans are insured through their employers.
• Employees are sheltered from much of the cost for their coverage, which leads them to have unrealistic expectations and to distrust of employers who must make cost-saving plan restructures. This is abetted by the fact that the majority of rank-and-file workers who are married live in two-worker households, meaning that both spouses enjoy such prmium subsides and that many states have open programs (usually financed at deficits) which invite parents to cover their children under taxpayer subsidized programs. Employees who pay the premiums for dependent coverage have a much more realistic view of the costs, though they likely still have no clear understanding of why those costs are as high as they are.
• The coverage itself further insulates employees from financial responsibility. In the early 1990s, plans began featuring small “co-payment” fees for doctor visits and for prescription drugs, on the assumption that encouraging people to seek medical care earlier rather than later would reduce future healthcare costs. Benefits exhibited a “ratchet effect” – it was difficult to remove such features – as health insurance prices began their steep rise due to an explosion in utilization of services and in the creation of new drugs for insureds that had little regard for their cost as the result of having such “copays”. While employers have been forced to modify plans by increasing co-payment dollar amounts (to the point that in some cases the copay is a rough equivalent of the actual cost of the service), insured psychology is conditioned to the idea that copays represent a “good deal” and even higher copays seldom inhibit utilization.
• Employer-sponsored coverage features guaranteed acceptance for all employees, though there is allowance (limited by law in some states for the benefit of small employers) for insurers to base premium rates on the claims risk of the group.
• Employees who leave the shelter of an employer-sponsored program for self-employment or entrepreneurial start-ups are faced with individual risk underwriting and the possibility of either outright declination or limitation of coverage for pre-existing conditions, which can expose those of moderate means to financial ruin. Because of guaranteed acceptance into both Medicare and Medicare supplemental plans, individuals may assume that governmental insurance programs are inherently less risky, rather than recognizing the governmentally-induced distortions that cause the problems in the first place. COBRA, FMLA (Family Medical Leave Act) and HIPPA (Health Insurance Portability and Protection Act) all contain provisions that attempt to account for and close loopholes caused by the current employer-centric system, but which add their own layers of cost, as well.
• Individual employees have no direct financial incentive to reduce their claims risk through lifestyle changes under group plans, as any employee or dependent risk is diluted within the larger group, particularly with the privacy limitations under HIPPA. While risk pooling is also a necessary characteristic under individual plans, appropriate incentivization via discounts or surcharges for generally controllable characteristics (height/weight, cholesterol and/or blood pressure levels, etc.) would more directly engage consumer behavior.
• Employer-sponsored plans have only a limited capacity for individualization, resulting in over-insurance of substantial numbers of covered members.
• Widespread “rich” healthcare coverage, both private and public, has led to what Arnold Kling calls a “crisis of abundance” and “activist” medicine, based on these now culturally integrated characteristics that have arisen from the style of coverage that has emerged over the decades:

• abundant medical resources, particularly availability of specialists and diagnostic imaging technology
• high expectations on the part of patients
• strong desire on the part of doctors to meet impossibly high expectations
• fear of the consequences of not following activist procedures, in part because of malpractice litigation
• belief that for patients with insurance, no consideration needs to be given to cost

• Existing regulatory and provider licensing regimes, as well as the insured payment system as currently evolved, produce both supply and pricing distortions.

• Among the avowed reasons for the creation of the American Medical Association, and a particular focus of the noted Flexner Report of 1910, was to raise physician incomes by preferential licensing and the restriction of future medical graduates by eliminating a number of then-operating medical schools. This political power has evolved into a physician “gatekeeper” status, that includes “supervisory” billing status over other licensure categories, such as nurse practitioners (adding a layer of cost onto medical episodes that involved no physician interaction at all), and restrictions on competing provider categories, such as osteopaths, chiropractors, naturopaths and homeopaths, though some of these competitors have made inroads in recent years through their own political action.
• Further, the politically-motivated desire to expand the supply of hospitals following WWII, leading to the Hill-Burton Act, caused a spate of city and county hospital construction with the aid of Federal dollars. Later, as new providers sought to enter these same markets, the existing, and by now often under-funded city and county hospitals cried “foul.” Since those hospitals were the financial burden of the political entities that had initially sponsored them, these cries resulted in the creation of Health Planning Agencies, which would “manage” the building of new facilities in order to “rationalize” the system and “prevent over-supply” of medical resources. In effect, it allowed existing providers a say in whether they would have competitors or not. The entering competitors responded by engaging their own experts to “prove” there was unmet need in the community. However, in no circumstance did an increase in the number of competitors create downward pressure on prices, as would normally be expected in a market; rather, because the end-user bore little of the cost of the services, a new regime of healthcare marketing emerged to expand the demand for and utilization of services, all at third-party expense.
• The Medicare and Medicaid systems distort the pricing of medical care in often contradictory ways: the systems evolved from a “cost-plus” regime, under which HCFA would rubber stamp increases in costs to the current edict system (by which HCFA unilaterally sets the payment levels, with input from provider political representatives), which, while drawing complaints from providers for unfairness, nevertheless structurally sets a price floor for services, which is resistant to competitive pressures as services become obsolete or outmoded.  
• The current FDA regulatory regime has been faulted both for failing to catch issues with approved drugs and for unnecessarily delaying promising drugs. Further, the nature of the drug patent protection rules creates distortions by compressing the “payback window” for approved drugs. The FDA patent-protection “clock” starts, not when a drug is released to the market, but when it is accepted into the trial period. Delays in final approval can mean a drug company’s window for return on investment and recovery of research and development expenditures on failed drugs is less than 10 years. There is little doubt that the high costs of drugs within the payback period could be greatly reduced by readjusting the patent period, without removing incentive for the creation of new drugs. Additionally, the patent period is often manipulated by the drug companies through the creation of new dosages and deliveries of existing patent drugs, which under current law can create an extension of the protection period. 
• Medicare pricing policies created a cascade of cause and effect, with many unintended consequences.  Insurance carriers individually bargain with providers on pricing that clusters around the Medicare “target” level. Providers, beset both by the oversight costs that Medicare entails, as well as by the multiple deals that they cut with providers, set “retail” rates for their services that are fictive, serving merely as a pretext for the “discounts” they grant the payors. Only in medicine is the cash customer subject to a substantially higher price than the “credit” customer. Further, arcane federal tax provisions allow Hospitals to take charity tax deductions for the difference between what they collect and their absurd "list" prices, which can offset both losses from patients who cannot pay or supplement write-downs from contracted payment relationships. If they do collect the money, using aggressive collections techniques against patients with means and an interest in protecting their credit-worthiness, they make windfall profits. In a recent article titled “How Hospital Costs Ran Amok” (Reason Online - http://reason.com/news/show/127821.html) one such case was detailed in which a demanded $65,000 for a procedure that was reimbursed at $6000 by both Medicare and private insurance.
• Finally, the largest “aggregators” of covered lives, government and quasi-governmental Blue Cross programs, have the greatest bargaining power over providers because they can essentially “freeze out” providers that are not on their preferred provider panels. Fewer of those providers are willing to grant similar discounts to private insurance companies, and in many cases try to make up for the discounts that have been coerced by governmentally favored programs in their negotiations with private, for-profit insurers (as if by making those plans less competitive or attractive they will ultimately benefit).

·         The impact of unwarranted malpractice lawsuits, punishing providers and pharmaceutical manufacturers for the unforeseeable and unavoidable, has driven billions of dollars of costs into the system. In states such as West Virginia, tort exposure run rampant has seriously reduced the availability of both doctors and procedures available to the public, due to the extreme rise in malpractice insurance premiums.

The healthcare problems that plague us, it will be noticed, are generally the products of too much, rather than too little, government involvement. To be sure, market participants share culpability for much of this, but must be blamed for manipulating their positions through the power of government rather than through inherent flaws in the market ideal. Further, it bears repeating that many market participants inherited the distortions around which they have built their positions, and that some could expect to suffer real dislocations if the current structures were modified. It seems clear, however, that some or all these “players” will sooner or later face disruptions as or more severe if government ups its involvement in the system. A less hampered market, with government preventing rather than enabling political rent-seeking, would offer the flexibility, responsiveness and the responsibility lacking in the current structure. The above observations argue for the following recommendations to move toward arresting the long-term health cost trends faced in a changing demographic environment. They would diminish the distortions and systemic issues that hamper the current system, while creating the basis for something more fully resembling a true market in health care services:

• Dismantle government health insurance programs, while guaranteeing access to individual coverage to all Americans from available commercial carriers on a “one-shot” basis, after which they could be turned down or rated for risk (more on this below). Under an individual-purchase system, employers would be able to pay workers the money they have been spending on health insurance. Workers could then buy health insurance fitted to their own specific needs, not the bottom lines of they firms for which they work. The former beneficiaries of governmental plans would face the realities that other Americans face in having at least some financial responsibility for day-to-day medical services. Just the resultant re-design of plans along the lines of commercially available insurance programs (co-payments for doctor visits and prescriptions, deductible/coinsurance, etc. vs. the current, nearly 100% payment structure) would slice billions off the current economy-distorting government payouts. Anti-selection risk (the risk that a given company would attract more than its share of risk) would likely be offset by the voluntary creation of a severe risk pool by the market competitors, which has happened previously under similar circumstances.
• Remove the disincentives for individual coverage for employed workers.
• Eliminate deductions and exemptions for health insurance premiums and medical expenses and move completely to a universal, flat, non-income tested, advance-able, refundable income tax credit. Application of the credit could be accomplished by everyone in one of the following manners:
• Tax credit taken when filing the tax return after the conclusion of the tax year
• Tax credit advanced monthly by the employer and immediately on their payroll tax Form 941, just as the Earned Income Tax Credit is advanced.
• Individuals can assign their credit to their health insurance company who can each capture the credit on their own monthly Form 941.          

The credit would also apply to those who cannot afford health insurance under other circumstances by turning it into a voucher so that they can buy private health insurance. Such income-based vouchers would be self-enforcing since recipients could spend them only on health insurance and health care. The vouchers could easily be paid for by reprogramming a percentage of the funds now spent on government programs like Medicaid and the State Children's Health Insurance Programs (SCHIP). (the author thanks Art Jeter, past President of the National Association of Health Underwriters for this elegant solution)

• Guarantee the issuance of individual plans, on a one-shot basis, to anyone who had been insured under group arrangements during the year prior to the time of application (a national open enrollment period akin to that for the ill-considered Medicare drug benefit program), subject to stipulations based on prior coverage level.   Plan design considerations would be determined by the participating carriers in the markets they serve. The new regulatory regime (further discussed below) would allow a far greater variety of plan design and structure, both due to reduced mandates, including cross-state sales as well as the opportunity to tailor coverage levels by procedure-based payment levels (Usual, Customary and Reasonable – UCR).
• Fully pool premiums (ie: no individual risk surcharges, except for controllable variables, for example, height/weight, smoking – up to 25-50%), with adjustments allowed for differing plan design performance and local and regional pricing data and controllable risk factors. Individual discounts could be applied for voluntary screening for favorable (or reduced) cholesterol, height/weight profile, blood pressure, etc. (perhaps in combination). This would create the incentive for surcharged insureds to make lifestyle changes that would reduce their premium loads. To the charge that healthier individuals would not be properly incentivized under this arrangement, consider that the same system operates in the automobile insurance industry. Good driver discounts apply, and low-risk drivers are also free to up their deductibles, thus lowering their premiums.
• Allow purchase across state lines, leading to greater price and benefit-design competition among carriers
• Provide incentives for “consumer-driven” plan structures – plans which explicitly prohibit copayments other than for preventative care, and which require high front-end deductibles before benefits are paid – through continuance of the tax incentives on the savings and additional tax incentives on the premiums only for HSA-eligible plans (such as a 1.25 rule – 125% premium credit on taxes for qualifying High Deductible Health Plans [HDHPs]). For non-taxpayers, the premium credit incentive could be paid as a direct payment.
• Allow the removal of special interest-driven coverage mandates and allow the restriction of coverage to medically necessary treatment of illness, and to consensus “best practice” levels – in other words, eliminate the political lobbying of patients and providers from the design of plans. Patients would be free to self-pay for additional treatment services, or to purchase “Cadillac” plans or special riders, if they were available.
• Restructure FDA regulations (voters being unlikely to favor simply disbanding the agency in favor of private services on the order of UL Laboratories or Consumers Digest-type agencies) to accomplish two purposes:
• to change the current incentives to manipulate the patent period, possibly by starting the patent “clock” at the time of full FDA approval, instead of the current policy of starting the patent period at the point of acceptance for testing. Concurrently, eliminate the opportunity to extend the patent period through the introduction of “dosage modifiers” – for example, sustained-release versions of the base drug. Further, new applications of a drug would not extend the patent period.
• To allow individuals to use promising drugs in the approval pipeline, while holding the drug manufacturer harmless for adverse affects.

• Mandate price transparency from providers – remove the myriad of existing, organization-specific Preferred Provider arrangements, though it is entirely likely that providers would create their own incentive discounts for prompt and accurate payers.  Removing current negotiated arrangements is the only means to facilitate the purchase of coverage across state lines, which is currently prevented not only by regulation, but also because an Ohio-based plan will currently be tied to negotiated rates with Ohio-based physicians and is not much use to someone in Arizona, where the plan has no discounts negotiated.   This will require insurance plans to revert to their former “usual, customary and reasonable” (UCR) statistically-based payment limits, which limit plan payments to the average charges for a given procedure in a given geographic area at a given “credibility” level (ie: the 60^th percentile UCR would reflect maximum charge levels that would correspond to 60 percent of the providers in a community – meaning that 40 percent of doctors or facilities might charge more than the maximum). UCR maximums would also be available to the insured to allow them to inform providers of their competitive position. Prospective insureds can then shop for plans which correspond to their needs/desires, using consumer tools that are arising even now in the same vein as those for any other consumer product.  An additional major cost savings by-product of such a system is the simplification of provider paperwork loads.
• In a transparent, price-conscious healthcare market, coupled with the capabilities of an information-age consumer, we can expect a proliferation of tools for price and return-on-investment comparisons to emerge in short order. The infrastructure is in place; it simply awaits the data that is currently hidden under contract-based pricing structures. A consumer could see how a given provider’s pricing related to their insurance contract’s maximum payment levels, while differentially comparing case complexity and outcomes. 
• Modify insurance regulations to allow recognition of new healthcare productivity enhancements, from nurse-based convenient care clinics to cost-saving technological solutions, such as telemedicine.
• Remove regulations which amount to provider monopoly privileges:
• Rescind health planning regulations and agencies, including CON (Certificate of Need)
• Remove AMA control of medical school certifications and actual or passive admittance quotas
• Remove M.D. “oversight” (including billing monopolies, where they exist) for adjunct professionals (NPTs as an example)
• Discourage frivolous and predatory malpractice and liability lawsuits by a modified “loser pays” system. Rather than making patients alone responsible for fees should they lose their suits, the plaintiff and their attorneys should bear the expense equally. This inversely corresponds to the “pay on award” system that tort lawyers have used to attract clients and encourage lawsuits.

The idea that “government got us in; now government must get us out” can surely be seen as flawed by the litany of accretive errors pointed out above. Government, often acting at the behest of various interested parties, can hardly be expected to compromise its way out of our current mess. A better slogan would be, “government got us in; government should let us out. In an environment where government fulfills its appropriate role, rather than picking winners, we can expect to see the free-market characteristics of competition, creativity and responsibility demonstrated. To envision such a future, we need only look to the value trajectory of such uninsured services as vision correction and cosmetic surgeries. Such services show level or even declining prices over time, due to the elasticity of demand – providers are likely to want to expand their market by lowering prices as their investment costs are sunk.

Is it realistic to expect such a prudent course in the face of the “sound-bite” world of message manipulation engaged in by any who see themselves disadvantaged by real reform? Maybe and maybe not. It is time for free-market thinkers to craft their own set of sound-bites and commit themselves to their dissemination, and healthcare would be an ideal place to start, given its current prominence. If we take up the task, at the very least the problems, their root causes and needed reforms will actually have been given a complete airing.