For a few weeks now, I’ve been meaning to write about CBO’s recent work on controlling health care costs, and this morning it was an article in the New York Times by Gina Kolata and Andrew Pollack (I think to appear in the Sunday paper) that reminded me.
CBO Director Peter Orszag has recently testified on the problem of rising health costs and the best policy strategies for pushing back on that trend (or as Peter puts it, “bending the growth curve”). On his Director’s blog he summarized that (my emphasis added):
- The single most important factor influencing the federal government’s long-term fiscal balance is the rate of growth in health care costs, caused largely by rising health care costs per beneficiary.
- The significant geographic variation in per capita health care spending across the United States suggests substantial inefficiencies in health care today and an opportunity for reducing health costs without adversely affecting health outcomes.
- These inefficiencies are perpetuated, in part, by a lack of clarity as to what insurance costs and who ultimately pays those costs– especially with regard to employer-provided health insurance.
- Providing more information on the “comparative effectiveness” of alternative medical treatments, and changing financial incentives that encourage providers to engage in expensive treatments and procedures may help shift professional norms to improve efficiency and restrain cost growth.
- Increased transparency with regard to specific medical services may not lead to reduced health care expenditures, however, because consumers generally don’t make independent decisions about what services to purchase from whom, particularly in an emergency. In addition, many health care markets are relatively concentrated, and in those settings, increased price transparency may lead to higher, rather than lower, prices for specific services by facilitating collusion among providers.
I would add that even without the third-party payment problem (which obscures the true cost of health care from the suppliers and demanders of that health care), and even when consumers are making their own, “independent decisions” about their health care purchases based on really good, objective information on the benefits and costs of various forms of health care, there would remain a big reason why demand for certain types of health care, and hence the market prices for such care, would be irrationally high. That is that people cannot dispassionately, objectively, make rational economic choices–weighing costs against benefits–when it comes to life-and-death decisions.
I think that a family making decisions about health care spending, particularly end-of-life health care spending, is a lot like a parent making decisions about spending money on their children towards activities that might be considered “investments” in their kids (music lessons, sports training, braces, SAT prep classes, etc.). Instead of following economic theory and consuming the amounts of these goods and services that equate marginal benefit to marginal cost (thereby maximizing net benefit), parents tend to go through the following calculus… Question 1: Is there any reason to believe there’s any chance of some positive benefit to this activity, however small or uncertain–i.e., is MB>0? Question 2: Can I somehow afford it–i.e., does buying it fit in my budget constraint?…
To think any other way than this “irrational” way–i.e., to think more “rationally” like an economist, comparing (equating) the marginal benefit to the marginal cost (stopping oneself from consuming any more of these services once the benefit seemed low relative to the cost), would seem immoral–or at best a big time shirking of parental duty. Because if you are a parent, you want to feel like you’ve done everything you could have to give your kids the best life possible; you don’t want to think that your being “cheap” caused your child’s life to end up falling just short of their “potential.” (I have done a lot of informal polling on this issue with many fellow parents, including usually-rational economist parents, so I know this phenomenon to be true.)
The New York Times article highlights this phenomenon as it applies to health care spending (more specifically the demand for prescription drugs), in its story on the costly cancer drug, Avastin. Here are some relevant passages:
If Avastin were inexpensive or if it cured cancer or even held it at bay, as the drug Gleevec does for blood cancer, few might care. But like a half-dozen or so new biotechnology drugs with a similar combination — alluring promise, high price and only arguable benefits — Avastin raises troubling questions:
What does it mean to say an expensive drug works? Is slowing the growth of tumors enough if life is not significantly prolonged or improved? How much evidence must there be before billions of dollars are spent on a drug? Who decides? When, if ever, should cost come into the equation?
For a patient like Ms. Reeh, fighting for her life, the cost is not the main concern. If her insurer did not pay, she said, she would go into debt, find a way to raise the money.
But some in the pharmaceutical industry worry that such prices will raise concerns about whether the drugs are worth it, leading to a backlash like price controls or restrictions on use.
Roy Vagelos, a former chief executive of Merck who is considered an elder statesman of the industry, said in a recent speech that he was troubled by a drug, which he would not name but which was a clear reference to Avastin, that costs $50,000 a year and adds four months of life. “There is a shocking disparity between value and price,” he said, “and it’s not sustainable.”
The problem is largely one of cost.
The drug’s price, as charged by Genentech, can be $4,000 to more than $9,000 a month, depending on a patient’s weight and the type of cancer. Avastin’s cost to patients and insurers can be much higher, though, because doctors and hospitals buy the drug and then sell it to patients or their insurers, often marking up the price. So the $2.3 billion that Genentech recorded in sales of Avastin represents only part of what Americans spent on the drug last year.
Medicare requires that the doctor or hospital buying Avastin be paid an amount equal to Genentech’s average selling price plus a markup of 5 to 6 percent. Of that amount, Medicare pays 80 percent and the patient pays 20 percent. Doctors and hospitals typically do not make much money on Avastin for Medicare patients, and can even lose money if they buy the drug at a price that is higher than average. But patients can end up paying thousands of dollars a month. Some have supplemental insurance to take care of it; others do not.
Other countries have different views about whether Avastin is worth its price. An institute that advises the British government on which drugs to pay for recommended against it, saying that the drug was not cost effective based on its cost per year of life extended.
In the United States, Genentech argues that it puts patients first, with free drugs for those who have no way to pay for them and donations to charities that can help with payments. It also capped the price for a year’s supply of Avastin at $55,000 (not counting markups by doctors and hospitals) for patients with incomes of less than $100,000 a year.
But progress against cancer has a price, the company says.
“The quest is to eliminate the disease,” Arthur D. Levinson, Genentech’s chief executive, said at an annual investor meeting. “And, yes, there is going to be a cost to that.”
Dr. Winer says that when he is not sitting in front of a patient, he thinks about whether drugs like Avastin are worth it to society. But when facing a seriously ill patient, who, based on clinical trial results, might benefit — even if only a little — from Avastin along with chemotherapy, he has to think about his patient’s needs.
“I can’t say, ‘Let’s not use Avastin; it’s a very expensive drug and I am worried about the cost to society,’ ” Dr. Winer said.
And so, Dr. Winer said, the answer you get when you ask whether drugs like Avastin are worth it very much depends on whom you ask.
“A person who hasn’t been affected by cancer will say, ‘Gee, why should we pay for an expensive treatment that doesn’t extend life when we have other needs?’ ” Dr. Winer said.
A person like Ms. Reeh will have a different response. She does not want to give up Avastin.
Ms. Reeh says she knows her cancer may very well kill her eventually. But what is it worth to feel better again?
“It’s really about living and not waiting to die,” she said.
And what if 5 percent of Avastin patients live a lot longer than they would have without the drug?
“I might be in that 5 percent,” she said.
The other way to think of our irrational consumption when it comes to our health care and our children might be that we do think about equating marginal benefit to marginal cost, but the marginal benefit of these things is perceived as close to infinite–whether it’s because when you have very few days left, each day is worth so much more (take any positive number and divide by a number that approaches zero), or because when you’re spending on your children you feel as if you’re effectively facing an “infinite horizon.”
In any case, there’s plenty of reason to believe that even without markets distorted by third-party payments or government subsidies, there would be plenty of people in the free marketplace who would have virtually unlimited demand for such services (and the means to afford it), so there’s plenty of reason to believe that things like cancer drugs and SAT prep tutoring will remain very expensive.