Two Visions for Health Reform

How can the federal government encourage low-cost, high-quality medical care?

There are basically two approaches: a bottom-up, market-based approach and a top-down command-and-control approach:

  • The former is based on competition, markets and economic incentives; the latter is based on rules, regulations, fines and penalties.
  • The former gets the economic incentives right for all of the individuals in the system, but does not try to dictate or even predict the final outcome; the latter decides in advance what the end result should look like and tries to free people to achieve it, even if it is not in their self interest to do so.
  • The former pleads ignorance about how medicine should be practiced — letting that be determined by competition in the marketplace; the latter decides in advance how medicine should be practiced and tries to impose it from above.
  • The former depends for its success on the intelligence, creativity and innovative ability of thousands of doctors, nurses and hospital personnel; the latter depends for its success on a small group of experts having all the right answers.

In the bottom-up world, 778,000 doctors, 2.6 million registered nurses and thousands of hospital and facilities personnel get up every morning and ask themselves, “How can I make costs lower and quality higher today?” In the top-down world, all of those people get up every morning and ask, “How can I squeeze even another dollar out of the third-party reimbursement formulas?”

Of these two approaches, which do you think the Obama administration is following? I’ll give you a minute to decide, then check your answer below the fold…tick,…tick,…tick, …tick,…

Searching for what works:
“I’ve Been Everywhere”

Ah, just as I thought. You didn’t need a minute. After all, if the words “competition,” “entrepreneurship” and “innovation” are not even in your vocabulary, you are unlikely to stumble upon a bottom-up approach, even if you are picking policies randomly.

Bottom-Up Health Economics. What does this concept mean? At a minimum it means that everyone on the provider side is encouraged to repackage and reprice his services in cost-reducing, quality-increasing ways.

Almost all third-party payment is based on impersonal formulas. To the providers, these formulas appear immutable and unchanging. Economic self interest encourages them to find ways to manipulate the formulas and maximize net revenue against them. A bottom-up approach, by contrast, encourages every doctor, hospital, facility, etc. to propose new formulas — different ways of being paid. The parameters are: (1) the total cost to the third-party payer cannot go up; (2) the quality of care cannot go down; and (3) there must be some reasonable way of determining whether restrictions (1) and (2) have been satisfied.

[Note: The third requirement will become hopelessly complicated and insidiously undermining if the green eyeshades at the Office of Management and Budget (OMB) are the arbiters. These folks have no incentive whatsoever to take risks or approve new ideas. The decision-making process, therefore, must be business-like, not OMB-like.]

Case Study: Hospital Readmissions. About one in every five hospitalized Medicare patients is readmitted for a problem related to the cause of the initial surgery. These readmissions are not only costly, they are also life-threatening.

Now consider Geisinger Health System in central Pennsylvania. Not only has this organization made a valiant effort to reduce readmissions, it has a 90-day warranty on heart surgery, similar to the type of warranties found in consumer product markets. If the patient returns with complications during that period, Geisinger promises to provide treatment without sending the patient or the insurer another bill. Unfortunately, Geisinger incurs financial losses under this practice, even as it saves money for Medicare. This is because health care organizations like Geisinger are paid more when patients have complications that lead to more visits, more tests and more readmissions. (Most hospitals make money on their mistakes!) As a result, no other hospital has a financial incentive to follow in Geisinger’s footsteps.

Now, if the federal government was following a bottom-up approach to health reform it would turn these financial incentives around. It would offer to pay Geisinger more for the initial surgery in return for the warranty. (Say it offers 50 cents for every $1 it judges that the warranty saves Medicare.) Then it would communicate what it had done to every other hospital in the country. The message: Medicare is willing to pay you in a different way if you can reduce Medicare’s overall costs and raise quality at the same time.

Hospitals could copy what Geisinger does. Or they could try other approaches. In no time, hospitals would be competing with each other in an effort to make money by lowering Medicare’s costs.

Top-Down Health Economics. Barack Obama has repeatedly told us his vision of health reform. It’s almost word-for-word the same as his vision of education reform. To wit: Let’s find out what works and then go implement it. Never mind that we have been unsuccessfully trying that approach in education for a quarter of a century. If you don’t believe in markets or competition or entrepreneurship, there really is nothing left to do. [Although to be fair, this was also the health care approach of the Bush administration.]

Instead of encouraging thousands of Geisinger-like experiments all over the country, Medicare bureaucrats in Washington have decided on their own how medicine should be practiced. For example, the federal government has identified 10 readmission conditions that it won’t pay for, including catheter-associated urinary tract infection and stage III-IV pressure ulcers. How much has Medicare saved with this tactic? Less than $19 million in 2009. That’s less than 1/300 of 1% of all Medicare spending that year.

Why We Don’t Need More Pilot Programs. The Affordable Care Act is making millions of dollars available for pilot programs and demonstration projects. Every single one of these is the product of the top-down mentality. They are all based on the search for “what works.” But this is both pointless and unnecessary. We already know what works. Examples of high-quality, low-cost medicine have been studied over and over. What we don’t know (and what no pilot program is trying to find out) is how to replicate what works. Moreover, we may never find out how to replicate excellence. That may be unknowable.

Studies by researchers at the Dartmouth Institute for Health Policy and Clinical Practice imply that if everyone in America went to the Mayo Clinic for health care, the nation could reduce its annual health care bill by one-fourth. If everyone went to Intermountain Healthcare in Salt Lake City, the nation could reduce its health care spending by one-third. Studies by Dartmouth and the National Center for Policy Analysis imply that if every region of the country practiced medicine the way the most “efficient” or low-cost regions do, we could meet Medicare spending by one-third to one-fourth of its current level.

But of course, every patient can’t go to the Mayo Clinic. And no one knows how to replicate Mayo everywhere else. Nor is there any reason to think we should try. A study of 10 high-rated hospital regions by researchers associated with the Brookings Institution could find no objective characteristics that could be reliably copied by others. Some employed doctors on staff. Some paid fee-for-service. Some had electronic medical records. Some did not.

Going Forward. How difficult could it be for Medicare to start rewarding excellence? Suppose we shave 1% off of every Medicare hospital payment in the country and use the savings to reward hospitals that provide superior outcomes. One recent study found that the best hospitals have about one-third fewer deaths and one-fifth lower costs for trauma patients. Why not pay these hospitals 10% more than Medicare’s normal rate just to get the ball rolling? This invites all the other hospitals to propose ways of changing their payment formulas.

Note: We should not tell the hospitals what we will and won’t pay for [top-down]. We should invite the hospitals to make more money by telling us how they can reduce costs and increase quality [bottom-up], understanding that every single one of them may do something different.

Comments (27)

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  1. Vicki says:

    Great Johnny Cash song.

  2. Ken says:

    Great post.

  3. Devon Herrick says:

    Health policy wonks and pundits often talk about how health care is different than other markets. Supposedly, medicine is so complex that no market could ever provide goods and services without the central planning that (supposedly) creates value.

    I’m struck by the notion that Walmart is able to purchase hundreds of thousands of goods from around the world, transport, stock and sell them at far-flung stores at a profit with minimal spoilage — all using a workforce that has few other job opportunities.

    That is a complex operation. If Walmart can figure out how to do all that at a price moderate-income families can afford; then health care entrepreneurs can figure out better ways to provide high-quality, efficient medicine.

  4. Jeff says:

    You’re right. I did not need a minute to guess which approach Obama was taking.

  5. Nancy says:

    Very nicely laid out and explained. I don’t see how anyone could disagree with you.

  6. Mike Ainslie says:

    It is time to put a market back in health care. Do we have any states trying a true free market approach? I know of none. We’ve had a command and control approach for so long no can even think of giving back control of their own health and money to patients. Any takers?

  7. Ernest Wilder says:

    John, I have been in healthcare/insurance since 1965; during that time I have witnessed each and every government approach to controlling health care costs in the US. You would think that by now they would get the answer: only via individual efforts maximizing the cost-reduction programs available to that respective medical center will true costs, not cost-shifting, occur. Medical malpractice reform along with the ability to market medical insurance in all states by individual carriers will also enhance the potential cost savings necessary to prevent the bankruptcy of our healthcare system. It is definitely not in the wisdom of the US Government.

  8. Thomas Saving says:

    You neglected to mention the most important component of the market based approach, the 300 million customers who would force the 778,000 doctors, 2.6 million registered nurses and thousands of hospital and facilities personnel get up every morning and ask themselves, “How can I make costs lower and quality higher today?

  9. John Goodman says:

    @ Mike Ainslie

    There is very little that states can do on their own. They can repeal their own silly laws, of course, and that would be good. But federal policies overwhelmingly determine how medical markets actually function.

    @ Ernest Wilder

    If you don’t believe in incentives or markets or entrepreneurship or competition, then the only policy options left open to you are top-down rules and regulations.

    @ Tom Saving

    You are absolutely correct. Thanks for the comment.

  10. Paul Hogan says:

    Hi John,
    Interesting you used the “bottom-up” term. That is how we built Home Instead Senior Care. We marketed our services to those in direct contact with seniors not the C-Suite of large facilities. Now we are saving hospitals lots of money. Professor Lichtenburg of Columbia Univ. has recently uncovered that hosptitals may have saved as much as $25 billion in 2008 alone as a result of the growth in home care. It was the social workers that understood from the “bottom up”. I can send you the study.
    As always you are doing a great job.
    All my best.
    Paul Hogan

  11. Erik says:

    Health care should be a command and control based market. You are dealing with people’s precdious lives.

    Here is what occurs in a market based medical facility:

  12. Pat Reed says:

    Congrats on being #2 most read article on Health Affairs Blog- (for February) Looked up Timothy Jost’s (#1) on the subject- how do you answer his opinion “Advocated of CDHC believe that if consumers are spending their own money on medical care, they will purchase only services with real value…(he) contends “they” rely on oversimplified ideas about health care, healthcare systems, economics and human nature.”? Others suggest “limitations” are necessary. What does the Guru think?!

  13. John Goodman says:

    @ Paul Hogan

    Thanks for the kudos, Paul. Please send the study.

    @ Erik

    The link you gave us is to a doctor being invesitgated. You call his place of work a “market-based” facility. Erik, are you not aware that government completely determines who can practice medicine and who can’t? That government is the sole regulator and monitor of physician quality? Ordinary citizens can’t even get information about the qualifications of doctors.

    @ Pat Reed

    Well, Pat I would suggest that nobody cares about you more than you care about you. So if you retain the power to make your own decisions and you control the money, the system is likely to work better for you than if you cede that power to a large impersonal bureacracy.

    If Tim Jost wants to surrender to an HMO, let’s allow him to do that and “say a little prayer for him.”

    Thanks for the kudos.

  14. George says:

    Thank you, John,
    Another perspective to consider: “Healthcare” (with or without space or hyphen) is a new (past 40 years) social construction by persons whose strategy can only be command and control. Political, financial, and industrial “healthcare stakeholders” convene to intermediate the doctor-patient relationship by monetizing the value, consolidating the derivative transactions, and aggregating in organizations and institutions that are too big to fail (as in ACOs). That’s the drill, and it has very little to do with what medical professionals do in caring for individuals. An alternative could be a medical model; but that would take a fundamental course correction of (as you have suggested) freeing both patients and doctors from their commanders and controllers.

  15. Greg Scandlen says:

    I’m not convinced that “hospital readmissions” are much of a problem. It smacks of another statistics-driven invention. If I were laying in the hospital and had a chance to go home for a couple of weeks, I would take it, even if it meant going back to the hospital if I took a turn for the worse.

    What would be gained by forcing me to stay in the hospital for those two weeks?

    Not every hospital admission results in a “cure.” Sometimes there is a long period of convalescence that may or may not work out well. Requiring people to stay hospital-bound until they die or are cured is cruel and inefficient.

  16. Jim Morrison says:

    Why do you continually describe healthcare options in absolutely black or white choices? I’ve never seen you acknowledge the emotional component that drives the decisions of patients and family members; these are rarely determined by economics. How about the distortions that arise from the pressures of Wall Street? And do you know many specialists who, having studied for years and incurred hefty debts, get up every morning and try to determine how they can reduce their prices?

  17. John Goodman says:

    @ George

    I think I agree with you. Are you saying that all this is about money, not health care? Yes. You are right.

    @ Greg Scandlen

    Readmissions are a problem if the hospital causes the readmission because they screw up. What Geisenger is trying to do is minimize those screwups.

    @ Jim Morrison

    No doubt there is an emotional side to health care. It’s not like buying a stock or a bond. But I don’t know what follows from that fact. I don’t write much about emotions and other influences on health care behavior because I don’t know what you can do about it. I write a lot about the economics of health care transactions because it’s easy to see how those relationships could be different. And if they were, the entire system would be different and better.

  18. Linda Gorman says:

    Hospital readmissions may signal problems with Medicare. The switch to DRGs resulted in quicker but sicker discharges and gave hospitals less incentive to spend resources on the really ill. As far as I can tell, the effect of DRGs on the sickest people has not been extensively examined and most of the research subsequent to the DRG switchover focused on saying that costs were reduced if the number of days in the hospital are reduced for a given condition.

    The question is whether a couple of more days in the hospital for someone who needs more recovery time might save money by reducing subsequent readmissions, visits to the ER, and disability. There have been a few studies tracking Medicare patients for a year or so from the hospital to nursing homes to (hopefully) home. They hint that how care is paid for, and time spent in hospital, may be correlated with the extent of functional recovery.

  19. John Goodman says:

    Thanks, Linda. As always.

  20. Greg Scandlen says:


    Thanks, and I get the point. But it sounds like we don’t really know. I fear we are once again jumping to a conclusion without really having understanding. Pardon my skepticism, but this happens all the time in health policy. Now policy is being driven by this — (readmissions = bad.) I expect it is another simplistic formulation that will lead to yet more bungled policies.

  21. Mandy says:

    You say that “We should not tell the hospitals what we will and won’t pay for [top-down]. We should invite the hospitals to make more money by telling us how they can reduce costs and increase quality [bottom-up], understanding that every single one of them may do something different.”
    Very good. This is critical to any successful reform strategy. The front lines almost always offer valuable, effective solutions to the “top,” be it government of business. There is an art in gathering that input.

  22. Linda Gorman says:

    I do think that Greg makes a good point in his assessment of the motives driving the current emphasis on hospital readmissions.

    Since the first ill-considered regulation caused the problem we obviously must need more regulations to correct it…

  23. Tom says:

    Are not Mayo and Intermountain models of an ACO? If so, how does one encourage 778,000 physicians to join such efforts using market forces not federal ones? Hospitals and their nurses are not so great a problem. There is a potential profit in forming mega-systems to deliver lower cost, higher quality care. Doctors, on the other hand, are as difficult to herd as cats. As Jim Morrison points out, independent practioners, operating in a fee-for-service environment, rarely awaken each morning with a new idea how to reduce their services and charges. How does the market incentivize them to join an Intermountain or Mayo team? Without an integrated approach, I see no way to reduce the nation’s health care costs and improve quality.

  24. Stan Ingman says:


    You must be happy that Texas Reps are going to tell physician how to practice medicine on the abortion issue. I’m really worried about the important doctor patient relationship as always.


  25. Robert Kramer says:


    Given a perfect world where the populace performs honestly with the patients best interest at heart, free of the greed and disgraceful machinations of many of my colleagues, and to be told by Richard Huber, former CEO of Aetna, that his ONLY concern, since he ran a publicly held company was to provide a profit for his stockholders, and that quality,metrics, etc were not of a concern of his. Medicine should be a profession not a BOTTOM LINE, INVESTOR OWNED, WALL ST SENSITIVE BUSINESS. How can I get across that in my personal experience, there have been occasions where I have been told by hospital administrators that they were aware of breaches in quality, but they were not going to do anything about it because the greedy physicians were providing too much revenue for the hospital. This takes medicine out of a noble profession and reduces it to a despicable business.

    -Dr Bob Kramer

  26. Bob Geist says:

    Tom, Mayo is not an ACO. ACOs are mini-HMOs underwriting the cost of a population’s care. Mayo also tried an HMO expermiment years ago. This makes its interest in being an ACO interesting—and ludicrous. I have told my friends at the Mayo, that trying to control their fate by becoming a mini-HMO will wreck the Clinic. Why? Because the mega-HMOs and government agency “payers” control all the money and all the “insured lives”. To these really big guys Mayo is just another “system” on which to unload its underwriting risk and thus its gatekeepr role to remain solvent on a fixed premium or tax budget. Thus the “payers” will determine the capitation rates of all ACOs bidding at their auctions of “populations” to be serviced–they will 1st guarantee their own solvency (and corporate profits or government “savings”), while the remainder will determine the capitation rate “allowed” the bidding ACOs. Guess who wins this game when the corporate-government agency cartel-like control of the market place means that the control of medical delivery of services is in the hands of the “payers”? The “payers” have the same interests in colluding in controlling all prices and franchising of “providers”, which puts the interests of the government “referee” along side those of the corporate utility function. Now which will control the cartel? The corporate utility “payers” with more money than the government agencies or the government “referee-payer”? Let’s title it, “The “Payer Cartel Battle of the Century: It’s All About Top Down”. I’ll give you less than that 1 minute John Goodman gave us originally. Best wishes, Bob

  27. Tom says:

    Bob: Your point is well made. Let me pursue the possibility of integration in the opposite direction, on not dictated by a mega-ACO. If one accepts the premise that an integrated delivery system can offer higher quality and more cost effective care than our current one, how does one go about constructing such a system from the bottom up, not the top down? How would one incentivize physicians to join? They would have to surrender their fee-for-service business model and their traditional independence. I assume that, once constructed, this system could market itself to insurance or government payers. In effect, a bottom up approach to the market would be created by integrated providers. I still find it hard to imagine that individuals armed with HSA’s can drive the medical market.