Incentives Matter

Conservatives typically say they favor a “free market approach” to health care. This, they say, will get the incentives right by eliminating the third party payer system we have now. Consumers will stop consuming so much and drive down costs when healthcare no longer appears free because an insurance company pays for it. Thus the push for high deductibles and co-pays.

This argument has some merit but will have limited effect in my opinion due to the large amount of healthcare costs that are beyond any reasonable deductible or co-pay. But, yes, lets get the incentives right.

Here’s another way; one that I think has more promise. Studies show that when doctors are paid a salary instead of fee for service, they perform fewer services. Costs go down and patients do no worse. Sometimes better. The NY Times reports on the most recent evidence of this phenomenon:

Researchers [at Dartmouth] have long pointed to large disparities in medical spending in different areas of the country and shown that patients usually do no better — and often fare worse — where the spending is highest.

This year’s atlas focuses on Medicare spending for patients in the last two years of life at the top five teaching hospitals, as ranked by U.S. News & World Report. The medical center at the University of California, Los Angeles, was the most extravagant, averaging some $93,000 per patient. Johns Hopkins, at $85,000, and Massachusetts General, at $78,000, came next. The Cleveland Clinic, at $55,000, and the Mayo Clinic, at $53,000, were far more cost-effective. The reason for the disparities is not that one hospital charges a lot more for a given service than the others. Rather, the high-cost hospitals provide a lot more services for patients than the lower-cost hospitals: keeping patients in the hospital and in intensive care for longer periods, sending them to a slew of specialists and doing a lot more tests and procedures.

No doubt the high-cost institutions think they are “going the extra mile” for their patients, but some patients don’t want such aggressive care and most don’t experience any health benefits from it.

Few will be surprised to discover that doctors in high-expenditure institutions are typically paid on a fee-for-service basis, which means they earn more if they do more. Mayo Clinic doctors, by contrast, are on salary and have no financial incentive to do anything more than the patient clearly needs.

Note that this implies that the demand for healthcare services isn’t simply coming from the patient. It’s coming from the supplier; in this case the physicians and hospitals. That sounds plausible to me.


1 Comment

Filed under economics, healthcare finance

One response to “Incentives Matter

  1. Thanks for your thoughtful post. Mayo Clinic is working on health reform, trying to bring people together toward a health system in which both costs and quality are taken into account. I invite you and your readers to participate in the discussion. We have a Mayo Clinic Health Policy blog where you can see summaries of the sessions we’ve had, and can add your comments.

    It’s at

    Salaried physicians may not be the solution everywhere, but it is true that you get what you pay for…and if you reward higher utilization you’ll get it.

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