Figuring out why healthcare costs are rising is not difficult; and the reason is not what you may think

Healthcare reform is on every Democrat mind and the cheerleader in chief is President Barack Obama. We are told healthcare costs are increasing so fast that if Obama’s Healthcare plan is not adopted immediately, if not sooner, we will all die of dysentery tomorrow. Of course, similar urgency was claimed in advance of the TARP bail out of toxic mortgages and the Stimulus Bill to take us out of the impending recession – both cries of wolf were hoaxes and excuses to slide along the path to socialist Gomorrah.

The big bugaboo in the case of healthcare is said to be the rising cost. For example, since Medicare was created in 1965, U.S. health spending has risen about 2.7% faster than the economy and on current trend would hit 20% of GDP within a decade. Every public or private attempt to arrest this climb has failed: wage and price controls in the 1970s, the insurance industry's "voluntary effort" in the '80s, managed care in the '90s. The increase in cost is not surprising given the way it is being handled but what is surprising is why people in and out of government can’t understand why costs are rising as they are – and it has nothing to do with increases in the quantity and quality of care provided.

Let me give you an analogy that will explain my theory of the reason healthcare costs rise.

During the housing boom everyone who sold a house expected to make a profit or at least recover their costs of selling commissions, improvements, etc. The result was that a house was expected to be sold for a higher price than paid by the previous owner. Obviously this led to a continuum of ever increasing housing costs.

Now let’s consider the healthcare industry. To maintain or reduce costs the government and allied insurance companies reduce the payments to doctors and providers. But the cost sustained for service by providers and medical equipment manufacturers does not get lower and in fact increases. Expenses of Doctors for office staff, space and equipment rises, not to mention malpractice insurance without tort reform. Medicare, Medicaid and Insurance companies pay the provider a percentage of the amount billed to the patient; and the percentage keeps decreasing in the false belief that is the way to reduce the cost of medical care. However, if medical providers are to maintain their standard of living, the amount they charge has to be increased as reimbursement decreases.

If you don’t believe me, here is a real life experience I had. Because I am (hopefully) a cancer survivor, I go for periodic PET scans to see if I remain free of the nasty cancer cells. If I use my medical insurance to pay for this, the PET scan charge to the insurance company is $4,200; if I pay for the procedure myself, the cost is $1,200. Why the difference you ask, well the service provider knows the insurance company will only pay a fraction of the amount billed. So to recover actual costs and a decent profit, it is necessary to ask the insurance company (or Medicare) for more money for the service. When I pay out of my pocket, the service provider gets to keep the entire amount charged and there is no voluminous paper work and payment time delay involved.

Medicare is an example of government interference that results in higher healthcare cost because it reflects the entire practice of medicine but distorts it like a funhouse mirror. It simply fixes the prices for thousands of services and procedures, usually well below those of private payers. There is no way of knowing if these administered prices are the "right" level, and, either way, marginal costs adapt to what is paid, creating perverse incentives of their own. Congress also regularly uses Medicare to skew the distribution of medical resources, such as extra payments to teaching hospitals or rural areas.

But the worst aspect is that, as has been said, “Medicare is an ocean of money surrounded by people who want some.” It is not only an entitlement to beneficiaries, but a de facto revenue entitlement to hospitals, physicians, nursing homes, durable medical equipment suppliers and the rest provided they keep raising prices in proportion to the decreasing reimbursement by the government.

Then there is the element that the healthcare industry is big business. Unlike the individual medical practitioner, for profit hospitals and medical equipment manufacturers are big business. As a result, de facto revenue entitlements go to hospitals, nursing homes, durable medical equipment suppliers and the rest. In terms of effect on profits to these groups, even a tweak to the Medicare fee schedule is a small-scale equivalent to trimming farm subsidies. The system will never be as rational as we might want unless it is severed from politics, but doing that in a way that does not impose a financial burden to the medical profession or the result will be ever increasing healthcare costs and a likely decline in the quality of medical care.

Unfortunately, the entire Obama agenda is about increasing political, rather than individual, control of the health markets. The Ted Kennedy proposed healthcare bill would provide insurance subsidies up to 500% of the poverty line (for a family of four, that's $110,250). In that kind of world, all costs will climb even higher as people use far more "free" care and federal spending will reach epic levels. Bureaucrats watching the bottom line will try to ration care or reduce further reimbursements to Doctors. Naturally, adding to the Obama socialist theories, Congress will get involved and make things worse, as it always does. Us hapless patients will be caught in the political crossfire as we always do except that rationing will mostly affect older folks who the government will say to provide them medical care is not cost effective.