National Pirogov Memorial Medical University

Guidelines
teaching department

THE METHODS OF PRICING AND PRICE REGULATION IN

THE HEALTH CARE SYSTEM. MANAGED CARE

Vinnitsa 2019
 Department of Public Health
Economics of Public Health

Methodical recommendations #12 for 6th year students of general medicine

department

Theme: The methods of pricing and price regulation in the health care system.
Managed care.

HOURS: 2
PLACE: Department of Public Health

CONTENT:
WHAT IS MANAGED CARE?

In the USA, managed care refers to a system of health care in which

services are delivered through a network of contracting hospitals, physicians
and other providers, and financed through a set fee. Some forms of managed
care, such as Preferred Provider Organizations (PPOs) and Point of Service plans
(POSs), allow patients to receive services outside the network but at a higher out-
of-pocket price than for in-network services. Health Maintenance Organizations
(HMOs) do not allow this. Ideally the managed care organization monitors the
quality and appropriateness of care to guard against both overand under-utilization,
although sometimes cost containment or dumping the patient on another cost
centre are said to be the most tangible motivations.

Managed care is a planned and coordinated approach to providing

health care services. Its goal is to reduce health costs without suffering the
loss of the quality of care. Under managed care the patient no longer can
go to any doctor or hospital the patient wishes if the patient wants the
health insurance plan to pay the bill. It also means that people besides the
patient and his/her doctor decide what treatments the patient receives in
health plans, which closely monitor and often limit treatment, both to save
money and, it is stated, to improve the patient’s health. Managed care is
being applied in two forms. One is case-by-case review and the other,
‘approvals’ and ‘denials’ in traditional health insurance. This is called
utilization review. It really means the patient, for example, must obtain a
second opinion before surgery, and a doctor or nurse on the telephone at a
review company must give his or her approval before the patient goes to
the hospital, except in an emergency. The reviewer usually limits the
number of days the plan will pay for hospital or mental health or other care,
if it will pay at all. It may say a doctor or dentist has charged more than the
plan will pay, leaving the patient the rest of the bill. But more formally
utilization review is a collective term for the following activities:
 * Preadmission certification, in which elective hospitalizations are
assessed gainst standard criteria prior to admission. The purpose of the
review is to determine whether the admission, diagnostic testing, or
surgical procedure is appropriate.
* Concurrent review, or the formal review of an ongoing
hospitalization to determine whether the length of stay and any subsequent
medical intervention is appropriate and consistent with good medical
practice.
* Discharge planning, in which, to keep hospital stays to the shortest
appropriate length, the HMO prearranges for care to be received after
discharge.
* Case management, in which systematic reviews take place to
identify patients who, because of the severity of their illness, are likely to
require prolonged hospitalization or intensive therapy. These patients are
carefully monitored to insure that the most appropriate and cost-effective
care is being delivered.
Another form of managed care is enrollment in various kinds of
restricted groups of doctors and hospitals, for example, HMOs. Thus,
managed care organizations do not actually decide about a patient’s
medical care treatment: the patient’s doctor still has that responsibility. But
the organization does decide whether a particular service will be covered
and in that way affects the kind of care the patient receives. The managed
care organization decides which doctors, hospital procedures, and
sometimes which medicines are covered by the patient’s insurance plan.
Managed care companies today are developing specialty networks for
mental health, vision, dental, chiropractic, podiatric, and physical therapy
care. Sophisticated managed care principles are also being applied to other
fields like long-term care, as well as medical bills associated with auto
liability and workers’ compensation claims.
Most managed care plans have a sufficient number of physicians and
hospitals to deliver comprehensive care and some degree of choice. If a
patient desires a particular physician, hospital, or medical procedure, then it
is important to select an insurance plan that includes the one the patient
wants. The problem is that some people receive their insurance through
their place of employment and, thus, do not have that choice. So patients
must make sure that they thoroughly understand the details of their
managed care contract to ensure that it is the kind of health insurance
protection they want for themselves and their loved ones. Thus, in
managed care the insurer or employer does more than pay the bills. The
payer becomes involved in selecting the physician, hospital, or other
provider and in deciding what care will be provided. Patients who demand
to visit a different physician or undergo an unapproved procedure will have
to pay more.

WHAT IS THE ORGANIZATIONAL STRUCTURE

 It is instructive to provide a general description of managed care, leading to
a more specific discussion of HMOs, while recognizing that the concept of
managed care is undergoing constant changes. Analysts speak of an organized
delivery system as a network of organizations (for example, hospitals, physicians,
clinics, and hospices) that provides or arranges to provide a coordinated continuum
(from well care to emergency surgery) of services to a defined population. This
system is held clinically and fiscally accountable for the outcomes and the health
status of the population served. It is tied together by its clinical (treatment) and
fiscal (financial) accountability for the defined population. Often the organized
delivery system is defined by its association with an insurance product.
Managed care creates incentives for keeping people well by emphasizing
prevention and health promotion practices, and when people become sick by
treating them at the most cost-effective (least cost per unit care) location in the
continuum of care. Clearly, incentives are given to underuse services, which may
be harmful to patients. Through a more centralized management of services, the
goal is to provide additional quality-enhancing features for a given price, or to
provide a given set of quality attributes or outcomes for a lower price. The primary
provider often serves as gatekeeper to limit further and more expensive services.
Managed care seeks a vertical integration of what had previously been a
generally uninte-grated system of health care treatment. Through coordination of
care and improved information, such integration has the potential to address the
health care costs in a manner that would appear to address criteria of economic
efficiency. Yet the integration is costly, and the quality of the resulting care may
not match all consumer preferences. The HMO represents a prime example of
managed care on which there has been considerable research. We begin by
describing HMOs and continue with their history and the rationale for a
government policy that has promoted their development.
 WHAT ARE THE ECONOMIC CHARACTERISTICS?
We have seen that managed care features a health care delivery structure
involving the integration of insurers, payment mechanisms, and a host of providers,
including physicians and hospitals. What distinguishes managed care from the fee-
for-service care that also might plausibly attempt to integrate the various health
care system parts?
Analysts identify three particular mechanisms by which health insurance
plans seek to contain costs and/or improve quality of care:
1. Selective contracting, in which payers negotiate prices and contract
selectively with local providers such as physicians and hospitals.
2. Steering of enrollees to the selected providers.
3. Utilization review of the appropriateness of provider practices. This
utilization review may be prospective (in advance), concurrent (at the
same time), or retrospective (looking back).Of the three, most analysts
find selective contracting to be most important.
The selective contracting and the steering distinguish managed care from the
more standard fee-for-service care. Although the press concentrates on utilization
reviews attributed to managed care, Morrisey argues that indemnity plans that
include pre-hospital admission certification would be classified as managed care
plans under this definition. Almost everyone now reviews utilization, so utilization
review in itself is not helpful in discussing managed care.
Three differences between MCOs and FFS might affect compensation:
 1. Difference in health. If the MCO provides reduced health (relative to
FFS) due to reduced treatment, then the compensation must be
positive for those who choose the MCO. This positive compensation
might be offset if the MCO is better at managing the overall care
process or at providing "well-care."
2. Cost savings. If, holding health constant, the MCO provides savings
due either to less treatment or cheaper treatment, then the
compensation must be negative, because the MCO is saving money
for its clients.
3. Financial risk from different out-of-pocket payments. Clients may
prefer an MCO if it insures them from having to make large out-of-
pocket payments. If so, the compensation will be negative, because
payment variability is reduced. The size of the compensation would
depend on the MCO's cost-sharing provisions, as well as
reimbursement for out-of-plan use.
This framework suggests that one must measure the differences between
managed care and fee-for-service along several dimensions: health, price of care,
and quality of care. In fact, patients who value health less (or other things more)
may choose less health and/or health care by choosing an MCO, or possibly even
no insurance, rather than FFS care.
It does not necessarily tell us which mechanism provides the appropriate
level of care at which marginal benefits equal marginal costs. Recall that under
FFS, with fractional coinsurance, clients may overuse services. Under MCO, they
may use fewer services and possibly not enough service, but it is not clear whether
they will use the efficient amount.
With this framework established, we can look at the emergence of managed
care plans and what the market for managed care will look like. We also can look
at the differences in health, price, or quality of care, recognizing that consumers
and employers, acting on their behalf, will evaluate all of these dimensions in
spending their health insurance dollars.

THE EMERGENCE OF MANAGED CARE PLANS

Managed care describes a variety of arrangements with the following
common features. First, much, if not all, of the patient's care is provided through a
specific network of hospitals, physicians, and other health care providers. Second,
considerable centralized oversight of resource use, often referred to as utilization
review, occurs within the network. Here, we provide a brief overview of the types
of managed care plans and the extent to which physicians and hospitals now
contract with insurers under capitation arrangements.
EMPLOYER-SPONSORED MANAGED CARE. As of 2001, managed care
accounted for about 93 percent of the enrollment of employer-sponsored health
insurance, with traditional fee-for-service plans making up the rest. This
represented a major historic change.
 Health maintenance organizations (HMOs) provide relatively
comprehensive health care, entail few out-of-pocket expenses, but generally
require that all care be delivered through the plan's network, and that the primary
care physician authorize any services provided. Each subscriber is assigned a
primary care physician upon joining the HMO. If health care services are provided
but not authorized by the primary care physician, then the HMO does not cover the
services. The subscriber is personally liable for payment of the nonauthorized
services. HMOs that directly employ physicians in their network are called staff
model plans. In the simplest characterization, the network physicians are paid a
salary by the HMO, although some HMOs do base payments on factors such as
patient load. Alternatively, plans that set up their network by contracting with
physicians in geographically spread out, independent solo or small group practices
are called independent practice associations (IPAs). Both types assign primary care
physicians as gatekeepers for covered services. IPAs are more common than staff
model HMOs and constitute the fastest-growing type of HMO.
Preferred provider organizations (PPOs) give subscribers two distinct
tiers of coverage. When subscribers use the PPO's preferred provider network, the
required cost sharing with deductibles or coinsurance is lower than when they use
nonnetwork providers. Although a network is formed, PPOs have no physician
gatekeepers. Rather, patients simply must pay more out of pocket if they choose to
go outside the network. In this way, PPOs create financial incentives for
subscribers to use network providers rather than go outside the network for care.
PPO contracts with physicians and hospitals generally address the prices
providers will charge the PPO. In return for promising to charge a lower than
average price, selected providers is given that the provider will see patients under
the plan, but if the network is not too large and the PPO's cost-sharing provisions
for subscribers are network-favorable, then the provider may enjoy a large increase
in patient care business by joining the network. Prompt payment for services may
be another advantage.
Providers often agree to submit themselves to some form of utilization
review under the contract. Most PPOs require preadmission certification for a
hospital stay and concurrent utilization review for such stays. About half require a
mandatory second opinion for a recommendation of surgery.
Point-of-service (POS) plans are a hybrid of HMOs and PPOs. Like PPOs,
POS plans offer two tiers of insurance benefits. Coverage is greater (out-of-pocket
costs are lower) when members use network providers and less generous (out-of-
pocket costs are higher) when they use nonnetwork providers. Like HMOs,
however, POS plans assign each member a physician gatekeeper, who must
authorize in-network care in order for the care to be covered on in-network terms.
Most POS plans do not require authorization for a member to use out-of-network
services, but such care is covered on less-generous terms.
MEDICAID MANAGED CARE PLANS. In the last few years, many states
have adopted managed care models for the Medicaid coverage they provide to
families with dependent children and pregnant women who meet their low-income
criteria for Medicaid eligibility. They believe that managed care may help contain
program costs, which are a major part of most states' budgets. As of 2001, 20.8
million Medicaid beneficiaries nationwide were enrolled in some form of managed
care. This represents a sharp increase from the 2.7 million in 1991.
As with employer plans, Medicaid managed care plans vary considerably. In
some areas, states have contracted directly with HMOs that already exist in local
markets. In others, states have created their own loosely structured provider
networks, which contract with selected providers for discounted services and use
physician gatekeeping to control utilization. Some Medicaid programs use a
combination of the two approaches.
MANAGED CARE CONTRACTS WITH PHYSICIANS Managed care
contracts with physicians vary considerably. Most HMO and POS plans pay their
network physicians on a capitation basis. Under capitation, the plan pays the
physician's practice a fixed fee, generally an actuarial per-member-per-month
(PMPM) dollar amount, in return for the treatments provided to members of the
insurance plan. Physicians also may be responsible for the costs of referrals,
laboratory tests, and hospital services. Thus, HMO and POS plans shift the costs of
care, as well as the risk associated with those costs, directly onto physician
practices. In so doing, these contracts put physician earnings at risk. If care
provided under such arrangements turns out to cost less than the fixed-dollar plan
payment, the practice makes a profit. If instead care costs more than the payment,
the practice must take a loss.
In contrast, PPO contracts with physicians rarely involve capitation. Instead,
they specify the discounted fees for various services that the plan will pay in
exchange for the privilege of being in that plan's network. If a physician joins the
PPO's network and happens to provide services to one of that plan's subscribers,
the practice must accept the prenegotiated fees as payment in full. "Balance
billing" of the patient (for the remainder of a higher bill) is not allowed.
Plan utilization review procedures are commonly covered in managed care
contracts, whether they are HMO, PPO, or POS plans. Physicians must follow
particular care-review procedures. Most managed care contracts also require a
certain degree of physician record keeping on their enrollees (e.g., plan-specific
patient encounter forms may have to be filed with the insurer each time care is
provided).
Medicaid managed care contracts with physicians parallel those of private
managed care plans, although specific service packages are determined heavily by
the state's policies. In states that have set up their own Medicaid provider networks,
the state contracts directly with individual gatekeeper physicians, agreeing to pay
them a small fixed fee (e.g., $3 per month) for each Medicaid enrollee under their
jurisdiction. In return for this payment, the physician serves as the gatekeeper for
Medicaid-covered services.
Based on a 1999 nationwide survey (American Medical Association, 2001,
Table 46), about 35 percent of all physicians had capitation contracts. Primary care
physicians exhibited higher prevalence of capitation contracts than did specialists,
because the primary care physicians serve more often as gatekeepers in HMO and
POS plans. Primary care physicians include general family practitioners (55
percent), general internists (54 percent), and pediatricians (57 percent).
Some physicians limit the risk associated with capitation by obtaining stop-
loss provisions in their contracts or by purchasing reinsurance against large losses.
A stop-loss provision limits the physician's liability per enrollee under the plan to,
for example, $25,000 per year for any single enrollee. With stop-loss protection,
once the cost of services provided to any one patient reaches a certain threshold
(e.g., $25,000 over 12 months), the insurer would cover all additional expenses.
Reinsurance works the same way, although the coverage need not be part of the
explicit contract with the insurer; it may be purchased separately from a
reinsurance company. Reinsurance for physician practices may specify either a
stop-loss threshold per patient or a stop-loss for all patients (collectively) with that
insurer. The reinsurer would pay all or most of any additional expenses once
incurred expenses reach the specified threshold.
MANAGED CARE CONTRACTS WITH HOSPITALS HMO and PPO
plans contract with only a subset of the providers (physicians and hospitals) in the
areas that they serve. This key feature of the managed care sector allows plans to
promote price competition among hospitals that might otherwise lose plan business,
a substantial change over the past 20 years (Zwanziger and Meirowitz, 1998).
In 2000, the proportion of hospitals reporting revenue from capitated
contracts has increased to 35 percent (from 30 percent in 1998). Hospitals in urban
areas, and particularly inner-city facilities, are more likely to report capitation
revenues than are rural hospitals (Deloitte and Touche LLP, 2000).
The probability and characteristics of contracts between individual managed
care organizations and hospitals appear to depend on three sets of factors:
1. Plan characteristics, including whether it was a PPO or an HMO (and possibly
what type of HMO), plan size, whether the plan serves several localities, and
how old the plan is
2. Hospital characteristics, including size, ownership (including for-profit versus
nonprofit status), location (city versus suburb), teaching status, and cost
structure (reflecting prices)
3. Market characteristics, generally measured at the metropolitan area level,
including the penetration and rate of growth of managed care plans
Research has found equivocal results, most often on the important issue of
hospital costs, which are used to reflect prices to the plans. Early studies found that
before managed care plans became popular, more competitive markets had higher
hospital costs. This occurred because under cost-reimbursement fee-for-service
systems, hospitals could (and did) compete on the basis of services and quality
rather than price. More recent research has suggested that competition in hospital
markets can lead to lower costs when the insurance market includes sufficient
managed care penetration.
Zwanziger and Meirowitz (1998) examine the determinants of plan contracts
with hospitals. They report:
– Managed care plans prefer to contract with nonprofit hospitals,
preferring even public hospitals to for-profit ones.
– Plans will more likely contract with large hospitals compared with
medium-sized hospitals, and with medium-sized hospitals compared
with small ones.
– Hospital cost factors (which reflect hospital prices) do not
significantly affect contracts.

DISCUSSION QUESTIONS
1. We speak of the millions of dollars that managed care plans must spend on
information systems. Why do we not speak of such expenditures under fee-
for-service plans?
2. What are the organizational differences among HMO, PPO, POS, and FFS
plans?
3. Why would price discrimination in the provision of health care services be
more prevalent than price discrimination in the purchase of food?
4. Why is selection bias such an important issue in measuring HMO
performance?
5. Discuss ways that managed care organizations may be able to reduce costs
of care to their clientele.
6. Why do some critics argue that managed care organizations provide lower-
quality care than FFS plans? Evaluate this possibility from a societal
perspective.
7. After a large increase in membership, HMO enrollments flattened in the late
1980s and many HMOs suffered financial difficulties. How might this be
 explained according to what is known about the supply and demand for
HMOs?
8. If everyone chose to join an HMO, would average HMO expenditures per
case tend to rise or fall? Would national health expenditures tend to rise or
fall?
9. What features of managed care organizations tend to inhibit or discourage
people from joining? What features tend to attract people? Discuss the
advantages and disadvantages of managed care enrollment.
10. Why is the growth of managed care plans a relatively recent phenomenon?
Describe governmental policies and practices that have encouraged managed
care organizations and inhibited them.
11. If traditional FFS leads to demand inducement, what constrains the HMO
from underproviding care?
12. Explain how the availability of alternative delivery systems is expected to
produce competitive effects throughout the health economy.
13. Discuss the ways that managed care organizations can influence the
adoption of new technologies.

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Head of the Department of Social Medicine

and Organization of Public Health prof. O. M. Ocheredko