The 10 Percent Solution
Runaway health-care costs would not have fooled Vilfredo Pareto. If he were alive today, the 19th century Italian-Swiss economist and [...]
May 1 1992 by John Burry Jr.
Runaway health-care costs would not have fooled Vilfredo Pareto. If he were alive today, the 19th century Italian-Swiss economist and sociologist likely would have pinpointed the reason for soaring corporate medical costs by subjecting them to Pareto curve analysis. At least that’s what we call today the method he pioneered to analyze income distribution by population segment. Put simply, in terms of health care: Pareto might have asked about the costs generated by specific percentiles of the population.
The answers would be surprising. The Pareto Distribution shows an inverse relationship between health-claims payouts and the percentage of contract holders. According to the curve, 66 to 75 cents of a typical group’s health care dollars are spent by just 10 percent of the group. This pattern-which recurs almost universally in studies and reports on health care-more than doubles overall average costs.
Ignorance of this factor has led to policies that fuel medical inflation. To date, we have simply thrown money at the problem and watched recent corporate medical costs soar annually by more than 20 percent. But the Pareto approach suggests some alternatives: If American business is to significantly reduce its costs, it must address the 10 percent of high utilizers and move to change marketwide consumption patterns. It must find the “10 percent solution.”
Traditional cost measures-inpatient days per thousand people and average length of stay-miss the mark because they assume the problem is generalized in base costs across the board. But that’s far from the case.
The flip side of Pareto-generated statistics is that just over a quarter of the health-care dollar remains to pay the medical bills of the 90 percent fortunate enough to be relatively healthy. Therefore, the most expensive 10 percent receive more than twice the benefits of the other 90 percent put together.
For example: A 1989 Pareto analysis by Blue Cross & Blue Shield of Ohio-focusing on $123 million in health care costs generated by 64,000 small group contract holders-shows that for 90 percent of those cases, the actual annual claims costs averaged $794. But the remaining 10 percent generated claims costs of $10,529 apiece.
Another Pareto distribution performed on that top 10 percent reveals a similar phenomenon. The top one percent-the 100th percentile-emerges as the major cost generator, responsible for nearly one fourth of the grand total. That’s a payout for 691 families of more than $42,000 apiece or $29.1 million.
Reducing it even further, 50 people who were victims of major and sometimes chronic problems required more health care benefits than 75,000 other people combined. For example, three organ transplants generated upwards of $1 million in payouts. Similarly, a 12 percent increase in “inpatient days per thousand,” which could drive up a small group’s costs, might be the result of additional hospitalization for only one person.
Another finding: members of the top one percent of the group averaged $56,410 in medical claims-or 31 percent of the total payout. But even the top 10 percent quadruple average costs for everybody. How far do their average monthly premiums go toward covering their actual costs? Their payments fall short by about 90 percent, a difference that must be made up by everybody else.
What are the reasons behind the Pareto phenomenon? A fellow named Albert Einstein determined years ago that the closer an object approached the speed of light, the more force it would take to maintain constant acceleration. In fact, he said, the demand would rise so sharply at the end that it would take an infinite amount of force to cross the line. And there is, of course, not that much energy in the entire universe.
Interestingly, a similar phenomenon exists in health care, where the resistance to our best medical efforts begins to rise exponentially. Dread diseases that once killed thousands have been dispatched with vaccines costing pennies.
But compare this with the resources needed to extend life for much shorter periods. A $150,000 artificial heart, for example, adds an average of 54 months to a person’s life. Yankee ingenuity and modern medical science have saved mankind from common maladies, so people now survive to contract more expensive diseases. But the costs of treating these ailments are finally outpacing our ability to pay for them.
Before his death in 1990 at age 87, Blue Cross founder John Mannix reflected on the mixed blessings of longevity. We have extended the average lifespan during this century by 27.5 years, from 47.3 to 74.8 years, he noted. Ironically, Mannix added, only about 40 percent of current health care would be necessary if science had not advanced. Today, in terms of days, more than 60 percent of all hospital care is devoted to people over 48. In prior years, these individuals would not have been alive.
QUICKENING THE DEAD?
At the other end of the life cycle, the costs of treating the very young also are spiraling. In fact, a series of articles in the New York Times recently noted that hospitals spend much more treating the very young than the elderly. Writer Eleanor Rosenthal observed the daily cost of keeping alive a premature baby is $2,000. But she also noted that, at best, the chances these children will live “normal” lives are just one in four. Many other infants are brain-damaged and may suffer severe handicaps requiring decades of costly care and causing untold emotional and financial hardships for their families.
Similarly, a study by Blue Cross found that five contract holders generated nearly $1 million in payouts for neonatal conditions.
In the area of emergency care, The New England Journal of Medicine recently reported on a study of 185 patients who were taken to
In commenting on this study, The Hastings Center Report recently pointed out: “Although the mean stay in the hospital was just over 12 days, one comatose patient lingered for more than four months, running up a hospital bill of $95,144. The total hospitalization cost for all 16 patients was $180,908-averaging $11,307 per patient-while the unsuccessful attempt to revive the other 169 patients in the study incurred an additional cost of somewhere between $100,000 and $150,000 …It seems we spare no expense in our efforts to quicken the dead.”
CREATING A MONSTER
No one would think of fighting conventional inflation by flinging money at it, but that is close to what we’ve done with health-care cost inflation. Until recently, all of our policies have been aimed at creating guaranteed income streams for health care.
The birth of prepaid health care plans via Blue Cross and Blue Shield in the 1930s brought basic hospital and physician care within the reach of the average person. In exchange for charity care, the U.S. Hill-Burton Act of 1948 guaranteed capital construction funds for hospitals. The “Great Society” programs of Medicare and Medicaid, initiated in 1965, allotted funds for the treatment of the elderly and poor. And these days, many lawmakers posit universal health coverage as an inalienable right.
In short, we have created a dollar-gobbling monster whose appetite will expand to consume any amount allotted to it. Like the spaceship accelerating toward the speed of light, we can now project the day-some say just a few decades away-when health care will demand 100 percent of our GNP. That is, unless we do something about it.
We already know what doesn’t work. We have undertaken to manage costs by increasing copayments and deductibles. We have required preadmission certification and second surgical opinions. We’ve created opportunities for millions of employees to migrate to HMOs and PPOs. But we have yet to address the fundamental reason for the dramatic increase in health care costs. According to Pareto analysis, traditional measures of health care cost control don’t work because they focus on only one third of the cost equation, where the fewest economies can be realized.
In the mistaken belief that everyone is overspending, the response so far has been to impose more rules. Pareto, however, would tell us that we could put a health care cop on every corner and stop every mom in
WHAT TO DO
How can private enterprise address the problem in light of Pareto? How can companies implement the “Ten Percent Solution?”
For starters, health benefit designs should be reexamined. Encouraging lifestyle changes-in the health-care arena, the proverbial ounce of prevention-may be more efficient than promoting costly benefit packages that encourage irresponsibility. Alcohol and substance abuse are good examples of potentially catastrophic health problems that can be nipped in the bud. In that area, among others, human resources professionals can do a better job of screening out applicants without a sense of personal responsibility.
Also on the corporate front, it is fashionable today to deplore “job lock,” a situation in which unhappy employees maintain they are trapped in unfulfilling jobs because they can’t afford to give up their health benefits. But look at the other side of this situation. In some cases, companies do more harm than good by providing lavish benefits packages. In fact, if such packages are trapping people in positions, they can erode employee morale and productivity. Ironically, such practices may be just as detrimental as the guaranteed income streams that touched off health care inflation. And they can be just as harmful to companies that benefit from moderate employee turnover.
Conversely, the largest segment without insurance nationwide is that between the ages of 19 and 24. Next on that list are those under the age of six. Why? Many of these youngsters are dependents of the first group. A surprising number are “rationally uninsured,” or uninsured by choice. Even though insurance is available to them in the workplace, they opt not to participate, especially if it involves any out-of-pocket expense.
The implications are enormous. When young, healthy people remove themselves from the pool, the older and sicker individuals must attempt to insure one another. Average utilization and medical claims soar without any offsetting low risk to spread the cost.
One answer: Require all individuals to participate in health coverage when it is offered. That would help to break this vicious circle-though at the expense of some individual rights. In auto insurance, some states have stopped short of requiring motorists to carry insurance and instead given them the option to purchase a bond. Perhaps that principle could be translated to the small-group health insurance market.
Finally, some other cost-control approaches:
- Individual case management can produce major savings, especially with diseases and disabilities requiring custodial care. A good example would be building or paying for a ramp to the home of a patient with a hip replacement, thereby shortening a hospital stay. Another example: Providing intra-uterine fetal monitors for home use by women with high-risk pregnancies.
- Reduced packaged prices can be negotiated with health care providers for such high-ticket procedures as major organ transplants.
Should every hospital be performing open-heart surgery, when evidence exists that it can be done better and cheaper in a few places? We should create and promote specialized “centers of excellence”-not only to drive down costs but to improve the quality of results, including long-term patient survival rates. A global fee should be negotiated for each procedure, with which a facility would pay individual physicians, specialists, and staff who are involved with the procedure.
- Patients need to be given a greater voice in medical decision making. They are traditionally more risk-averse and less prone to elect surgery. Such a propensity can act as a brake on overutilization. Some studies show that patient input also produces better outcomes and lower costs. To guide patient decisions on such conditions as an enlarged prostate and chronic back pain, The Foundation for Informed Medical Decision Making has begun producing “interactive videos.”
- Political reform is also important. Rather than allow government to continue to price people out of the health insurance market by mandating inflationary benefits, we must make government part of the solution. We need government to take responsibility for public health issues related to prevention and catastrophic high-risk conditions. Since many high-risk individuals are medically uninsurable, they ought to be accorded the opportunity to buy coverage through Medicaid.
- Halt massive, multimillion-dollar hospital expansion and new construction projects at a time when a third of the nation’s beds stand empty. A Cleveland-based business publication estimated that in the greater metropolitan area alone, 4,500 excess beds generate $185 million in duplicative services annually. The analysis concluded that 10 percent of the area’s 38 hospitals could be closed without affecting the quality of health care.
Society can no longer continue to duck the implications of high-cost, high-technology health care, and related moral and ethical questions. These include the difficult choices of whether to keep an individual alive-at extraordinary cost-for a few more days or weeks.
We must remain sensitive to the very sick. But the controversy surrounding today’s incredible costs suggests that we-and the medical community-must also make some difficult decisions.
John Burry Jr. is chairman and chief executive officer of Cleveland-based Blue Cross & Blue Shield of Ohio. An undergraduate degree in mathematics from St. Lawrence University, and an MBA, led him to evaluate health-care costs with the Pareto statistical method.