McKinsey II: where we spend more

A reader (ok, my Mom :-) ) asked whether I'd be continuing my summary of the McKinsey plan in additional posts. I certainly intend to. Again, you can read the report yourself (it's reachable from the McKinsey health page, linked at the right), but I'm going to use these posts to put the information out there in digestible chunks.

Today I want to focus on the $643 billion McKinsey found the US spent in excess of its peer group in 2006. MGI looked at seven categories of cost. In five we outspent our peers, and in two they outspent us. It looks like this:

Cost category	Spending difference
Outpatient care	+$436B
Drugs &Nondurables	+$98B
Health Admin and Insurance	+$91B
Investment in Health	+$50B
Inpatient Care	+$40B
Durables	-$19B
Long-term and home care	-$53B

That's it in a nutshell — how we outspend our peers, or in some cases, don't. Let's just look for now at the first and biggest, outpatient care. This includes really anything where you don't stay overnight: in and out at a hospital: procedures performed at a physician's or dentist's office, or at an outpatient facility such as an imaging center, as well as visits to the ER.

Overall, costs in the outpatient care category grew at 7.5%, the largest growth rate of any group. Within the category, the most excess dollars were spent on physician office visits, followed by same-day hospital visits (including ER). Many more details in the MGI report.

Why the large excess in this area? One reason might be the overall shift from inpatient to outpatient services in the US (still paraphrasing the report). This is an observable trend, and leads to inpatient care expenditures that are by MGI estimates $120B less than they'd be otherwise. But this is not just a wash, since that $120B is obviously much more than offset by the $436B excess in the outpatient category.

Some of the report's other observations on this category:

• The cost growth owes little to increased usage or frequency of visits. Rather, the costs of both hospital and physician visits are increasing in a fashion that accounts for most of the excess. A steady shift toward more expensive forms of outpatient care (specialist visits, expensive procedures) further  widens the gap.
• higher US physician compensation is an important, though not overwhelming, component of the excess .
  
• There is a steady shift toward speciality/standalone surgical and imaging clinics. Profits are quite high on these facilities.
• The number of purchased imaging devices such as CT and MRI machines continues to grow.

In the last couple points, the continued increase in diagnostic machines and speciality clinics, we see a perverse relationship that I've seen a number of sources point to. For most economic goods demand drives supply. As demand increases, prices go up, more supply is created to take advantage of the high prices, and the increased demand drives prices lower until a new equilibrium is reached. In health care, there seems to be at least some reason to think that the opposite is true -- that supply begets demand. How can that happen? Well, the professionals who profit from these procedures are the same ones who recommend them, often. With expensive machines sitting fallow, there will be an incentive to prescribe their use, the logic goes. The critical factor, though, is that increased supply (of MRI machines, say) does NOT drive down prices! There are  many reasons for this, and hopefully we can look more at the issue in future posts, but one big contributor is price opacity -- the direct consumer of the services has a very hard time finding out what they cost. (I've mentioned other articles that note how hard it is to get someone to tell you a price). But then, the direct consumer of these services doesn't CARE how much they cost, at least not on more generous health plans, because insurance pays the vast bulk of it.

So you end up (it is often argued) with a case where the supply side is capable of generating a substantial portion of its own demand (by recommending procedures), while at the same time the consumers of those services have little of the price sensitivity that normally acts to bring supply, demand and price into some equilibrium.

Supply begetting demand. Prices extremely opaque. Moral hazard of consumers who buy services with what's substantially other people's money (though in the end their own). These seem to be some of the key contributors to a system where there are no built-in inhibitors to cost increases. And outpatient care in the US seems to be ground zero for the perverse confluence of these factors.

As I post I'll continue to step through the McKinsey study and try to draw out salient features.