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Association of American Physicians and Surgeons, Inc.
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The Cause of Medical Cost Increases

by Gerry Smedinghoff
Consulting Actuary, Wheaton, IL

Many people ask: Why would health insurance premiums suddenly rise 13%? Inflation is moderate. In fact, since the cost of most other products and services has been dropping over the past decade or more, we know that the rise in medical costs (“health care inflation”) isn't a result of an increase in the money supply. Physicians’ fees have been controlled for thirty years. Drug costs are going up some, but surely not this much.

There are two primary causes of the rise in medical costs.

The first is the segregation of personal income because of the Internal Revenue Code (IRC) and the segregation of fiduciary responsibility for medical spending via the Employee Retirement Income Security Act (ERISA), which results in a market of rationally ignorant participants. [See Shopping at the IRS Mall.].

Similar effects are not as harmful in the market for single-family homes. This is because many of the victims (current homeowners) are benefiting from the nominal inflation of the value of their homes due to the mortgage interest deduction. In contrast, the victims of rising medical costs (280 million Americans at last count) aren't getting any healthier as a result of the tax code.

The second-and very tangible-cause of rising medical costs is waste, or what the late great Toyota production engineer Taiichi Ohno referred to as muda, which is any activity that adds cost, but does not add value.

There are seven categories of muda:

  • Delay: Idle time spent waiting for something, such as pre- certification approval or utilization review (utilization review or UR) or payment from an HMO, insurer, or HCFA. In today's economy, all information (and remember, money is just information) should be communicated instantaneously. If it isn't, then the potential for improvement is obvious and (in absence of regulation) should be easy.

  • Movement: Unnecessary movement of products, people, or information, such as requiring HMO members to see a primary care physician before being referred to the specialist they already knew they wanted to see in the first place.

  • Oversight: Having one worker (such as a case manager) watch another worker do his job. If a worker can't be trusted to do a job, an efficient enterprise retrains or replaces the worker, or redesigns the task.

  • Inspection: Having one worker inspect the work of another after it has been completed, as in HCFA retrospective reviews. A worker capable of performing the task should be competent to determine whether it is up to standards.

  • Rework: Performing the same task a second time, as in giving a second surgical opinion or re-filing a claim.

  • Overproduction: Manufacturing of products that aren't needed (such as precautionary defensive medical tests), fighting malpractice lawsuits, or processing of unnecessary information, e.g. as required by HIPAA.

  • Defective Design: Design of goods that do not meet customer needs, such as HMOs, Medicare, Medicaid, and employer- sponsored health care in general, not to mention the wonderful world of CPT, DRG, ICD-9, and RBRVS coding schemes.

Physicians' payments haven't risen for a long time. Physicians are certainly not being enriched by the additional money that's pouring into the medical sector of the economy.

Rising medical costs are not a mystery. Look at the mass defections of practicing doctors and nurses into administration and consulting. Administrators, accountants, actuaries, attorneys, consultants, UR nurses, ombudsmen, and gatekeepers provide no medical service, but they're still on the payroll. They're pure overhead.

If you're a physician, compare the amount of Delay, Movement, Inspection, Oversight, Rework, Overproduction, and Defective Design-muda-in your practice today compared with ten, twenty, or thirty years ago. If you're a patient, compare the muda for any medical interaction (e.g. a simple office visit) today versus a decade or two ago. All that additional muda didn't arise spontaneously by chance. It's performed by hard-working “professionals,” who think they're indispensable. They consume resources and are receiving pay at “professional” rates.

Since the current trend as far as the eye can see is to add more muda into each and every medical transaction, guess where medical costs are going.

An historical note: Throughout the 1970s and 1980s, the Japanese were making higher quality, lower cost automobiles by operating on the principle of removing muda from the production process whenever and wherever possible. At the same time, U. S. automakers were manufacturing lower quality, higher cost cars on the principle that if you wanted higher quality, you had to pay extra for it, and the best way to “assure” higher quality was to add muda.

If assembly workers in Japan are able, intelligent, and honest enough to live by basic rules of quality and eliminate muda, then certainly medical professionals in the U. S. should be able to do so as well.

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Association of American Physicians and Surgeons
1601 N. Tucson Blvd. Suite 9, Tucson, AZ 85716
(800) 635-1196
Pamphlet No. 1082, May 2001