By Linda J. Blumberg, Sabrina Corlette, Jack Hoadley

Employer-sponsored insurance (ESI) provides critical coverage for 160 million Americans. However, the adequacy of many of these plans is in decline, leaving many workers and their families with high out-of-pocket costs, relative to their income. Employers acting alone will not be able to reverse this decline. Policy change is needed, but assessing what policies will work is challenging. In this new series for CHIRblog, we assess proposed policy options designed to improve the affordability of ESI, the state of the evidence supporting or refuting the proposed policy change, and opportunities for adoption. In the first of the series, we reviewed the primary drivers of the erosion occurring in ESI and identified three recognized policy options to improve affordability: regulating prices, reducing anti-competitive behavior, and improving price transparency. This post, the second in our series, assesses the evidence for direct and indirect regulation of provider prices and options for policymakers.

The issue of health care spending growth is multi-pronged: high and rising prices in a number of sectors are responsible. However, spending on hospital care makes up the largest single component of personal health care spending, an estimated 39 percent of the total in 2023, compared to 24 percent for physician and clinical services and 10 percent for prescription drugs. National spending on hospital care is projected to exceed $1.5 trillion in 2023, and is expected to grow by about 5.6 percent per year over the coming decade (a rate likely to significantly exceed general inflation). Much of this growth is driven by consolidation among hospitals and health systems, which then use their size and local market power to demand higher prices from commercial payers.

As a result, recent studies by the RAND Corporation and the Urban Institute indicate that, on average, private insurers and consumers pay hospital prices that are 224 to 240 percent of those paid by Medicare in the same hospitals for the same conditions. These prices vary widely across the country and across services, with insurers in some states paying over 300 percent of Medicare prices on average. Increasing investment in health care facilities by private equity may be accelerating prices even faster.

Policy Strategies to Decrease Provider Prices

Employers, on their own, have limited power to hold down provider prices, while the third-party payers that they hire to negotiate on their behalf have limited incentive to do so. The Bipartisan Policy Center has issued a report calling for public policy interventions to improve the affordability of ESI. The most effective policy, according to a Congressional Budget Office (CBO) report, would be for the government to regulate the prices that hospital providers can charge. CBO notes: “price-cap policies could have the largest effects on prices. Depending on the design of the caps, adopting the most comprehensive set of price-cap policies…would reduce prices either by a moderate amount (from more than 3 percent to 5 percent) or by a large amount (more than 5 percent) in the first 10 years….” They then note that, in contrast, other policy proposals would reduce prices by either a small amount (in the case of policies to improve market competition) or a very small amount (in the case of policies to improve price transparency).

Consistent with CBO’s analysis, evidence from studies done by one of us and colleagues at the Urban Institute show that capping provider payment rates for hospitals can generate significant savings system-wide. The potential savings are greatest when the caps apply not just to the nongroup (individually purchased) insurance market but also include ESI. For example, in one set of estimates, Urban analysts found that capping hospital payment rates paid by private insurers at 125 percent of Medicare levels would have led to health system savings of $107 billion in 2022, about one-third of the $331 billion in savings estimated to come from a broader reform that would include limits on physician/professional prices as well as those of prescription drugs.

At the same time, there is some evidence that hospitals become more efficient when Medicare prices are decreased, while spending is only modestly correlated with clinical quality. These findings suggest that a bit of belt-tightening would not have the devastating consequences that hospital lobbyists often claim. Evidence also shows that enrolling more people in Medicaid, which generally pays even lower rates than Medicare, has strengthened the financial status of hospitals. This is the case because, although payments from Medicaid are significantly lower than private insurer payments, they are high enough to help hospital finances relative to the limited funds available for covering the costs of caring for the uninsured.

Direct government regulation of prices is far from politically easy. While hospital rate regulation was fairly common among states in the 1970s and 1980s, most eliminated these programs, in part due to a lack of political support. Maryland is currently the only state that regulates hospital prices across all payers. However, Maryland’s experience demonstrates that the impact of price regulation is highly dependent on how such policies are designed, implemented, and enforced. For example, although Maryland has been generally successful at constraining hospital costs (commercial insurers pay on average 11 to 15 percent less for inpatient services in Maryland than in other states), the state has had to adjust its all-payer model over time to address hospitals’ efforts to maximize revenue, such as by shifting of services to settings not subject to price regulation. Any effort to regulate prices would also need to include a mechanism to monitor the effect of price changes on vulnerable people, especially the low-income, those with serious health problems, and racial/ethnic groups that have historically been discriminated against in the health care system.

Given the political challenges, some state policymakers have looked to policies that do not set provider rates, but try to constrain provider prices indirectly. These policies include:

• State-based cost growth benchmarks,
• Caps on premium growth, and
• Integrating affordability standards into health insurance rate review.

Of these three policies, cost-growth benchmarks are the most widely adopted. Eight states now have one, with Massachusetts’ being the longest-standing. A recent evaluation found that while Massachusetts’ benchmark was effective in its early years, its ability to effectively constrain system costs is inhibited by the lack of effective enforcement. Other states have similarly struggled to enact meaningful penalties for providers who fail to meet cost growth targets.

Colorado recently enacted legislation establishing caps on premium growth in the nongroup market and granted power to the insurance department to regulate hospital prices if those caps are not met. However, the law is too early in its implementation to assess its impact.

Rhode Island’s “Affordability Standards” for rate review have been demonstrated to be effective at constraining system costs. That state’s law requires insurers to keep hospital cost growth at no more than inflation plus 1 percent, and grants the insurance department the authority to cap hospital rates if that target isn’t met. The department’s standards also require that at least 50 percent of hospitals’ rate increases be earned by showing progress on measures of clinical quality. A 2019 assessment of Rhode Island’s standards found that they led to a net reduction in quarterly spending by an average of $55 per enrollee from 2010-2016.

There are other intriguing policy options that could help reduce provider prices and improve affordability. For example, the Bipartisan Policy Center has recommended capping hospital rates, but only in markets that are highly consolidated. Others have proposed capping the prices hospitals can charge for out-of-network services, noting that doing so has put downward pressure on in-network rates. Indeed, evidence suggests that states that have capped out-of-network prices as part of efforts to combat surprise medical bills have seen a decline in in-network prices, as well.

One thing that is clear: doing nothing about hospital prices will continue to erode the affordability of coverage and access to care, while also limiting our ability to invest in other public priorities and other key sectors of the economy.

Next up in our series: Assessments of policies to promote market competition and limit anti-competitive behavior and policies to promote price transparency.