When I was much younger it was common for wholesale distributors to sell to retail stores. Situated between manufacturers and retail stores were so-called middlemen whose business was selling to other businesses. In the 1980s independent retailers’ share of the market was more than 50%. Today it has fallen to 23%. Big box stores like Home Depot, Lowes, Walmart, and Target cut out the middlemen, buying much of their products directly from manufacturers and passing on the savings to consumers. Indeed, nowadays the term middlemen is something of a pejorative suggesting a party that boosts costs and lowers value. Unlike big box stores in the retail sector, the U.S. health care system relies on inefficient middlemen more than other sectors.
Pharmacy Benefit Managers (PBMs) procure virtually all prescription drugs. In theory, PBMs have massive buying power, extracting price concessions from drug makers no health plan could match. PBMs manage drug benefits and design drug plan formularies. In theory, tiered formularies are designed to steer patients to cheaper options when good options exist. It is not always patients and their health plan that benefits from PBM plan design, however. The industry has consolidated in recent years. The top three firms control about 80% of the market. It is little wonder that over the years PBMs have gained sufficient market power to extract profit at the expense of consumers, pharmacies, and health plans. PBMs are frequently accused of steering patients to the drugs that provide PBMs with the biggest rebate rather than the lowest price or best value.
Third-Party Administrators (TPAs) are the middlemen of self-funded health insurance. TPAs manage health benefits for large employers. Nearly two-third of Americans with employee health coverage are insured through self-funded plans. That means their employers take the role of insurer and a TPA manages the plan. The large TPAs are mostly owned by insurance companies. TPAs adjudicate claims for employer plans but also reimburse hospitals at prices previously negotiated with doctors and hospitals. TPAs have traditionally tried to conceal their prices, claiming their negotiated prices are proprietary. Employers often complain that TPAs are reluctant to release employers’ own claims data. Imagine a business where you agree to reimburse a firm for managing your employees’ health costs, but the TPA refuses to tell you what it paid, who it paid, and on whose behalf it paid. When employers can get their employees’ claims data, they often discover the prices they ultimately paid are higher than necessary or even higher than what the provider agreed to accept. Too often TPAs profit from spread pricing, charging an employer more for a service than the TPA paid for it.
Group Purchasing Organizations (GPOs) are the middlemen of hospital supplies. In the 1980s Members of Congress worried that small hospitals were paying too much for medical supplies because they individually lacked purchasing power. Thus, anti-kickback regulations were relaxed so hospitals could band together and buy as large groups. It was done with the best of intentions. What possibly could go wrong? Well, there are a lot of things, including drug shortages and anticompetitive behavior.
A few years ago, I had a 3-hour meeting with a manufacturer of safety syringes at a firm in Little Elm, Texas. The design was high-tech, far better than anything on the market. When a syringe needle is inserted into a patient and the barrel fully pressed, the needle automatically retracts back into the syringe avoiding the risk of accidental needle sticks. The price was lower than other less advanced syringes on the market. The CEO told me most of his market was overseas and in Canada. He could not sell many in the United State. A behemoth of a firm that made competing syringes had signed sole source contracts with the GPOs. In return for rebates on thousands of different items, the GPOs could only buy from select firms. The four largest GPOs control 90% of the market for hospital supplies. Small manufacturers willing to undercut existing suppliers cannot break through the GPOs sole-source contracts. In addition, firms willing to undercut prices on selected items cannot afford big rebates. Hospitals wishing to buy outside their GPO supplier also face disincentives that punish them by withholding rebates. Thus, there is no competition from the hundreds of smaller manufacturers producing thousands of individual medical supplies, because large manufacturers have the market tied up through sole source contracts. Some economists believe GPO’s safe harbor for kickbacks should be repealed to mitigate the incentive to negotiate higher prices in return for bigger rebates.
Insurance companies function as a middleman of sorts. Years ago, I attended a conference on consumer-driven health care in Washington DC. The head of a large hospital trade association was there participating in a panel discussion. When asked why hospitals refuse to quote prices, he replied that hospitals are in the wholesale business, not retail. In other words, patients are not hospital customers, their health plans are. Patients are buying medical services from health plans that are repriced and provided by hospitals and doctors. In that regard, health plans stand between the firms providing medical care and the patients receiving medical care. That is why hospitals do not compete for patients based on price.
Conclusion. The U.S. health care system has become arranged for the benefit of large stakeholders, many of which do their best to limit competition. Unfortunately, patients are not stakeholders with much bargaining power. That needs to change.