A Paradox and a Playground: What We Learned From a Virus

by Tom Robertson

Executive Director, Vizient Research Institute

Depending on where you grew up, you might refer to the contraption as either a see-saw or a teeter-totter. The ones I knew as a kid were nothing more than a long board fastened at its center to a fulcrum. A handle, made of pipe, was screwed into each end – something to hold on to as you rode up and down, alternating places with your partner who sat on the opposite end. It was important to choose a riding companion roughly your size. Balance was everything. Put a big kid on one end and a small kid on the other and one merely sits on the ground while the other is stuck up in the air. And if the heavy kid suddenly steps off of the teeter-totter, the kid in the air comes crashing down, out of control. It wasn’t uncommon to see a broken collarbone, or worse. The financial impact of the COVID-19 pandemic on hospital operating margins has a lot in common with that old playground apparatus.

Hospitals have become economically dependent on elective surgeries. It wasn’t clear exactly how dependent until very recently. The financial havoc caused by the postponement of elective surgeries is far more serious than intuition may have predicted, and it has significant implications for health care finance once the crisis has passed. As hospitals and health professionals have leaned into the pandemic with efforts nothing short of heroic, their economic survival has been threatened as a result of suspending elective procedures while fighting the virus. This unintended consequence of the traditional payment system is untenable.

At the center of the financial crater is the practice of paying so much more for surgeries or invasive procedures than we pay for medical admissions or non-invasive services. Some payment differential is unavoidable; resource consumption is higher for surgical cases, but the payment differences have evolved over decades to the point where hospitals are like the little kid hanging in the air on a teeter-totter. If the big kid gets off, there is nowhere to go but down. Hard and fast. Hospitals are losing billions of dollars in revenue as elective procedures are deferred. With enormous fixed costs, furloughs and other variable cost reductions are not able to close the gap. At a time when we need them most, hospitals are struggling to remain solvent. How did we get here?

The prices paid to hospitals by insurers have been the subject of contentious negotiations for more than 40 years. Providers were more successful in negotiating higher payment rates for unique or differentiated services, while more commonly available services were paid less. Of note were so-called “outlier provisions” – stipulations for higher payments if cases exceeded the normal range of costs. Since surgical cases are more statistically volatile, they trigger lucrative outlier payments more frequently. Over the years, prices for surgeries and procedures outpaced prices for medical admits and non-invasive services. Not surprisingly, more capital was invested in clinical services having higher returns. In time, our clinical enterprises became disproportionately dependent on surgical volumes and surgical revenue to fund the business.

When the pandemic hit and elective surgeries were suspended, the economic impact was crippling. With the benefit of hindsight, our vulnerability comes into clear focus. It is interesting to note that in Maryland, where years of hospital rate regulation has evolved to include the use of global spending budgets, the initial impact of surgical deferrals was less intensely felt. Not unlike the National Health Service in the United Kingdom, the global spending concept makes revenue fungible. During times of crisis, hospitals can shift surgical revenue over to cover the costs of medical admissions. For most U.S. hospitals, the revenue was not fungible, it stopped coming.

As we come out of the current crisis, the question of whether we go back to business as usual merits consideration. Payment rates for surgical cases will always be higher than rates paid for medical cases – the costs are higher – but the operating margins derived from surgery have put us in harm’s way. Some degree of leveling may be in order. A little less for surgery, a little more for medicine, perhaps even including an element of an overall budget.

As counterintuitive as it sounds, the current pandemic has amounted to a financial windfall for health insurers. The billions of dollars not collected by hospitals for surgeries postponed are billions of dollars not paid out by the insurers. Automobile insurers have announced rebates resulting from no one driving their cars. The federal government recently imposed a requirement for health insurers to issue rebates reflecting their lower “medical loss ratios,” but it would initially appear that those rebates will go to employers and individuals who paid the premiums, not to hospitals.

In the future, relationships between insurers and hospitals that establish global spending budgets could provide valuable protection against cost overruns to insurers while making funds needed by hospitals more fungible, alleviating painful shortfalls when hospitals shift resources from surgical cases to medical cases, in the process saving lives.

Over the years, our teeter-totter became seriously unbalanced and in the middle of the crisis, the big kid stepped off.