Collective Purchasing of Health Care

The term collective purchasing is often used interchangeably with cooperative purchasing, group purchasing and collaborative purchasing and sundry other expressions. A fuller list of terms is set out by Schotanus and Telgen (2007) and Tella and Virolainen (2005) who provide a useful starting point for investigating the wider use of these arrangements.

There are a number of notions of collective purchasing in health care and here three are considered: collective purchasing of health-care inputs, collective purchasing of health insurance, and collective purchasing of health-care treatments or interventions. The details are set out below.

Collective Purchasing Of Health-Care Inputs

In the first notion of collective purchasing, health-care providers cooperate in respect of their purchasing of medical supplies. Nollet and Beaulieu (2005) provide a useful overview of these arrangements between health-care providers, which often mirror those that arise in other settings. The central idea is that a number of independent organizations, or more colloquially firms, agree amongst themselves to negotiate collectively with the suppliers of their inputs.

Advantages And Disadvantages

The motivation for such arrangements is primarily seen as being to reduce costs, by some combination of negotiating a lower price, reducing administration, or economizing on utilization. Studies of such collective purchasers typically report that they achieve price reductions in the order of 10–15%. Economists would argue that this is probably a consequence of the purchasing collective representing countervailing monopoly power and thus reducing the economic rents of their suppliers. Reductions in administrative costs will result from conventional sources such as economies of scale and scope and consolidation of the purchasing function. Some studies, for example, Schneller, 2000, report savings of as much as 40% in this respect but it is not clear that all costs are being recorded. Exactly how a purchasing collective might reduce utilization of inputs is less clear. One idea is that the collective standardizes its purchases and thus avoids unnecessary duplication of inputs. It is difficult to obtain hard evidence of this in practice and it should be noted that standardization requires coordination but not necessarily cooperative purchasing. In terms of problems of collective purchasing, the usually cited limitations of these arrangements are the problems of reflecting the potential diverse objectives of the members of the collective and the possible antitrust implications of collective action. As suggested above there are a number of sources of further reading on this use of collective purchasing in health care and it corresponds to a broad literature on supply chain management.

Collective Purchasing Of Health Insurance

The second notion of collective purchasing arises specifically in the US health-care sector and originates from a system in which health insurance is often provided as a part of employment. Small employers who have to purchase health insurance on behalf of their employees may be at a disadvantage relative to larger employers in terms of dealing with the providers of health insurance. By forming health insurance purchasing cooperatives they might be able to redress this disadvantage. Wicks (2002) provides a good starting point for further reading in respect of these arrangements; their purported advantages and their potential problems. More recently the term health insurance purchasing cooperative has also been applied to any collective of individuals, as distinct from companies, seeking to purchase health insurance as a group. Moreover, there is contemporary policy debate concerning whether such arrangements can increase the coverage of health insurance.

Advantages And Caveats

If employee benefits are considered to be simply another input into production, then this second notion of the term collective purchasing is very closely related to the first use described in Section Collective Purchasing of Health-Care Inputs. By cooperating, small employers may achieve a lower price or achieve scale economies in their purchase of health insurance coverage. The literature on supply chain management referred to above again provides the details. But it can be argued that health insurance is a sufficiently idiosyncratic ‘input’ that additional issues arise in terms of benefits of forming a collective. The most often discussed issue – and again Wicks (2002) is the best starting point for further investigation – is that of risk pooling. A purchasing cooperative may help to balance high- and low-risk individuals and thus achieve coverage for some employees who might otherwise be precluded by their high-risk premiums. This idea is, however, contentious. If health insurers can discriminate between high and low risks they have an incentive to offer better rates to the lower risk types. So if two employers, one with a high-risk group of employees and the other with a low-risk group of employee form a cooperative to purchase insurance, there is a good chance that the low-risk employer would be offered better terms outside of the purchasing cooperative; the purchasing cooperative will fail. In reviewing the evidence regarding the effect of health insurance purchasing cooperatives, Wicks (2002) draws attention to the greater choice that individuals are faced with when a purchasing cooperative is in place. This is an interesting contrast with the more usual outcome of collective purchasing – greater standardization.

Collective Purchasing Of Health-Care Treatments: The Role Of Insurers

Although the first two notions of collective purchasing described in Sections Collective Purchasing of Health-Care Inputs and Collective Purchasing of Health Insurance arise in particular jurisdictions or in particular institutional settings, the third notion is close to ubiquitous in health-care markets. Although physicians or health-care organizations are the supplier of care and individuals in need of that care are the recipients, for most individuals in most circumstances the terms under which their care is provided – how much will be paid for it under various scenarios – is determined as a part of an agreement entered into by their insurer with health-care providers. This concept of collective purchasing seems to have been first exposited in relation to public-health insurance by Evans (1987) but, as one will see, can equally be argued to apply increasingly to private insurance. To understand this notion of collective purchasing, and just how substantially the consumer of health care differs from the consumer of apples or pears, it is useful to start by reconsidering the usual concept of purchasing (demand) in economics. This supposes that there is a defined good or service, a price that is specified by the seller, and a consumer whose role it is to specify the quantity they wish to purchase. Almost none of this applies in health-care markets. The services that constitute health care are many and varied and patients are more interested in getting better than in receiving those services per se. Service is not well-defined up until delivery (treatment) and suppliers do not compete in the conventional sense of offering a known product at a given price. The quantity that a person wants is ‘enough to make me better.’ And pertinent to a discussion of collective purchasing, consumers seldom act unilaterally because healthcare insurance often involves insurers reimbursing health-care suppliers directly. The topic of health insurance is a vast one and its emergence and growth in health-care provision a substantial area of study, but the interested reader can consult McGuire (2011) or Pauly (2011) for recent overviews. A crucial element of insurance is that it makes the insurer a third-party purchaser of health care and this element of health-care provision gives rise to a number of concerns, especially in terms of the lack of incentives that the recipients of services have to regulate or monitor suppliers. This is another substantial topic for which Stinchcombe (1984) and Enthoven (1994) provide an entry point for further reading.

Alternatives To Collective Purchasing Under An Insurance Scheme

Following Section Collective Purchasing of Health-Care Treatments: The Role of Insurers, the intermediation of insurance seems to make collective purchasing of health-care treatments commonplace. That does not need to be the case; traditional arrangements termed indemnity insurance allow insured individuals free reign to choose their health-care supplier, with the insurer reimbursing, subject to rules regarding copayment, stop-losses, etc., the provider of treatment. However, increasingly fewer private insurance arrangements allow consumers to unrestrictedly choose their supplier, or permit suppliers to dictate the price of a service, preferring instead to manage the treatment pathway by selectively contracting with specific providers or even integrating providers into the organization through employment contracts. Under managed care arrangements, as described by Dranove (2000), Newhouse (2002), and Baker (2011), insurers enter into various arrangements with providers on behalf of their enrollees. This kind of management of treatment provision, where the insurer collectively purchases on behalf of their enrollees is, if anything, more prolific in the realm of public-health insurance which conditions treatment on contracts with health-care providers with terms and conditions set on behalf of all covered patients/consumers (Blomqvist, 2011). Thus collective purchasing and health insurance would seem to go hand in hand; insurers collectively purchase health care on behalf individuals and the extent of such arrangements can vary according to the number of consumers covered (from employees in a single company, to all members of the population of a region or even a nation) or the services covered (from a single health-care intervention to an integrated treatment system) and may encompass many different payment mechanisms (from fixed price per treatment item, to price per illness of a fee per patient).

Advantages And Caveats Of Health-Care Insurance

A first approach to explaining the above phenomenon might be to consider the same motives for collective purchasing as described in the first two notions of that term described above; by seeking to purchase on behalf of a large population the insurer might be able to negotiate lower prices and save resources relative to what each individual would have to expend in dealing with their own provider. One key problem is that providers of health-care have informational advantages and third-party arrangements such as insurance mean that even the limited information that patients have may not available to the payer. This results in a lack of information, incentives, and buying power on the demand side of health-care markets. The result is effective monopoly power on the part of service suppliers and one interpretation of collective purchasing arrangements by insurers is that they provide some countervailing buyer power. In simple terms, a single patient, consumer, or even small insurer may be at the mercy of a health-care provider who dictates a high price; a purchasing collective may achieve a lower price. This mirrors the traditional role of collective purchasing in other contexts except that in health care a need for countervailing market power may by more pervasive; it is not only lack of competing suppliers that creates seller power, it is lack of buyer information.

The previous approach does not, however, recognize the very distinctive features of health-care provision regarding which a large literature has developed in health economics and which can begin to rationalize the third notion of collective purchasing much more convincingly. There are extensive discussions of agency, imperfect information, and transactions costs and the implications of these for health-care delivery and understanding these concepts is central to appreciating a long tradition in health economics focusing on the consequence of insurance in terms of the extent that consumers who are insulated from cost will not have incentives to control the cost of their treatment. It thus becomes important for insurers to contain costs but, given the general lack of information that patients and consumers have it is also important to maintain incentives for a good quality of service.

In this setting, collective purchasing of health treatments becomes a method of dealing with multiple agency issues. One approach emphasizes selective contracting, the purchaser’s decision about which providers to contract as suppliers. By limiting the set of suppliers, the purchaser generates bargaining power that may counteract market power of sellers or allow a buyer to influence the cost and/or quality of care. A second possibly complementary approach focuses on contract design. Rather than just negotiating on price, in their role as collective purchasers of health-care insurers may dictate the form of contract that the health care is provided under and thereby seek to influence, through the design of appropriate incentives the cost and quality of health care that patients receive. Viewed in this context a collective purchasing contract is a means of trying to align the incentives of health-care suppliers with those of the purchaser of health care. A great deal of attention has, for example, been directed at the question of whether a simple fixed-price arrangement as embodied in the Medicare Prospective Payment System in 1983, and much emulated since, can achieve both cost control and appropriate quality of care. A recent summary of the extensive adoption of such systems in Europe and the claims that are made in terms of cost control are documented in Brusse et al. (2011). This transition from purchasing through reimbursement of costs to determining an ex ante fixed price gives perhaps the best illustration of the potential of collective purchasing to effect change in a health-care system.

Agency theory also highlights how difficult it might be in practice to design good collective purchasing contracts for health care. As one problem is resolved so others may materialize. One concern that has developed is that while moving toward predetermined prices based on a particular characterization of a patients’ medical condition (so called prospective price contracts) may drive down costs, it may also give rise to attempts to select easier to treat patients – cream skimming – or avoid expensive ones. Thus for a collective purchaser the design of appropriate contracts can be very complex matter.

Summary

In many areas of economic activity, purchasers find it in their interests to act collectively to get a ‘good deal’ from their supplier. Traditional explanations of collective purchasing rely on the concept of buyers achieving some monopsony power to offset the monopoly power of sellers, or on the achievement of scale economies in purchasing. These explanations apply equally well in health care in regard to supply chain management in healthcare organizations such as hospitals, who cooperate to purchase medical supplies, and can be extended to understand health insurance purchasing cooperatives. The possible disadvantages of these arrangements are that they fail to correctly reflect the diversity of preferences of their constituent members, or that they may run foul of the law in terms of antitrust or anticompetitive practices. But there is another notion of collective purchasing in health care that is more prolific and requires a rather more involved explanation. Individual consumers of health care do not for the most part act unilaterally in dealing with a health-care supplier – insurers, both public and private, act as intermediaries and very often as the collective purchaser. This manifestation of collective purchasing is intricately linked with the prevalence of health insurance, which is an arrangement concerned with insulating individuals from the costs of their health care and where individuals are so insulated agency problems arises. Insurers may try and contain costs and ensure adequate quality by setting terms and conditions for the supply of health treatments and thus act as collective purchasers. These sorts of arrangements go under different names such as managed care or health-care contracts depending in part on whether they are instigated by private or public insurers, but they are in essence collective purchasing.

References:

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Demand Cross Elasticities And Offset Effects