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As a business, post “reform” insurers retain their most valuable asset – control over the price of healthcare in the United States. That has been the case since health insurance became synonymous with healthcare about 25 years ago. Profits are regulated but spending is not. The spending level determines how much insurance company earnings grow.

That is a problem now because health insurance prices are already at-- or close to-- what the market will bear. Price increases are going to be much harder to come by. Insurers have nearly exhausted the great edge granted to them by the states and condoned by federal inaction for decades. (See Part 1, attached, building profits on waste and inefficiency.)

Insurers should trade in their power to set prices in exchange for federal price control. An appealing proposition for insurers and the government considering the enormous amount of non-productive spending now imbedded in U.S. healthcare. It would be easy for insurers to eliminate waste and inefficiency, taking double or even triple the 4% margin they now earn. This is the opposite of what they do now to make money.

How much spending can be phased-out over the next ten years while improving the quality of care? Compared to the U.S., the Japanese spend 9% of GDP on healthcare versus 18% here. That difference in GDP amounts to a staggering $1.25 trillion annually. More than half of that is a private insurance premium. Most of the rest is paid by the federal and state governments for Medicare and Medicaid coverage. Western Europe’s healthcare systems take about 13% of their respective GDPs. Europe and Japan cover all.

The only difference between the U.S. and Japan’s 100% private for profit system is government regulation of prices (reimbursement rates). Otherwise, it is the same as here, except service and quality of care are better in Japan.

After WWII, The Japanese government decided it would have to regulate health insurance prices because it is an essential service. They were great students of pure capitalism having been taught by us. They understood the private sector is more productive than government because it seeks profits, and in doing so, creates wealth. But, government has the right and obligation to regulate prices when it conveys a franchise to deliver an essential service.

Someone suing the government for failure to regulate healthcare prices is a risk that might narrow the window insurers have to negotiate a good deal.

The way health insurance companies make money in the U.S. will change when reimbursement rates, as initially fixed by the government, are sufficient to provide no more than breakeven operating results for insurers. There would not be the automatic markup for profit that we see today.

Insurers would then be free to earn much higher (negotiated) fixed margins for the period of time it takes to reduce non-productive spending to an affordable level. That will bring insurance prices and utilization for private and government funded insurance in line with all other wealthy countries.

Insurers are the paymasters of healthcare – who gets what and how much.

Granted, margins would be earned on a declining amount of spending, but that can all be calculated and present valued. If non-productive spending does not decline in at least nominal terms, there will be no profit.

To prevent an insurer from acting too aggressively - front loading profits during the transition period, minimum reimbursement rates, as well as maximum, would have to be set each year. That is because the lowest priced insurer will make the highest margin if they also deliver competitive quality and service. Healthcare is gigantic in the United States and it will need time to adjust.

Some providers will be happy, others will not. For insurers, the trade off is straightforward. Give up price control; earn big profits while transforming into stable but slow growth rate regulated utilities, or stick with the current system, earning what you can in an increasingly hostile environment.

Disclosure: No positions

Source: Health Insurance Companies Part II: Can They Prosper in the Next Decade?