Health Policy$ense

Will Price Transparency Affect Hospital Provision of Less Profitable Services?

Cross-Subsidies In the Crosshairs

The question of whether and how much hospitals cross-subsidize unprofitable services with more profitable ones is an important one, especially as wide variation in hospital pricing within and across markets is documented. If prices become more transparent, and a hospital’s revenues from high-margin services drops, will hospitals reduce the amount of less profitable services they provide?

For a hospital’s bottom line, not all service lines are alike. Some are quite profitable (such as cardiology or neurosurgery) while others are low- or no-margin (such as psychiatry, substance abuse treatment, and trauma), partly because they attract uninsured and underinsured patients and partly because operating margins for these services are slim and in some cases even negative. Cross-subsidies are often considered the principal mechanism through which hospitals provide unprofitable care, thereby fulfilling their social missions. But they’re hard to detect in hospital accounting systems.

In the first study to quantify this effect, LDI Senior Fellows Guy David and Lawton R. Burns and colleagues Richard C. Lindrooth and Lorens A. Helmchen, estimated the magnitude of cross-subsidies within hospital systems. They studied how market entry by specialty cardiac hospitals (high-margin services) affects the provision of psychiatric, trauma, and substance abuse care (low-margin services) by general hospitals. They found that general hospitals facing new specialty competition decreased their admissions for unprofitable services and increased their admissions for a profitable service (neurosurgery).

Consistent with cross-subsidization, reductions in the volume of psychiatric, substance abuse, and to a lesser extent trauma care were greatest among the hospital systems most exposed to a potential loss in volume of their cardiac services. Their model estimated reductions of 15% for inpatient psychiatric admissions, 18% for substance abuse admissions, and 5% for trauma admissions.

Their findings indicate that intensified price competition for profitable service lines due to price transparency may have the unintended consequence of reducing the volume of less profitable, though important, services a hospital provides. But perhaps that would not be a bad thing. As pointed out in the study, research from industries such as telecommunications and transportation finds that regulated cross-subsidies are a highly inefficient way to supply unprofitable services (especially considering the alternative of direct subsidies coupled with competition). 

As David and colleagues note, their results should make us question whether to continue to rely on hospitals’ assumed ability to cross-subsidize unprofitable, yet social desirable services.  It may be that internal cross-subsidization is not an efficient way of reaching social goals, and that setting Medicare and Medicaid reimbursement at a level high enough to preserve access to such services is a better option. The movement toward price transparency may hasten that day of reckoning.