Health Insurance Hospitals Medicaid/Medicare

Do Hospitals “Cost Shift” to the Privately Insured when Medicare Reduces Prices?

Many health policy experts believe that when Medicare or Medicaid decrease prices, hospitals will increase the prices they charge to the privately insured.

Does this make sense?  Ginsburg (2003) summarizes the debate:

Most executives in hospitals, physician organizations, health plans, and businesses have long been convinced that reductions in rates paid to Medicare and Medicaid lead directly to higher payment rates charged to private payers. But most economists who have published on the topic express strong skepticism about the possibility that cost shifting can and does occur.  Not only do they point to empirical analyses that fail to obtain results supporting the existence of cost shifting, they also argue that cost shifting is conceptually impossible. The crux of their argument is the question of why providers with the ability to increase revenue through increases in prices to private payers would not have already exhausted such capacity prior to reductions in payment rates.

Ginsburg argues that cost shifting can occur.  Many hospitals are non-profits whose goal is not profit maximization.  Instead, they may try to maximize the quantity of patient care subject to a constraint of fiscal solvency.  The board of directors for many hospitals is made up of community leaders and physicians rather than managers, which further dilutes the profit motive.  When Medicare or Medicaid reduces reimbursement rates, non-profits may increases prices charged to private insurance companies to insure that they will break even.  Additionally, for-profit hospitals may also be able to raise the rates they charge private insurers only after a Medicare or Medicaid fee cut because they must compete with non-profit hospitals on price.

Although Ginsburg offers a compelling argument that cost shifting could occur, he does not provide empirical evidence that it does occur in reality.

In a related article, Lee et al. (2003) argues that cost shifting does occur and relates 4 findings:

  1. Medicare’s early (pre-prospective) payment policy was a boon to hospitals.
  2. Medicare payment policy is a “top-down” affair, driven by budgetary and special-interest politics.
  3. Federal policymakers may not consciously consider cost shifting, but state policymakers do.
  4. Medicare payment policy requires constant adjustment, but we are “getting it right” most of the time.

This findings may be true, but I do not know how reliably hospital costs can be attributed to private pay versus public pay patients.  Hospitals have significant fixed costs and may allocate a larger share of fixed costs to their public-pay patients to make it seem that treating them is an onerous burden and the government needs to increase reimbursement levels.  In fact, in one chart, Lee and compare hospital margins between private and public/non-paying patients, but there is no reason why non-paying patient margins should be lumped into the cost of treating publicly insured patients.  Thus, these four conclusions should be viewed with a healthy dose of skepticism.

Michael Morrisey (2003) provides another explanation:

Yes, health care providers charge different prices to different payers. No, this is not cost shifting. Airlines, hotels, movie theaters, even my local Lowe’s Home Improvement Center charge different prices to different buyers. These actions are artifacts of having some degree of market power, but they would constitute cost shifting only if the hotel, for example, raised its price to me because it lowered its price to the convention group…there is no reason to necessarily believe that the health care provider loses money that had to be made up when it accepted a lower price from one group of buyers.

Morrisey argues that the focus on cost shifting is not the source of the problems; the lack of a competitive hospital market is the real issue. Morrisey recommends enforcing anti-trust laws, eliminating certificate of need (CON) laws, and repealing any-willing-provider laws. I agree that these are sensible solutions.


  1. Here in Vermont, where our hospitals (all non-profits, virtually non-competing) are subject to a non-binding budget review, the cost shift is explicitly acknowledged in the rates approved by the Commissioner. Every year, the regulatory agency issues a report on the extent of the cost shift built into the commercial rates for that year. The most recent report can be seen here:

    The agency has been tracking the growth of the cost shift in Vermont for at least 10 years now. Perhaps this is more significant here because the growth in our Medicaid and other programs for the past five years or so has been “funded” largely by underpaying physicians and hospitals, requiring them to raise their charges to commercial carriers to stay afloat. The underpaymnet by Medicaid atually far outstrips Medicare. Beucase half our hospitals are CAH, Medicare, acutally, is a great payer, comparatively… According to the agency’s analysis, Medicaid is now paying Vermont hospitals approximately 55 cents on the dollar (allocated costs), the lowest rate we’ve been able to find in the nation. With nearly 25% of our population in a program that pays only 55 cents/dollar, there MUST be cost shifting for these community hospitals to survive.

    According to our legislature’s Joint Fiscal Office, the impact on private insurance premiums is approximately 8%.

    Or, are we just imagining all this?

    Jeanne Keller, Keller & Fuller, Inc.

  2. > Or, are we just imagining all this?

    I quickly read the Vermont report — read Appendix C and ask yourself whether the methodology was rigged to produce a conclusion.

    And there’s this: “Disproportionate share payments are not included and are eliminated from consideration.” Huh?? So they’re simply going to ignore the payments they get from the government on behalf of the poor to cover free care & bad debt “in excess” of what’s expected in return for tax exempt status? On what grounds?

    A clue:

    Gross Revenue (GR) is the sum of the fantasy list prices a hospital prints on its bills. Deductions from gross revenue (D) are the discounts negotiated (or imposed) off the fantasy list price they don’t really expect to get anyway. Therefore, GR – D is the actual price asked-for and varies by payer. There may be the occasional sucker who pays the list price (just like at a car dealer) but don’t let them snow you with language. There is no such thing as Gross Revenue. Period. What they call Net Revenue is what counts, and ought to include disproportionate share payments as well as the value of their not-for-profit tax exemptions.

    This is just more silly ratio-of-cost-to-charges nonsense that pervades hospital administration. Every time they use GR as an allocation basis, they’re presuming a strong and uniform relationship between their list prices and resource utilization (i.e. cost). It ain’t true, it’s just easy to compute in your cubicle without having to know what’s actually going on.

    And look at the flip side: does anyone believe that Medicare paying more would cause the hospitals to lower the prices charged to commercial insurers?? Why should they?

    Oh, and look at what Mr. Frakt said. I’m talking accounting, he’s talking economic behavior. Well, OK, I did too in that last paragraph.


  3. The primary source for national cost-shifting allegations by many hospital administrators, politicians, and the press is research commissioned by the hospital and insurance industries from the actuarial firm Milliman Inc (HOSPITAL AND PHYSICIAN COST SHIFT, December, 2008), The research computed Medicare Program hospital costs for all patient care services including both those services paid by the Medicare Trust Fund and those paid by Medicare copayments. However the research computed Medicare Program revenues from a source that includes only only Medicare Trust Fund payments, but not Medicare Program copayments. Including Medicare copayments in the net profit computation in the Milliman formulation increases Medicare hospital net profit rates from Milliman’s negative 9.4 percent to a positive 11.4 percent. The Milliman Medicare hospital losses are further belied by Medicare cost report data computed by both the Center for Medicaid and Medicare Services (CMS) and the Medicare Payment Assessment Commission (MedPAC).

  4. Dr. Haynes. Sorry, I just now saw your response to my note.

    I did not mean to imply that the MedPAC or CMS have published critiques of the Milliman report, only that their data tend to refute it. The MedPAC publishes fee-for-service Medicare profit (loss) rates annually in its Report to Congress (see Table 2A-4) The MedPAC reported a 4.7 percent loss on the hospital fee-for-service Medicare Program for 2006 compared to a 9.4 percent loss reported by Milliman for the total Medicare Program, see Chart 5. According to AHRQ’s 2006 Medical Expenditure Survey, the hospital fee-for-service sector accounted for about 80 percent of Medicare payments to hospitals (managed care paid the rest). Therefore the Milliman study implies that hospitals incurred a 30 percent loss on Medicare managed care sector, more than twice the loss rate Milliman reported for the Medicaid program, an implausible conclusion.

    The CMS publishes annual National Health Expenditures for hospitals which, when properly adjusted, shows that the Milliman methodology omits Medicare copayments from its computation of hospital losses, an invalid procedure that results in the substantial Medicare losses reported by Milliman and, more recently, in the AHA’s annual report on public program losses (see ). If you want a critique of the AHA/Milliman methods which utilizes these CMS data please tell me where to send it.

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