Lipstein on hospitals

by Russ Roberts on December 11, 2008

in Podcast

The latest EconTalk is a conversation with Steven Lipstein, the head of BJC, a $3.1 billion hospital system in St. Louis. We talk about pricing in a world without markets and decision-making in a world without profit.

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eric December 11, 2008 at 9:52 am

How much was the orange juice? There was a very interesting answer where he said "you need a qualified person to administer it, and it is regulated". If there was zero litigation and regulation, and people used common sense in allocating things like supplements, vitamins, food, changing bedpans, even simple things like IV fluids…how much would hospital costs decrease?

It seems like lawyers and regulators have implicitly colluded with the health care industry into wasteful featherbedding.

Chris December 11, 2008 at 9:55 am

And, it is excellent. Two of the biggest insights occurs early: because health insurance companies demand discounts from list prices, hospitals respond by raising list prices, which increases prices for the uninsured. And, medicare and medicaid don't pay the full cost of their patients (if so, why accept medicare & medicaid patients?? I suspect it has to do with their "social mission" or something.)

Russ — in a future podcast, could you talk to somebody who has examined why healthcare costs have gone up so dramatically? I believe that even in procedures that haven't changed much in 20 years– setting a simple fracture and wrapping it in a cast, for example — prices have gone up, even though the underlying procedure has changed little. I'm curious where the additional money goes.

mjh December 11, 2008 at 2:59 pm

I wish I had data on this rather than just an anecdote, but it's hard to imagine that the prices of routine procedures has gone anything but up.

Not too long ago, I took my 3yo son to urgent care to get stitches in his head after a somewhat unpleasant fall. He hit the corner of a piano bench and created a rather deep cut. We have insurance that has pretty good catastrophic coverage, but very poor coverage for run-o-the-mill events (e.g. a 3yo boy behaving carelessly). So I knew that we were going to have to cover most of the cost of this.

On the same day that I got my bill, I heard an advertisement on the radio for lasik eye surgery. The price was $500 per eye. I mention this, because later on when I got the bill for the stitches it was approximately $500. The contrast between the two just strikes me as unreal. One procedure is extremely routine, requires minimal training to perform, and requires no specialized equipment. The other requires quite a bit more training, and equipment to make happen. Yet the price is roughly the same.

But the thing that was even more shocking that the office that was selling this procedure couldn't tell me how much it was going to cost. I asked because I knew I was going to be responsible for the cost. But they didn't know. Can you imagine taking your car to a garage where they couldn't even give you an estimate of the cost? Can you think of any area of your life where you get a service performed for you that they don't tell you what it's going to cost?

Russ' conclusion that the price system isn't working in health care matches with my experience.

Chris December 11, 2008 at 6:04 pm

mjh –

I've noticed that too. A friend had a form of bariatric surgery done at a hospital that does a lot of optional surgery. She got a hard quote from the surgeon and the hospital. My dentist tells me exactly what something is going to cost, as does my optometrist. A relative had plastic surgery on a flat-fee basis.

THe difference? Insurance doesn't usually cover most of these things.

muirgeo December 11, 2008 at 7:34 pm

When it was asked who does the not-for-profit hospital answer to it became clear how different an economist and a physician might think about the world and each others professions. My patients are my shareholders. Their health not profits is what keeps me in business.

IMO a big step in the destruction of the American medical system was allowing for profit medicine to enter the scene. Not to mention the way in which it was allowed to occur. Very shameful.

mjh December 12, 2008 at 12:23 am

One of the surprising parts of the conversation was when I realized the guest used the word "compensation" to refer to the pay that received by doctors. And of course, that it the correct word. The pay compensates for the service provided. It's a trade. The only alternative that I can see to compensating for the service is forcing the service. Does compensation result in profit. Yes. But if there is any middle ground between profits and slavery, I don't see it.

I disagree with the idea that profits are evil. I understand that others think differently and want to rid the world of profits. But if the only alternative is slavery, it seems like the cure is worse than the symptoms.

I don't think profits are the problem in health care. I think the transfer of sovereignty from the consumer to a 3rd party is the problem. I don't see that problem getting any better if we change the 3rd party from a private one to a public one.

brotio December 12, 2008 at 12:28 am


You recently extolled your trips to Yosemite, and a trip to Alaska. Were you working? Were these trips necessary to put food on your table, or a roof over your head? I don't think so, you greedy profiteer. You're obviously making more than is necessary to provide for your needs, so take a pay cut, you hypocrite.

Why are you allowed to profit from the medical industry, but not the hospitals, insurance companies, or pharmaceutical companies that help make your success possible?

Your phony altruism is wearing thin, ducktor. At least Mother Theresa practiced what she preached.

brotio December 12, 2008 at 12:31 am


Your post of Dec 12, 2008 12:23:12 AM makes some excellent points. Thankyou.

Sam Grove December 12, 2008 at 12:41 am

I don't think profits are the problem in health care. I think the transfer of sovereignty from the consumer to a 3rd party is the problem.

A large part of it, I've no doubt.
Who controls most health care dollars?

In most case, it's not the patient.

muirgeo December 12, 2008 at 7:25 am

I don't think profits are the problem in health care. I think the transfer of sovereignty from the consumer to a 3rd party is the problem. I don't see that problem getting any better if we change the 3rd party from a private one to a public one.

Posted by: mjh

I never said profits were a bad thing. I said for profit healthcare IS a bad thing. Big difference. In fact the history is that once not-for-profits were allowed to become capitalized and for profit that is when you see the rise of 3rd party payers and sky-rocketing cost.

In our non-profit system no one is worried about making fortunes. We are all happy with a stable and fair salary for our work in exchange for not having to put stock holders and CEO's ahead of patient needs. See for some people making a good and fair wage while feeling good about what you do for a living is important compared to other people who see only opportunities to make far more money then they would ever need as their main priority. Those type of people should not be the ones you want to go to for your health care. I've worked in both systems and in military medicine. The worst system for the patient is by far being in the for profit system were 25% of your premium goes straight to CEO's and shareholders.

A society that is run simply on profit motive is destined for misery.

Keith December 12, 2008 at 8:16 am

Quote from muirgeo: "In our non-profit system no one is worried about making fortunes."

So how much money do you make? All of us "shareholders" will be the judge of what is "fair". Are you making six figures? Sounds pretty rich to me. I think it's more fair if you make less.

Let's take a vote. Who think's Dr. muirgeo should be making $100k? $75k? I know lots of people who live on less than that. That's probably enough. We can't have him making any profit, you know.

tarran December 12, 2008 at 9:12 am

Chris, mjh,

You guys have a flawed model in you head of how prices get set.

I'll quote my friend Brad Warbiany on the subject:

The misconception of pricing is obvious. Most people think that prices are determined by a simple formula:

Price = Cost of materials + Cost of labor + Overhead + reasonable profit

It sounds so axiomatic that it is taken at face value. It’s so often true (but for a different reason) that it seems correct. But it’s not that clear.

Pricing is actually determined by the following equation, with a second equation added for clarity:

Price = whatever the market will bear
Profit (or loss) = Price – Cost of inputs – Cost of labor – Overhead

Note the difference between the two. Price is not a PRODUCT of the equation of material/labor/overhead/profit. Price is determined through a wholly different process, and profit or loss is the product of the pricing equation.

There is no where for the money to "go". The problem here is that government subsidies + caps on the number of people providing the service means that the market clearing price is growing dramatically.

To be honest, if we got rid of state licensing for doctors, state limits on how many students medical schools were permitted to graduate, state limits on who could manufacture medical equipment etc, you would see the price of these things crash. They would crash even faster if we got rid of Medicare.

Absent such steps, the prices will continue to skyrocket. Well, the government could impose price controls and start rationing care by waiting lines, I suppose.

Chris December 12, 2008 at 10:23 am

Tarran –

In the short run, you're right. In the long run, you're wrong. Nobody stays in business producing a product at a loss, and nobody can make a huge profit because potential competitors will see that huge profit, enter the market, and drive the profit down.

Playing with your first equation:

Price = cost + (profit or loss)

(by definition of profit and loss.)

If price goes up, then either (1) cost goes up, (2) profit goes up, or (3) loss goes down. I suggest that neither (2) nor (3) has happened. That leaves (1), and I'm trying to figure out what components of (1) have gone increased.

tarran December 12, 2008 at 10:39 am


The number of doctors practicing medicine are capped by the state.

The number of doctors graduated from medical schools are capped by the state.

There are huge up fron expenses to introducing new mdedical equipment to the market. Ditto for drugs.

If you physically prevent people from entering the industry, then high profits will not be mitigated by new entrants.

Also, the price people are willing to pay for a good is a function that includes among its many inmputs how much money they have to pay for that good. The structure of government subsidy and employer financed health insurance, mean that people are deciding to pay for a procedure as if it costs $20.00 when it costs $200.00. The higher the subsidy, the higher the market clearing price if the supply is held fixed.

Limit the supply and subsidize the demand on donuts, and you would see the cost of donuts simmilarly skyrocketing.

BS Aplenty December 12, 2008 at 11:18 am

I would suggest that, in very large part, the federal and state governments get out of the direct health care delivery system and let the market price these services. The governments intrusion always tends to foul the pricing mechanisms so important to delivering value. The result is akin to GM, Ford, Chrysler under the oppressively distorting CAFE standards.

Government intrusion also stiffles creativity in healthcare delivery. Who knows (but we can imagine) the innovative mechanisms we would invent to provide basic and even advanced healthcare services. Can you say "Health-Mart"?(think Wal-Mart for healthcare). The government operates best when it judiciously legislates to promote openess, competitiveness, fairness and the like. Then give the market a chance.

Lastly, in the area of Americans without access to healthcare, wouldn't it be better for the government to simply pay their insurance premiums. This process would, likely, create more health insurance companies and a more competitive market for such premiums. Included in this last suggestion should be an effort to divorce health insurance from companies and promote a market for high deductible policies so we stop using third parties to administer routine/basic health services.

I think Smith, Hayek and Friedman would all approve.

Oil Shock December 12, 2008 at 1:50 pm

Muirgeo should not be allowed to make more than "minimum wage".

Chris December 12, 2008 at 2:03 pm

Tarran –

If you're suggesting that the market for medicine is hardly a free market, I agree. I think some of your facts are wrong (states license doctors, reducing supply marginally, but do not place a cap on their number).

My original question was about something that should be relatively unaffected by new equipment or new drugs. Let me rephrase it: It used to be that setting a broken arm cost $X. Now, it costs $Y. Where does the difference (Y-X) go?

I think you're saying that the difference is mostly additional profit. That may be true, but I'd like to hear it from somebody who's actually looked at the data.

Understand where I'm coming from here — a big chunk of the run-up in health care spending is due to new drugs and technologies that are very expensive to develop. But, there are other increases, and I'd like to know what they are.

Matt C. December 12, 2008 at 4:44 pm

I wanted to take a moment to defend Muirego for a moment. I hardly (99.5 times out of 100 maybe) ever agree with him. I think his ideology corrupts his analysis of what he sees in the real world. In the free market profit invites more market players into the fold. Profit gives businesses the incentive to provide new and better goods and services. But in the real world we don’t have a free market in the medical industry.

For-Profit hospitals become subject to shareholder demands, cutting cost and increasing returns. Higher quality patient care and profits are not synonymous, but this is true in other segments of the economy. But profits in the hospital industry are much more difficult to come by. Costs are high. Demand is high. Regulation is high. This leads to decreased customer service, so-to-speak. It also leads to patients feeling as though they are being ripped off, which is likely. Non-profit groups have no shareholders to who they must answer. They can take the profit from their enterprise and roll it back into the business by increasing its ability to find the best doctors and staff or technology. But this does not mean that government run hospitals is the answer, for they may be the most blatant providers of poor services. I would also like to note that my experience with for-profits is anecdotal and what I have observed. I am sure that there are for-profit hospitals provide excellent service.

But Muirego, let me chastise you.

1)The problem is not the for-profit status of hospitals but the institutions that all hospitals must operate. In a truly free market for-profit could provide higher quality services, possibly at lower prices. As it stands right now hospitals have to ask for permission from commissions to merely add beds. It is analyzed to find out if adding beds to one hospital could have an adverse impact on other hospitals in the region. That’s not competition.

The third party payer system disrupts the price mechanism within the medical/hospital industry. This adversely impacts those who do not have the third party payer taking care of the bill. Professor Kling’s book does a great job of showing how it impacts prices and services.

2)Your statement about employees working in non-profits being more benevolent than for-profit hospitals is close to being laughable. There are many people in the world who do for-profit work that don’t make much money, but they enjoy what they do. I would encourage you to find out how much your hospital administrator makes. I would wager that if they don’t make eight figures (or more) it’s pretty darn close. Hospitals administration does not come cheaply. I am sure that they believe that they are doing wonderful work helping those who are sick and in need. I am also sure that many would move to a for-profit or another non-profit hospital if a raise was possible.

Doctor’s in non-profit hospitals are also paid market wages. Nurses are paid market wages. (Except maybe where there is a union and my guess in that situation they would probably make more.) You don’t pay below market wages for high quality individuals and have great services. It may be maintained over a short period of time, but over the long run this is not likely. It’s not about a “Fair” wage; it’s about the qualities that make you valuable to the hospital. An “unfair’ wage would be to pay you more than the value you bring to the organization, whether they are for- or non-profit.

Muirego, please don’t confuse a highly regulated industry with a free market. In the free market for-profit institutions could provide high quality services, but we don’t have a free market. Always remember incentives matter. Government distorts incentives that would make for-profit organizations better.

muirgeo December 12, 2008 at 7:43 pm

"In the free market for-profit institutions could provide high quality services, but we don’t have a free market."

My problem is that this claim is theoretical only and not based on any real world evidence.

tarran December 12, 2008 at 8:21 pm


The supply is indeed limited. They don't like to put hard numbers on paper, but occasionally the wall slips:

FINDING 1: The rate of growth in the physician supply has moderated slightly but is still likely to lead to a surplus of physicians. To help avoid a surplus of physicians, particularly specialists, the Council previously recommended that the number of new physicians entering training be equal to 110 percent of the number of U.S. medical school graduates in 1993 (COGME Fourth Report, 1994; Eighth Report, 1996). The Council finds that only limited progress has been made to date in reducing the number of physicians in training and in 1997, 129 percent of the number of 1993 U.S. medical school graduates entered residency training. The number of specialists being trained exceeds the target established by COGME by 41 percent, more than 4,000 physicians per year.

Council on Graduate Medical Education ummary of Fourteenth Report COGME Physician Workforce Policies

The primary way that the workforce is limited is by placing strict limits on the number of graduates medical schools are permitted to produce. The reason why Cogme failed in reducing the nmber of doctors from our current "surplus" was probably that states are loath to lose the tax revenues from reducing the number of medical students within their borders.

The development of new technologies is emphatically not involved in raising costs for existing procedures. New technologies increase productivity. New technologies will only be adopted if they improve upon existing techniques.

The rise in costs, like the rise in the cost of education is entirely due to the combination of high barriers to entry caused by government restrictions on supply coupled with subsidies shifting the demand curve upward along the price axis.

Much of the increase, of course, is eaten up in increased administrative costs, mainly due to government regulation, which is a boon to bureaucrats, insurance companies, lawyers and the like. However, if the cost were simply going up with everything else staying static, you'd see a decrease in the number of people providing services. Yet you still have what 7 people applying for every open seat at medical school.

brotio December 13, 2008 at 12:37 am

"I never said profits were a bad thing." – Mierduck

You've never said profits are a good thing. In fact you've never done anything but bitch about greedy capitalists.

Sam Grove December 13, 2008 at 1:59 am

The problem is people not having direct control of their health care $$$ combined with extensive government participation in the market.

Remember it was the AMA that lobbied for government regulation of the medical industry.

muirgeo December 13, 2008 at 10:03 am


I actually believe my economic "prescriptions" would actual lead to a better more profitable economy then yours. Call me miss guided but I ultimately want what I think most of us want and that's a better future for our kids. The only difference between us is I understand that profits are maximized when aggregate demand is maximized while you some how think setting up a system that concentrates wealth at the top is more effective. It's not. Th evidence shows that over and over and over and over and over again. It's less effective and ultimately less liberating to society as a whole. But for simple minded people all that matters is paying less taxes in the short run. Cause it just seems to make sense if you try not to think things through too hard. And it also makes it easy to sound like you support more liberty then the other guy when unknowingly …. you don't.

Chris December 13, 2008 at 11:08 am

Tarran –

I believe that there are those who would like to reduce the number of doctors, just as there are those who would like to reduce the number of lawyers, dentists, etc…. I haven't seen any evidence that those people are successful.

In any case, it seems that you are implying that the increase in healthcare spending over, say, the 20 years has been accompanied by a real increase in physician take-home. Is that really your implication?

tarran December 13, 2008 at 4:31 pm

I believe that there are those who would like to reduce the number of doctors, just as there are those who would like to reduce the number of lawyers, dentists, etc…. I haven't seen any evidence that those people are successful.

You need to do no more than look at the number of people trying to get into medical school who are rejected… I did a very unrigorous examination of this a few years ago (basically looking at a medical school in CA's press releases using the way back machine) and noticed a generally upward trend in the number of applicants who do not get in. State boards approve or disapprove of the expansion of student training capacity – medical schools must get permission to expand the number of students they train. The licensing exams are written with an aim of passing something like 110% of the number of people who graduate from school (the extra 10% + %failing from local schools comes from immigrant doctors who pass and are licensed). The tests are made harder (standards are toughened) or made laxer (accomodation is made for community needs) as needed to maintain the shortage.

And, since state medical boards are independent, you get some "cheating" when it benefits the locals. But, the physicians who are politically active spent the bulk of the 1990's warning of surpluses of doctors.

Now as to the where the extra income is going, it is not going to the physicians' pockets by and large. Much of it is being eaten up by regulatory costs, malpractice insurance, and by the cost of paying for the loans required to get a medical degree.

Again, I have done no rigorous study of this, but I have read physicians complaining that they think becoming a general practitioner is a waste of time – that there is not enough money in it to service the loans, insurance costs and regulatory expenses. Specialists seem to be taking home more and more money though.

To get back to your original point -> while setting broken bones is subsidized by the government, lasic eye surgery is not. Physicians seeking to earn a greater profit have to attract more customers, and the only way to do that is to lower the price. No such incentive exists for treating broken wrists (one because the demand to have ones broken bones set is quite inelastic, and secondly because the repair of broken bones is subsidized).

Sam Grove December 13, 2008 at 10:30 pm

The only difference between us is I understand that profits are maximized when aggregate demand is maximized while you some how think setting up a system that concentrates wealth at the top is more effective.

That's a straw man which you have slain many times.

A regulatory system concentrates wealth upward; just look at what we have now. Seventy plus years of progressive government administration of the economy and the very Frankenstein's monster that you say you fear is what we have.

brotio December 14, 2008 at 2:26 am

"Call me miss guided"

Have it your way.

Miss Guided,

There are many differences between us. You are a socialist. You seldom answer direct questions. You are a disciple of His Holiness: The Divine Prophet Algore I. You often contradict yourself in the same sentence. You don't think Vidyohs and Methinks are funny.

There are many other differences, Miss Guided, but this is a good start.

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