In any business, there has to be a difference between how much something costs to provide the service and product and how much customers have to pay. The difference, or what's often referred to as “margin” between those two, is what allows businesses to pay their employees and earn a profit. In a healthy market, businesses compete with each other for customers by reducing their profit margins or working hard to keep costs down, both of which help keep prices low.
That's what happens in a healthy market. You can see what happens in an unhealthy, disfunctional market by looking at health care.
The Wall Street Journal recently reported on how the Wisconsin-based Gundersen Health System’s took a hard look at their own pricing system, specifically related to the common knee-replacement surgery. They found that the hospital had been consistently raising the prices by 3% each year, resulting in a current listed price of $50,000 for their patients.
They explained that the listed price was based off of “a combination of educated guesswork and a canny assessment of market opportunity,” not cost of labor, supplies, or time like any other product. In an audit, Gundersen found the actual cost of knee-replacement surgery to be $10,550, or nearly a fifth of what they were charging patients.
Even worse, according to Debt.org, patients also often faces many “add on” costs in addition to listed hospital cost, which push bills even higher.
Clearly this is not a free market system. A big part of the problem is that there is a knowledge gap between the patients and the hospitals, because the patients usually don’t know the total cost of the surgery outside of what they pay to insurance. When a big chunk of the price is paid for by insurance, patients don't have much of an incentive to inquire about price, and hospitals don't have as much of an incentive to keep prices down.
The good news in this story at least is that Gundersen Health System has tried to bring costs down: One of the biggest cost saving tools was switching to generic supplies which “can be used in most cases with the same results,” and a careful analysis of where time and resources were being wasted, leading to more costs and poorer results for patients. Fortunately, some of these savings are being passed on to patients.
Yet this example provides a window into why American health care is so expensive in the first place. The lack of price transparency, lack of true competition, and third party payment system all lead to costs—and prices—that are much higher than they have to be.