Leadership Spotlight

Continued from previous page

Setting the Dials

Before Pauly, a two-time chair of the Health Care Systems Department, began working in the field in developing countries and researching health insurance there, his research was largely focused on U.S. health insurance issues—a subject that hooked him in 1967 when he was looking for a PhD thesis topic as a graduate student at the University of Virginia.

At that time, Medicare had been established, and government research money was plentiful. Pauly, who had strong interests in the role of the public sector and government in the private market economy, chose medical care seemingly by accident. "But once I got into it, I got stuck to it," he recalls, adding that he thought at the time that having to learn something about insurance would be a real bother. "But it turns out that health insurance is endlessly fascinating and, when it comes to health care, insurance has a much greater impact on the health care market than, say, collision insurance has on auto-body repair or homeowners' insurance has on the market for repairing homes." Pauly notes that there are reasons for that and trying to understand those reasons and do something about them provides motivation for research. And over the years, the increased spending on health care also has provided motivation, as it has created a multitude of issues to study.

In addition to his interest in health insurance issues in developing countries, Pauly has also focused recent research on private health insurance in the U.S., in particular the issues surrounding administrative costs and moral hazard.

"Administrative costs don't sound exciting, but they are," he insists, explaining that these are the costs involved in processing claims and determining how much will be paid on each claim. Administrative costs, Pauly says, actually deserve the blame for why many people remain without health insurance today. "If you don't have access to health insurance from a large employer, it will be a lot more expensive for you because you'll have to pay more to cover those administrative costs and that extra amount is substantial," he explains.

Pauly's other research angle, called "moral hazard," is the reality that when insurance pays for medical care, it can cause people who are insured to change their behavior in ways that actually increase the average amount of loss. "When people have health insurance, they will—just because they are human and not because of morality—take advantage of it," he says, calling it "endlessly fascinating and frustrating to look at the ways people have tried to work against this kind of natural inclination."

So what is the solution to administrative costs causing people to be uninsured and moral hazard driving up costs? Pauly admits to being a bit "wishy washy" in that he sees no single way to fix such problems. He says that the two main things that have been done—which are still being debated—are referred to as "demand and supply side."

He explains that on the demand side, one way to prevent a person from overusing medical care is to require people to pay more out-of-pocket costs. "The current version of this is consumer-directed health care and medical savings accounts. We know that it works when people have to spend more money out-of-pocket because they will use less, but the adverse consequence is that you subject yourself to more financial risk and the whole point of insurance is to protect yourself from financial risk," he says. "So the question is where to set the dial."

Then there are "supply side" strategies such as managed care. "People pay almost nothing out of pocket, but the plan controls moral hazard by employing doctors and owning hospitals and offering incentives to those doctors and hospitals to be frugal and not do everything that patients want," Pauly explains. He maintains that "the policy debate about consumer-directed health plans and controlling health care spending turns on trying to control moral hazard by either having people do it themselves by giving them more financial risk or having somebody in managed care or the government say how much you can supply of health care."

What's the solution? Pauly believes an effective system would incorporate features of a private health plan, with some supply-side aspects such as preferred provider arrangements and pretreatment approvals, with some demand-side aspects such as out-of-pocket payments by consumers. "We know much more about where not to set those dials than about where to put them," he says. "My message is that trying to find a painless solution is foolish and doesn't exist. What we really ought to do is find out what the tradeoffs are in between these different ways to control health care spending and then let people choose. We could have the government or a panel of experts decide, but I'd rather give consumers the power to choose among health plans and adopt a variety of different strategies."

Pauly sometimes refers to this as the full-choice model: Consumers can choose a costly plan that lets them go to any hospital or doctor, or opt for an economical option—the HMO—with more restrictions on doctors. "It's like buying a car—if you want the leather and side air bags then feel free to choose that, but if you have a lower income then there are things you can forgo to save money," he says.

Medicare is another major component of Pauly's research. Pauly recently finished serving on the Medicare Technical Review Panel which reported to the U.S. Secretary of Health and Human Services. The purpose of the panel was to give advice to the Medicare trustees about how to estimate future costs for Medicare. "Once you look at the costs it's hard not to think that something needs to be done to save it in the future. Medicare may have to get a lot worse before politicians are motivated to make it get better. Ironically, the 'good news' is that it will get a lot worse pretty soon."

He notes that it's not just for the poor, as it is an insurance system that employees pay into over time like Social Security. But Pauly maintains that compared to Medicare, Social Security is in "wonderful shape. It's not so much that Medicare will go broke, but that if you extrapolate the trends in Medicare spending, the taxes that will support older people could consume more than a third of wages," he says.

One alternative Pauly has researched would require financially secure elderly to pay for more of their Medicare. "The future of Medicare is gloomy or we wouldn't be talking about this," he says.