America's Bitter Pill

by Steven Brill

  On April 21, 2009, the West Penn Allegheny Health System, a group of hospitals in Pittsburgh, filed an antitrust complaint against the University of Pittsburgh Medical Center and Highmark, the region’s dominant health insurer.

  Known as UPMC, the University of Pittsburgh Medical Center had, by 2009, become a hospital industry phenomenon and—although officially a nonprofit, tax-exempt charity—the dominant business in western Pennsylvania.

  UPMC was the state’s largest employer. In fact, it had recently begun moving its managers and administrators into the top twenty-one floors (including a lavish penthouse suite of executive offices and conference rooms) of Pittsburgh’s dominant downtown office tower. It was the skyscraper that had once been the headquarters of the company known since the Eisenhower era as the business face of Pittsburgh: U.S. Steel—the industrial giant founded by, among others, J. P. Morgan and Andrew Carnegie.

  Following years of decline, U.S. Steel had been absorbed by an energy company. A much-slimmed-down version of its original self had then been spun off in 2002 and given back its old name. With most of its operations overseas, it now occupied only a few, lower, floors in its old tower. The big tenant was UPMC.

  When the suit against UPMC was filed in April 2009, the hospital system was on its way to recording $7.1 billion in revenue for its current fiscal year—which at the time put it first among all U.S. hospitals in revenue—and more than $580 million in operating profit.*5 UPMC’s chief executive officer Jeffrey Romoff was earning more than $4 million in salary and bonus. All of these numbers had been increasing rapidly year over year and would continue to do so.

  By 2013, the Washington-based National Journal would discover the reality, and peril, of healthcare having replaced steel as Pittsburgh’s dominant industry: “Unlike manufacturing, health care is generally not an export business,” the Washington weekly observed. “Patient care is provided in the community and must be paid for with local resources. ‘What you’re doing is passing some money from one person to another,’ said Martin Gaynor, a health economist at Carnegie Mellon. That imposes a wealth-based ceiling on every region’s health sector.”

  CEO Romoff prided himself on being able to cope with that kind of challenge. Born in the Bronx, Romoff had worked for the hospital since 1973, when it was a small state-run psychiatric institution. A non-doctor, with a bachelor’s degree from New York’s City College and a master’s in philosophy from Yale, Romoff had been given a job planning education programs because the hospital wanted to hire his wife, Vivien, who was the chief psychiatric nurse at Yale–New Haven Hospital.

  Romoff soon began leading a charge to consolidate the psychiatric hospital with the university’s other, larger, medical care facilities. Each step invariably ended up with Romoff’s savvy, ambitious boss, who ran the psychiatric facility, in charge of what had been consolidated. Consolidations had then become outright mergers or purchases of other hospitals in the region—except for West Penn Allegheny, the hospital now suing UPMC.

  Romoff, who became UPMC president in 1992 and CEO in 2006, liked to tell people that the secret to his and his hospital’s success was that he always paid attention to “controlling as many variables and impediments as you can.” The consolidations and acquisitions, he told me, “were just a step by step process of controlling the impediments”—which, the lawsuit now brought against him charged, meant eliminating competitors.

  By the time Romoff was sued, UPMC controlled 55 percent of the market for hospital and outpatient clinical services in the region, with West Penn controlling 23 percent and losing market share rapidly.

  However, the antitrust suit was not simply about UPMC’s dominant share of hospital beds, doctors, and patients. It alleged an outright conspiracy between UPMC and the other defendant—Highmark, the insurance company—to control healthcare and healthcare prices in western Pennsylvania.

  Operating under the Blue Cross Blue Shield banner, Highmark had an unheard of market share of the private health insurance sold in the region: between 60 and 80 percent depending on varying definitions.

  It was how UPMC, as the provider of healthcare, and Highmark, as the insurer that paid for it, had teamed up that was at the core of the smaller West Penn Hospital’s suit. Its complaint traced a fifteen-year history of UPMC and Highmark initially fighting with each other and then throwing in the towel and conspiring to create a two-pronged “super-monopoly.”

  First, UPMC had started its own health insurance company to compete with Highmark, because, as Romoff later explained to me, “We were worried about one insurance company being so dominant that they could squeeze what they paid us.”

  Then, Highmark had countered by providing hundreds of millions of dollars of financial support to allow the merger of a group of hospitals into what came to be called West Penn—the hospital system now suing UPMC and Highmark.

  Still, the finances of the merged West Penn had continued a steep decline because of UPMC’s growing dominance—and its increasingly aggressive hiring raids on the West Penn staff of doctors. (The complaint alleged that Romoff had repeatedly made statements that he wanted to “destroy” West Penn and that he had used lavish bonus offers and inflated salaries to hire doctors away from his competitor that UPMC did not need.)

  With Highmark having been forced to offer cheaper insurance packages to match competition from UPMC’s insurance unit, and UPMC tiring of the cost of competing with a Highmark-supported West Penn, UPMC offered Highmark a truce in 1998.

  However, Highmark turned it down, calling it, according to the complaint, “an attempt to form a super-monopoly.”

  But in 2002, Highmark agreed to the deal. Under the agreement UPMC scaled down its own insurance company to cover little more than its own employees. Better yet, UPMC promised not to allow the vast network of hospitals, outpatient clinics, and doctors’ practices that it now owned to be included in the network of any other insurance company. Only Highmark would be in the market selling insurance that provided access to UPMC. As a result, other big insurance companies, such as Aetna and UnitedHealthcare, were unable to gain a substantial customer base in the region.

  In return, according to the complaint, Highmark agreed to pay sharply increased prices to UPMC, which it would be able to do because it could raise premiums with no fear of competition. Highmark also agreed to end the lower cost product lines it had created to compete with UPMC’s insurance and which had been a key pipeline for patients to West Penn.

  The complaint summed up the charges this way: “Since the conspiracy’s formation in 2002 … UPMC and Highmark have enjoyed record profits—and an increasingly exploited Pittsburgh community has suffered skyrocketing health care costs.”

  Although Zeke Emanuel would later push the issue to no avail in White House deliberations on the healthcare reform law, stronger antitrust enforcement against rapidly consolidating hospitals like UPMC was not mentioned in Baucus’s “Call to Action” white paper. Nor had it come up in any of the negotiations his team had with the hospital lobbyists.

  In fact, certain aspects of Baucus’s plan, as well as what would become the White House economic team’s focus on cost containment, would actually encourage consolidation by promoting “bundled care.” With bundled care, doctors, hospitals, and other providers got together to offer one price for attending to an illness rather than the traditional fee-for-service payment for each treatment or procedure. Obviously, the easiest way to bundle was to have all the players under the same roof, responsible for the same bottom line.

  Thus, none of the reforms being talked about was seen by UPMC’s Romoff as another “impediment.” If anything, the opposite was true. Romoff might have to sacrifice some new Medicare revenue as part of the $155 billion in givebacks being negotiated in Washington by his trade group, the American Hospital Association, but he was likely to end up with much more from all the new paying customers the prospective new law promised. More important, nothing about the law seemed likely to impede his continuing pl
ans to expand.

  THE WARY INSURERS

  Through the spring of 2009, Karen Ignagni, whose AHIP represented Highmark and all the other insurers, was also game to negotiate with the Baucus team. She had promised the president her cooperation at his East Room pep rally. However, both sides knew that figuring out this deal would be more complicated than lining up the quid pro quos for the drugmakers and the hospitals. Insurance, after all, was what the core of the reform law being drafted—universal coverage—was all about.

  In discussions with Fowler and the Finance Committee staff, Ignagni and her team of lobbyists agreed that the insurers were about to get millions of new customers in the individual market, many if not most of whom would have their premiums paid in part by government subsidies. That was obvious. And because many of the insurance companies operated Medicaid plans serving the poor for the various states, there would be lots of new revenue there, too. However, the insurance lobbyists pointed out, the customers who would be buying on these new exchanges might present a risk profile different from the ones already in the individual market. No one could be sure what an exchange customer—or “life” in insurance jargon—was worth. Similarly, it was difficult to tell how much a new Medicaid life would be worth to an insurance company.

  More than that, the question of what all this new insurance would mean to the bottom line for Ignagni’s members depended on the details of what kind of insurance they would be able to sell.

  Would there be any allowances at all for excluding any preexisting conditions, Ignagni and her team asked.

  Could they at least charge people differing rates based on their age? This was called the age band question. The Baucus paper had mentioned that insurers would be able to charge older people more than the young. The industry needed to know exactly how much more. They wanted at least a five to one age band, or spread, to cover the higher costs of insuring people approaching Medicare age; but they knew the AARP (formerly the American Association of Retired Persons), which was hugely influential with Democrats on Capitol Hill, was already pushing for no more than a two to one ratio.

  Could they charge more to people who were smokers and, therefore, much more at risk for a variety of health problems? If so, how much more? And how would they be able to make sure people told the truth about whether they smoked?

  Exactly what kind of preventive care envisioned in Baucus’s white paper would have to be provided with no deductibles or co-pays? The longer the list, the higher the cost to Ignagni’s constituents and the less they should be asked to ante up to help finance reform.

  Most important, the insurance lobbyists wanted details about the mandate. How was the requirement that everyone had to buy insurance going to be enforced? Would it have real teeth? How high was the monetary penalty going to be? Only something with real bite, they said, would get the insurers the customers—especially the younger, healthier ones—that they needed for this really to benefit them.

  Finally, there was the question of the subsidies the government was going to provide to the poor and middle class to help them buy the insurance. This was going to be the prime government expense everyone was being asked to help finance. Would the subsidies be generous enough to allow enough lower- and middle-income families to buy insurance? If not, from the insurers’ standpoint, the reform bill wouldn’t be worth much.

  Ignagni and her staff and Baucus and his staff agreed on the basics: AHIP would support getting rid of the ability to exclude preexisting conditions in exchange for the mandate and subsidies for lower income people to buy insurance. That had been AHIP’s position since late 2007, and she and her board had no problem agreeing to say so publicly.

  But before Ignagni and her members could commit to supporting an actual bill, much less agree to chip in money for those TV ads the way PhRMA had, they needed the details.

  FROM PACEMAKERS TO WHEELCHAIRS

  The fourth major player that Fowler, Clapsis, and the rest of the Baucus team focused on was the medical technology and device industry, which included makers of products ranging from simple blood sugar readers to MRIs and CT scans to pacemakers to wheelchairs. Its lobbying group, the Advanced Medical Technology Association, included some of the world’s richest manufacturing companies (GE, Siemens), the diagnostic divisions of the major drug companies, and a catalog of relatively unknown firms that made billions selling products such as artificial knees and hips.

  Many of these companies had profit margins that were the envy of corporate America. A 2011 survey for medical-industry clients by consultant McKinsey & Company would highlight device makers as the superstar performers in the booming medical economy.

  A good example is Medtronic—which makes everything from neurostimulators inserted into the back to relieve pain, to defibrillators, to coronary stents, to surgical equipment. The Minnesota-based company had delivered an amazing compounded annual return of 14.95 percent to shareholders from 1990 to 2010. That meant $100 invested in the company in 1990 was worth $1,622 twenty years later. Medtronic’s overall cost of making its products was about 25 percent of what it sells them for, yielding an unusually high gross profit margin of about 75 percent. The prospect of healthcare reform producing so many new customers to buy these products had to be appealing.

  Yet the device lobby never bargained with the Baucus group or anyone else. It had no reason to. The government had no hook into their revenue the way it did with the other players. With the hospitals, for example, the government could tinker with Medicare reimbursement rates. But hospitals and doctors bought medical devices on their own, and if a Medicare patient was involved they simply billed Medicare the cost plus a markup.

  “We knew we were just going to have to tax them straight up for all the new revenue they were going to get,” recalled one member of Baucus’s staff. “There was no indirect way to get them to pay.” Clapsis penciled in $60 billion in medical device taxes over ten years as the device industry’s contribution, which was about a 5 percent tax on its $120 billion to $130 billion in annual revenue from the U.S. market. They may not have been willing to negotiate, but they were going to have to chip in.

  * * *

  *5. For the purpose of analyzing the financial performance of nonprofit hospitals, operating profit is defined as the excess of all revenue over all expenses, but with the accounting charge taken for depreciation (which is not a cash expense) added back. These numbers are derived from the hospital’s report to the IRS covering the fiscal year beginning in July 2009.

  CHAPTER 9

  BEHIND CLOSED DOORS: WHITE HOUSE TURF WARS, INDUSTRY DEALS, AND SENATE WRANGLING

  April–July 2009

  WORKING IN THE WHITE HOUSE ON A SATURDAY AFTERNOON HAD become routine for Zeke Emanuel and Bob Kocher. But they were usually able to leave at a decent hour. However, at 5 P.M. on Saturday, April 25, 2009, they were thrown into a state of near-panic. Emanuel, Kocher, and the rest of the staff from the Office of Management and Budget and the National Economic Council had been blindsided by the domestic policy crew.

  White House healthcare reform policy chief Nancy-Ann DeParle had decided that it was time for the president to get up to speed on what Congress was cooking up. He needed to make some decisions on how the administration was going to weigh in on the various issues that loomed. So DeParle had asked Jeanne Lambrew, who was now running the health policy office at the Department of Health and Human Services, and Michael Hash, a DeParle deputy and veteran of the Clinton White House reform fights and of Ted Kennedy’s healthcare reform battles before that, to draft a briefing memo for the president. DeParle had then tinkered with it. Nearly three thousand words long, it was meant to prepare Obama for a meeting she had gotten on his calendar for the following Thursday.

  Memos of this import and length don’t just go to the president. As was standard practice, DeParle’s office had submitted it to the White House staff secretary, who organizes the president’s reading folder. As is also standard practice, the staff secretary then distrib
uted it to others who had an interest in the subject before it would be sent off in the president’s folder at eight o’clock that night. The idea was that if other members of the staff had any last-minute comments or suggested edits they could send them to DeParle’s office for her to incorporate in a final version. Some staffers had already begun calling the process a “war of the pens.”

  It was only when the memo arrived just after 5 P.M. at Peter Orszag’s and Larry Summers’s in-boxes that Emanuel and Kocher saw it. Any hopes for an early departure that Saturday evening were gone.

  To them, the memo leaned too far away from decisions aimed at containing costs or raising revenue. In some cases it used what they thought were incorrect numbers or pointed the president in one direction versus another with inaccurate or biased descriptions of his choices.

  “These options have been presented to your senior staff, and we have developed a package that could plausibly offset the cost of reform,” the DeParle memo began. The “we” certainly didn’t include Zeke Emanuel or Kocher. The OMB–Economic Council team had only started to discuss those options with DeParle’s group, and there wasn’t, as far as they knew, any “package” yet that could “plausibly offset the cost of reform.”

  True, there were lots of ideas being talked about for new taxes and fees. Some, such as the money the drug companies were going to ante up, were by now pretty much signed off on by the Senate and White House staffs—though not by the House. However, others in the DeParle “package” described in the pages that followed were simply ideas. No one had signed off on them. One example was a 10 percent excise tax on all sugar-sweetened beverages, which would generate $170 billion in new revenue. The economic team thought getting that through the Senate would be impossible. Other taxes the economic team liked—such as one on the sales of medical devices—were not included.