July 20, 2010 Liz Borkowski, MPH 10Comment

Last year, Atul Gawande wrote an interesting New Yorker piece that compares present-day efforts to control healthcare costs with early 20th-century efforts to increase US farming productivity. The quest for more farming productivity succeeded not because of any grand, sweeping reform, he explains, but because the government, through the USDA, invested in pilot programs, scientific extensions, and provision of information to farmers. Gawande summarizes the recipe for success:

The government never took over agriculture, but the government didn’t leave it alone, either. It shaped a feedback loop of experiment and learning and encouragement for farmers across the country.

Like farming in the early 1900s, healthcare delivery in the US today involves millions of providers with different ways of doing millions of different complex tasks. But Gawande seems optimistic that healthcare can become more cost-effective. He lists some of the many demonstration programs contained in the healthcare legislation and compares these efforts to what the USDA did for farming. It’ll take a lot of changes to add up to big healthcare savings, and these programs will play the important role of helping us figure out which changes work and are worth pursuing.

Ever since reading this article, I’ve been keeping an eye out for the kinds of changes that may be relatively small but can add up to cost-effective improvements. The aim is not just to save money, but to improve patient outcomes by preventing problems – everything from stopping hospital-acquired infections to helping diabetics manage their conditions to avoid complications. An article by Mariah Blake in the Washington Monthly focuses on one area where hospitals could potentially save money and provide safer care – but it’s clear that changing the status quo will be an uphill struggle.

Blake writes about entrepreneurs who’ve developed promising and potentially lifesaving medical supplies only the find themselves unexpectedly stonewalled in their efforts to sell them to hospitals. Thomas Shaw, an engineer by training, developed the first retractable syringe in the 1990s after learning of a doctor who contracted HIV from a needlestick injury, and a few years ago he designed an IV catheter that reduces the transfer of bacteria into the catheter and hence the patient’s bloodstream. Garrett Bolks, who has decades of experience in the medical-supply industry, brought to market the first X-ray detectable surgical towel (so surgical teams can see when they’ve accidentally left something inside a patient). Despite winning initial praise and backing, they found themselves unable to make sales, except to buyers like the Veterans Administration that didn’t work through GPOs.

What would make hospitals so reluctant to purchase cost-effective products that could save the lives? It’s possible that these two men are terrible salesmen or their products are flawed, but from this article’s descriptions, that doesn’t seem to be the case. Blake points to a force of whose existence was news to me: group purchasing organizations.

Blake reports on how an originally well intentioned attempt to help hospitals get better prices for supplies has become a system that can stifle innovation. The hospital supply market has long been dominated by a few large players, and such a shortage of competition can lead to prices being higher than they would be otherwise. In 1970 hospitals started banding together into GPOs to negotiate for better prices. GPOs were initially run as nonprofit collectives funded by hospitals’ membership fees, but then some hospitals started spinning them off into for-profit subsidiaries. Then the GPOs started collecting fees from suppliers in the form of a share of sales revenue — something Blake points out “might be called kickbacks or bribes” in other industries. Consolidation among GPOs eventually led to a situation where “five GPOs controlled purchasing for 90 percent of the nation’s hospitals.” Blake explains how this has led to hospitals having very little leeway on their supply purchasing:

Most importantly, it turned the incentives for GPOs upside down. Instead of being tied to the dues paid by members, GPOs’ revenues were now tied to the profits of the suppliers they were supposed to be pressing for lower prices. This created an incentive to cater to the sellers rather than to the buyers–to big companies like Becton Dickinson rather than to member hospitals. Before long, large suppliers began using “fees”–sometimes very generous ones–along with tiered pricing to secure deals that locked GPO members into buying their products. In many cases, hospitals were obliged to buy virtually all of their bandages or scalpels or heart monitors from one company. GPOs also began offering package deals that bundled products together. To get the best price on stethoscopes, a hospital might have to agree to buy everything from pacemakers to cotton balls from the GPO’s preferred vendors. Hospitals went along because they got price breaks, usually in the form of rebates if they met buying quotas.

GPOs’ dominance over hospital supply purchasing wouldn’t have possible without two important exemptions GPOs won from the federal government. Blake explains that In 1986, Congress passed legislation that exempted GPOs from Medicare law’s anti-kickback provision; this allowed GPOs to collect fees from suppliers. In 1996, the Justice Department and Federal Trade Commission granted GPOs protection from antitrust actions (except when the circumstances are “extraordinary”).

Blake investigates whether GPOs do what they’re supposed to, which is to save hospitals money on supplies. Industry-funded studies say they do, and hospital administrators seem to think they do – but administrators may be basing their assessments on price comparisons supplied by the GPOs. A pilot study by the Government Accountability Office found that hospitals using GPOs to purchase safety needles and most models of pacemakers paid more for these products than hospitals that negotiated their own prices. A company that helps hospitals process their equipment bids analyzed seven years’ worth of data from 500 hospitals and found that GPO prices are an average of 22% higher than what hospitals could get on their own. Two hospital chains that started purchasing outside of their GPO contracts realized impressive savings.

After a 2002 New York Times investigative series and a series of Congressional hearings into their business practices, the GPO industry developed a voluntary code of conduct and an oversight body. The president of the GPO trade association Health Industry Group Purchasing Association tells Blake that most GPOs adhere to the code of conduct, which assures openness and competition. [Update: Also see comment below from HIGPA’s Curtis Rooney.] Nonetheless, Blake seems to have encountered many hospital-supply entrepreneurs who’ve been unable to break into the market and think the GPO system is to blame:

Stories like these abound among small suppliers, a number of whom have filed suit against GPOs. But most are wary of speaking out. Several talked to me off the record. At least a half dozen more agreed to speak, only to back out at the last minute or retract their statements after we had spoken. “Most people who know this world wouldn’t speak to you under threat of subpoena,” one former GPO executive told me. “They are terrified.”

Blake’s article delves into how this system arose and specifics about major players and some of their contracts – the whole piece is well worth a read.

Our national rhetoric tends to emphasize the importance of small business owners and the promise of entrepreneurial solutions. If you only read the parts of Blake’s story that deal with Shaw’s invention and business-creation processes, it sounds like the Great American Success Story. But unlike the stereotypical successful entrepreneur who wins big after working 90-hour weeks and maxing out credit cards in pursuit of the dream, Shaw doesn’t triumph.

Whether or not Shaw and Bolks’ products would have saved lives and money, Blake makes it clear that Congress and the Justice Department enabled a competition-unfriendly system to evolve in hospital purchasing. It might be possible for hospitals to revamp their purchasing strategies in ways that would save money and improve care – but even if pilot studies show that such changes work, GPOs are unlikely to relinquish their market share willingly.

Atul Gawande may be right to suggest that the healthcare legislation (now law) will help us identify multiple improvements that, taken together, will make healthcare more cost-effective. But some of these improvements will require revamping deeply entrenched systems that will resist change. The GPO-dominated hospital purchasing system is one example: a few large companies are currently flourishing, with the backing of Congressional and Executive decisions that won’t be easy to undo, and many hospitals are locked into multi-year contracts and probably lack the infrastructure to suddenly start handling their own purchases.

Such challenges don’t mean we should give up on achieving healthcare cost-effectiveness. We do have to understand that it’ll mean making some choices that will harm beneficiaries of the current system.

10 thoughts on “Chipping Away at Healthcare Costs – or Not

  1. Liz, unfortunately Washington Monthly failed to do its homework. Instead it reported the tired and untrue tale of a self-interested lone wolf who says he is being blocked from selling his wares at every turn. What isn’t reported is that Thomas Shaw has contracts with most of the major GPOs for this exact product. The one hospital system quoted in the story said that they didn’t buy this product because they experienced safety concerns. In fact, Shaw has placed more than 40 products on contract with GPOs since 2003. For balance it would have been nice to have heard from a small supplier that has increased the number of employees because they have found success by teaming up the GPOs. There are many. Many small suppliers have flourished under GPOs because GPOs help provide the access and visibility necessary to break into the market dominated by big device manufacturers.

    Manufacturers like this aim to undermine the competitive forces of GPOs. GPOs bring much needed competitive forces to the marketplace and save taxpayers and hospitals billions annually – all of which are reported to the government. In short, GPOs aggregate the purchasing power of hospitals and other health care providers. Medical device companies like the one described in the story, on the other hand, do the opposite. They want to disaggregate the health care system in order to increase their returns by selling their products using “one off” deals in which comparison shopping is discouraged.

    It is wrong to suggest that Congress ignored GPOs during health care reform. In fact, Congress recognized that GPOs save hospitals and nursing homes scarce health care dollars. At the time the Wall Street Journal even reported on the unsuccessful attempts by the medical manufacturer lobbyists to shift revenue raising efforts away from themselves and onto others – as they continue to do by pushing this story.

    Everything GPOs do is in the interests of their hospital members and clients. GPOs foster innovation, bring small suppliers to market and add value to the fragmented health care system. GPOs are the most transparent sector in healthcare. GPOs, at $1B in revenues, in no way have the power to thwart competition in the $200B medical device market. It is important to recognize who the real “David vs. Goliath” is in this story.

  2. Thanks for writing in, Curtis.

    I don’t doubt that the GPO system serves some hospitals and device manufacturers well. My main concern is that it sounds like the GPO system is very entrenched, with a small number of GPOs and a majority of hospitals locked into contracts. Thanks to actions by Congress and the Justice Department, GPOs are in a privileged position. If research finds that hospitals can save money by purchasing outside of GPOs (and Blake describes some evidence that they can), will it be prohibitively difficult to follow those recommendations?

  3. Liz, thanks for your response. Hospitals can and frequently do purchase outside of the GPO contract. As Professor Gene Schneller’s research shows, hospitals make purchases “off contract” approximately 72 percent of the time. See, http://www.higpa.org/assets/1/workflow_staging/AssetManager/235.pdf

    Contrary to Ms. Blake’s suggestions the GPOs are not in a “privileged” position. The Justice Department and the Federal Trade Commission never “overhauled antitrust rules and granted the organizations protection from antitrust actions, except under “extraordinary circumstances.” There is no GPO antitrust exemption. Rather, the DOJ and FTC issued guidance in 1996 that makes clear the general position that the GPO industry helps save their members money and do not, except in exceptional circumstances, reflect an antitrust threat. In other words, GPOs are subject to the same rules and regulations as every other entity in health care—no exceptions. I am happy to share with you a copy of the guidance issued in 1996.

    Also, when Congress passed the GPO Safe Harbor in 1987 it did not mean, as Ms. Blake states, “that instead of collecting membership dues, GPOs could collect “fees”—in other industries they might be called kickbacks or bribes—from suppliers in the form of a share of sales revenue.” Black’s Law Dictionary (8th ed. 2004) defines the term “kickback” as “a return of a portion of a monetary sum received, esp. as a result of coercion or a secret agreement.”

    Ms. Blake’s description of these payments as “kickbacks” or “bribes” is shoddy at best, and in lockstep with the misinformation being perpetuated by large medical device manufacturers. “Bribes” are criminal conduct and strictly illegal. “Kickbacks” are illegal payments commonly made pursuant to coercion or secret agreement. The GPOs’ vendor-based financing system relies on congressionally authorized, fully disclosed and transparent, written contract administration fees that are reported by hospitals to the government, and are nothing like an illegal “kickback” let alone a “bribe.” GPOs are the probably the most transparent entities in the health care system.

    You can visit http://www.healthcaregpoii.com to learn more about the GPO industry’s transparency efforts.

    Let me know if you have questions.

    Curtis Rooney
    Health Industry Group Purchasing Association
    2025 M Street, N.W. Suite 800
    Washington, D.C. 20036
    P 202.367.1215
    F 202.367.2215

  4. Thanks for the links. Just to make sure I’m getting this: regardless of terminology, is it correct that GPOs can get payments from medical suppliers based on how much GPO member hospitals buy from those suppliers? That seems to create an incentive for GPOs to encourage hospitals to buy more products from the suppliers that will pay more to the GPOs, whether or not those suppliers are offering hospitals the best deals.

  5. Liz, GPOs are paid, as you say, from fees from medical suppliers – GPOs don’t operate for free, and the fees are the way we continue to provide cost savings to hospitals. Fees are negotiated between the GPO and the manufacturer and are competitively bid. Neither the GPO nor the supplier receives any payment unless a hospital decides to access the supplier’s product from the list of products contained on the contract. Hospitals, not GPOs, make purchasing decisions based on cost and other factors, but if a GPO encourages a hospital to buy more products from suppliers that paid more to the GPOs, it creates an incentive for the hospital to leave that GPO and find another more competitive GPO that can offer better contract prices. The hospital can also go directly to the supplier for a better deal. The market forces here are very competitive. Hospitals all over the country are in the midst of budget crises, with razor thin margins and an urgent need to reduce operating costs – the notion that they would (let alone could afford to) continue to contract with a GPO that doesn’t offer cost the best cost at the best value just doesn’t hold up. Nor does the notion that hospitals would ever allow anything but the best products available in their hospitals. Hospitals voluntarily contract with GPOs – if GPOs didn’t provide cost savings, hospitals would purchase elsewhere.

    Let me know if you further questions or comments?

    Curtis Rooney
    Health Industry Group Purchasing Association
    2025 M Street, N.W. Suite 800
    Washington, D.C. 20036
    P 202.367.1215
    F 202.367.2215

  6. If one was to google most of Mr. Rooney’s comments (besides discovering that its his mission as president of their trade association), you will see the same recycled comments he has posted on other message boards, blogs, etc.

    I think a simple question to ask is this: Why would GPOs not be able to perform the same function if the incentive model for a GPO was not based on collecting fees from suppliers? I am a member of costco and pay them $50 a year to offer me discounted products. They leverage the size of the membership to negotiate these discounts. Sounds like GPOs right? But it is not Folgers or Kraft or other suppliers that are paying a fee to Costco; that would put Costco in a very conflicted position. The same analogy could be applied to hospital GPOs.

    I find it ironic that they claim all of these cost savings for hospitals based purely on suggestive data from hospital executives. If you look at the methodology for the report suggested by Mr. Rooney, you will have trouble find the actual empirical data analysis used. If GPOs save so much money, why is it that spending over the last 20-30 years has grown as significantly as it has? I am sure he will claim it may have been worse absent GPOs collecting administrative fees from suppliers. Something to consider.

    Moreover, competition among GPOs seems laughable. I looked into this a little more since the Washington Monthly piece and it seems like there are about 6 or 7 large GPOs that control 80-90 percent of hospital purchases. Doesn’t seem too competitive to me. I think one of the large GPOs has gone public?

    The more I dig, the more these guys smell. Looks like Congress and the Government Accountability Office must be sorely confused, based on the level of work and investigations they’ve conducted on these guys.

  7. April, I like your Costco analogy – that’s a good way to think about this! And thanks for doing the digging.

  8. I have yet to find a industry group representative thats actually honest about the effect of that industry or who they represent. Any industry. While we can still analyze Curtis’ words, we should take into account his connections, and the fact that he has a motive here to say what he has to say.

    He never actually denies the assertion that they collect fees. This is a very clear conflict of interest, for any company or corporate setup. How does Curtis respond to the conflict of interest issue?

    Besides, GPOs DID work for non-profit originally, and they did their job well then, did they not?

  9. What a great discussion of a very provocative and interesting analogy. I wonder, however, if the major differences between the problems in farming and health care have really been considered. Farming, for example, hadn’t been entirely dominated by massive greed corporations occupying the position of middle men between the producers and the consumers to the extent that insurance companies have come to dominate, manipulate, and misuse the health care profession. We are not faced with a lack of innovation primarily, but rather with a purposefully orchestrated increase in cost and decrease in services. The expense of health care is an artifact constructed by the insurance companies and little else. There are some great interviews with health care professionals, reformers and legislators at http://www.ourblook.com/topic/healthcare.html which I have found useful and provocative on these topics.

  10. Bill, you’re right that the analogy only goes so far – plant rot has no profit motive, but insurance companies and providers usually do.

    One of the main problems with our current system is that it’s not what smart people would’ve chosen if they were starting from scratch. Like farming, we keep paying for healthcare this way because that’s how we’ve been doing it for decades. Reliance on employer-provided health insurance and fee-for-service medicine is problematic, but it’s hard to see us switching to a completely new model in one big jump.

    One of the places where innovation can help is shifting to a model that pays for performance rather than just for services. It’ll take a lot of work to figure out the best mechanisms, but it can eventually improve value by a lot.

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