Guest Editorial: In Praise of Third-Party Payers – What Marketing Researchers Need to Know About Health Care Financing Today

By Kim D. Slocum, President
KDS Consulting, LLC

The author Mark Twain once said, “The reports of my death are greatly exaggerated,” in response to an obituary mistakenly published in the U.S. press. Today, there is a great deal of hype about the “consumerization” of health care, but marketing research professionals need to look beneath the headlines proclaiming the triumph of health care’s latest magic bullet in order to understand the realities. In doing so, they will find that Mark Twain’s witty one-liner applies to our third-party payment system and is as timely today as when it was first written. Let’s take a look at the realities of health care and today's average consumer today to separate fact from fiction.

Health Care’s Financial Realities

First, it’s no accident that nearly everywhere in the developed world health care is overwhelmingly paid for by third parties through some form of social insurance. In some countries, this system dates back as far as the late 19th century, and in the United States, it not only dates back more than half a century, it is enshrined in both our laws and our tax codes. Data from the World Health Organization show that in all major international markets (the United States, United Kingdom, France, Italy, Germany, Japan) third-party payment accounts for between 74 and 91 percent of all health care spending, numbers that have remained largely unchanged for decades. In the United States, third parties pay for more than 80 percent of all health care and 75 percent of all prescription drug purchases.

This system developed in part because health care expenses are highly concentrated among a small group of people. In the United States, 1 percent of the population accounts for more than 25 percent of health care expenditures in a given year, while 50 percent accounts for only 3 percent of health care costs. Unlike other forms of insurable events, if you live long enough, you will probably eventually become part of this high-spending group. Given the near-inevitability of escalating health care spending, it makes sense to have the young and healthy cross-subsidize the old and sick, and third-party payment with some sort of income transfer is a time-tested way to accomplish this task.

Why Real Consumer Control is Unlikely

There is little evidence that consumers are either ready or able to take on the daunting challenge of actually managing their own health care. In fact, the actual data suggest quite the contrary. Let’s take a look at why.

Health Literacy: The Institute of Medicine has reported that as many as 90 million American adults have difficulty reading and comprehending health care communications. The problem often worsens as we age—precisely the point at which we need to become better consumers, we begin to lose the ability to do so. Think about the challenges many seniors faced in getting signed up for Medicare Part D benefits at the end of 2005, and the problem becomes more apparent. It’s very hard to be a master contractor when you can’t read the blueprints.

Leverage: Over the past 20 years, health insurers and provider organizations have engaged in a consolidation arms race with each attempting to gain sufficient market share to compel the other to negotiate on its preferred terms. In many urban markets, hospitals have purchased their competitors and are now in a position to offer take-it-or-leave-it terms to insurers. It strains credibility to assume that an individual consumer, who represents only himself, can succeed in transforming health care where purchasers representing thousands or even millions of lives have failed.

Non-Discretionary Nature of Most Health Care Spending: While estimates vary, consumers have little control over much of health care spending. Health care’s big-ticket items—hospital stays and major surgeries—are seldom a matter of choice. It’s comforting to imagine consumers carefully examining cost and quality information before picking a provider, but few patients with chest pains who are being rushed to an emergency room in an ambulance are likely to compare room rates before telling the driver where to take them. As the noted health care futurist Ian Morrison says, it’s hard to be cost-conscious when you’re unconscious.

Behavior: We are now far enough into the so-called consumer revolution to see how significant numbers of people actually behave when they find themselves in high-deductible health plans (often mistakenly referred to as consumer-directed health plans). Groups as diverse as the RAND Corp., Harris Interactive, the Kaiser Family Foundation and the Commonwealth Fund have documented that such consumers are relatively poor decision makers. In fact, most consumers are unable to distinguish between necessary and unnecessary care, and tend to cut back on both equally when faced with requirements for high out-of-pocket spending. More consumerization of health care can lead to relatively dramatic drops in demand for prescription drugs, often in the range of 20 percent or more, and it doesn’t appear to matter whether the category involved is discretionary (e.g., non-sedating antihistamines) or critical to health (e.g., diabetes medications).

Economics: Median U.S. household income is about $46,000 a year. On an inflation-adjusted basis, wages have not increased significantly in years. At the same time, policy experts have long noted the connection between education, income and health status. People who are less educated tend to be poorer and also tend to be higher consumers of health care resources. For example, in the United States, health care’s “power users” are the dual-eligibles—individuals who are both poor enough to qualify for Medicaid and old or disabled enough to qualify for Medicare. Good health care is expensive and if consumers are asked to bear a significant portion of its costs, it’s likely that large numbers of them will simply be unable to do so. This problem will get much worse as the aging baby-boom generation starts leaving the work force over the next few years. The Employee Benefits Research Institute reports that while out-of-pocket medical costs for a couple retiring at age 65 today will amount to nearly $600,000, less than 30 percent of employees over the age of 55 have saved as much as $250,000 to fund all aspects of their retirement, and more than 40 percent of those 55 or older have saved $25,000 or less.

There are at least a few experts who believe that if the United States continues to force the mass of consumers into a role they don’t want, aren’t prepared to handle and can’t afford, we may wind up in a very different place than the one the advocates of consumer empowerment hope for. It’s not too hard to imagine millions of Americans frustrated by trying to manage their own health care without the tools or training to do so and falling further behind economically. A presidential candidate offering the simple solution of “Medicare for everyone” could become an attractive alternative to voters looking to ensure that they have access to at least some form of health care. Current public opinion polls tell us that consumers’ main concerns about health care today are cost and access, so these issues are very real for average Americans.

Third-Party Payers: A Key Success Factor for Biopharmaceuticals

It’s not much of an exaggeration to say that without third-party payment, there isn’t a mass market for innovative, research-based pharmaceuticals—at least not at anything resembling current pricing levels. If industry is therefore dependent on the continuing existence of third parties, where do we go from here?

First, it is important for firms in the biopharmaceutical industry and the various external organizations that support it to recognize and accept the symbiotic relationship that exists with third-party payers. This will involve an attitude shift away from treating these groups like adversaries and toward embracing them as partners. Marketing research executives can and should play a critical role in the constellation of activities required to make this idea a reality.

A better understanding of the business conditions of third-party payers of all descriptions would be a good place to start. Third-party payers are increasingly between the proverbial rock and a hard place when it comes to health care. Employers are generally not interested in abandoning the provision of health insurance to their employees, but can’t keep absorbing double-digit cost increases. The visionaries in this group understand that they need to be active in remodeling the health care delivery and financing system with a focus on getting better value for the money they spend. Government agencies, especially the Centers for Medicare & Medicaid Services (CMS), face a similar dilemma. If they let nature take its course, CMS will be spending an amount equal to the cost of the entire U.S. government today by sometime in the middle of this century. As a result, the centers are also very interested in understanding and purchasing value in health care, and are taking a leading role in remodeling the delivery system through programs like pay for performance.

For the research-based biopharmaceutical industry, this suggests a need to collaborate with payers to develop a shared vision of what value means with respect to particular products. It also suggests industry should be reaching out to this critical constituency much earlier in the product development process than is now the case. Once again, marketing research represents good place to get this sort of dialogue started. It’s not unreasonable to imagine a future in which important customers like employers and government are members of portfolio review teams—representatives with an actual vote on which compounds go into development and how they will be developed. Boeing doesn’t build airplanes without understanding what their customers are willing to pay for—and it generally starts building with advance orders in hand. Why should the biopharmaceutical industry be any different, especially as development costs for new compounds continue to escalate?

There is no question that consumers will play a more important role in health care in the future. Much of the system reform effort now under way is designed to make health care more patient centered. However, it’s important not to confuse this greater consumer involvement with consumer control. Third parties are likely to be the dominant underwriters of health care for the indefinite future, and the most successful biopharmaceutical companies will be those that can best capitalize on this reality.

“Getting Smart” on Health Care Policy

Finally, it is important for marketing researchers to broaden their focus. It is often tempting to slip into the tactical rut of looking just at competitors, products and promotional activities. Unfortunately, in today’s health care environment that’s no longer sufficient. In order to truly serve their clients, marketing researchers need to understand the big moving parts of health care and how these will affect the ability to develop and market innovative biopharmaceuticals over the next several years. This kind of perspective takes a bit of work, but it’s well worth the effort—especially when it offers the ability to get beyond the buzz and hype of the latest magic bullets (like “consumerism”) and understand the real issues that will drive success or failure in today’s dynamic marketplace.

As he signed the Declaration of Independence, Ben Franklin said, “We must all hang together, or assuredly we shall all hang separately.” If Franklin were alive today he might say the same with regard to the biopharmaceutical industry and the third-party payers who are so important to its ongoing success.


Kim D. Slocum is a futurist, strategist and health policy expert. He worked more than 33 years for a variety of research-based biotech and pharmaceutical companies before founding KDS Consulting. He is a frequent speaker and author on matters relating to health care delivery, financing and the future of the pharmaceutical industry. He can be reached at kdsconsulting@verizon.net