Medicare Rates Are Price Controls

A comment I posted on EconLog, "It's the Prices, Stupid" by Arnold Kling about Medicare rates versus private medical costs.

Medicare is not a market price. It is a government set price. Price controls create economic distortions in supply, demand, investment, etc. The fact that transactions take place at the price control price, Medicare rate, without looking at the market place distortions is misleading.

MRI machines are expensive and can cost in the millions. Since they use strong magnetism, special areas are constructed for them and specially trained technicians are needed to run the machines.

The proper economic question is does the Medicare price reimburse a MRI owner over the useful life of the machine for the purchase costs plus facilities cost plus all operating costs including staff salaries, electricity, repairs, etc., plus a return on investment for the use of that money as an investment in a MRI machine.

If the Medicare price per patient times the number of patients is below the fair reimbursement price, then if the Medicare rate were the only price, no one would buy new machines as the old ones disappeared, unless there is some other way to make up the shortfall.

One possible outcome to a shortfall is that the number of available machines in an area will be reduced to increase utilization rates of the remaining machines and wait times will increase. Old machines would continue in use well beyond their normal useful lives, and costs would be cut in rents (MRI machines would be located in the cheaper rent areas), MRI staff and staff salaries would be cut, etc to reduce expenses of operation as much as possible. Many other costs associated with MRI machines would also be reduced.

Another possibility is that MRI owners will look to other areas to subsidize the shortfall in the Medicare price. A likely response that immediately comes to mind is that MRIs are part of a patient diagnostic process and other patient treatment areas will cost more or occur more frequently to offset the Medicare MRI reimbursement shortfall, e.g., knee and back surgery. Another possibility as suggested by others is that non-Medicare patients will be charged more for the MRI to make up the shortfall.

People with detailed knowledge about MRI associated costs use can compute the price to charge to allow the purchase and operation of an MRI machine with a realistic wait time and reasonable return on the capital funds used. This number will allow the operation and replacement of an MRI machines under conditions acceptable to the medical profession and the public. If the price is acceptable to the market place, the machines will continue to be used and replaced.

The price that allows a fair return of investment is the relevant number. Price control numbers, and that is what the Medicare rates are, are not a relevant price, except to economists to analyze market place distortions. It would be very interesting to see what the patient price should be for a new MRI machine to cover all the associated expenses and achieve a fair return on the funds. I am sure that the number exists somewhere.