Editorial

Thoughts from the Frontline: The Road to a New Medical Order

October 7, 2013

There is no doubt that the single most contentious topic I can bring up in a small group discussion or speech is the Affordable Care Act, otherwise known as Obamacare. You can feel the tension rise, as everyone has an opinion they want to express – most of them based essentially on preconceived philosophical positions, nearly all of which can be can seen through their own eyes as reasonable and consistent with civilized behavior. And the facts that can be trotted out to support their positions, pro and con, could fill up a document almost as long as the original 2,300+ page bill. I have avoided writing about the Affordable Care Act (ACA) for a variety of reasons but primarily because it is so difficult for us to get our heads around the economic implications.

Today I will try, though some of my readers may conclude that I have failed, to avoid coming to political conclusions about the ACA. Instead, I will aim to dwell simply on the economic ramifications of the implementation of the bill as it exists today. We are changing the plumbing on 17.9% of the US GDP in profound ways. Many, if not most, of the changes are absolutely necessary.

This letter has grown out of a rather lengthy, ongoing conversation I have had with my very close friend and personal doctor, Mike Roizen, about his perceptions of changes that his institution, the Cleveland Clinic, and others like it have to make concerning the delivery of medicine in the near future, and the Clinic's expectations regarding the income they will receive for providing their services. The Cleveland Clinic is one of the largest and most respected hospital groups in the world (heck, Obama and Romney even cited it in their first debate as an institution providing great care very efficiently – the only institution so cited). The Clinic has 43,000 employees and a healthcare budget of over $6 billion. Looking at the future budget considerations of the Cleveland Clinic and similar institutions outlined below, there is both reason to be both optimistic and reason to be deeply concerned about the changes that are coming to US society in the immediate future.

The Road to a New Medical Order

We want to make something very clear right at the beginning. The US healthcare system as it stands is dysfunctional and can no longer continue as it currently operates. With or without Obamacare, profound change is required to deal with the dysfunctionality, and that change will happen, one way or another. Obamacare is simply one method for “encouraging” that necessary change.

The US currently spends 17.9% of its total GDP on health services (http://data.worldbank.org/indicator/SH.XPD.TOTL.ZS). This figure is projected to rise in the near future by about another 1% due to the population’s aging and a further 3% due to the growing incidence of chronic illnesses. Anticipated increases would raise the nation’s healthcare costs to an unsustainable 22% of GDP, crowding out spending for other goods and services.

By contrast, the Netherlands spends 12% of its GDP on healthcare; Switzerland, Germany, France, and Canada about 11%; New Zealand 10%; Sweden 9.4%; and the United Kingdom 9.3%. As we travel through these countries, there is frequently a clear, if anecdotal, perception that people are healthier than in the US.

And the data backs up that perception. The US spends more money on healthcare because we are in fact far less healthy on average than the rest of the developed world. This difference is in large part due to poor lifestyle choices, but the good news is there are programs that have clearly and conclusively demonstrated that this difference is reversible. Changing behavior, while it will be difficult, can result in significant cost savings. In fact, changing behavior may allow us to spend more on education, social programs, and even defense.

Perhaps the best way to illustrate the problem is by means of a rough analogy. Let’s imagine an older, 50-story office building in a big city. New office buildings have grown up all around it, and  the business tenants are beginning to vacate. Because of the lower rents available to individuals, people have started renting space and converting it into apartments. But as is typical in office buildings, there are very few bathrooms and no showers to speak of, so residents rework the plumbing to provide bathroom and kitchen supply water and drains for their living spaces. On a small scale it works. One floor after another soon converts, until the building is now an apartment complex.

But at some point the plumbing becomes a huge problem. Not everybody can get enough water at the same time; sewage backs up on some floors at inconvenient moments; and if someone flushes a toilet, someone else gets scalded by hot water in the shower. Depending solely on where you live in the building, you may have access to much better service, while others get none. Because of the plumbing problems resulting from poor infrastructure, many of the apartments no longer receive adequate water or get it only on an emergency basis and at great expense and trouble.

The cost of maintaining the system becomes significant, so the residents get together and decide that the building must have a completely new plumbing system. No one wants to keep the old plumbing, but everyone has a different idea about how to go about creating a new system and what it should accomplish and how much it should cost and who will pay for it. Do you do one floor at a time? All the kitchen sinks at once? And can there be different sinks, or must one type fit all? Do you separate the water for the toilets from the potable water?

In a very contentious vote, the occupants of the building narrowly decide on a plan that requires all of the plumbing in the building to be changed simultaneously. Walls will be knocked out, and new pipes and equipment will be installed. The new system is going to be a marvel of technology and efficiency, but the process has the potential to be very messy, as the all-too-human occupants will be going about their day-to-day business in the midst of the construction. They will need fresh water and sewage disposal even as the plumbing is being reworked.

The United States, by analogy, is changing the plumbing of its healthcare system. In describing the plumbing changes, we will focus primarily in this letter on the financial aspects, and specifically on money flows from patients to providers and from providers to their staffs. How do we go about paying the doctors and nurses and covering other hospital costs? As it turns out, a more efficient system will mean that each apartment (hospital) will actually get less water (money) and will have to organize itself to deal with that.

Again, the fundamental changes that are necessary in the US healthcare system are going to happen with or without Obamacare. The system is simply dysfunctional. ACA is just accelerating the process. With a few noncontroversial (we hope) exceptions, we are not going to be making suggestions about what to do to improve the healthcare system or the new healthcare law. The following is simply an analysis of the economic and business challenges that will occur as a result of the Affordable Care Act as it is currently understood. This is the business reality that hospitals all over America face, not just the Cleveland Clinic.

To continue reading this article from Thoughts from the Frontline – a free weekly publication by John Mauldin, renowned financial expert, best-selling author, and Chairman of Mauldin Economics – please click here.

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