The Color of Blue
Good morning. I am Peter Lund, MD, president of the Pennsylvania Medical Society based in Harrisburg.
Let me begin by thanking the Pennsylvania Insurance Department for hosting this informational hearing. We appreciate the opportunity to provide comments to the Department as well as to its consultants currently engaged to provide guidance on the merger of Highmark and Independence Blue Cross. The impact of this consolidation could be as significant as any event in the history of Pennsylvania medicine, which makes the public hearing process all the more important.
The Pennsylvania Medical Society’s position on this consolidation, as stated in our written comments to the Department as well as to both health plans, has been to oppose the merger until the benefits to enrollees, purchasers, and health care providers are well defined. To date we have not been provided with any evidence which demonstrates these benefits. So we remain opposed to the proposal now before the Department.
In order to adequately assess the impact the potential consolidation will have on the health delivery markets of Pennsylvania and in turn, enrollees, purchasers, and providers, transparency of the filed data is critical. There are a number of filed consolidation documents that the Insurance Department has identified as confidential. The Medical Society and other interested parties have no access to these documents to aid in the analysis of the potential impact on competition. Many of these documents may contain material information related directly to the impact this consolidation would have on market competition. We would hope, short of making these documents public, that the Insurance Department and its consultants vet these documents thoroughly as part of the due diligence that must occur on a merger of this magnitude.
Health insurance firms that seek merger approval commonly advance the argument that the merger will improve operating efficiencies and that will develop from economies of scale. Accordingly, they contend that health insurance markets will operate more efficiently with a large dominant health insurance company. This argument has been put forward by Highmark and IBC in the information they have filed with the Department.
While there is not much research on this topic, two economic studies that we are aware of indicate economies of scale for health insurers are exhausted at roughly the 100,000 enrollee level. IBC and Highmark have indicated they would have a combined enrollment of over 7 million enrollees after the merger. Currently, each firm has an existing enrollment in excess of more than several million members. It is more than possible that these firms are already operating in the “diseconomy of scale” range. It is our belief that the benefits espoused in the merger filing will not be achievable if based on savings accrued through scale-based economics.
Professor Lawton R. Burns, Wharton School of the University of Pennsylvania, testified on the consolidation last year before the Pennsylvania Senate Banking and Insurance Committee. Professor Burns outlined four reasons why the economies of scale benefits of the merger outlined in the filed consolidation documents are probably not attainable. To site just one of the reasons, “The literature on corporate mergers and acquisitions is quite clear in showing that efficiencies and synergies result from pre- and post-integration efforts. There is no detail regarding these efforts in this pre-merger phase. Specifically, the economic literature on scale economies outlines the different areas in which efficiencies can be reaped: spreading of fixed costs over larger volume, increased specialization of labor, enhanced ability to raise capital, lower costs of carrying inventory, learning curve effects, marketing economies (e.g. branding, advertising), promotion economies (greater leverage over consumer transaction and search costs), and purchasing economies (greater leverage over suppliers). None of these avenues to economies of scale is detailed in the filings.” Perhaps this discussion is detailed in the information that has been labeled as “confidential” by the Insurance Department.
Although not detailed in the filing, this last issue—leverage over suppliers—is already occurring as evidenced by data provided in a 2007 Pennsylvania Health Care Cost Containment report on cardiac surgery. That report in part discusses commercial insurance payments to hospitals. The Erie Times News reported that Highmark paid Erie hospitals almost 50 percent less for some heart surgeries then they pay hospitals statewide. Some speculate that the variation could be related to the lack of competition among insurers in the Erie market. For example, Hamot in Erie received on average $26,000 for a valve without coronary artery bypass graft surgery yet Lehigh Valley Hospital, a hospital about the same size as Hamot but located in the more competitive central Pennsylvania market, received almost $35,000 for the same surgery. A senior official from Highmark was quoted that “Hospitals in, say central Pennsylvania have negotiated higher rates than hospitals in other areas because Highmark isn’t the dominant payer and there isn’t as much competition among hospitals…We compete more aggressively with Aetna in that part of the state.” One has to ask what will happen to provider payments once Highmark and IBC further dominate the health delivery markets of the commonwealth.
Language in the consolidation filing indicates that “the Highmark Subsidiaries and the IBC Subsidiaries do not engage in any material competition in any relevant product market or any geographic market. The Highmark Subsidiaries and IBC Subsidiaries operate in different regional markets and focus their respective operations on particular types of insurance products…Analysis of the change of control…demonstrates that the transaction will not adversely impact competition in Pennsylvania.”
We do not agree with this statement and believe that there will be a potential reduction of competition and a corresponding increase in the monopsony power of the consolidated company. One such example would be found in those counties that currently border both IBC and Highmark services areas. Let me explain. Berks County is currently included in Highmark Blue Shield’s service territory. Montgomery County which is contiguous to Berks County is located in IBC’s designated service area. An employer located in Montgomery County would purchase health insurance for their employees from IBC due to Blue Cross Blue Shield Association franchise restrictions. The IBC enrollee who lives in Berks County but works in Montgomery County would likely receive their health care from providers in Berks County. Currently, a provider in Berks County could participate with both Highmark and IBC, one or the other, or neither.
Under the consolidation, a physician in Berks County would only have the choice to participate with the consolidated company rather than two companies. With the significant market share the consolidated company would have, provider reimbursement levels could be driven down below competitive levels and contract terms could be more one-sided than they currently are affecting the ability of the provider to deliver quality health care services and invest in technology that can improve care and patient safety. Again, with such a large market share it would be unlikely the provider could opt-out of the provider network of the consolidated company.
We have seen first hand that employers, individuals, physicians, and hospitals benefit from the healthy competition between Highmark Blue Shield and Capital Blue Cross in Central Pennsylvania and the Lehigh Valley. We need to give physicians, hospitals, employers, and individuals in Southeast and Western Pennsylvania the same opportunity to benefit from competition.
We believe that one of the most natural entrants into the Pittsburgh market would be IBC. Highmark would be a natural entrant in the Philadelphia market. However, for “Blues branded” products the national Blue Cross Blue Shield Association franchise restrictions divides the nation, including Pennsylvania into territories, assigns each BCBSA plan member a territory and prevents member plans from competing in one another’s territory.
Today, Highmark Blue Shield could compete directly against IBC in the IBC’s BCBSA service territory. The BCBSA franchise agreement would permit a Blue Shield plan to compete against a Blue Cross plan and vice versa in the same territory as evidenced by Highmark Blue Shield and Capital Blue Cross currently competing in Central Pennsylvania and the Lehigh Valley. Additionally, BCBSA licensees can and do compete within and outside of their designated service areas using non-Blue brand products, which would enable IBC to compete against Highmark in Western and Central Pennsylvania.
It has come to light recently that IBC and Highmark deliberately chose not to compete as a result of a ten-year non-compete agreement which expired shortly before the announced consolidation. Therefore, it appears that this merger is IBC and Highmark’s effort to make permanent their agreement not to compete.
In Pennsylvania’s four health delivery markets, there has been very little in the way of sustainable new health plan entry other than Coventry, UPMC Health Plan and UnitedHealthcare in the recent past. Why has there not been significant new entry?
We believe that the failure of new entry relates directly to the existence of significant entry barriers imposed by the “Blue” plans. These include (1) the reserve levels of the existing dominant insurers, (2) physician network “technology” in the form of information about the practice patterns of existing providers (hospitals and physicians), (3) contract terms that guarantee competitive advantages to existing dominant insurers and (4) name recognition that flows from both a pervasive advertising campaign and 70 years of service to the community. Further, a simple “tipping” phenomenon may exist that discourages new entry once a market reaches a certain point of very high concentration. Many Pennsylvania health insurance markets are concentrated enough to reach a tipping point.
In short, we believe that market structure and conduct implies the existence of market power currently displayed by both of these firms and this market power will be further exacerbated by permitting these firms to merge. This merger would eliminate any competition between the two plans in the future. Even if Highmark and IBC legitimately do not compete under the “Blues” label due to franchise restrictions, they could compete under a different brand. It is therefore our opinion that this merger will create substantial entry barriers in the markets that will be dominated by the consolidated company.
Thank you for the opportunity to comment on this all important merger. The Pennsylvania Medical Society believes that the foundation of good health is a strong patient-doctor relationship. It is therefore imperative that when the Department conducts its analysis of the potential merger that it takes into consideration the importance of this relationship and what effect this merger could have on it.
Additionally, the Department must ensure that healthy competition exists in all health delivery markets of Pennsylvania. Competition generally improves price, service quality, consumer choice, innovation, and clinical quality. Pennsylvania citizens must have access to affordable, quality health insurance and the provider community must be treated fairly to keep the Commonwealth competitive.
Last Updated: 8/6/2008