I've written favorably about reference pricing in the past. But it's important to be forthcoming about its limitations, or those of any payment strategy. Several recent publications, which I summarize below, highlight some of ways reference pricing could fall short.
First, let's review what reference pricing is and what it can do. In a post on The Incidental Economist, Nicholas Bagley and I briefly explained,
With reference pricing, insurers set the price they’re willing to pay for a given service or procedure, typically pegging it to a price at which it can be obtained at good quality—the reference price. A policyholder can then obtain that service or procedure at zero out-of-pocket cost at any provider willing to match that price. For providers that charge more, the policyholder—not the insurer—pays the difference.
You'll find more discussion of reference pricing in the JAMA Surgery Viewpoint by Terry Shih and Justin Dimick, who add some of the history. A reference pricing drug "program was first implemented in Germany in 1989 and has been widely adopted in many European countries, Canada, and New Zealand." They wrote that Safeway has implemented reference pricing for colonoscopy, laboratory and imaging tests, arthroscopy, herniorrhaphy, cholecystectomy, and cardiac catheterization.
In a prior post on this blog, I reported on some encouraging results from a study of reference pricing. The California Public Employees’ Retirement System (CalPERS) and its enrollees saved $3.1 million in 2011 by using reference pricing for knee and hip replacement surgery.
Before implementation of reference pricing by CalPERS, roughly an equal share of patients chose low- and high-price hospitals for knee or hip replacement surgery. [... After reference pricing, a]lmost 65% chose low-price hospitals and 35% high price hospitals by 2012. [In addition,] CalPERS high-price hospitals dramatically lowered their prices.
CalPERS' achievement of savings was a function of the degree of competition in the market: patients had choices about where to receive knee and hip replacement surgery. Crucially, such choice is only meaningful when it is sufficiently abundant and patients are aware of price and quality differences among providers, as Uwe Reinhardt recently noted.
[G]reater transparency about prices and quality in health care are not helpful if the relevant market for health care is monopolized. Transparency can promote savings and encourage better quality only if there are enough competing entities that provide health care in a market. It is a point that is sometimes overlooked but is an essential ingredient for patients to benefit from knowing the price and quality of the health care services they purchase.
Reference pricing is different from network contracting in this way. For the latter, the insurer makes a judgement about price and quality, including in its covered network only providers that meet its criteria. So only the insurer need know about prices and quality. In the former, it's patients that decide, so it is paramount that they have access to price and quality information.
Though reference pricing and network contracting are different, one would expect a similar price dynamic in a sufficiently competitive market. If offering lower prices and better quality is required to obtain a contract with an insurer who can deliver high volume (like CalPERS), provider organizations will tend to respond in much the same way to network contracting as they do to reference pricing: reducing prices and increasing quality to secure greater volume. For the Federal Trade Commission, Keith Brand, Christopher Garmon, and Martin Gaynor made this point.
We believe there is little difference between the price reduction and quality improvement incentives associated with narrow network health plans compared with reference pricing health plans. A health insurer could create a narrow network plan to give providers an incentive to reduce their prices and improve their quality in exchange for inclusion in the network and the increased patient utilization associated with this inclusion. Alternatively, the health insurer could create a reference pricing health plan and set a relatively low reference price that would mimic the incentives and utilization of the narrow network plan. The only difference between the two plans is that, in the former, providers compete in price and quality to be included in the network, while in the latter, providers compete directly for the patients.
They go on,
Lost in the discussion is the possibility that some patients may prefer to delegate the responsibility for selecting low-price, high-quality providers to their insurance company instead of shouldering the burden of evaluating the relative price and quality of various providers.
This is a good point, though it doesn't suggest which arrangement is better. To the extent there is heterogeneity of preferences, there's a role for both reference pricing and network contracting.
Finally, Chapin White and Megan Eguchi analyzed the potential savings from reference pricing based on data from 528,000 active and retired nonelderly autoworkers and their families in 19 midwestern markets.
If reference pricing were applied to a [broad] set of so-called “shoppable” inpatient and ambulatory services [those that can be scheduled in advance at more than one provider and with available price data], potential savings would be [] roughly 5 percent of total spending.
The authors consider this "modest," and it is relative to the typical benchmark of 30% of health care spending for which we receive no value. However, it's very unlikely we'll ever find and agree to implement a single (or just a few) reforms that add up to 30% savings. In that context, a handful of reforms, each of which trims a few percentage points is a more realistic goal. In my view, something like 5% savings from reference pricing is enough to warrant attention.
Reference pricing, like every reform idea or payment system, has strengths and limitations. We should acknowledge both.
Austin B. Frakt, PhD, is a health economist with the Department of Veterans Affairs and an associate professor at Boston University’s School of Medicine and School of Public Health. He blogs about health economics and policy at The Incidental Economist and tweets at @afrakt. The views expressed in this post are that of the author and do not necessarily reflect the position of the Department of Veterans Affairs or Boston University.