Obama Pans the Private Equity That Will Save Our Lives

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Today, most patients needing long-term dialysis no longer get it in hospitals but go to less costly, more convenient outpatient clinics. Routine problems like hernias are fixed in outpatient surgery offices; while complex issues like cancer are handled in specialized centers with expertise to better manage these problems, at lower cost.

These and other innovations in delivering medical care, from the advent of outpatient rehabilitation to creation of the first HMO, were pioneered in the last few decades through a common origin: they were incubated in start-ups that were headed by entrepreneurs and backed by venture capital.

Advances in the way that healthcare services are delivered, most now taken for granted, arose the same way as progress in other spheres of commerce -- as a result of innovators who risked capital in search of profits. These new ideas are essential if we're going to solve our long-term fiscal woes by increasing productivity in the healthcare sector to get more medical care for each dollar we spend.

But the capital for these efforts typically comes from investment firms similar to the ones that the President is now panning in his political campaign. This reflects a dim view of free enterprise that's also echoed in Obamacare. Provisions in the President's healthcare plan directly penalize investment returns earned on the delivery of healthcare. These approaches are foiling the entrepreneurial ecosystem that creates disruptive new healthcare companies in the first place.

Under Obamacare, these efforts aren't just a policy of frugality -- an effort to cut costs in the healthcare system by capping profitability. Like the President's attacks on free enterprise, it's the reflection of a much broader political philosophy.

The progressives running Health and Human Services view "excessive" profits earned by for-profit providers as money that could have been directed instead into patient care. In recent years, "excessive" has typically meant any healthcare services ventures earning a persistent profit margin better than about ten percentage points. This kind of success invites regulation, rate cuts, and sometimes, outright penalties.

So Obamacare dictates fixed caps on margins earned by health insurers (their medical loss ratios) and arbitrarily cuts the payment rates of broad swaths of providers. The law empowers an insular agency (the Independent Payment Advisory Board) to survey the profitability of industry segments like nursing homes and hospice providers, and sand down payment schedules when any one of these provider groups enjoys profit margins that exceed some arbitrary norm.

The result is that bold new ideas aren't getting started. Most of the endeavors formed in recent years are pursuing small concepts, such as fashionable plays on healthcare information technology. Venture capital flows into starting new healthcare services ventures have dropped sharply, from $1.2 billion in 2010 to $541 million in 2011 according to data from Dow Jones Venture Source and the National Venture Capital Association. Only about 30 venture-stage healthcare services companies got funded last year, compared to hundreds in previous years. Investments in new, facility-based healthcare start-ups have virtually ended.

Much of the venture investment going to new health service ideas is being allocated to Brazil, India, and China. There used to be 30 to 40 specialized venture firms that financed fundamental innovations in healthcare delivery. Most are now gone.

Instead of betting on entrepreneurs, Obamacare assumes that improvements in the delivery of medical care will arise as a result of shifts in market power. This turns on a shortsighted view that once providers are grouped into larger networks, they'll make wider use of things like information technology to better coordinate the care of patients, in turn lowering costs. The legislation bets heavily on hospitals, envisioning them as the hub around which providers will be consolidated.

To hasten these changes, Obamacare turns to the creation of integrated networks of doctors that it dubs "accountable care organizations". The legislation tries to invent these new constructs by shifting financial incentives toward institutions (mostly hospitals) that manage salaried doctors and away from individual physicians. But ACOs are just a new variation on an old concept of capitation - where providers are paid lump sums to care for large groups of patients. The idea is to put the financial risk of patient care onto doctors, giving them incentive to economize.

By 2013, less than a third of physicians will still be in private practice, according to a recent survey by Accenture Health. Most will be salaried employees of hospitals. Yet the best way to drive innovation and productivity is to have entrepreneurial providers who actually understand what things cost. Once they become salaried employees, their incentive to find new efficiencies floats off into the ether.

The Obamacare schemes aren't conducive to disruptive changes in the delivery of care. They entrench the existing players.

Instead of punishing risk taking and innovation, the government needs to demonstrate that it can be a reliable business partner with entrepreneurs. Programs like Medicare need to let markets reward new services and business arrangements that can improve medical care while lowering costs. This starts with letting the market allocate capital to the most promising new endeavors. Medicare services need to be managed by competing health plans that are financed by a defined contribution of money (premium support) that patients would own.

The only way we'll tackle long-term entitlement woes are through disruptive systems that create more efficient ways of delivering services. These concepts won't arise from the forced consolidation of doctors into hospitals. They'll be hatched the same way as other genuine innovations. By entrepreneurs who seize on new concepts, raise capital, and start ventures in search of profits.

American Enterprise Institute (AEI) Resident Scholar Scott Gottlieb, M.D. is a practicing physician.  He previously served in senior positions at the Food and Drug Administration (FDA) and the Centers for Medicare & Medicaid Services (CMS). 

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