The Reference-Pricing Revolution

by Reihan Salam

Berkeley economist James C. Robinson touts the potential virtues of “reference pricing”:

Rather than the patient paying up to a defined limit and then the insurer covering the remainder, the insurer pays up to a defined limit and the patient pays the remainder. This has the remarkable feature of exposing the patient to the variation in prices for treatments that are above deductible thresholds. And the patient’s contribution isn’t limited by an annual out-of-pocket maximum.

Lorens Helmchen of George Mason University offered a variation on this theme in his “Cash for Care” proposal. The basic idea behind “Cash for Care” is that if patients choose a lower-cost treatment over a higher-cost treatment, they can share in the resulting savings.

Reference pricing isn’t quite this ambitious, yet it’s also less of a lightning rod and it seems to have proven effective in California, where it’s being used by the Calpers system to contain costs for a number of medical procedures, per Robinson:

The percentage of Calpers patients selecting low-price hospitals increased to 63% in the year after reference pricing was introduced, from 48% in the year before, and the trend continued into the second year after the introduction.

Even more striking was the effect on pricing strategies. Half of the high-price hospitals cut their rates, many by a considerable amount. (Guess which number they were trying to hit.) Across all hospitals, prices charged to Calpers for joint-replacement surgery declined by 26% in the first year and by even more in the second. The combination of changes in market share and cuts in prices reduced Calpers’ expenditures over two years by $6 million, a much-appreciated gift to a state whose budget deficit has been at Greek levels.

One advantage of a multi-payer health system is that innovations like reference pricing can be more readily deployed.

The Agenda

NRO’s domestic-policy blog, by Reihan Salam.