Managed Competition

Managed competition is an oxymoron. Although competition requires freedom for actors to negotiate prices and volumes of their goods and services, regulation seeks to restrain that freedom. Yet countries as culturally and institutionally diverse as Israel and Colombia are reorganizing their heath care systems with the aim of allowing more market incentives and more responsibilities for market actors. In the United States, managed competition allows competing health insurance agencies to selectively contract providers on behalf of their insured, under narrowly defined rules set by the government.

Economists since Kenneth Arrow have argued that the market for health care differs from other markets for products and services. This market displays several imperfections including moral hazard, supplier-induced demand, and X-inefficiencies. Moral hazard exists when insurance increases the possibility of incurring a covered loss or enhances the covered loss' size. Moral hazard implies that rational, insured people use more health services than people with no or limited insurance. This rational economic behavior leads to welfare losses as people demand services, which contribute less to their individual utility and more to social costs. Supplier-induced demand indicates that providers of highly specialized services induce demand among their patients for their services, which third-party insurers have to pay. X-inefficiencies occur due to imperfect[Page 341] information that individual patients have about their individual providers. Because of imperfect information about them, inefficient providers continue to operate in the market.

In 1978, Alan Enthoven, a Stanford University professor and former U.S. assistant secretary of defense, wrote an important article on managed competition in the New England Journal of Medicine; he elaborated on and amended his ideas in subsequent articles. With a managed competition model in place, Enthoven argued, market actors have incentives to behave as if they operated in perfectly competitive environments. Price signals and competitive pressures let cost-conscious consumers, and profit-seeking providers, as well as insurers, interact. Specific incentives and instruments, as well as particular institutions, obviate moral hazard, supplier-induced demand, and X-inefficiencies.

In managed competition, new market actors, or sponsors, act as purchasing agents for pools of consumers, define the basic rules for competition among insurers and providers, supply consumers with information, and monitor insurers’ behaviors to prevent risk selection. Insurers offer potential consumers contracts at or above standardized ranges of health services at community-rated premiums. Consumers can freely switch between plans periodically. Ideally, sponsors collect premiums and distribute these premiums on risk-adjusted bases to individual insurers. In addition, sponsors provide consumers with information on price, quality, levels of coverage, and coinsurance schemes of the insurers. Insurers can contract selectively with providers, or even integrate with them. Moreover, they have to bear the financial risks of acting in the market. Thus, insurers have to monitor health care delivery as they compete for the insured, and providers have to increase technical efficiency as they compete for contracts with insurance agencies. Insurers compete for consumers with the levels of their premium, the range of the services they cover, and the quality of the services they offer. Effective policy on competition ensures a high degree of competition in both the insurer and the provider markets. Free-market access for providers and insurers enhances competition.

...