Central Planning vs. Medical Knowledge

Why Medicare’s Latest Idea, Accountable Care Organizations, Will Not Work

Accountable Care Organizations (ACO’s) are Medicare partnerships set to start in January 2012 in which relatively large number of local physicians and other local providers of healthcare services will team with local hospitals and Medicare and will attempt to improve quality of care and reduce costs.  The model calls for incentive payments by Medicare based on numeric indicators on quality, clinical processes, patient satisfaction, utilization, costs and outcomes. Medicare would assign a minimum of 5,000 local patients to an ACO and will track these indicators over time. Medicare will develop a baseline consisting of the prior 3 years’ cost information of those patients assigned to an ACO and will adjust it for risk, that is, how sick its patients are. Medicare will also develop a cost reduction target for the population.  An ACO’s performance will then be compared to cost reduction targets and if the yearly per-capita beneficiary costs are below the target specified by Medicare, then the ACO will be entitled to a share of the savings which will be distributed to the members of the ACO. 

ACO’s are a response to the regional variations in Medicare expenditures per enrollee documented by the Dartmouth Atlas group, variations that range from $6,000 (Dubuque, Iowa) to $17,000 (Miami, Florida). Dartmouth Atlas finds that these variations in expenditures are caused by differences in the amount of care given to the population and that the amount of care depends on the supply of medical services available in a particular region. These variations are supported by a Medicare payment system that keeps the supply of medical services fully employed regardless of their capital intensity or their cost to Medicare.  The higher the proportion of hospital beds and specialists in a region, the higher the number of hospital admissions and referrals to specialists and the higher the Medicare total payments in a region. Simply put, the higher the supply, the higher the demand.  

The hypothesis behind ACO’s is that if spending could be safely reduced to the level of the low spending regions, overall savings for the US healthcare system would be in the order of 30%, and that since according to the Dartmouth Atlas data large clinically integrated health systems are able to provide care at lower costs, then ACO’s that emulate these large healthcare systems could serve as the vehicle for provider integration in regions that lack such large scale integration and, if the proper financial incentives from Medicare payment systems are in place, ACO’s will form and will achieve those savings. 

The policy implications of ACO’s are clear: to reduce costs, Medicare will need large organizations of physicians and hospitals with more primary care physicians, fewer specialists, fewer hospitals, fewer hospital beds, fewer capital intensive diagnostic and treatment technologies, primary care physicians who do not refer to specialists and finally, specialists who do not use hospitals or capital intensive equipment.

But Medicare’s and Dartmouth Atlas’ logic is based two intellectual mistakes. Their first mistake is to assume that Medicare’s current payment methods (fee for service) reinforce an already poorly coordinated and expensive medical care and that supply causes demand. The cause and effect relation moves exactly in the opposite direction: we have poorly coordinated and expensive medical care because Medicare’s payment method interferes with the formation of free market prices and we have higher supply of services because under the current sytem, we have an unlimited unchecked demand for services. As Ludwig von Mises pointed out, without prices economic calculation is impossible so managers and entrepreneurs are unable to allocate capital, labor and supplies to the highest valued use and without the constraints on cost to themselves, consumers of healthcare face no limit to their demand. We have explored this argument here. 

Their second intellectual mistake is to assume that the healthcare system can be made more efficient by encouraging and forcing integration. This mistake is caused by Medicare's failure to understand how complex societies transmit knowledge and information. F.A. Hayek answered this question in 1945 in his essay The Use of Knowledge in Society. Sociologist Charles Bosk supports Hayek’s answer in his classic 1974 field study of residency medical education titled Forgive and Remember. The rest of this article follows the logic behind these two works and applies them to the healthcare reform debate. 

The knowledge necessary to improve coordination and reduce costs in our healthcare system is never and can never be concentrated in a central planning organ, be it at the national level with Medicare, or at the local level, with an ACO. To the contrary, medical knowledge is always dispersed in incomplete and contradictory form scattered among million of patients and thousands of health care providers. Medical knowledge is only made present in the individual interaction between a particular patient and a particular health care provider in a particular physical space and time. The problem that Medicare is trying to solve is not what is the best way to allocate scarce healthcare resources in general. Medicare’s problem is infinitely more complex; Medicare is attempting to find out how to allocate scarce health resources when only the individual patient and his physician know the relative importance that those scarce resources have when compared to other alternatives.  

If Medicare could concentrate all the knowledge which is initially dispersed and then convey that knowledge back to individual patients and their physicians so they can make the right decisions, then ACO’s (and central planning indeed) could be successful. But this depends on the type of knowledge that needs to be communicated. If what Medicare is communicating is scientific knowledge, perhaps a body of experts could be assembled to decide on the right diagnostic and treatment protocols that ought to be used--though Medicare would then have to address the obvious questions of who selects the experts, what criteria is to be used for that selection and how those protocols will be enforced across space and time. Indeed Congress has already allocated $10 billion to Medicare to establish a center for innovation in January of 2011 charged with develop innovative models to slow growth and improve quality. 

But Hayek points out that scientific knowledge, is not comprehensive knowledge.  There is knowledge that is unorganized rather than scientific, particular rather than general, bound by time rather than timeless and bound by location and circumstance rather than universal. This is the knowledge that a patient has about his specific symptoms, his history, his physical condition, his emotional state, his subjective level of pain, his spiritual inclination, etc., that can only be voluntarily disclosed if it is to be used by his physician to diagnose and treat the condition that is causing the symptoms. It is also the knowledge that a hospital or medical practice manager has:  knowledge about relative surplus, scarcity and quality of supplies, weather or other conditions that may interrupt the flow supplies, labor and patients, best locations to rent physician offices or build hospitals, how and when to consolidate or expand services or nursing units within a hospital, how to cut costs in this particular department at this particular time without sacrificing quality, when to improve quality even if costs increase, key stakeholder analysis, accountability systems, etc.  

This type of practical knowledge is also characteristic of the clinical knowledge that an experienced physician has. In his field study of medical education Forgive and Remember, sociologist Charles Bosk follows a team of medical residents and attending physicians over the course of 18 months to observe how medical knowledge is transmitted. Specifically, he concentrates on the nature and types of medical errors. He points out that a misunderstanding about two types of medical errors (a reasonable treatment option that is later proven wrong versus a treatment option that is an indefensible mistake) and how physicians make the distinction between the two, leads to incorrect policy recommendations about how the medical profession ought to be controlled. He argues that medical errors are an indeterminate category, similar to beauty or mercy (p.24). This indeterminateness is caused by the dual nature of medical knowledge itself: on the one hand, there is scientific knowledge (or “general knowledge” in Hayek’s terminology) and on the other, there is clinical expertise (or “local knowledge” in both Hayek’s and Bosk’s terminology). Bosk found that when physicians make clinical decisions,  “arguments based on clinical expertise override those based on scientific evidence” (p.85). Local medical knowledge, therefore,  trumps general knowledge, exactly the same conclusion that Hayek reaches. 

Residency programs for medical students are apprenticeships in which an experienced attending physician nurtures and develops through a series of almost choreographed rituals, humor, unwritten rules, stereotypes, hierarchical structure, tension, drama, survival-of-the-fittest character, public display of student’s and attanding’s mistakes and accomplishments, compassion, self-deprecation, team effort, individualism, camaraderie, horror stories, etc., in the inexperienced resident the practical judgment to know when to follow scientific knowledge and when to follow clinical experience. This is the most critical element of medical education.  Residents are expected to study and know the general rules. Attending physicians are expected to teach residents to recognize the exceptions to those general rules. That clinical acumen or clinical eye characteristic of an experienced attending physician, his clinical expertise, “is a charismatic possession, a gift of grace; its exact nature is a mystery“ (p.92). Medical education has evolved over hundreds of years and is structured today as a way for medical residents to appreciate that mystery.  

Bosk points out that the assumption by managed care, and I would add Medicare, Dartmouth Atlas and all medical central planners, that the healthcare system can be made more efficient through centralized decision making far from the bedside clashes with the very system that  clinicians use to grapple with medical errors, understand their cause and implement remedies, and teach future physicians, all part of a process that is “an extreme example of local knowledge” (Bosk’s own terminology in p. xxiii). Bosk concludes that medical “errors are not events that can be counted. Their existence needs to be debated; the discourse over precisely what is and is not an error is necessary to the formation of a sense of professional responsibility.” 

The patient’s knowledge about his condition, the manager’s knowledge about the local conditions of the market, the physician’s clinical knowledge about exceptions to the rule are all knowledge that cannot be counted, aggregated and expressed in statistical format. It cannot be conveyed to Medicare planners. Aggregation destroys the minor differences that are the “bread and butter” of the day to day actions of physicians and healthcare managers at the local level. And even if it were possible to aggregate, this knowledge could not be disaggregated and transmitted back to individual patients and providers of care in time to have any useful meaning to guide action at the local level, especially given the rapid rate with which change at a local level takes place.  

Bosk doesn’t offer any solutions to the quandary facing healthcare central planners, but his study reveals what is the result of centuries of development in the medical education field: an apprenticeship environment at the local level can best impart the practical, local and non-theoretical clinical knowledge necessary for medical students to become effective clinicians. This supports Hayek’s insight that only by decentralizing can coordination be improved.

The challenge faced by Medicare is how to allow decentralization and at the same time impart the additional knowledge to local patients, local physicians and local hospitals that will allow them to make decisions in a way that the overall objectives of Medicare can be met. In this regard, Medicare faces not just a difficult problem, but an impossible task. Almost anything that happens in the world can and does have an effect on the decisions made at the local level. 

The paradox of simultaneously having to decentralize and coordinate in order to achieve common general objectives is solved by the market price system. Hayek states that when free market prices are allowed to function, they coordinate the separate actions of different people in the same way that an individual’s subjective values assist him in coordinating the parts of his own plan, without having to know all the details of the problem to be solved or having to develop all the ramifications of each option. He concludes:  “The mere fact that there is one price for any commodity...brings about the solution which might have been arrived at by one single mind possessing all the information which is in fact dispersed among all the people involved in the process.”

The price system communicates information critical to achieving coordination at the local level and achieves general objectives as if an omniscient central planner instantaneously and continuously provided guidance to everyone. In fact, Hayek states, the marked does it so efficiently that its participants need to know nothing about the causes and ramifications of events affecting a particular local process in order to react quickly and through trial and error approximate the correct action that a central planner would recommend if he were omniscient. 

If Medicare aims to have local patients, physicians and hospitals to reduce costs, improve quality and adapt quickly to local changes, it would seem that the best and indeed only way to make that happen is to allow local providers who are most familiar with those local conditions, local resources and local changes to make those adaptations. Without a market and its price system, however, this is impossible to achieve. Centralization and price controls can only slow down adaptation, reduce coordination, increase misallocation of capital, supplies, and labor and ultimately reduce quality and increase costs. 

__________

¹ Israel Kirzner’s Competition and Entrepreneurship,  Chapter 6 Competition, Welfare and Coordination, helps clarify and augments Hayek’s argument.

Medicare can’t play market

The Journal of the American Medical Association (JAMA) reported June 24, 2010 that Medicare’s program requiring hospitals to reach certain numeric goals that measure the Surgical Care Improvement Process (SCIP) in care of surgery patients do not result in better outcomes: 

“Despite this evidence, hospital-level performance on individual SCIP measures is publicly reported "to assist patients in selecting centers of excellence" for receipt of their surgical care. This publicized use implies that reported adherence on these measures is directly related to improved outcomes. Our findings are unable to support this assertion.”

This is a significant blow to Medicare’s “Value-Based Purchasing.” This initiative is part of a trend that the tax-supported payor program for seniors started more than a decade ago to mimic the free market. The method that has been selected attempts to derive numeric scores in three quality domains: process of care, patient satisfaction and outcomes. From these scores, Medicare will apply a payment formula that will redistribute a pool of funds created by a 2% withholding of hospital Medicare payments. This is designed to provide the necessary financial incentives for hospitals to comply with the program. Hospitals with scores in the top quartile will receive 100% of their contributions into the pool. Hospitals in the bottom quartile will not receive any of their contributions back, and the middle 50% will be paid according to a formula that goes from 100% to 0%. These payment formulas will be phased-in from 2013 to 2017. In an era in which Moody’s “A” rated hospitals have operating margins of 2.2% and Medicare represents over half of that margin, giving up 2% of Medicare payments is the difference between keeping the hospital open or closing it. 

The study from JAMA looked at a subset of measures for the process of care in surgery known as Surgical Care Improvement Project (SCIP). This project was started by Centers for Medicare and Medicaid Services in 2002 to decrease complications and mortality associated with postoperative care in hospitals. Measures include antibiotics given one hour before incision, clipping rather than shaving hair on the surgical site, keeping blood sugar controlled between certain limits, treatment to prevent blood clots, etc., but there are other non-surgical process measures such as pneumonia patients receiving pneumococcal vaccination. Satisfaction measures include doctors and nurses always communicate well, rooms were always kept clean and quiet at night, etc. Outcome measures include mortality and re-admission rates.  Hospitals started reporting in 2004 on 10 measures. Currently they must report on 46 measures. This number is scheduled to grow to 55 in October 2010 and to 90 by 2012.   

Medicare’s hypothesis for Value Based Purchasing seems straight forward: if hospitals attain these goals in process, satisfaction, and outcomes, the quality of patient care will improve, and costly interventions to correct negative medical outcomes, such as additional surgeries, antibiotics, vascular procedures, additional days in the hospital, etc., will be avoided. Moreover, if hospital performance in reaching these goals is reported to the public, consumers will chose hospitals with better scores (and lower costs), hence overall healthcare costs for the program will drop. 

Using the Misesian critique of socialist calculation we have argued in prior articles (The Health Czar Can’t Calculate” and “Why Obamacare Can’t Work”) that it is impossible for Medicare to give any coordinating content to its mandates, that it is also impossible for healthcare agents to rationally allocate their scarce labor and capital resources under Medicare’s cost-based payment methods and that therefore, at best, Medicare will not be able to reign-in healthcare costs. 

The empirical results of this JAMA study point out that even if the socialist calculation problem did not exist, Medicare cannot know with certainty which hospitals offer high quality care and which don’t.  First, in reviewing other studies, the authors of the JAMA article found weak or no statistical significance between adherence to individual process of care measures and improvements in patient outcomes. Second, they argue that without better cause and effect relationships between process and outcomes, it is difficult to justify the massive investment in time and resources needed to track all these measures. Third, complications stemming from hospital care are influenced by a myriad of factors that are independent from the process of care measures. Fourth, public reporting of performance in process of care measures which compare hospitals do not infer quality differences between hospitals. And finally, that implementing financial incentives do not improve hospital quality. 

These empirical findings by JAMA are fully supported by the Misesian critique of the use of the method proper to the natural sciences to the social sciences. One could make the argument that medicine can use the method of the natural sciences effectively. However, medicine is as much science as it is art. Writing a progress note in a medical record, for example, one that successfully communicates to other clinicians the unique medical history, symptoms, diagnosis and treatment for a patient cannot be fully encapsulated in a statistical function derived from the reaction of the same types of patients in clinical trials or in the experience of the physician. But even granting such a concession, when the method of the natural sciences is applied beyond the narrow confines of very specific predictions about patients and their care to the world of hospital management in which social relationships between thousands of human beings such as patients, care-givers, support staff,  management, bond-holders, philanthropists, employers, third party payors, suppliers and competitors influence a myriad of cause and effect relationships that directly and indirectly affect nature of the care given, then the natural sciences method cannot make statistically significant predictions about that care. This is because complex relationships between individuals with their own uniqueness and freedom influence the outcomes that are being measured, and, more importantly, the actions of these individuals many times provoke the very events that Medicare is trying to prevent. 

If the cause and effect relationship between Medicare’s proposed goals for hospitals and overall quality is statistically weak or non-existent, then their connection to cost reduction is also weak or non-existent. Medicare’s Value-Based Purchasing initiatives will not cause a reduction in costs. This, in conjunction with the socialist calculation problem, will continue to confuse Medicare’s central planners as they attempt to encourage patients and healthcare providers to simulate the results of competition. 

A Critique of the Medicare Payment Advisory Commission

The Medicare Payment Advisory Commission released its second annual report to Congress in June 2008. Titled “Reforming the Delivery System”1, the report outlines the change in direction that the Medicare program is likely to take in the coming years. The Commission recognizes that without change, “the Medicare program is fiscally unsustainable over the long run”2 and it believes that under the current Fee For Service (FFS) payment method, in which Medicare reimburses hospitals and physicians for individual units of service, incentives for reform under are limited for two reasons. One, paying for individual units results in a strong incentive to providers to increase volume of services, and two, separate physician fee schedule and hospital prospective payment systems discourage coordination between physicians and hospitals that might result in efficiencies or better outcomes. 3 As a result, the Commission makes a series of recommendations to move Medicare away from FFS payment method toward one that promotes better coordination and accountability.

While these goals are laudable, their fundamental error is that the Commission’s assessment fails to understand the cause of the symptoms it attempts to diagnose and treat. The tell-tale sign of this methodological mistake is encapsulated in one of their reform ideas: the creation of an independent entity to produce information about the relative value of the services for which Medicare pays. By “value”, the Commission means “the clinical effectiveness of a healthcare service compared to its alternatives,”4 which will include cost effectiveness. The report states that while “cost effectiveness is not the primary mission, the Commission does not rule it out,”5 obviously because it recognizes that questions of value cannot be divorced from questions of economic calculation.

However, under Medicare’s central planning authority any rational economic calculation about the relative value of different health services is practically and theoretically impossible. This is the root cause of the inevitable long term collapse of the Medicare program and as we shall explore later the root cause of the inevitable collapse of our entire health care system. Any health care system resulting from central planning is not just of higher cost, lower quality, reduced innovation, uncoordinated, inefficient and ineffective, but literally and truly impossible. Austrian economist Ludwig von Mises in his 1920 treatise “Economic Calculation in the Socialist Commonwealth” developed this fundamental insight about the nature of all central planning.6 I rely heavily on his analysis of the impossibility of economic calculation under socialism to understand the inherent problems in the healthcare system created by the Federal government under the auspices of Medicare.

From a practical perspective, one can imagine a central planner judging the value of health care goods which require very simple production process, such as picking and consuming an orange from a tree in order to replenish the body of needed antioxidants that may aid in the prevention of certain cancers. One can also imagine this central planner valuing goods that are required in a slightly longer production process such as using lumber, a saw, a hammer and nails, to build a ladder to be used to climb a tree to pick fruit more efficiently. This is because in these simple examples, the planner can measure income and expense across the relatively short period of time it takes to build a ladder and pick fruit. But matters get very complicated very quickly when the central planner needs to decide on the level of reimbursement for a chemotherapy agent that took a pharmaceutical company years and millions of dollars to discover, test and manufacture, for the oncologist who supervises the delivery of the drug and who invested thousands of dollars and years of his life to understand the cancer disease process and for the hospital that invested millions of dollars and decades to build the infrastructure within which to deliver the drug.

This type of valuation is quantitatively more complicated because chemotherapy agents, physicians’ intellectual development and hospitals require very long and wide production processes across time and geography and complex interconnections between people, producers, quality, revenue and cost. In addition, to this one particular health product at one particular point in time and geography, the Medicare planner must consider hundreds of thousands of other health care goods and services, tens of thousands of hospitals, pharmacies, nursing homes, surgery centers, diagnostic centers, laboratories, home health agencies, hospices, long term acute care hospitals, ambulances, and millions of patients physicians, nurses, therapists and clinicians, across time and space. The central planner must therefore consider a practically infinite number of permutations in order to correctly allocate half of the healthcare dollar spent in the US.

Some may argue that the advent of the information age will resolve this practical calculation problem. But even if the Medicare planner possessed the most advanced computer information systems, it is only logical to assume that hospitals, physicians and producers of healthcare goods and services will possess similar computer systems as aides in the management their own internal operations and that hence, together, they would be capable of generating more information than the Medicare planning computer could absorb and process meaningfully. So paradoxically, information technology actually makes the economic calculation problem for Medicare more difficult to resolve.7

The Medicare planner must also consider two additional exacerbating factors.8 The first one is that like all goods, healthcare resources by their very nature are to a greater or lesser degree substitutable for one another. This is the phenomenon that the Commission is attempting to resolve by creating another commission to study the relative value of different health care services. For some types of breast cancers, for example, chemotherapy, radiation therapy and surgery may be substituted or complemented with one another. The challenge for the Medicare planner is to discover and approximate the myriad of natural substitutability of all healthcare goods and services in accordance with the exchange relations that an unhampered healthcare market economy would take place automatically and instantaneously.9

The second factor exacerbating the calculation problem is that since time is a scarce resource, capital can be accumulated and invested in order to lengthen any process of production and improve the efficiencies and quality of any healthcare good or service. This further multiplies the permutations required to evaluate alternative plans for the allocation of capital for the production of not only health care goods and services that Medicare patients consume, but also of capital required to manufacture the goods and services used by producers to fabricate the goods and services that hospitals and physicians purchase. For example, hospitals may decide between investing their capital in robotics for pharmacy or the operating room in order to improve the productivity and accuracy of pharmacists and surgeons or they may hire additional pharmacists or more experienced surgeons, or varying combinations between all or none of the above. Simultaneously, the manufacturer of robots would need to decide to invest capital to develop either pharmacy, operating room, radiation therapy or automobile robots and varying combinations between all or none of the above, and so on and so forth up the production chain of producers of software, research, education, parts, raw materials, financial services, etc., etc. So another challenge for the Medicare planner is to discover and approximate the natural substitutability of all alternative production chain possibilities that an unhampered healthcare market economy would discover automatically and instantaneously.

The infinite complexity of actual and potential relationships among producers, suppliers, providers and patients require precise calculations of income, expense, assets and liabilities across time in terms of a medium of exchange, i.e., money. Monetary calculation under conditions of private property and freedom of exchange, allows all consumers and all producers in very complex and long production processes to simultaneously solve the economic calculation problem detailed above by what Mises calls an “intellectual division of labor.” 10 This process is twofold. On the one hand, each and every consumer makes monetary bids for goods and services based on his individual subjective valuation resulting in objective money exchange ratios for goods and services (i.e., market prices for goods and services). On the other hand, every producer seeking to engage in production and seeking to maximize profits, bids against one another for the factors of production (labor and materials) resulting in objective exchange ratios for labor and materials (i.e., wages and prices for materials). In this way, Mises points out, not only end products ready for consumption but all intermediate goods used in the production of those end products “receive a position in the scale of valuations in accordance with the immediate state of social conditions of production and social needs.”11

When prices in the health care market are not the result of unhampered exchanges between economic actors but are mandated by a central planning agent, the capital structure of health delivery systems is distorted. This is because the prices of goods and services set by Medicare create different profit expectations in the minds of hospitals, physicians and the rest of the producers of healthcare goods and services up and down the various chains of production than the prices that would have been created by the free market. For example for years Medicare has handsomely rewarded hospitals and physicians who set up ambulatory radiation oncology programs. This preferential pricing not only encourages the proliferation of radiation centers and the associated stimulation of demand by patients, but also affects each and every intermediate step in the entire production chain necessary to build and operate a radiation center. This includes, for example, the production, marketing and distribution of linear accelerators, the programming of software to design treatment plans and control the accelerator, the production of CT scanners that feed patient’s anatomical information into the treatment planning and accelerator navigation systems, education facilities to train radiation technologists, physicians, physicists and administrators to diagnose, plan, treat and manage the accelerator, the production of lead, aluminum, steel, plastics and other raw materials needed to build and produce all of the physical components of accelerators, facilities and supplies needed, etc., etc. The length and scope of this production process alone and hence the capital structure required to bring about thousands of radiation treatment centers across the nation is as deep as it is wide.

All of these intermediate industries are interrelated using hundreds of thousands pricing signals. By making pricing decisions on the reimbursement of radiation therapy services based on criteria other than the subjective valuation of patients and producers, the Medicare planner affects all the pricing signals throughout the production process of each intermediate industry; however, the central planner, by definition, will never comprehend or have the means to comprehend and test how his pricing decisions cause changes in the structure of health care production, because the only rational way to test these cause and effect relationships is via the monetary calculation made possible by exchanges between patients, providers and other producers of healthcare goods and services in a free market.

At the outset of the Medicare program, its central planners were able to set their prices as parasites of the then existing competitive private health care price structure, just like their Soviet Union counterparts unable to resolve the economic calculation problem were forced to copy and use the price structure of Western economies to direct Soviet production processes and subsist for 80 years, albeit at inefficient and meager levels. This strategy was recommended by the Medicare Payment Advisory Commission in it’s first Report to Congress in March of 1999 which argued that Medicare’s primary payment system objective is “to establish payment rates that approximate the competitive prices that would prevail in the long run in local health care markets.”12

But as the proportion of Medicare expenditures continue to grow as a result subsidization and unintended stimulation of demand, as additional Medicare programs are brought on line, such as prescription coverage, as the proportion of Medicare eligible population increases relative to the rest of the population and as additional government programs such as Medicaid grow faster than the private sector, the percentage of the health care economy under the control of the government expand and central planners crowd out the fewer pricing signals produced by a diminishing private sector. If to this one adds the already existing inadequacies of the pricing signals produced by the private health sector, such as the distortions produced by a tax policy that encourages employer provided health insurance arrangements, the mixing of both uncontrolled risk (e.g., family history) as well as controlled risk (e.g., eating habits) in health insurance risk pools, is it any wonder that health costs are out of control and that unsubsidized members of society have been priced out of the market for health services?

In addition to facing the practical calculation problem outlined above, the labyrinthine payment methods created by Medicare totally misunderstand the theoretical nature of prices and hence do not recognize the theoretical impossibility of its attempt. Unlike the weather forecaster who faces a technical problem that can be ameliorated by the use of better satellites and faster supercomputers, the Medicare planner simply cannot determine the market prices for the services that it reimburses because by definition health care prices can only be arrived by the free and unencumbered interaction between patients and providers.

There are two reasons why it is theoretically impossible for the Medicare planner to arrive at a rational pricing structure for healthcare. The first, prices of goods and services are not determined by their costs of production. Prices are determined by the instantaneous valuations made by consumers bidding for goods and services. By a process of imputation that flows from the consumer to the producer, prices of goods and services impute value to the factors of production necessary to make the goods and service that consumers demand. This imputation of value occurs when producers and entrepreneurs bid for the factors of production (labor and materials) in response to expected future profits and which sets wages for labor and prices of materials.

For more than two decades now, Medicare planners have come up with alternative valuation methods that unsuccessfully attempt to arrive at a rational price structure for health services. Despite the Commission’s assertion that cost-based payment methods (in which reimbursement is determined by allowable costs supplied by providers) are being phased out because “they are complex, they result in unpredictable payments and spending for providers and Medicare, and they weaken provider’s incentives for efficiency”13 and that they are being substituted for prospective payment methods (in which an initial operating and capital payment base rate is adjusted by wage indexes, case mix, medical education costs, charity burden, short or long lengths of stay, etc.), payment rates are still determined by cost information. This is because the initial operating and capital payment base rate that prospective systems use is determined by “the operating and capital costs that efficient facilities would be expected to incur in furnishing covered” health services.14 “Operating payments cover labor and supply costs; capital payments cover costs for depreciation, interest, rent and property-related insurance and taxes.” 15 Despite the fact that this initial base rate is later modified by wage rates, geographic differences, case mix, etc., the initial rate is still cost based. Again, the first reason why it is theoretically impossible for Medicare to rationally set prices is that prices determine production costs and not the other way around. When the Medicare planner tries to use cost information to arrive at a price, he has the economic cause and effect relationship backwards.

The second reason is that prices in a market economy are continually, instantaneously and simultaneously being created, destroyed and recreated by the individual subjective valuations of consumers and producers facing the passage of time and hence changing expectations, economic conditions, wants, needs, technological advancements, etc. This information about valuations is not created until after consumers and producers place their respective bids in the intellectual division of labor process outlined above, so it is impossible to transmit it before it is created. Before bids are made, all you have is a universe of possibility in the minds of each economic participant that do not constitute information. But once bids take place and information created, transmitted to the central planner, processed and returned to the market place in its original or distorted form, it is old and useless information that cannot have rational guiding content. Moreover, if the information returned by the planner is coercive in nature, bids do not take place and future pricing information cannot be created.

As a result, all the Medicare planner does, to use Mises’ phrase, is grope in the dark. The Medicare planner may know exactly what final health care goods and services are needed to meet the needs of Medicare patients. Indeed, in the Commission’s own words, “Medicare’s primary goal is to ensure that its elderly and disabled beneficiaries have access to medically necessary acute care of high quality.” 16 But as Mises points out, this is only one of two simultaneous equations that are needed to resolve the economic calculation problem. The second equation is the valuation of the means of production to ensure that those needed goods and services are produced. Without market derived pricing signals, hospitals, physicians and producers of healthcare goods and services up and down the production structure (and the Medicare planner) are all left without the bearings of economic calculation. The Commission’s greatest concern, therefore, should not be that “the Medicare program is fiscally unsustainable over the long run,” as worrisome as that is, but that our entire healthcare system, including the capital structure needed to support a wide array of lengthy production processes, is unsustainable over the long run, being left, to quote Mises, “floundering in the ocean of possible and conceivable economic combinations without the compass of economic calculation.” 17

It is highly unlikely that the arguments advanced here will slow the accelerated movement toward the complete socialization of the healthcare delivery system in the US. Most supporters of socialized medicine do so for aesthetic, moral, political or religious reasons. But at a minimum, it is my hope that the above ideas will be a warning to those who expect a rational system of economic calculation that will guide consumers and producers of healthcare services to come out of command and control Medicare reimbursement systems.

Ludwig von Mises warned Marxists economists in the 1920’s that economic calculation in a command and control economy was literally impossible. In the end, the collapse of the Soviet Union and the rest of the Eastern Block caught unaware the great majority of Western economists. It is not just that these economists were unable to play their expected role and spare humanity of all of the grave errors committed by the planned economies in the East, but that on the contrary, economists encouraged the very same policies that caused untold misery and human suffering in the East. Sadly, Western economists instead of openly manifesting profound regret for their failure and instead of rethinking the theoretical underpinnings of their science, to this day continue to study their science and make policy recommendations as if nothing had happened.

In blindly following the advice of health economists who practice within a bankrupt theoretical framework and in suggesting that Medicare central planners can come up with rational pricing and payment methods for health services, the Medicare Payment Advisory Commission makes exactly the same intellectual error that Soviet planners made 90 years ago. One can only qualify as overbearing arrogance the Commission’s presumption: that Medicare central planners in the US are smarter than their Soviet counterparts.



1 Medicare Payment Advisory Commission, “Report to Congress Reforming the Delivery System, June 2008” http://www.medpac.gov/documents/Jun08_EntireReport.pdf

2 idem, p. xi

3 idem, p. xi

4 idem, p. 107

5 idem, p. 108

6 Ludwig von Mises, “Economic Calculation in the Socialist Commonwealth” http://mises.org/pdf/econcalc.pdf.

7 Jesus Huerta de Soto, “Socialismo, Calculo Economico y Funcion Empresarial”, p. 105,

8 See Joseph T. Salerno, “Poscript: Why a Socialist Economy is “Impossible”.”, p. 35 http://mises.org/pdf/econcalc.pdf.

9 Mises, p. 9.

10 Mises, p. 15

11 Mises, p. 15

12Medicare Payment Advisory Commission, “Report to Congress Medicare Payment Policy, March 1999” p. 5 http://www.medpac.gov/documents/Mar99%20Entire%20report.pdf

13 idem, p. 4

14 Medicare Payment Advisory Commission, “Hospital Acute Inpatient Services Payment System”, October 2007 p. 3 http://www.medpac.gov/documents/MedPAC_Payment_Basics_07_hospital.pdf

15 idem, p. 3

16 Medicare Payment Advisory Commission, “Hospital Acute Inpatient Services Payment System”, October 2007 p. 4

17 Mises, p. 15-17

El Socialismo del Banco Central de EEUU

La perspectiva de los que proponen más intervención por parte del estado como solución a los ciclos económicos que periódicamente han experimentado los sistemas económicos durante los últimos 150 años, tanto los que llamaríamos menos socialistas como Estados Unidos y los más socialistas, como la gran mayoría de Europa y China, Cuba y la Unión Soviética, desconocen las causas fundamentales de esos ciclos económicos.

Marx fue uno de los primeros en estudiar el hecho de que el capitalismo de la revolución industrial padecía de ciclos económicos (es decir, "booms" y depresiones) que fases anteriores del desarrollo de la humanidad no había experimentado. Sí, es cierto, de vez en cuando algún rey se metía en una guerra, subía los impuestos o se robaba el oro de los súbditos, causando una hambruna, pero en lineas generalas, pero nunca hubo un ciclo generalizado de crecimiento y depresión que se repitiera continuamente como durante la revolución industrial. Los marxistas creen (o creían) que esos ciclos eventualmente se agudizarían, las masas se rebelarían, el capitalismo caería por sus mismas contradicciones internas, la propiedad privada sería abolida y el comunismo se establecería como sistema. Y la gran mayoría de los economistas no-marxistas desde principios del siglo xx a raíz de la teoría de John Maynard Keynes, piensan que el estado interventor puede modular y estabilizar esos ciclos y depresiones. Pero ambos están de acuerdo en que la culpa la tiene el capitalismo y que lo que nos puede salvar de los ciclos es una intervención masiva del estado. Eso es lo que hemos visto a propósito del paquete de rescate que acaban de aprobar en USA, apoyado por parte de los centros del poder en Wall Street, Washington y los medios de comunicación tanto de izquierda como CNN, como los de derecha como Fox y el Wall Street Journal.

Lo que Marx no pudo reconocer porque muy pocos economistas hasta ese entonces habían desarrollado el aparato teórico para analizar lo pasaba, era que junto con la revolución industrial también se desarrolló la industria bancaria de reserva fraccionaria.


La banca evoluciona jurídicamente desde una etapa en la que es inmoral e ilegal prestarle a terceros tus depósitos a la vista sin tu permiso, a una en la cual esa práctica de crear crédito es aceptada por los banqueros y legalizada y empujada por el estado mediante el banco central. El sistema de reserva fraccionaria es muy sencillo. Si tú depositas $100 en un banco, este le presta $90 a terceros y se queda con $10 como reserva (10%). Tú como depositante actúas como si en realidad tuvieras $100 en el banco, es decir, tus patrones de consumo no cambian porque en cualquier momento, tú puedes ir a retirar tus depósitos inmediatamente.

La banca evoluciona jurídicamente desde una etapa en la que es inmoral e ilegal prestarle a terceros tus depósitos a la vista sin tu permiso, a una en la cual esa práctica de crear crédito es aceptada por los banqueros y legalizada y empujada por el estado mediante el banco central. El sistema de reserva fraccionaria es muy sencillo. Si tú depositas $100 en un banco, este le presta $90 a terceros y se queda con $10 como reserva (10%). Tú como depositante actúas como si en realidad tuvieras $100 en el banco, es decir, tus patrones de consumo no cambian porque en cualquier momento, tú puedes ir a retirar tus depósitos inmediatamente.

El problema comienza cuando esas personas quienes recibieron el préstamo de $90 a su vez depositan ese dinero en otro banco, ya que ese banco va a quedarse con $9 en reserva (10%) y va a prestar $81. Esos $81 prestados entran en otro banco como depósito a la vista nuevamente y se quedan como $8 de reserva (10%) y ese banco presta $73 y así sucesivamente hasta que se crea un "paquete chileno" como se dice en Venezuela o una pirámide en la que de tu depósito inicial de $100 la banca crea en esos primeros tres pasos $244 ($90+81+$73) de la nada. La banca por supuesto apoya ese sistema porque esta gana dinero prestándolo. En ese sistema bancario de reservas fraccionarias, los bancos se mantienen solventes siempre y cuando los depositantes no retiren sus ahorros a la misma vez. Los bancos centrales son creados por los banqueros y el estado para facilitar ese proceso de creación artificial del crédito. A los banqueros prefieren esa intervención del estado porque les permite a todos ellos coordinar sus acciones en conjunto y porque el estado les deposita aún más efectivo en sus activos, dándole más oportunidades para crear aún más crédito. Y al estado le interesa el banco central para poder financiar sus gastos mediante otro proceso complementario a los impuestos que es el de la inflación, puesto que los primeros en gastar ese dinero nuevo lo hacen antes de que los precios suban. En líneas generales, son los empleados del gobierno, los militares y los más allegados al estado quienes se benefician de ese dinero nuevo. Una vez que ese dinero comienza a circular, suben los precios y baja el poder adquisitivo de las clases menos allegadas al estado, generalmente la clase media, los pobres, los empleados del sector privado y los profesionales.

A medida que esa creación de crédito artificial de la nada sin una verdadera base real de ahorros, disminuye la tasa natural del interés. Un crédito en realidad no es sino un un bien en el presente (dinero en efectivo que puede ser usado ahora) intercambiado por un bien en el futuro (el pagaré que nada más puede ser usado mañana). Como la gente siempre prefiere dinero en el presente en vez de la misma cantidad en el futuro, el dinero en el presente siempre comanda una prima por sobre el dinero en el futuro. Esa es la tasa de interés y esta es determinada por el valor que la gente le pone al presente en comparación con el futuro. Mientras la gente valora al presente menos, van a consumir menos y ahorrar más y por la misma razón la tasa de interés va a bajar. Mientras más ahorro existe proporcionalmente al consumo, más baja es la tasa de interés y más inversión existirá. Esa es la clave para el crecimiento económico, el ahorro.

Cuando el crédito es creado de la nada por la banca, cuando el estado promueve ese crédito y dinero fácil mediante el banco central, también baja artificialmente la tasa de interés. Un interés bajo da la señal a los emprendedores de que la gente está ahorrando más que antes y que por ende son rentables aquellos proyectos de inversión en bienes de capital como maquinarias, procesos industriales y construcción, que a un interés natural más alto no eran rentables. Los emprendedores comienzan sus proyectos capitales y para emplear a sus trabajadores tienen que aumentar el salario para atraerlos de sus empleos actuales en industrias de bienes de consumo (alimentos, ropa, bebidas, servicios, etc.). Esta es la fase del "boom" económico en la que los sueldos y los ingresos suben y que como regla general afecta al sector capital de la economía pero no afecta al sector de bienes de consumo (alimentos, ropa, etc.). Pero hay que darse cuenta de que la creación de créditos de la nada por parte de la banca y el estado y la creación de ese "boom" se hace sin la base fundamental del sacrificio de no consumir bienes de consumo (alimentos, ropa, etc.) en el presente, es decir, el ahorro.

En cuanto el emprendedor dueño de un proyecto comienza a pagarle a los trabajadores esos salarios más elevados, los que reciben esos pagos en realidad no han cambiado sus patrones de consumo y ahorro que una tasa de interés baja indicaría, sino que ellos van a consumir y ahorrar ese ingreso en las mismas proporciones que antes. Los trabajadores no van a querer ahorrar más de lo que estaban ahorrando antes y van a gastar el dinero en bienes de consumo (alimentos, bebidas, ropa, etc.) en vez de ahorrar para cubrir los costos de las maquinarias, equipos y materia primas en la que los emprendedores invirtieron. Los trabajadores valoran al presente en la misma proporción que antes y por ende van a forzar la tasa de interés a subir al nivel natural que existía antes del "boom". También recordemos que la industria de bienes de consumo no ha crecido. La industria que ha crecido es la de bienes capitales. Ahora la industria de bienes de consumo va a reaccionar ante ese incremento en la demanda de sus productos y va a crecer mientras que los emprendedores en en las industria de bienes capitales no van a poder pagar por sus maquinarias, equipos, materia prima, etc. ni por sus empleados, quienes ahora están siendo atraídos por las industrias de bienes de consumo. Esta es la esencia de una depresión. Es la etapa de corrección por la que inevitablemente hay que pasar para liquidar la mala inversión causada por la seducción de intereses bajos manipulados por el sistema bancario de reserva fraccionaria apoyado y aupado por el banco central del estado.

Si el estado no controlara a la banca mediante el banco central (en USA el Federal Reserve Bank) y no apoyara al sistema de seguro bancario (en USA el Federal Depositary Insurance Company o FDIC), es imposible que todo el sistema bancario de reserva fraccionara coordinara sus actividades y crease estos "booms" y depresiones. Sin un banco central y sin ese seguro del estado, cada banco correría un riesgo enorme de un los ahorristas se darían cuenta que el banco no tiene suficiente capital para respaldar sus ahorros los retirarían, causando un pánico bancario en ese banco. Al esto suceder, el banco tendría que retirar sus préstamos y declararse en banca rota. Eventualmente solo sobrevivirían aquellos bancos que no practicasen reserva fraccionaria.

Sin reserva fraccionaria y sin banco central, bajos impuestos y poca regulación por parte del estado, sería la proporción entre el ahorro y el consumo lo que determinaría la cantidad de capital acumulada en una sociedad y por ende su desarrollo económico. El mismo Marx reconoce que el capital es lo fundamental y por eso titula su obra maestra Das Kapital. La clave del crecimiento es el ahorro. Mientras la gente sacrifica más el consumo en el presente y guarda el dinero dentro de una sociedad de mercado, más oportunidades existirán para que los emprendedores inviertan ese dinero en procesos productivos intensivos en el uso del capital. Pero los cambios en las proporciones de cuánto ahorran y cuánto consumen y por ende los cambios reales en la tasa de interés serían lentos que tardan décadas en hacerlo. Ello le permite al emprendedor, si es que es competente en su profesión y en pronosticar, de comenzar y terminar su proyecto. Y también le permite aumentar la productividad del trabajador. Por ejemplo, en vez de construir un carro a mano, el capital te permite construir 100 carros usando maquinarias. A su vez aumenta el consumo, bajan los precios y se obtiene un crecimiento sostenible. Y la clave es que sin banco central y sin reserva fraccionaria, el trabajador recibe su salario de manos del emprendedor, y como este va a consumir y ahorrar en la misma proporción que siempre había consumido antes, no hay desequilibrio entre los sectores productivos de la economía (bienes de consumo y bienes capitales) que existe con una banca de reserva fraccionaria y un estado interventor y el emprendedor puede entonces llevar a cabo su proyecto.

Entonces, es el estado quien está en la médula de las crisis económicas y por definición, el estado no puede resolver el problema. Economistas como Keynes y sus seguidores piensan que el estado puede determinar la tasa de interés, pero es que cómo va a saber el estado cuál es la tasa de interés natural, es decir, el precio del dinero, a menos que deje que el mercado la calcule? El experimento comunista de la Unión Soviética, China, Cambodia y Cuba y los millones de personas que murieron de hambre al esos estados eliminar al mercado demostraron contundentemente que el estado no puede determinar los precios del sistema económico sin crear caos, hambre y muerte. El experimento socialista Keynesiano de un estado interventor y regulador en USA, Europa, y el resto del mundo vienen demostrando ya por más de 150 años que el estado tampoco puede regular la política monetaria del sistema económico sin causar ciclos económicos.

Los que acusan al supuesto experimento neoliberal de los últimos 30 años ignoran el hecho de que ha sido una era de un intervencionismo agigantado por parte de todos los estados y sus bancos centrales, en especial el Federal Reserve de USA. No tienen sino que reconocer los déficits, las guerras, las inflaciones y los programas sociales de esos estados en los últimos 30 años. No ha sido un experimento liberal. Ha sido la continuación y la aceleración del mismo proceso interventor que comenzó a principios del siglo XX. Sí, es cierto que cuando Reagan, Thatcher, y Pinochet, por ejemplo, se trata de echar para atrás la regulación del estado un poco, pero llamarlos liberales es un error, en especial porque todos apoyaron a la banca de reserva fraccionaria, al banco central, a sus proyectos militares y demás gastos por parte del estado. De hecho ninguno de ellos logra disminuir el tamaño del estado. El que Pinochet hubiese arreglado el desastre económico de Allende no es gran cosa. De la misma manera, cualquier pistolo podrá arreglar el desastre que es Cuba con simplemente dejar que la gente pueda tener propiedad privada.

El engaño, entonces, no es del mercado. El engaño es del estado, quien mantiene tanto a las masas en una ignorancia que solo beneficia al estado mismo, sus burócratas, sus militares, al sistema bancario, y a los intelectuales que los apoyan.

El engaño en el que participan los intelectuales defensores del estado es especialmente grave. Cómo es posible que mantengan que los derechos humanos que son inalienables por definición, puedan ser alienables? Los derechos pueden ser violados por el estado o por otros individuos, pero jamás son alienables. Les pertenecen a los seres humanos porque son, porque existen. Es axiomático, esa es la definición de un derecho inalienable: yo soy dueño de mi cuerpo, del fruto de mi trabajo, de mi propiedad privada, de mi libertad, de lo que intercambio voluntariamente, de mi vida. El estado no crea esos derechos. Los crea Dios. Nadie te los puede quitar, ni tú mismo. Por ejemplo, tú no puedes entrar en un contrato de esclavitud permanente. En cuanto caemos en el error intelectual de pensar que esos derechos son alienables o que el estado crea esos derechos o simplemente que los garantiza de alguna manera, cometemos un error fundamental y de allí pasamos a pensar que el estado tiene que intervenir para garantizarlos. No, esos derechos los tenemos que garantizar todos y cada uno de nosotros mediante nuestra acción individual y mediante el reconocimiento de la ley natural. El mercado ni la participación en el mercado como productores o consumidores definen los derechos humanos. Pensar que solo tenemos derechos humanos cuando participamos en el mercado es un error de lógica. Todo lo contrario, son los derechos humanos los que definen la necesidad del mercado. Es justamente el hecho de que somos creados libres lo que determina el que solamente en un mercado libre podemos actuar con libertad. Esos derechos humanos crean al mercado libre. En cuanto el estado fuerza esas relaciones de acción interpersonal, mediante los impuestos, mediante sus prohibiciones, mediante la manipulación de la tasa de interés, o cuando otras individuos violan esos derechos, por ejemplo, el derecho a la propiedad privada cuando un banco presta a terceros el dinero de los que ahorran sin su permiso, se crean las crisis y los problemas.

A menos de que los que promueven al estado interventor propongan una teoría coherente de porqué suceden los ciclos económicos y que explique cómo más intervención estatal evitaría los ciclos, vamos por malísimo camino. Puede ser que la catástrofe mundial causada por el intervencionismo del estado en la política monetaria que va a ser agravada y alargada por este paquete de rescate recientemente aprobado nos haga reflexionar e imponer sensatez en es asunto.

That 70's stagflation is back!

Recent articles on the specter of stagflation are right on. What is not made explicit is the cause of stagflation: the Federal Reserve. Since its creation in 1913 when the federal government nationalized our money supply, we have allowed the hand of politicians inside the cookie jar of easy money. As expected, they can’t stop eating.

The root cause of stagflation has been known for over a hundred years. As the Fed creates money out of thin air to finance politicians’ expenditures, prices must increase (inflation). Printing of money also causes a reduction of the interest rate below its natural level. The natural rate of interest is not controlled by the Fed but is controlled by the proportion of income consumers save versus what they spend. The more they save, the lower the natural interest rate, the higher the level of investment, the higher the productivity of labor and the higher the level of economic prosperity. But an interest rate artificially below what real savings rate supports gives investors, entrepreneurs, businesses, banks and homeowners the wrong economic signal: projects that would not have been profitable and would not have been started now become viable, at least for a while. But the inevitable correction necessary to liquidate all of these malinvestments always come because the distorted capital structure in the economy is not supported by real savings. Instead, the capital structure is supported by nothing, by thin air, by paper money. As this paper money flows from the Fed to the central government to banks to businesses and finally to consumers in the form of higher wages and as consumers save at their natural rate rather than the higher rate implied by the artificially low interest, they spend more on consumer goods and less on savings. As the economy grapples with an amount of consumer savings that is insufficient to support the total investment in capital to which business and entrepreneurs are committed, like a pyramid scheme, those now unprofitable capital projects on the bubble collapse (it could be investments in the stock market, businesses, dotcoms, mortgages, whatever) and are liquidated (recession).

If at the same time that the bubble bursts the Fed accelerates the money printing machine, as it is doing now and as it did back in the 70’s, we get a recession caused by manipulation of the interest rate with inflation caused by printing money (stagflation). Boom and bust cycles and inflation are not inevitable characteristics of capitalism free from government intervention. But these cycles are the predictable consequence of the actions of the Federal Reserve. Politicians cannot fix the mess they got us into by printing more money and lowering interest rates because that was the cause of the mess to begin with!

The only way to manage our politicians’ addiction to the cookie jar of paper money is to smash their jar once and for all: dismantle the Federal Reserve, privatize our money supply and bring back the gold standard. Until politicians can figure out how to create gold out of thin air, the gold standard is the only way to force stability on our supply of money and the only way to stop them from causing inflation and recessions. Plus, it is the only way to keep politicians at the federal level honest: with their ability to get their hands in the cookie jar gone, they would be forced to increase taxes rather than print money in order to finance federal expenditures, just like state and local governments are forced to tax to spend. This was one of two critical elements of the vision for sound money of our Founding Fathers (the other one was to severely restrict the ability of the federal government to impose taxes on individuals). Thomas Jefferson fought hard and eventually succeeded in closing down Alexander Hamilton’s federal reserve/central bank scheme. Jefferson knew that giving the power to create money to the federal government would be the beginning of the end of the American experiment. Jefferson was and still is right. I mean, if we all intuitively know that printing money is wrong for private individuals, what in the world makes us think that it is right for the Fed to counterfeit at such monumental levels?