Cite this article as: Mark V. Pauly If We Must

At the Intersection of Health, Health Care and Policy
Cite this article as:
Mark V. Pauly
The Trade-Off Among Quality, Quantity, And Cost: How To Make It−−If We Must
Health Affairs, 30, no.4 (2011):574-580
doi: 10.1377/hlthaff.2011.0081
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The Quality Journey
By Mark V. Pauly
10.1377/hlthaff.2011.0081
HEALTH AFFAIRS 30,
NO. 4 (2011): 574–580
©2011 Project HOPE—
The People-to-People Health
Foundation, Inc.
doi:
Mark V. Pauly (pauly@
wharton.upenn.edu) is the
Bendheim Professor in the
Department of Health Care
Management at the Wharton
School, University of
Pennsylvania, in Philadelphia.
A N A LYSI S
&
C O M M E N TARY
The Trade-Off Among Quality,
Quantity, And Cost: How
To Make It—If We Must
The Affordable Care Act, with its subsidies, demonstrations,
commissions, and study groups, embodies a considerable amount of
regulatory and policy pressure on markets to improve the quality of
health care. However, it is possible that this government-led movement
will lead to a lot of talk about quality but not necessarily much
improvement. A better strategy may be found through “disruptive
innovation,” a market-driven approach that has balanced cost and quality
in other industries. An example would be to provide lower-cost substitutes for some aspects of primary physician care, in the form of care at a
retail clinic. Consumers might not perceive a clinic as a perfect substitute
for physician care, but they might prefer the greater convenience and
lower cost. Perhaps a little less quality for a lot less money might be
acceptable to consumers and taxpayers, as we work to keep medical
spending from siphoning off funds required for other needs.
ABSTRACT
C
urrent public policy, as embodied in
the Affordable Care Act of 2010, envisions using a combination of regulation and strong, externally imposed rewards and penalties as the
way to move toward care of the highest possible
quality.1 In this article I discuss alternative market-based arrangements as incentives for attaining a level of quality that balances benefits and
costs, and I consider the potential value of such
an approach in a future where it will be necessary
to contain costs.
This system can complement efforts to maximize quality for a given cost. I certainly do not
oppose direct, cost-effective efforts to improve
quality, but I want to consider whether improved
quality at any cost should always be the only, or
even the ideal, goal.
Back To Basics
As a preparation for the following discussion, let
us consider what economic theory says about the
role that markets play in producing appropriate
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levels of quality for consumers with varying preferences and resources.
Services As Opposed To Goods The first
thing to recognize is that medical care is different in several ways from many of the other things
that we buy, although it is not different in every
way from everything else. To begin with, medical
care is largely a service, rather than a good. Services are “personalized” in a way that most goods
are not.
To receive a service, a consumer and a service
provider must generally be in each other’s presence or have some other form of contact, and the
specifics of their encounter will determine much
about the quality of the service provided. This
“personalization” can manifest itself both positively and negatively. For example, a service provider can tailor his or her service to the needs of a
particular consumer, which may prove beneficial
to the consumer. On the downside, other factors
can lead to a lack of uniformity across encounters between providers and consumers that may
not exist in the case of the provision of goods,
since specifications for goods tend to be exact
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and easily replicable. For example, a misunderstanding between a service provider and a customer or a service provider’s being distracted by
personal problems can both lead to a customer’s
needs not being met.
It’s clear that providing services presents challenges to producing quality that are different
from the challenges that confront a producer
of goods. However, it’s worth noting that outside
of medical care, concern about the quality of
service in the great bulk of service-producing
industries has not led to complex pay-for-performance arrangements or to a great deal of soulsearching about why quality varies and what, if
anything, should be done about it from a public
policy perspective. (The perceived decline in the
quality of air travel, excused as a way of allowing
buyers to lower costs by declining amenities such
as meals, legroom, and checked baggage, may be
an exception.)
Thus, in most other sectors of the economy,
things seem to have a way of working out with
respect to obtaining quality without having to
devise complex payment schemes to get it. But
why is that the case? And what, if anything,
stands in the way of things’ working out in the
health care arena?
A Restaurant Meal Think of a restaurant
meal as an example to illustrate the range of
factors that go into understanding quality, and
how markets contribute to “things working out”
in terms of adjusting quality and price to suit a
range of preferences. For one thing, we know
there is no uniform “restaurant meal.” Instead,
there is a wide variety of both quality and the
features and characteristics that contribute to
that quality, and there is likely to be disagreement about exactly how those characteristics
contribute to quality.
Some qualities are hard to pin down—for example, how hot are the spices? There will be a
range of options available to suit different preferences, and we wouldn’t expect any two people
to agree on what level of spiciness is just right.
Other qualities may lead to high levels of agreement about what’s better or worse, and may even
be measurable. A fast-food hamburger ranks below a gourmet meal for almost everyone.
For markets to function properly, consumers
need information about the services or goods
offered. In the case of restaurants, there are external sources of information about quality.
These include government agencies to tell us
about safety and nutrition, and restaurant guides
and reviews to tell us about taste, dining experience, and price.
To better understand the dynamics among
quality, price, and demand, consider the following scenario. If a seller is able in some way to
provide higher quality than other sellers who
charge the same price, the initial effect is an
increase in demand—in our restaurant example,
reservations become hard to get—but that is usually followed by an increase in price. The basic
message is that higher quality is automatically
rewarded with higher price, to the extent that
consumers perceive the higher quality and respond to it by choosing which service provider
to use. Note that higher quality commands a
higher price whether or not it requires higher
cost. A brilliant chef or a charming maître d’ can
lead to higher revenues just by doing what comes
naturally. No artificial or external incentives
need apply (except for the waiter’s tip).
Whether higher quality will actually be supplied (and persist over time) thus depends on
whether the additional revenue it can generate
will cover the cost of improving quality. Sometimes it will, and so high quality will prevail in
the market. But sometimes it will not—if consumers either do not value it or do not have
the resources to pay a high additional cost—
and then quality appropriately settles at a level
below what is technically possible but that is
economically efficient. The point is that there
is a market-based mechanism to select and support an ideal level of quality, without the need for
external control.
Medical Services What distinguishes the case
of medical services from the restaurant example?
At least two things that are related to the basic
market requirements noted above. First is the
willingness and ability of consumers to “vote
with their feet,” meaning that consumers of
medical care don’t always respond to variations
in price or quality in the way that one would
expect. This may be because often there are only
a few options (just one hospital in town) and
because buyers are poorly informed and passive.
Moreover, insurance confuses the process by
which price influences consumers’ behavior in
health care: The presence of insurance shields
the consumer from the full effect of prices, which
means that the party who decides what service to
use (the patient) is not responsible for paying its
full price.
The upshot is that we must consider alternative strategies to determine and ensure appropriate medical quality to account for the peculiarities of the market for health care. We face a
series of questions: Should we make a more vigorous attempt to replicate some of the competitive market story just told? Are there alternatives
to the competitive market? And how will we
know when we get closer to where we should be?
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The Quality Journey
Quality At What Price?
No one doubts that the quality of medical care
has improved over the past 100 years. The chances that an American will benefit from a medical
care encounter are now well above the 50 percent
level for the average patient with the average
illness treated by the average doctor that the
Harvard University biologist L.J. Henderson allegedly said prevailed before 1910.2 But changing
technology has been largely responsible for the
growth in medical spending.3 The result is that
modern care can work miracles, but only if one
can afford to pay for it.
Here is where the painful but crucial trade-off
comes in. There is no doubt that if it is feasible to
improve quality without using more resources,
efforts should be made to do so (assuming that
the efforts themselves do not cost too much).
There is equally no doubt that health improvement has come at the cost of a higher level of total
spending and of a higher per unit price for many
goods and services. These higher prices have
served to limit many Americans’ access to
high-quality care (if it is not covered under their
preferred provider organization or health maintenance organization) and even to insurance
itself.4
Perhaps for most consumers and taxpayers, a
little less quality at a much lower cost might be
both a better balance and a necessary alternative
to a future in which medical spending crowds out
paying for other needs. But how might a transition to that approach occur?
Why Settling For A Little Less Is So
Hard To Do
For other services, people accept lower quality at
lower prices if their incomes are low or their
desire for quality is not strong. But few people
are willing to accept, or even discuss having,
anything but the best in health care. Ironically,
this taboo has probably led to worse outcomes—
including unaffordable increases in Medicare
costs and limits on access to, and denial of eligibility for, Medicaid—than would have occurred
if we could had frankly faced the possibility and
the desirability of having explicitly “multipleclass” quality levels in health care, such as highest-quality, medium-quality, and lower-quality care.
Let us begin with a very useful puzzle: Why has
technological change in other industries not
been associated with the same kind of cost explosion that we have seen in health care? One
reason is that in other industries, competition
based on new technology has taken the form of
so-called disruptive innovation.5 This process
typically involves a market dominated by expen576
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Few people are willing
to accept, or even
discuss having,
anything but the best
in health care.
sive, high-quality technology until the introduction of a simpler alternative—which, because of
that simplification, has somewhat lower quality
along some dimensions and a much lower price.
The archetypal example is the replacement of
the complex, multifunction Xerox copier with
the simpler and cheaper Canon alternative.6
The key concept is that even if the alternative
is lower-quality or lacks some function, it is a
better “value proposition”: the perceived value of
what it could do for its price is greater than the
perceived value of the dominant technology for
its greater price.7
The strategy of increasing “net value” substantially while reducing some dimensions of quality
has often been blocked in medical markets by
legal restrictions, rules about scope of practice,
accreditation procedures, and, as discussed below, political sensitivity to the provision of
lower-quality care or coverage. And even Clayton
Christensen, the originator of the concept of disruptive innovation, could not identify areas in
health care where this strategy might work, offering instead only conventional exhortations to
greater efficiency.8
The closest approximation we have had to
what we might describe as health care that was
“a lot cheaper and only a little bit worse” was
aggressive managed care in the 1990s. However,
a combination of political and market pressures
eventually reduced the effectiveness of managed
care so that it failed to contain costs—its chief
purpose. The provider networks that succeeded
it have achieved only modest price discounting.9
There have been some less drastic changes that
have accomplished little beyond inconveniencing some patients and doctors: formularies and
triple-tier insurance plans for drugs to push consumers away from high-price brands; the movement from inpatient to outpatient care to reduce
costs from hospitalization; and the limited
provider networks now prevalent in private
insurance, but not Medicare, to narrow consumers’ access to a group of providers who agree to
observe particular practice standards, accept
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The challenge in
health care is to
develop quality
measures that
motivate consumers
to make proper tradeoffs.
lower reimbursement, or both.
These changes all mean that health care is not
what it used to be. But they have not caused so
much as a blip in the rate of growth of health
spending, even in the subsectors on which they
were concentrated.
Is there any way to link concerns about quality
in health care more tightly to concerns about
value, and to go beyond platitudes to identify
better alternatives that could make a difference?
Even more to the point, would such efforts be
politically and culturally sustainable, or would
they go the way of aggressive managed care, after
it was associated in the public’s mind with socalled death panels?
The Way Forward
In spite of the reluctance of politicians and policy
makers to explicitly offer products with slight
reductions in quality in medical care, disruptive
innovation might have a real chance if it were
pursued with sufficient vigor and grace.
One approach involves the use of retail clinics
to provide limited services by nonphysician professionals in a more convenient and lower-cost
setting. Such options have been growing and
show promise, although their aggregate effects
on total spending growth must be modest. A
larger impact on cost could come from increased
use of specially trained nurses and other professionals as providers of the full range of primary
care services. On almost all of the observable
dimensions that anyone can identify, nurse practitioners, physician assistants, and other similarly trained professionals can provide primary
care that equals the average quality of primary
care provided by physicians,10 but consumers in
general need to become aware of this option.
In any case, the physician alternatives have
one unequivocal advantage: their lower cost.
And even when the care they provide is of tech-
nically equivalent quality to the care provided by
a physician, the “disruptive innovation” model
suggests that care by a physician alternative
should enter the market at a lower price. This
is generally how a new product of yet-to-bedetermined quality succeeds. It gains a foothold
in the market based on a lower price, in the hope
that consumers’ experience will convince them
that it is nearly equal to its established competitors in quality, or at least of high enough quality
that its lower cost makes it a bargain.
Is The Market Ready ? One policy question is
whether health care markets and their regulation are set up to try this kind of model. At the
level of the individual consumer or patient, the
answer is clearly negative, given the structure of
most insurance plans. Under Medicare’s fee
schedule, for example, a patient will pay less
for a lower-price but roughly equivalent alternative only if he or she has to pay the 20 percent
Part B coinsurance. Even this incentive is not
large, and it is often canceled out by Medigap—
supplemental insurance that Medicare beneficiaries can buy—or Medicaid for people who are
eligible for both federal programs.
Patients who have private insurance and belong to a preferred provider organization or face
higher cost sharing have stronger incentives to
choose a lower-price alternative. For them, the
difference in price can translate into lower premiums, and lower premiums are definitely in the
interest of an insurance plan trying to capture a
larger market share. However, there has to be
competition among insurers for this mechanism
to work. In many small and medium-size cities,
hospital consolidation and the formation of
large specialty groups mean that competitive alternatives are hard for insurers to find, and even
in large cities multiple insurers can be hard to
find. In the current health care environment,
there is no ready-to-use market model that would
permit disruptive innovation through lower
prices with modestly reduced quality. The obvious policy implication: Encourage competition.
Are We Making Progress ? Another policy
question is how to measure improvement in
value relative to cost, in order to be able to tell
if we are making progress. One of the beauties of
the market system is that it does not require that
external observers develop, argue about, and pay
for elaborate ways to measure value: Consumers
ultimately do that themselves and signal what
they have concluded with their choices in the
market. But precisely because health care markets are imperfect, consumers may think they are
getting good value when they really are not.
Thus, they need help in choosing, and policy
makers need some way of knowing whether conApril 2011
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The Quality Journey
sumers’ choices really are appropriate.
The challenge in health care is to develop quality measures that motivate consumers to make
proper trade-offs. And that means the measure
must be both accurate and capable of motivating
the expected behavior. Moreover, even to imply
that quality could be lower in some aspects—and
that lower quality at lower price could be desirable—is challenging in health care because that
idea has been taboo for so long.
But there is always an appropriate skepticism
about asserting the negative or zero value of
more resource-intensive care. Some fully insured
consumers just do not want to take chances, and
this attitude seriously impedes change for everyone. There is always some possible case, no matter how rare or hypothetical, in which advanced
capabilities or advanced training might have
avoided a mistake and saved a life—and who
would want to risk the chance of being that case
for no gain?
A Possible Peril
Assuming that we can get the health care system
to offer a better value proposition, even at the
cost of some amount of quality, would we be
happy with the results? There are a number of
risks. For instance, we have not yet ensured that
competitive markets will translate lower costs
into lower spending,11 or that changes in health
insurance that increase consumers’ responsiveness to price differences or outcome-based payments to medical homes will provide effective
payment incentives.12,13 But the most serious risk
has to do with the fact that different people value
quality differently.
This is true even among members of the
middle and upper classes, where there is considerable evidence that the value of quality—and the
willingness to sacrifice money, time, and distance traveled to obtain higher quality—varies
considerably.14,15 Some people prefer the more
restrictive and lower-cost health maintenance
organizations (the type of plan that Kaiser Permanente offers, for instance), but many do not,
even when they are well informed about what
access they give up and what they could save.
These may be true low values, reflecting the fact
that a family with a very limited budget may have
more important needs than high-quality primary
care, say, or hospitals that make almost no
errors.
There is also evidence that the public sector
behaves in the same heterogeneous way: Medicare is willing to pay more for quality for its
beneficiaries than are many state Medicaid programs.16 Perhaps the world should not be like
this, but it is—and it will remain so for as long
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Our kit of remedies to
treat low quality and
rapid spending growth
is not richly stocked.
as we as a society tolerate wide variations in the
distribution of income and wealth. There is no
point in imagining that a health care system that
provided for everyone care of the quality desired
by upper-middle-class people who can afford the
best would be economically feasible.
If all we can afford to provide for some portions of the population is care of somewhat lower
quality than the care other portions can buy for
themselves, what do we do? We first need to note
that the goal of uniform quality for all might not
be feasible even if there were no limits on cost. To
the extent that quality depends on the skills and
motivations of a limited number of health professionals, there may necessarily be a difference
in outcome. The best neurosurgeon in town can
handle only a fraction of the neurosurgery cases;
some patients will have to be treated by surgeons
who are not the best. There will inevitably be
disparities that we cannot avoid.
Furthermore, even if it were possible for everyone to have as good an outcome as everyone else,
using more resources to improve outcomes for
those who place a low value on those improvements would not be efficient. For example, patients who have to choose between somewhat
poorer outcomes at a lower cost and better outcomes but no money left after paying for them
would understandably prefer the poorer
outcomes.
There will be discomfort with two-class or
multiple-class medicine. Fairness may sometimes come to matter more than efficiency and
cost containment in policy decisions. Still, frank
acknowledgment now of the inevitability of twoclass medicine may be better than papering over
current problems for the time being.
Using Markets To Get Quality Right
It is easy to understand the general economic
rules that we would need to follow to establish
an efficient market in health care: Distribute income or purchasing power as equitably as you
want; provide good information about the quality levels of different providers and insurers; and
allow vigorous competition among providers
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and insurers in order to limit the higher-thancompetitive prices that monopoly power—in the
cases of insurance or care markets—permits. But
is this model really acceptable and feasible?
Would we prefer to continue to use regulated
settings over which we may be able to exert—
or at least appear to exert—more control? Must
we make a choice between efficiency and regulation?
With its array of subsidies, demonstration
projects, commissions, and study groups, the
Affordable Care Act includes a considerable
amount of regulatory and policy pressure on
the health care market in an attempt to improve
quality. Despite professed concern about the
lack of competition in health insurance, it is fair
to say that the act does not rely heavily on the
concept of a competitive market. In fact, in the
case of accountable care organizations and some
other provisions, it takes quite the opposite approach.
My concern in this article is that moving away
from market models without replacing them
with anything that has been proved to be effective in improving quality will lead to a large volume of talk about quality, along with considerable recrimination and finger-pointing, but not
much improvement.
One part of the problem is that we have partially misdiagnosed our current situation, making the assumption that quality that is less than
the best we can provide is always a problem in
design, to be corrected by redesigning the health
care system. The other part of the problem is that
our kit of remedies to treat low quality and rapid
spending growth is not that richly stocked. Perhaps greater attention to increasing competition
in the long term, and getting incentives for consumers right in the short term, is what we should
emphasize.
But the most important point to make is that
disruptive innovation can, paradoxically, improve the effectiveness of efforts to maximize
quality.With little competition, even monopolies
choosing or required by regulation to provide the
highest quality can become not only inefficient
(using more resources than they need) but also
misleading (because there is no solid criterion
for better quality, let alone a way to assess differing quality). If we make an effort to foster reasonable alternatives with different combinations
of quality levels and costs, combined with as
good information as we can muster about how
they compare to established services and providers, the outcome may be acceptable. ▪
NOTES
1 Lavizzo-Mourey R. Communities’
readiness to commit to high-quality
health care. Health Aff (Millwood).
2010;29(6):1208–10.
2 Shalowitz JI. Implementing successful quality outcome programs in
ambulatory care: key questions and
recommendations. J Ambul Care
Manage. 2010;33(2):117–23.
3 Pauly MV. Should we be worried
about high real medical spending
growth in the United States? Health
Aff (Millwood). 2003:w3-15–27.
DOI: 10.1377/hlthaff.w3.15.
4 Pauly MV. The tax subsidy to employment-based health insurance
and the distribution of well-being.
Law Contemp Probl. 2006;69(4):
83–101.
5 Hwang J, Christensen CM. Disruptive innovation in health care delivery: a framework for business-model
innovation. Health Aff (Millwood).
2008;27(5):1329–35.
6 Euchner J. Managing disruption: an
interview with Clayton Christensen.
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health care: creating value-based
competition on results. Cambridge
(MA): Harvard Business School
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Pauly MV. “We aren’t quite as good,
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Dranove D. The economic evolution
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Rosenthal MB, Dudley RA. Pay-forperformance: will the latest payment
trend improve care? JAMA. 2007;
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Gawande AA, Blendon R, Broide M,
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The Quality Journey
ABOUT THE AUTHOR: MARK V. PAULY
Mark V. Pauly is
the Bendheim
Professor in the
Department of
Health Care
Management at the
Wharton School.
Mark Pauly stresses in this
commentary that to make serious
inroads in health care cost
containment, we may have to give
up some quality—a strategy that
has been used in many other
industries, from airlines to copiers
and the grocery store meat counter.
Pauly, an economist, says he was
surprised that we have tried this to
some extent in health care—
aggressive managed care being
exhibit A—but that so far political
backlash or unacceptability in the
market has blocked this approach.
“As long as we continue to believe
that there are ways out there to
reduce costs enough to matter,
while sustaining quality, I believe
we will mistarget our efforts,” he
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says.
Pauly, who is on the faculty of
the University of Pennsylvania, is
one of the nation’s leading health
economists and has made
important contributions to the
fields of medical economics and
health insurance. His classic study
on the economics of moral hazard,
published in 1968, was the first to
point out how health insurance
coverage may affect patients’ use of
medical services. Most recently, he
has examined the topics of national
health care reform, the individual
insurance market, the effects of
poor health on workers’
productivity, and the market for
voluntary health insurance in
developing countries.
Pauly is an active member of the
Institute of Medicine. At the
University of Pennsylvania’s
Wharton School, he is the
Bendheim Professor in the
Department of Health Care
Management, as well as a professor
of health care management,
insurance and risk management,
and business and public policy. In
30:4
addition, he is a professor of
economics in the university’s
School of Arts and Sciences.
A former member of the nowdefunct Physician Payment Review
Commission, Pauly has served on
an advisory committee to the
Agency for Healthcare Research
and Quality and on the Medicare
Technical Advisory Panel. He has
been a consultant to the
Congressional Budget Office, the
Office of the Secretary of the
Department of Health and Human
Services (which supported some of
his work on individual health
insurance), and health trade
associations. He has served on
Institute of Medicine panels on
public accountability for health
insurers under Medicare and on
improving the financing of
vaccines.
Pauly is a coeditor-in-chief of the
International Journal of Health Care
Finance and Economics and an
associate editor of the Journal of
Risk and Uncertainty. He received a
doctorate in economics from the
University of Virginia.
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