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October 21, 2015 Readers Write 2 Comments

The Benefit of Price Discrimination
By James Foster


In his Monday Morning Update for 10/12/15, Mr. HIStalk first affirmed the effectiveness of the market in selecting among EHR vendors. Later, in response to a price survey, he expressed frustration with disparate costs of services, saying, "I still don’t understand why providers shouldn’t be required to offer their lowest prices to everybody." His complaint here is with what economists call "price discrimination.”

There are two general justifications for price discrimination: (1) differences in costs to the seller and (2) differences in value to the buyer. Cost differences may explain things like quantity discounts, since even if the widgets cost the same to produce, the marketing and sales costs are less if the seller has to deal with fewer buyers.

Even with the same quantity of what seems to be an identical product or service, there may be hidden costs that can justify a difference in price. For example, the price for a television purchased on credit in a poor neighborhood may be much higher than the price for the same model paid for in cash at a suburban Costco. Here the product is not just the electronics, but also the transaction costs involved in offering credit to poor-risk buyers.

Differences in value to the buyer are no less real and can be justified as a way to ensure that the goods are available at all. Most of us are familiar with the fact that adjacent passengers on the same flight can pay very different prices for the trip. On the one hand, this seems unfair ("I still don’t understand why providers shouldn’t be required to offer their lowest prices to everybody"). On the other hand, it is often the case that if everyone were charged the same price, the product or service could not be supplied at all.

That is, if the airline ticket prices were uniformly high, fewer people would make the purchase and the total revenue would not be sufficient to cover total cost. Likewise, if prices were uniformly low, the planes would be full (aren’t they already?) but the total revenue still would not be sufficient to cover total cost.

In order to provide air travel, airlines must segregate buyers into those that place lower value on the trip (vacationers who could drive or choose a different destination) and those that place a higher value on the trip (business travelers). This discrimination serves to benefit travelers who would not make the trip unless they still have some value over the price.

Healthcare providers face similar challenges as airlines: capital costs are high and marginal costs are low. Yet charging everyone the same (high or low) price would not yield enough revenue to pay for the equipment and staff. Therefore, quantity discounts are offered to large groups (represented by credit-worthy insurance plans) who can take their business across town, while unknown individuals who buy on credit typically face higher prices.

If this still seems unfair, before calling for more government regulation through price controls, we should investigate how government regulation might be contributing to problem. There are a few areas in healthcare where prices are standard, published, and declining over time, such as Lasik eye surgery. These typically are procedures where the consumer is responsible for the full price of the service and takes time to investigate before making a purchase.

Instead of imposing price controls (which have been disastrous in a variety of industries), we should look for policy changes that encouraged more consumer involvement and responsibility.

James Foster is director of operations for GemTalk Systems of Beaverton, OR.

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Currently there are "2 comments" on this Article:

  1. “On the one hand, this seems unfair (“I still don’t understand why providers shouldn’t be required to offer their lowest prices to everybody”). On the other hand, it is often the case that if everyone were charged the same price, the product or service could not be supplied at all.”

    Please don’t make such ridiculous analogies to defend an even more ridiculous system.

    Have you ever flown on a flight where you didn’t know how much you paid for that ticket until months after you took the flight? Would you still have taken that flight with that airline if you had known that price? What if another airline had a better advertised price and better service but you didn’t know if was better until after you took it? What if you were charged an absurd amount months after by a company you don’t know in a separate bill that happened to provide food services for the airline? What if your credit card company refused to pay that separate company that you didn’t even know about and they sent you to collections because you didn’t pay? What if the airline charged you for fresh kobe beef steak but gave you stale peanuts, and it was simply listed as “food?”

    You want to price discriminate, fine, do it in the open. Publish the prices in advance for everything (make your own tool that asks for all the variables you factor into the price discrimination), give a true estimate of what the procedure will cost (of course unforeseen procedures, etc. will cost extra but you should know what they might be), provide a single, itemized bill, make sure whoever the hospital subcontracts is within network if the hospital is in the network, etc. Fix all those issues, then come defend the different prices. Stop making the used car experience look like heaven compared to the healthcare business.

  2. I think your argument would make more sense if there was a small, incremental price difference. This is not what we are talking about here. One anecdotal example: Because of a registration error, I was charged the uninsured price for a specialist visit that was approximately $475. After fixing the registration error, my insurance company paid $80 for the visit. This means either the insurance company is receiving an 80% discount or the self-pay individuals are paying a 600% premium. Either way, barring the occasional oil prince or visiting billionaire, we are penalizing the group least likely to be able to afford the uninsured cost of a visit.

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