Edward Lotterman
The continuing circus in Washington has pushed the Department of Justice’s civil fraud investigation of UnitedHealth’s Medicare Advantage plan billing practices off the front pages.
Yet the probe is ongoing, with Republican Iowa Sen. Chuck Grassley and his Senate Judiciary Committee newly piling on.
And underlying issues remain important, and transcendent, not just for this one corporation or legal investigation, but for the enormous and highly expensive U.S. health care sector generally.
A Justice Department investigation of Minnetonka-based UnitedHealth is not surprising as the company has a yearslong reputation of sailing very close to the wind in regulatory compliance. In 2024, the DOJ initiated actions or investigations relative to the corporation’s acquisitions, anti-competitive acts, billing practices and related problems. Its stock is down over 20% from a high in early October. Yet it continues aggressive efforts to grow.
Gears at the Department of Justice grind slowly and the most recent action began to take shape before Donald Trump’s inauguration. New Attorney General Pam Bondi may opt to squelch the investigation, let it run its course, or broaden it; and her choice certainly will indicate which way regulatory winds may blow over the next four years. But whatever she does surely won’t change the underlying economic issues here.
Put succinctly, the specific allegations are that UnitedHealth has a regular practice of changing diagnoses in patient records from ones with low payment rates to similar alternatives that pay more. The result is to increase government payments from Medicare itself to the Advantage plans UnitedHealth manages. Patients rarely see the higher bill.
Some industry sources allege that such upgrading is rampant at several levels in U.S. health care financing systems. Moreover, there are other sectorwide pricing allegations, such as pharmacy benefit managers that are supposed to be lowering costs colluding with drug manufacturers to raise list prices so that the PBMs can show greater “discounts.” The whole Medicare sector well may be rife with such perverse incentives.
What light can economics shed on all this to help the average citizen — both as taxpayer and patient — understand the issues? To start, a review of some basic economics is useful.
The key issues here fall within “industrial organization,” which examines how firms compete within a market. A classic framework, expounded by Berkeley economist Joe Bain, assessed “structure, conduct and performance.”
Structure refers to the number and size of companies in a particular market. These fall along a continuum from only one company in a market to thousands, but generally divide into four general groups of market behaviors: perfect competition, oligopolies, monopolistic competition and pure monopoly.
At one end of the scale, “perfect competition” is a market with many small firms, none of which has any real power to set prices. And they produce homogeneous products like corn or milk that cannot be differentiated from that of any other producer. Farmers, famous as “price takers, not price makers,” are the classic example.
The other extreme is “pure monopoly.” In this, only one company produces a particular product. U.S. builders of nuclear aircraft carriers and submarines are examples. Holders of a patent on some unique device, or substance (such as a medication) or of a copyright on book or music may be monopolists for the term of the intellectual property rights, which is finite. Natural gas, electricity utilities and cable companies are monopolists within their given markets, but their prices are regulated by government because the costs to market entry are so high. So having a pure monopoly is rare.
Most companies and markets fall between these polar extremes.
Large corporations such as airlines, oil and steel producers, railroads, big-box retailing, computer operating systems and applications, online retailing and so forth are parts of “oligopolies.” These are to monopolies as oligarchies — rule by a few — are to monarchies. Drug and medical-device manufacturers, hospitals in a metro area and health managers like UnitedHealth, Cigna or HCA are oligopolies.
Smaller companies, including most retailers, function in “monopolistic competition.” Unlike farmers, they set their own prices, at least nominally, and have their own brand identities. Yet most face many competitors and competition is fierce. Burger joints, pizza, sandwich, taco and coffee shops, gun or and quilting stores, operate in monopolistic competition. So do independent dental clinics or small practices of therapists and other specialists.
The level of competition can vary within a brand. CVS and Walgreens as corporations operate in oligopoly. However, their individual stores are in monopolistic competition. They cannot raise prices compared to other stores in their area. Yet even at the local level, the brand and advertising of such national chains give them an advantage over a single-owner “Jolene’s Pharmacy” or “Roseville Drugs.” It is the same situation as McDonalds, Taco Bell or Pizza Hut. They are oligopolists with market power nationally, while each individual outlet may face sharp competition for local favorites.
So companies in perfect competition have no ability to influence prices. Those in monopolistic competition have a bit of pricing power and oligopolists even more. Monopolists have complete pricing power, as long as they are not regulated by government. This is true across all sorts of industries or sectors.
For all, growing in size may create market power so as to raise profits. Or it may allow them to spread fixed costs like computer systems over a larger number of units of output. Once you have infrastructure, software and procedures to manage billing and other administrative tasks for 500,000 patients, the marginal or extra cost of scaling it up to 1 million or 5 million is not all that great.
Companies that want to be larger can achieve that via their own growth. But size can come much faster via buying up or merging with other firms. This process falls into three categories: horizontal integration, vertical integration and conglomerate.
Horizontal integration involves buying up other firms with similar activities. A company that drills oil wells and operates refineries buys out another company that does the same things. It grows sideways. Vertical integration happens when, for example, a steel company buys coal and iron mines and limestone quarries to get inputs for its mills and wire- and nail-making mills or bridge companies to sell its products. It grows up and down in a production chain.
And then there are “conglomerates” of apparently unrelated businesses. There were rewarded in the mid-20th century. Stock market investors thought that a corporation making farm tractors, military aircraft and stereos in addition to packing meat and renting cars was a great idea. That fad waned.
Yet much of the spectacular growth of UnitedHealth and its national rivals over the past 20 years comes from conglomeration within health care broadly defined. There is no intrinsic reason why the operator of multiple nursing homes in one region should manage drug benefits for a health insurance plan at the other end of the country.
UnitedHeath has a long list of acquisitions, including health billing administrators, groups of clinics directly treating patients, nursing home chains, Medicare Advantage plans, pharmacy benefit managers and so on. It grew large enough to administer plans such as the Defense Department’s Tricare plan for current and retired U.S. military members. Indeed, the voracious nature of its acquisitions has been what has gotten it into trouble repeatedly with the Justice Department.
There is horizontal integration in some UnitedHealth acquisitions, vertical integration in others and some that seem simple conglomeration. But the upshot of all these is reduced competition in health care generally.
The public generally understands how monopoly power abuses consumers in terms of prices or conditions of service. Just ask anyone who’s tried to call their cable company. But more broadly monopoly power also creates inefficiencies and wastes resources. Society gets fewer goods and services out of a given set of resources than it might if competition were preserved.
Abuses by 19th century monopolists led to government policies curbing their power. The basic U.S. law against monopoly practices was the Sherman Antitrust Act of 1890. It declared that any “combination … in restraint of trade or commerce … is hereby declared to be illegal.” The act was used to break up many monopolies, known as “trusts,” including Standard Oil and International Harvester. It had loopholes, but some were plugged with the Clayton Act in 1914. Creation of the Federal Trade Commission, which could regulate business practices regardless of level of monopoly, soon followed.
So how does one evaluate the effects of market power, especially in health care, where the issue is not prices charged to individual patients?
This brings us back to Berkeley economist Bain’s framework of structure, conduct and performance.
“Structure” is the continuum just discussed, running from myriad powerless small firms to one monopolist with great power and those in between.
“Conduct” involves the business practices of firms. This is what Justice Department investigations of UnitedHealth and other health sector companies usually focus on. Do they use “predatory pricing” to drive competitors out of business? Do they buy up competitors to reduce competition for bidding on large contracts like administering Tricare? Do they manipulate billing procedures to rip off clinics or Social Security plans?
“Performance” involves profitability. Do they make higher profits than other firms? Do they compensate managers and other stakeholders at higher levels? Do they innovate and improve? Or do they coast along indolently because their profitability is assured?
The odds are that the Trump administration will spend little time on fraud, waste and abuse in the private sector. Yet the issues in our very expensive health care system do affect taxpayers, and are not going away. Frameworks for understanding them will remain relevant.
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St. Paul economist and writer Edward Lotterman can be reached at stpaul@edlotterman.com.
