ANALYSIS: Certificate of Need Program Drives Up Prices, Encourages Cronyism

May 14, 2014

Inside Insight

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Hospital signA CON GAME FOR SURE

Last summer, news broke that SC DHEC had started refusing to enforce the Certificate of Need (CON) program for the purchase of certain new medical service equipment and the construction of new medical procedure facilities like surgery centers. Their justifications for doing so were based on budget cuts and a consequent inability to carry out the CON process.

More recently, there have been efforts to reinstate the enforcement of CON programs. These efforts have been done quietly and out of the public eye. This is an important issue that citizens need to monitor more closely. However, before we get into the details of what this means for health care in South Carolina, it might be helpful to clarify what exactly a certificate of need program is by using an everyday example.

Let’s introduce Joe’s Diner – or at least the idea of Joe’s Diner.

Joe is a good guy and a really good cook. He looks around and decides to use his own money to provide something he sees as a need in the local community: good food using local products. Unfortunately, though, poor Joe didn’t realize that his state requires a culinary Certificate of Need to operate a restaurant. The ownership of a commercial kitchen is strictly prohibited without state permission. In order to open a restaurant, Joe must apply and receive one of these certificates to construct a building, buy large ovens, install hooded exhaust vents, and operate a commercial dishwasher. During the CON process, the state will not only examine Joe’s motivations and capability, but also impose state officials’ subjective interpretations of the local community’s “need” for another restaurant.

This is where things get interesting.

Many of the officials in charge of monitoring and approving CONs are either elected or answer directly to elected officials. Why is that important? Well, to be elected you need votes. To get votes you need to campaign. To campaign you need money. But where do you get that money if you’re an aspiring career politician? Here enters the rub for poor ole Joe.

Larger, more established organizations are able to influence elected officials through campaign contributions. In fact, it is in their best interest to do so that they can limit competition. Accordingly, they give campaign funds to decision makers in trade for more influence over policy. Poor Joe can’t even get off the drawing board and the community’s restaurant choices are limited to those that can withstand a lengthy and expensive process to obtain CON approval. Larger organizations like McDonalds and other corporations dominate the eatery market. The result is less supply of restaurants, higher prices, and poor consumer options.

Joe may protest but he is told that he is welcome to apply for a certificate – as long as he has the hundreds of thousands of dollars he needs to navigate the process that involves attorneys, bureaucrats and special interests as well as making a few campaign contributions to get things moving. Those costs would be on top of actually buying the things he needs to open a restaurant. Unfortunately, Joe’s Diner is what entrepreneurs call a “non-starter” due to the costs associated with the CON process.

This same scenario has been playing out in healthcare in South Carolina. Health care CON programs have limited state physicians as entrepreneurs for years.

Medical CON programs require that health care providers wade through a laborious and expensive process to open their own procedural facilities and/or purchase equipment necessary to practice – just like Joe’s Diner. The state currently deems many areas as “saturated” with surgery centers, effectively limiting the supply of procedures that can be carried out on any given day. Physicians cannot schedule additional procedures because they have no place to perform them—unless they open their own facility, which is effectively impossible due to the presence of CON programs – just like Joe’s Diner.

Many South Carolina physicians would like to open their own center as entrepreneurs to serve more customers and meet a community need – just like Joe. As a result of the current system, patients wait longer for surgery and physicians must seek higher per-procedure reimbursements. Prices are higher and patient choice suffers.

Let’s not forget about the part where poor Joe must face larger, more established organizations that are able to limit competition through the CON process. The same thing happens in health care in South Carolina. Large health care organizations like hospital systems are able to endure the CON application process and then influence policy through campaign contributions that effectively limit market entry from new competitors.

The State Ethics Commission’s Public Disclosure and Accountability Reporting reveals that large health care organizations contribute mightily to campaigns and employ a significant number of lobbyists. This places those organizations in a position to seek preferential policy treatment including receiving publically backed bonds to finance the development of new hospital facilities like surgery centers.

The South Carolina Hospital Association is vehemently against the removal of CON requirements on healthcare facilities. This is undoubtedly because the vast majority of its membership currently has CON approval and, more importantly, the organization doesn’t want to lose the revenues generated by physicians who could set out on their own. Of course this is not the script large health care organizations use when speaking with the public on the matter. One popular defense offered of CON programs is that without restrictions, medical facilities would only locate in more metropolitan and wealthier areas. However, any logical entrepreneur would consciously locate in an area where there is an unmet demand – physicians included.

The “poor and rural areas suffer” stance is also a straw man argument. For instance, the last time I had to have an MRI, I was not sent to Manning. I was sent to Charleston – and that is under the current CON programs. So if I’m sent to Charleston under a program that’s supposed to keep medical services geographically dispersed, how can hospitals argue that such an occurrence would only happen in the absence of CON programs?

As if the mounting evidence against CON programs were not already enough, its gets worse if you are a South Carolina taxpayer. Larger healthcare organizations rely more heavily on publicly backed bonds to finance their CON facilities. Why? They can influence policy that allows them to receive public funding. Conversely, small practices take out business loans and inherit all the risk. So not only is supply of procedures limited for patients under medical CONs; they also inherit the financial risk on behalf of the larger organizations.

The last argument offered by those in favor of the use of Certificate of Need in South Carolina is that CONs help to protect the community from health risk – just like it “protected” the public from Joe’s Diner. However, the state medical board governs, certifies and publishes the status of a physician’s license. If a physician is a health risk to patients, his or her licenses can be investigated and/or removed immediately – just as Joe’s Diner could be shut down after a poor inspection. Thus, the claim that CON programs protect the public is at best a duplication of services during a time where the state is already under fiscal stress.

Physicians as newly freed entrepreneurs are incentivized to hire the best staff and offer as many procedures as they can complete. If they produce poor results, they’ll likely go out of business. They’ll still be subject to review by the medical board and held to some of the highest medical standards in the world. Staff like surgical nurses will have additional job opportunities at quite possibly higher pay. A more entrepreneurial approach would increase the supply of procedures offered, decrease the price tag associated with getting a procedure done, and give patients more choice – all as a result of increased competition. The added bonuses would be less government and special interest influence in health care policy as well as more privately financed medical facilities that do not place taxpayers on the hook. For all of these reasons, DHEC’s refusal to enforce medical certificates of need is a very good thing for South Carolina.

Editor’s Note: Keisler is a Ph.D. candidate in policy studies at Clemson University. He also is a policy consultant with expertise in economic development, local public finance, and state and local government policy.