UC Berkeley

OBJECTIVE--Health maintenance organizations (HMOs) have stimulated price competition in California hospital markets since 1983, when the state legislature eliminated barriers to selective contracting by conventional health insurance plans. This study measures the impact of HMO-induced price competition on the rate of inflation in average cost per admission for 298 private, non-HMO hospitals between 1982 and 1988. DATA--HMO market penetration was calculated using discharge abstract data on insurance coverage, ZIP code of residence, and hospital of choice for 3.35 million patients in 1983 and 3.41 million patients in 1988. Data on hospital characteristics were obtained from the American Hospital Association and other sources.

-HMO coverage grew from an average of 8.3% of all admissions in local hospital markets in 1983 to 17.0% of all admissions in 1988. The average rate of growth in costs per admission between 1982 and 1988 was 9.4% lower in markets with relatively high HMO penetration compared with markets with relatively low HMO penetration (95% confidence interval, 5.2 to 13.8). Cost savings for these 298 hospitals are estimated at $1.04 billion for 1988. CONCLUSION--Price competition between HMOs and conventional health insurers can significantly reduce hospital cost inflation if legislative barriers to selective contracting are removed. The impact of competition in California was modest, however, when evaluated in terms of the 74.5% average rate of California hospital cost inflation during these years.