Academic journal article Economic Inquiry

Monopoly, Monopsony and Contestability in Health Insurance: A Study of Blue Cross Plans

Academic journal article Economic Inquiry

Monopoly, Monopsony and Contestability in Health Insurance: A Study of Blue Cross Plans

Article excerpt


Blue Cross and Blue Shield Plans (the "Plans") have historically occupied a unique niche in health care. Pauly [1987] notes that the Plans serve both as sellers of health insurance and as buyers of health services. Marmor [1991] described the Plans' development of health insurance concepts in the 1930s. Their role as innovators permitted them to occupy a dominant market share position in most geographic areas. As a result, Blair, Ginsburg and Vogel [1975] believe they have traditionally received favorable regulatory treatment including non-profit organization status and exemption from taxation.

Potentially, the Plans have dual market power(1): monopoly power in the market for health insurance and monopsony power in the market for health services. This may result in operating inefficiencies and may produce adverse welfare consequences. Monopsony theory posits that the Plans will reduce payments to providers and may stifle innovation in the market for health services. This occurs as the result of the Plans' dominant market shares (generated from the fact that they were often the first in the market for insurance) and from their ability to enforce a credible threat to reduce providers' business should providers refuse to provide reduced cost services. The Plans' dominant market share and their advantage in the market for health services permit them to maintain a competitive advantage in the market for health insurance.(2) Monopoly theory suggests that the Plans' advantage (in the market for medical services due to regulatory and tax advantages) will cause them to (i) raise premium prices, (ii) sell only a limited range of health insurance policies, (iii) offer policies with more complete coverage than consumers demand,(3) (iv) reduce innovation in the health insurance market and (v) demonstrate unduly high administrative costs.

In the 1970s empirical work supported these predictions. However, the 1980s has been an era of growth of competition and the potential for even more competition in the market for health insurance. Baumol, Panzar and Willig [1982a] noted that a credible threat of entry can produce "competitive" market conditions in a concentrated market, resulting in reduced prices, increased quantity and more efficient administrative cost structures. If Pauly is correct, that there are no inherent scale economies in the health insurance market, and if the market for health insurance is contestable, the Plans will pass advantages along to subscribers as reduced premiums and will tolerate fewer administrative cost inefficiencies.

Accordingly, the Plans present an opportunity to study market structure and its impact in both the market for health care and the market for health care insurance. To date, no study has evaluated this interplay. Greater understanding of these interactions is important not only to deal with the phenomena of the Plans (for instance, more appropriate regulatory policies) but also to refine the single-payer debate and to consider operating standards for Health Alliances and Health Plans included in the Administration's health care reform package outlined by the White House Domestic Policy Council [1993]. Section II of this paper evaluates prior studies of the Plans. Section III motivates the model for Plan behavior. Section IV describes the results of our empirical study of the Plans' premium pricing, provider payment and administrative costs. Section V contains our conclusions.


A number of prior studies have evaluated the Plans' unique position in the market for health insurance and in the market for health care. Most focus on the Plans' monopsony power and payments to providers. Most important, they evaluate markets that have gone through substantial change as health maintenance organizations and preferred provider organizations (HMOs and PPOs) have replaced fee-for-service plans. Several assess market power and administrative costs. …

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