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I define vertical integration in this piece as payors and providers acting as the same entity (rather than payors buying PBMs or hospitals buying physician practices), as opposed to horizontal consolidation, in which, for example, two hospitals in the same market merge to increase negotiation leverage and prices.

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Vertical integration in healthcare is nothing new. In 1929, Dr. Shadid in Oklahoma and Drs. Ross & Loos in Los Angeles started the first health insurance companies and were, shortly thereafter, barred from their local medical societies. These doctors, like many others in the Great Depression, sold their services to employers to stabilize their income and prevent health-related personal bankruptcies. Like all vertically integrated systems, Drs. Shadid, Ross, & Loos provided care for patients and bore the financial risk associated with increased medical care.

With the recent proliferation of vertical integration, specifically payers building out their provider arms, it is important to ask whether this trend is beneficial to the health and finances of the American people and their government.

In consolidating payers and providers, there are “both efficiency gains and increases in monopoly power resulting from the same case of vertical consolidation. Whether consumers are better or worse off depends on which effect is stronger.” In this piece, I make the argument that the efficiency gains are stronger, especially when compared to the FFS alternative, because of aligned incentives and the ability for policy and innovators to prevent monopoly.

FFS alternative is not sustainable.

“By a wide margin, the biggest threat to our nation’s balance sheet is the skyrocketing cost of health care. It’s not even close.” - Barack Obama

The healthcare-industrial complex spends more than three times what the miliary-industrial complex spends in Washington. In part, the FFS system created this problem, and we have been trying to fix it since the inception of Medicare and Medicaid in 1965. Value-based care (VBC), or whatever you want to call it, and the vertical integration that follows offer a potential solution.

In Medicare Advantage (MA), many providers (i.e., CenterWell, Oak Street, etc.) are integrated with a larger payor (i.e., Humana, CVS, etc.). This value-based solution in MA has shown promise but has not delivered results. In 2024, the federal government will spend $83 billion more on MA beneficiaries than if those beneficiaries were enrolled in Medicare FFS. While much of this additional spend is going into the pockets of insurers, some of this extra cash allows MA beneficiaries to spend 7% less on premiums and OOP expenses (i.e., MA plans make more money, so the program is cheaper for patients). In Traditional Medicare, Accountable Care Organizations (ACOs) take on the financial risk of their patient population as a group of providers. In contrast to increased spending in MA, the primary ACO program, the Medicare Shared Savings Program (MSSP), has reduced cost and kept outcomes stable. Thoughtful policy initiatives will continue to curb excess gains in MA and promote successful ACO programs, decreasing health spending. Despite its flaws, vertical integration has contributed to decreased health spending by lowering prices and reducing utilization.

This decrease in spending should not have an effect on health outcomes, as differences in medical spending generally show do not show a statistically significant impact on health outcomes. And what does this reduction in health spending get us? Better education for children, fewer food deserts, and more food stamps. At the end of the day, Americans are way too sick, and we are spending way too much on healthcare. It’s not more healthcare that’s going to save us, it’s a healthier lifestyle - one that everyone should have the liberty to choose.

Incentives are most aligned via vertical integration.

VBC and its associated vertical integration aligns incentives between providers, payers, and patients. VBC pays for the highest quality care and the lowest cost, and vertical integration more deeply aligns these incentives than third-party contracting. In third-party contracting, the payor negotiates contracts with providers, while in vertical integration, the entities are under the same roof. Here are few reasons why vertical integration is more appealing than third-party contracting:

1. Negotiation overhead associated with third-party contracting is burdensome and leads to uncertainty and complexity in moving to VBC.
2. Greater capital reserves required for VBC are held by larger, vertically integrated companies.
3. Dose responsive curve: Cost savings associated with VBC follow a dose responsive curve, by which deep integration leads to greater savings (see table below).
4. Holistic access to health data: Insurances companies have claims data, and providers have clinical data. Entities need both to be successful.
5. Patient experience is better in vertically integrated care plans: “Commercial rankings of health plan customer experience and perception by and large show relative outperformance by vertically integrated care."

VBC often delivers higher quality care at a lower cost than FFS, and vertical integration is a more compelling option within VBC than third-party contracting.

Problems can be resolved with good policy and disruption.

FFS and VBC both have unintended negative consequences, but the incentives in the VBC can be cured by policy, while overutilization in FFS has proven more difficult to manage. Policy has already and will continue to curb risk gaming and prevent monopolies in order to create a more disrupt-able market.