FTC Staff Comment to Governor Mary George Concerning Hawaii S.B. 213 to Abolish the State Planning and Health Agency, Including its Administration of Certificates of Need

-
...,..
IO~ 	So!"''''
s... "'.f\(..c~ CA "'0::-
(.')1 ~~:71:
'"'tTlJ' ~~ \H' PI ~\'U::. ~
FEIIEt<Al. Tl<A!IE d)~t~lI~~J()~
.. )" 	VH -\ ',-1:-, II HI, .\: ",,: (II"~ h_ I
_	COMMISSION
APPROVED 	:;
""J 	D f 	)...
-~ IcL\J e rl ei 	j
I
MAR 1 3 1987
The 	Honorable 	Mary 	George
Hawaii 	State 	Senate
State 	Capitol
Honolulu, 	Hawaii 	96813
Re: 	Senate 	Bill 	213
Dear Senator 	George:
The 	Federal 	Trade 	Commission's 	San 	Francisco 	Regional
Office 	and 	Bureaus 	of 	Competition, 	Consumer 	Protection, 	and
Economic~ are 	pleased 	to 	res~ond to 	your 	request 	for 	comments
on 	proposed 	Senate 	Bill 	213. 	S.B. 	213 	would 	repeal 	Chapter
3230, 	Hawaii 	Revised 	Statutes, 	thereby 	abolishing 	the 	state
health 	planning 	and 	development 	agency 	and 	its 	functions,
including 	the 	administration 	of 	the 	certificate 	~f 	need 	("CON")
regulatory 	process. 2 	For 	the 	reasons 	described 	in 	greater
detail 	below, 	we 	strongly 	encourage 	repeal 	of 	CON 	legislation.
There 	is 	no 	evidence 	that 	the 	CON 	regulatory 	process 	has 	served
• 	its 	intended 	purpose 	of 	controlling 	health 	care 	costs. 	Indeed,
CON 	regulation 	may 	well 	increase 	prices 	to·consumers 	by
restricting 	supply 	of 	hospital 	services 	below 	the 	level 	that
would 	exist 	in 	a 	non-regulated 	competitive 	environment.
Interest 	and 	Experience 	of 	the 	Federal 	Trade 	Commission
For more 	than 	a 	decade, 	the 	Federal 	Trade 	Commission 	has
engaged 	in 	extensive 	efforts 	to 	preserve 	and 	promote
comp~tition in 	health 	care 	markets. 	The 	Commission 	and 	its
1These 	comments 	represent 	the 	views 	of 	the 	San 	Francisco
Regional 	Office, 	and 	the 	Bureaus 	of 	Competition, 	Consumer
Protection, 	and 	Economics, 	and 	do 	not 	necessarily 	represent 	the
views 	of 	the 	Commission 	or 	any 	individual 	Commissioner. 	The
Commission 	has, 	however, 	voted 	to 	authorize 	their 	submission.
2 s . B. 	213 	contains 	a 	number 	of 	provisions 	that' primarily
delete 	various 	references 	to 	the 	state 	health 	planning 	and
development 	agency. 	These 	comments 	address 	only 	the 	issue 	of
the 	repeal 	of 	the 	CON 	regulatory 	process.

The 	Honorable 	Mary 	George
Page 	2"
-staff 	have 	been 	active 	both 	in 	antitrust 	law 	enforcement 	and 	in
advocacy 	of 	regulatory 	reforms, 	recognizing 	that 	competition 	in
health 	care 	service 	markets, 	like 	other markets, 	will 	benefit
consumers 	by 	strengthening 	incentives 	for 	providers 	to 	meet
consumer needs. 	.As 	a 	result 	of 	Commission 	antitrust 	"
enforcement 	efforts 	in 	the. health 	care 	industry 	(including
litigated 	cases 	and 	non-public 	investigations 	involving 	markets
in 	many 	different 	areas 	of 	the 	United 	States), 	as 	well 	as
economic 	analysis 	of 	CON 	regulation,) 	the 	Commission's 	staff
has 	gained 	considerable 	experience 	~ith the 	economics 	of 	health
care 	competition, 	and 	with 	the 	manner 	in 	~hich health 	planning
regulation 	affects 	such 	competition.
CON 	Regulation 	is 	Unnecessary 	to 	Constrain 	Health 	Care
Costs 	and 	Repeal 	of 	CON 	Laws 	will 	?romote 	Competition
and 	Benefit 	Consumers
CON 	regulation 	of 	hospitals 	has 	traditionally 	been 	based
on 	the 	theory 	~hat unregulated 	competition 	would 	result 	in 	the
=onstru~tion of 	unnecessary 	facilities, 	unnecessary 	expansion
of 	existing 	facilities, 	or 	unnecessary 	capital 	expenditures 	by
hospitals. 	The 	assumption 	underlying 	this 	theory 	was 	that
hospitals 	had 	an 	inherent 	tendency 	to 	expand 	or 	purchase
unnecessary 	equipment. 	This 	tendency 	was 	not 	constrained 	by
market 	forces 	because 	insured 	consumers 	of 	health 	care 	were
covered 	by 	policies 	that 	required 	little 	or 	no 	out-of-pocket
payme~t, making. the 	consumers 	insensitive 	to 	price. 	Moreover,
~ospitals were 	often 	reimbursed 	by 	third-party 	payers 	on 	a
retrospective 	cost 	basis, 	removing 	whatever 	incentive 	they
might 	have 	to 	contain 	costs.
As 	a 	result 	of 	these 	forces, 	competition 	among 	health 	care
facflities 	traditionally 	took 	place 	in 	terms 	of 	quality 	rather
than 	price, 	although 	limited 	price 	competition 	existed. 4
Hospitals 	had 	an 	incentive 	to 	expend 	resources 	to 	provide wider
ranges 	of 	diagnostic 	and 	therapeutic 	services 	and 	equipment,
and 	more 	comfortable 	facilities. 	The 	concern 	expressed 	by
health 	planners 	when 	CON 	regulation 	was 	created 	was 	that 	the
cost 	of 	these 	improved, 	albeit 	underutilized, 	facilities 	would
be 	passed 	along 	to 	consumers, 	thereby 	increasing 	the 	cost 	of
health 	care." 	The 	purpose 	of 	CON 	regulation 	was 	not 	to 	assure
that 	facilities 	were 	placed 	where 	needed; 	rather, 	it 	was 	to
JS ee , 	!t:...9.:., 	Hospital 	Corp. 	of 	America', 	106 	F.T.C. 	361
(1985), 	aff'd 	807 	F.2d 	1381 	(7th 	Cir. 	1986); 	American 	Medical
Int'l, 	Inc., 	104 	F.T.C. 	1 	(1984); 	Bureau 	of 	Economics, 	Federal
Trade 	Commission, 	Certificate 	of 	Need 	Regulation 	of 	Entry 	Into
Home 	Health 	Care 	(1986).
4S ee 	Hospital 	Corp. 	of 	America, 	supra 	at 	478-79.

The 	Honorable 	Mary 	George
Page 	3
control 	the 	perceived 	tendency 	to 	provide 	duplicative
facilities 	or 	services. 5
Many 	of 	the 	assumptions 	supporting CON 	regulation 	are 	no
longer 	valid. 6 	Health 	care 	markets 	have 	changed 	sUbstantially
in 	the 	last 	few 	years. 	Third-party 	payers.and 	consumers 	are 	no
longer 	as 	insensitive 	to 	the 	prices 	of 	health 	care 	services.
There 	has, 	accordingly, 	been 	a 	trend 	toward 	increased
competition 	-- 	and, 	in 	particular, 	price 	competition 	-- 	among
hospitals. 7 	Such 	price 	competition 	may 	be 	stimulated 	by 	health
maintenance 	organizations 	and 	preferred 	provider 	organizations,
which 	are 	well-positioned 	to 	channel 	subscribers 	to 	hospitals
offering 	lower 	rates. 	Improvements 	in 	conventional 	health
benefit 	programs 	also 	provide 	subscribers 	with 	financial
incentives.(such 	as 	the 	requirement 	of 	co-payments) 	to 	channel
themselves 	toward 	economical 	providers, 	inclUding 	non-hospital
providers. 8 	Moreover, 	the 	recent 	trend 	toward 	use 	of
prospective 	payments, 	and 	reimbursement 	by 	Medicare 	based 	on
diagnostic 	related 	groups 	rather 	than 	cost, 	have 	required
hospitals 	to 	become 	more 	cost 	conscious 	because 	some 	costs 	are
no 	l~nger reimbursable. 	In 	addition, 	the 	probable 	elimination
of 	any 	remaining 	incentives 	toward 	creation 	of 	excess 	capacity
appears 	likely 	to 	deter 	health 	care 	facilities 	from 	making 	long
term 	capital 	investments, 	the 	financial 	feasibility 	of 	which
depend 	on 	shifting 	costs 	to 	third-party 	payers. 9
t
An 	additional 	reason 	to 	eliminate 	CON 	legislation 	is
provided 	by 	empirical 	evidence 	that 	suggests 	that 	such 	laws
have 	not 	had 	the 	intended 	effect 	of 	controlling 	hospital 	costs
through 	the 	prevention 	of 	expenditures 	on 	unnecessary 	beds,
. services, 	and 	equipment. 	Early 	studies 	of 	the 	effects 	of 	CON
5S ee 	P. 	Joskow, 	Controlling 	Hospital 	Costs: 	The 	Role 	of
Government 	Regulation 	79 	(1981).
6The 	United 	States 	Congress 	recently 	repealed 	the 	National
Health 	Planning Act 	of 	1974. 	See 	P.L. 	99-660, 	~701 	(1986).
7 See , 	~, 	Hospital 	Corp. 	of 	America, 	supra 	at 	480-82;
Hospital 	Industry 	Price 	Wars 	Heat 	Up, 	Hospitals, 	Oct. 	1, 	1985,
at 	69.
8 See 	Insurance 	Coverage 	Drives 	Consumer 	Prices, 	Hospitals,
Nov. 	1, 	1985, 	at 	91.
9S ee 	Raske, 	Association 	Seeks 	Sound 	Capital 	Pay 	policy,
Modern 	Healthcare, 	Nov. 	7, 	1986, 	at 	120 	(uncertainty 	about
future 	of 	reimbursement 	for 	capital 	expenses 	is 	encouraging
hospitals 	to 	make 	more 	conservative 	capital 	investment
decisions 	for 	inpatient 	services).

The 	HonorableHary 	George
Page 	4
regulation 	found 	that 	this 	regulatory 	scheme 	had 	no 	effect 	on
constraining 	overall 	health 	care 	costs. 10 	Rather, 	the 	CON
regulatory 	process 	may 	have 	caused 	some 	hospitals 	to 	make
substantial 	capital 	investments 	in 	areas 	not 	covered 	by 	CON
controls. 11 	Later 	studies 	reachp.d 	similar 	conclusions, 	finding
that 	the 	CON 	laws 	did 	not 	affect 	costs 	per 	unit 	of 	hospital
output. 12
Indeed, 	CON 	regulation 	can 	raise 	prices 	even 	in 	markets
where 	incumbents 	are 	inclined 	to 	angage 	in 	vigorous 	price
competition. 	If 	the 	effect 	of 	the 	regulation 	is 	to 	place 	a
binding 	constraint 	on 	the 	supply 	of 	hospital 	care, 	market
prices 	will 	be 	greater 	than 	they 	~ould be 	in 	an 	unregulated
competitive 	environment. 	In 	markets 	where 	hospitals 	are
inclined 	toward 	anticompetitive 	behavior, 	CON 	regulation 	can
facilitate 	the 	attainment 	of 	anticompetitive 	objectives. 13
Furthermore, 	there 	is 	evidence 	that 	the 	CON 	regulatory
process 	may 	have 	the 	effect 	of 	increasing 	prices 	to 	consumers
because 	it 	serves 	to 	protect 	firms 	in 	the 	market 	from
competition 	from 	innovators 	and 	new 	entrants. 14 	Although 	the
CON 	process 	does 	not 	prohibit 	~he entry 	or 	expansion 	of
hospitals, 	or 	the 	development 	of 	new 	services, 	it 	generally
places 	the 	burd~n on 	new 	entrants 	to 	demonstrate 	that 	a 	need 	is
not 	being 	ser\·ed 	by 	those 	currently 	in'~he 'market. 	Moreover,
the 	process 	of 	preparing 	and 	defending 	a 	CON 	application 	is
of~en extremely 	costly 	and 	time 	consuming. 	C~mpetitors may
even 	misuse 	the 	CON 	regulatory 	process 	for 	the 	purpose 	of
10S a lkever 	and 	Bice, 	Hospital 	certificate-of-Need
Controls: 	Impact 	on 	Investment, 	Cost. 	and 	Use 	(1979); 	and
Salkever 	and 	Bice, 	The 	Impact 	of 	Certificate-of-Need 	Controls
on 	Hospital 	Investment, 	54 	Millbank Memorial 	Fund 	Q. 	185
(Spring 	1976).
I
llId.
12policy 	Analysis, 	Inc.-Urban 	Systems 	Engineering, 	Inc.,
Evaluation 	of 	the 	Effects 	of 	Certificate 	of 	Need 	Programs
(1980). 	~ 	~ 	Steinwald 	and 	Sloan, 	Regulatory 	Approaches 	to
Hospital 	Cost 	Containment: 	A Synthesis 	of 	the 	Empirical
Evidence, 	in 	A New 	Approach 	to 	the 	Economics 	of 	Health 	Care 	(1981).
<
1JHospital 	Corp. 	of America, 	supra 	at 	497-98.
14 Posner, 	certificate 	of 	Need 	for 	Health 	Care 	Facilities:
A Dissenting 	view, 	in 	Regulating 	Health 	Facility 	Construction
113 	(C. 	Havighurst, 	ed. 	1974).

I
The 	Honorable 	Mary 	George
Page 	5
excluding 	potential 	competitors 	from 	entering 	the 	market. 15
Firms 	in 	any 	given 	hospital 	market 	need 	not 	be 	as 	sensitive 	to
price 	or 	to 	consumer demand 	for 	new 	services 	if 	they 	know 	that
it will 	be 	difficult 	and 	expensive 	for 	new 	firms 	to 	enter 	the
market 	and 	offer 	competitive 	prices 	or 	services.
The 	FTC's 	Bureau 	of 	Economics 	has 	recently 	conducted 	an
empirical 	study 	that 	shows 	that 	CON 	laws 	with 	respect 	to 	home
health 	care 	agencies 	increase 	the 	cost 	of 	health 	care 	to
consumers. 16 	The 	study 	analyzed 	data 	from 	over 	1700 	home
health 	agencies, 	and 	found 	that 	such 	agencies 	do 	not 	generally
have 	large 	unrealized 	economies 	of 	scale. 	Moreover, 	the 	study
found 	that 	CON 	regulation, 	which 	is 	premised 	on 	the 	belief 	that
unnecessary 	duplication 	of 	facilities 	results 	in 	diseconomies,
did 	not 	contribute 	to 	the 	realization 	of 	the 	limited 	scale
economies 	that 	may 	exist;17 	Finally, 	the 	study 	found 	that
costs 	of 	providing 	a 	given 	quantity 	of 	home 	health 	services
were 	higher 	on 	average 	in 	regulated 	markets. 18 	That 	is, 	CON
regul~tion 	was 	associated 	with 	increased, 	rather 	than 	decreased
costs.
Conclusion
In 	sum, 	ongoing 	changes 	in 	the 	health 	care 	financing
system, 	including 	prospective 	payment 	mechanisms 	and 	increased
con~umer price 	sensitivity 	fostered 	by 	private 	insurers, 	are
eliminating 	the 	need 	for 	CON 	regulation. 	Moreover, 	the 	CON
regulatory 	process 	does 	not 	appear 	to 	serve 	its 	intended
purpose 	of 	controlling 	health 	care 	costs. 	Rather, 	it 	removes
the 	competitive 	constraints 	on 	costs 	that 	might 	act 	as 	a
control 	in 	the 	absence 	of 	regulation. 	Market 	forces 	are
generally 	far 	superior 	to 	the 	decisions 	of 	governmental
planners 	for 	allocating 	society's 	resources, 	and 	should 	be
15S ee , 	~, 	St. 	Joseph's 	Hospital 	v. 	Hospital 	Corp. 	of
America, 	795 	F.2d 	948, 	959 	(11th 	cir. 	1986) 	(defendants'
misrepresentations 	to 	state 	health 	planning 	body 	concerning
plaintiff's 	CON 	application 	not 	protected 	from 	antitrust
scrutiny). 	See~, 	Hospital 	Corp. 	of 	America, 	supra 	at 	492.
1 6 Bureau 	of 	Economics, 	Federal 	Trade 	Commission,
Certificate 	of 	Need 	Regulation 	of 	Entry 	into 	Home 	Health 	Care
(1986). 	Hawaii's 	health 	planning 	laws 	apply 	to 	home 	health
agencies. 	~ 	definition 	of 	"health 	care 	facility" 	in 	§ 	323D-41(4).
17Bureau 	of 	Economics, 	Federal 	Trade 	Commission,
Certificate 	of 	Need 	Regulation 	of 	Entry 	into 	Home 	Health 	Care,
at 	65-86.
18IQ. 	at 	106.

•
The 	Honorable 	Mary 	George
Page 	6
alTowed 	to 	operate 	absent 	demonstrable 	market 	failures.
For 	the 	foregoing 	reasons, 	we 	strongly 	support 	the 	passage
of 	S.B. 	213", 	and 	applaud 	your 	efforts 	on 	behalf 	of .Hawaii
consumers. 	We 	would 	be 	happy 	to 	answer 	any 	questions 	you 	may
have 	regarding 	these" comme~ts, or 	provide 	any 	other 	assistance
you "may 	find 	helpful.
Sincerely,
~~.~~
~net M. 	Grady
Regional 	Director