FACILITATING PRACTICES

On October 18, 2010, the U.S. Department of Justice and the state of Michigan filed an antitrust suit against Blue Cross Blue Shield of Michigan (BCBSM). Blue Cross Blue Shield is a national federation of 39 health insurance organizations and companies in the United States, and BCBSM is one of its largest independent licensees with 4.3 million members— well over 60 percent of the commercially insured population of the state of Michigan. BCBSM has most favored nation (MFN) contracts with nearly 60 percent of Michigan’s 131 general acute care hospitals, including many major hospitals. The lawsuit alleges that BCBSM’s use of MFN clauses violated antitrust laws. This is the first time DOJ brought an action against a health insurer challenging the use of MFN clauses since the 1990s.

MFN clauses effectively ensure that all buyers are treated equally. This would seem to be procompetitive, and courts in the United States have usually dismissed antitrust challenges against MFN clauses without conducting a “rule of reason” analysis in which experts present and analyze evidence to determine whether the conduct in question was anticompetitive. Yet economic theory suggests that MFN clauses can have two harmful consequences. Consider BCBSM’s situation. Its MNF clauses limit the ability of other insurers to compete effectively by guaranteeing that they never have lower input costs than BCBSM. This can be especially problematic in health care, where one way that insurers have found to lower costs is by contracting with a small subset of providers, guaranteeing them an increase in volume in exchange for deep discounts. The MFN obliges those providers to offer the same deep discounts to BCBSM, even though BCBSM will not guarantee them an increase in volume. This makes it impossible for these low-cost alternatives to compete with BCBSM, so they never appear in the market.

Even if MFNs do not affect market structure, they can directly affect pricing. Providers who grant MFN protection to BCBSM have a disincentive to offer discounts to other insurers, for they would be obligated to pass this

discount along to BCBSM. The result can be higher prices for all purchasers, including BCBSM. BCBSM might not mind, however, as it knows that it will pay no more than other insurers. Indeed, research by Fiona Scott Morton showed that when Medicaid (a public insurance program for low-income Americans) obtained MFN status for prescription drugs, the prices paid by private insurers for the same drugs increased.28 The same may well occur when insurers like BCBSM secure MFN status with hospitals and other providers.

Antitrust economists have raised these objections for several decades. So why did the Department of Justice choose this time to sue BCBSM? The government alleges that BCBSM’s MFN agreements go beyond the typical MFN. These MFN contracts allegedly require that participating hospitals charge other insurers an agreed percentage more than they charge BCBSM, sometimes as high as 40 percent more than the hospital was charging BCBSM. BCBSM was even willing to increase its payments to large hospitals if they agreed to this add-on fee for competing health plans.

BCBSM has defended itself vigorously, arguing that it uses MFNs as a tool to secure the lowest health service costs and the deepest possible discounts for the large population of Michigan residents it served. It stated in a press release: “Our hospital discounts are a vital part of our statutory mission to provide Michigan residents with statewide access to health care at a reasonable cost. [. . .] Because Blue Cross is the only nonprofit healthcare corporation that is regulated by Michigan Public Act 350, it is the only Michigan insurer that is required to meet the cost, quality, and access goals required by statute.”29

The outcome of this case could profoundly affect health care markets across the United States. Many other Blue Cross plans have large market shares and use their clout to obtain MFN clauses. It is not known if other plans have the “MFN plus” clause in BCBSM’s contracts. But the current lawsuit might clarify the court’s position on whether MFN clauses should be examined under the rule of reason.

When both firms use FOB pricing, the delivered price that a customer actually pays depends on its location. The delivered price schedules are shown by the solid lines in the figure. If the brick producer in Ahmadabad lowers its FOB price to match that of the Mumbai producer, then it effectively shifts its delivered price schedule downward. (It now becomes the dashed line.) Even though the Ahmadabad firm is retaliating against the Mumbai firm’s stealing business in Surat, the Ahmadabad firm ends up reducing its delivered prices to all of its customers.