A Year at the FTC
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Policy Strategy Economics Dec 13, 2013

A Year at the FTC

Combinations, conduct, and competition in healthcare

Based on insights from

Leemore S. Dafny

Leemore Dafny was not expecting a call from the Federal Trade Commission (FTC) in March 2012, but in retrospect it shouldn’t have come as too much of a surprise. “So many of the cases that the FTC was seeing were healthcare-related that the Bureau of Economics felt they needed a senior manager with healthcare expertise,” she says.

Dafny, a professor of management and strategy at the Kellogg School who researches competition in healthcare industries, fit the bill. The call led to her appointment as the FTC’s first Deputy Director for Healthcare and Antitrust, in the agency’s Bureau of Economics. Dafny recently returned from her yearlong stint in Washington with a new appreciation for all that government antitrust agencies do to protect consumers—as well as the limits of what they can accomplish. It will take some creative solutions, she believes, to bolster competition in healthcare markets.

New Role, New Learning

Protecting and promoting competition is a collaborative effort, involving regulators, economists, attorneys, and internal and external experts in various fields. Part of Dafny’s role at the FTC involved supervising the economists who work alongside attorneys to investigate potentially anticompetitive conduct or combinations. The learning curve was demanding. “From day one it felt like drinking from a firehose, with a constant flow of new information,” Dafny says. “I hadn’t experienced that steep a learning curve since graduate school.”

Not surprisingly, the vast majority—about 80 percent—of the cases Dafny worked on were healthcare-related. Federal healthcare cases come in two forms: mergers and acquisitions (or “combinations”) and conduct cases. Merger and acquisition transactions valued at over $70 million generally require firms to notify a federal antitrust agency: either the Department of Justice’s Antitrust Division (which handles combinations involving insurance companies, for example) or the FTC (which evaluates most combinations in other healthcare sectors, including the hospital and pharmaceutical industries). Investigations into smaller “non-reportable” combinations, as well as conduct cases (which involve potentially anticompetitive behavior without any transfer of ownership), are opened at the agencies’ discretion.

“The FTC must constantly decide whether to open full-scale investigations, and then, depending on the outcome of those investigations, what remedy to demand (if any) to restore or to foster competition,” explains Dafny. “I was heavily involved in many of those decisions.”

So she spent her days in Washington interpreting rigorous analyses to determine the impact of a given combination or business practice on consumers. “By the time someone came to me with a memo, they had worked on it for six months, so I got to see really high-quality work,” says Dafny. Then, together with the Bureau of Economics director, she would recommend a course of action to the five-member Commission. Or, if a case was in litigation, she would offer her assistance. (Dafny was part of the team working on the Idaho St. Luke’s investigation and litigation for which Kellogg School professor David Dranove served as an FTC expert. Read more about this case here.)

The Lifespan of an FTC Case

Each case, Dafny soon discovered, proceeds along its own, sometimes unpredictable, path. For example, because large combination transactions cannot consummate until (1) the agency okays it (perhaps with a court-approved settlement), (2) the agency loses in litigation, or (3) the deadline to take action passes, the parties involved usually have great incentive to act quickly. Paperwork—t’s crossed and i’s dotted—is filed promptly, and the parties work hard to provide agency staff with information they need to perform their investigations. The FTC, in turn, is bound to evaluate deals within a specific timeframe (e.g., they have 30 days to conduct a preliminary investigation and decide whether to open a full-scale investigation). Most of these screenings proceed at a brisk pace.

“Once they’re jointly owned, it’s extremely difficult to ‘unscramble the eggs,’ antitrust lingo for unwinding a deal.”

But of course many matters that came before the Commission during Dafny’s time on board involved substantially more complex (and hence time-consuming) issues. “I was fortunate to attend oral arguments for a healthcare case the FTC brought before the US Supreme Court last February,” says Dafny (who was amused to learn that the attorneys addressing that court actually wear morning jackets to trial—though, alas, no powdered wigs). At issue was a merger between two hospitals in Albany, Georgia. The hospitals claimed the transaction was exempt from federal scrutiny and subject only to state oversight. The FTC disagreed, and the case of whether the agency could challenge the transaction made it to the country’s highest court.

“We actually won the war, but lost the battle,” Dafny says. The Supreme Court sided with the FTC, but by the time the agency was granted a “trial on the merits,” the transaction was a “done deal”: the businesses had already merged and ceded their state license to run separate hospitals. The FTC still could have challenged the deal after the fact, but forcing divestiture of one hospital campus would have required any acquiring party to secure a state license to operate it—an outcome the agency saw as unlikely. So the FTC settled the case last August. “Once they’re jointly owned, it’s extremely difficult to ‘unscramble the eggs,’ antitrust lingo for unwinding a deal,” says Dafny. She hopes this case encourages judges to grant preliminary injunctions to halt potentially anticompetitive combinations until the courts can evaluate all of the evidence presented at a trial. Most significantly, however, the Supreme Court decision suggests that similar mergers will require federal antitrust scrutiny in the future.

In contrast to merger investigations, conduct investigations proceed at a much slower pace. One reason is the absence of firm deadlines for action on the part of the investigating agency. On some occasions, the process is also slowed by “wait it out” strategies employed by targets of the investigation. “I was surprised by the number of perfectly legal delay tactics,” says Dafny. If enough time passes that the threat of future harm to consumers is diminished or extinguished, the FTC may not find it worthwhile to pursue the cases after all—for example, if a more effective product enters the market in the interim.

Consolidation and Competition

Dafny came to the FTC knowing quite well the dangers that consolidation and lack of competition pose to consumers. Her own research, much of which has been previously covered in Insight, finds that consolidation in the insurance industry was responsible for a 7% rise in premiums between 1998 and 2007, and that insurance companies engage in “perfect price discrimination”—charging more profitable firms higher prices for health insurance. She has also watched hospitals ward off new entrants to lucrative markets, and used a clever methodology to show that mergers of neighboring hospitals lead to steep price increases.

Still, Dafny’s time at the FTC has clarified her thinking and left her with some thoughts about the future. “The current wave of consolidation in the sector will only continue,” she says. “And that’s true even though we are well aware that price increases—and not utilization changes—are the driver of recent healthcare spending growth.”

Moreover, Dafny doesn’t think that antitrust agencies are going to stem much of this consolidation. Why not? For one thing, while antitrust laws and court precedents work well in preventing large horizontal combinations, they are not set up to prevent as effectively what Dafny calls “consolidation by accretion.” These combinations result from smaller-scale merger and acquisition activity over time (such as a physician groups acquiring smaller practices in the area one by one). “Any one of these isn’t likely to catch the FTC’s attention,” Dafny says. “And sometimes it’s too late by the time it does.” Specifically, it can be hard to empirically determine the effect of spaced-out serial acquisitions from other contemporaneous changes in the markets at issue. And, as noted earlier, scrambled eggs are very hard to unscramble. Even if they can be unscrambled, the harm from doing so may exceed the potential benefit of restoring competition to the marketplace, leading the FTC to choose against filing a case.

Some combinations—such as those that occur across different product or geographic markets—raise even trickier issues. Under conventional antitrust analysis, a merger of hospitals in adjacent but distinct geographic markets, say, is unlikely to raise concerns because patients do not consider such hospitals to be close substitutes. Moreover, while some research shows that healthcare chains can extract higher prices, this may not be due to increased market power but rather to the better negotiating skills of chains. Therein lies the difficulty: injecting better management is not an antitrust offense, even if it leads to higher prices. In such a situation, these price increases are not enabled by a reduction in competition—and that’s what the government needs to prove in order to block a merger. Dafny and others are now working on models that can disentangle these different sources, but they will take time to develop, validate, and refine. Complex economic models do not always play well in courtrooms, either.

These issues underscore the impact of the high standard of proof required by antitrust laws. “Before joining the FTC, I didn’t realize how high the bar is for proving something is likely to be anticompetitive and should therefore be prohibited or undone,” Dafny says. There are good reasons for the high standard, she notes, but the approach has repercussions. “That bar is another reason consolidation will probably continue.”

Looking Beyond the FTC for Answers

Thankfully, there are other ways to motivate competition in healthcare subsectors. Dafny notes several “low-hanging fruit” to consider in this regard.

One has to do with the sharing of information. “We should figure out a way to get detailed private claims data into the hands of researchers to evaluate potentially anticompetitive practices,” says Dafny. Few public sources contain the prices that private insurers and providers negotiate, and seeing these could help researchers better assess how the latest types of consolidation affect both cost and quality of care. Dafny also advocates gathering and reporting data related to the ownership of private physician groups. This, she says, will help public agencies, researchers, and even consumers make better-informed decisions. (In fact, Dafny is on the board of the Health Care Cost Institute, a nonpartisan nonprofit that works with insurers to share claims data with researchers and issues fact briefs and studies to inform policy and research.)

Another competition-stimulating approach centers on incentives—specifically, incentives to encourage providers to integrate clinically without merging all their assets. The Medicare Shared Services Program, which provides Accountable Care Organizations with incentives to integrate care for a designated population, might be a good place to start. “They could hypothetically say, ‘We’re going to give your Accountable Care Organization a larger cut of the savings you achieve if a certain fraction of your provider base isn’t jointly owned,’” Dafny says. The specific incentives or ownership fractions in question could vary by market, with larger rewards in markets where there is greater concern about provider organizations maintaining or gaining disproportionate power. “I realize this is an interventionist approach,” says Dafny, “and I am wary of rolling it out broadly without more study. Still, piloting it might be one way to pause consolidation for a bit while we figure out whether and where it is likely to be harmful.”

Finally, the recently unveiled healthcare-insurance exchanges offer opportunities to bolster competition on the payer side of the market. After decades of mergers and virtually no new entrants, the exchanges are sparking entry in the insurance industry. “The barriers to entry for insurers have been dramatically lowered,” says Dafny—in part because the Affordable Care Act’s minimum standards for insurance plans should make customers less reluctant to purchase from a newcomer, and because many new, subsidized buyers are in the market.

In short, a creative, multipronged approach may be necessary to promote healthy competition in healthcare markets. “The real world moves much more quickly than litigation can,” Dafny says.

Related reading

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Member of the Department of Strategy from 2002 to 2016

About the Writer
Jessica Love is the staff science writer and editor at Kellogg Insight. Sachin Waikar is a freelance writer based in Evanston, Illinois.
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