In a recent blog post, three Federal Trade Commission (FTC) economists splashed some cold water on advocates of “reference pricing” that seem to imply that such pricing “will increase competition between providers.” In the FTC economists’ view, “reference pricing does not and cannot create provider competition[,] because [it] is simply a tool health insurers and employers can use to harness whatever provider competition may already exist.” So, what is “reference pricing,” how does it work, and why are these three FTC economists throwing the cold water?

“Reference pricing” is “a type of health benefit design that gives consumers seeking healthcare services an incentive to shop around for the best deal.” Here’s how it works. A health insurer sets a “reference price” for an elective procedure (a knee replacement is a common example) that represents the most the insurer will pay for the procedure no matter the provider chosen by the patient. If the patient chooses a provider that has negotiated a price with the insurer that is equal to or less than the reference price, the patient pays nothing. If the patient instead selects a provider that charges more than the reference price, the insurer pays that price and the patient is left to pay the difference. As the FTC economists put it, reference pricing “can be a powerful tool for health insurers and employers to promote higher quality at reduced prices by giving patients an incentive to ‘vote with their fee,’ and giving providers an incentive to improve the value of their services.”

In their view, they see “little difference between the price reduction and quality improvement incentives associated with narrow network health plans compared with reference pricing health plans.” The difference between the two, according to them, is that in a narrow network plan “providers compete in price and quality to be included in the network,” while in the reference pricing plan “providers compete directly for the patients.” For either to work, they say “meaningful provider competition [must] already exist.”

Amidst the noise, they rightly point out that “some patients may prefer to delegate the responsibility for selecting low-price, high-quality providers to their insurance company instead of shouldering the burden of evaluating the relative price and quality of various providers.” One might expect that an insurance company might just be better positioned to sort through the relative price/quality tradeoffs across providers. Now that the administration has okayed the use of reference pricing, time will tell how all of this actually shakes out.