We didn’t intend to write a series on the symposium that Insurance Thought Leadership hosted at Google last week for C-suite executives of major companies and for regulators, but I want to build on the wonderful post yesterday by Iowa Insurance Commissioner Nick Gerhart, about the insights he picked up there. For me, the symposium underscored a crucial point about the pace of innovation — how it can be faster than we expect at times but can also be slower.
And it’s crucial to get the timing right.
The faster-than-expected part comes from a partner at one of the major Silicon Valley venture capital firms, which we visited as part of the symposium. All these firms track where entrepreneurs are seeing possibilities and where investments are happening, and the partner said that in all of 2014 the firm had been visited by exactly zero people hoping to innovate in insurance. Yet, just in the fourth quarter of 2015, the firm met with 60 companies looking to innovate in insurance.
Even as innovation has surged in fintech, in general, investment in insurtech start-ups has been minimal, about 1% of the total for fintech. But that may now be changing. Start-ups may accelerate the disruption in insurance.
You’ve been warned.
The slower-than-expected (at least for me) part comes from a consensus about driverless cars at the symposium. The group discussions at all five tables reached almost identical conclusions: that fully driverless cars will be feasible technologically in roughly four years but that it will be 10 before they are a major presence on the road.
In Silicon Valley-speak, saying something is 10 years out means it verges on science fiction. After all, 10 years at a pace set by Moore’s Law means that you have some 30 times as much computing power available to you at no increase in cost — if you need that much more power to make something happen, it’s hard to know for sure that it works 10 years ahead of time.
But the concerns of the insurance C-suiters and the regulators were more prosaic. They felt that anyone who might be left behind because of driverless technology would kick up a fuss and that state governments, likely led by the legislatures, could intervene on behalf of constituents to slow the transition.
Perhaps insurance agents would fear the shift of auto insurance from a personal responsibility to a corporate one, shouldered by the manufacturers of the driverless cars or by operators of fleets of the cars — if no person is involved in driving, how can an agent sell personal lines insurance?
Maybe car dealers, already fighting a rear guard action to prevent direct sales by manufacturers to consumers, would fear further loss of their intermediary role — why would a fleet operator need a dealer to purchase of tens of thousands of cars?
Basically, think of anyone who might lose business because of driverless cars and the promised reduction in accidents — parking garages, emergency rooms, whatever — and you can see an obstacle. Not everyone will be explicit about their complaints. It’s hard for an operator of prisons or funeral homes to demand more business. But our discussion groups were sure that opposition would surface in lots of ways and that politicians, always running for reelection, would lend support.
In fact, some technical concerns about driverless cars have surfaced in recent months. It turns out that Google cars have more accidents than human drivers do, albeit only minor accidents thus far and, most importantly, not because of any fault by Google — careless people seem to bump into Google cars a lot at stoplights. Google also acknowledges that the cars would have caused at least some accidents if not for intervention by the highly trained humans sitting in the driver’s seat. So, the technology still has a ways to go.
For me, then, the fundamental question from our symposium is: How do you position yourself for a technology that may be wildly important, yet whose timing is uncertain?
–A line that carries considerable currency in Silicon Valley is: “Never confuse a clear view with a short distance.” Even if you’re sure that something will happen as part of the transition to autonomous vehicles, keep in mind the issue of timing.
–Then think big, start small and learn fast — a dictum that just happens to come from another book Chunka and I wrote, The New Killer Apps: How Large Companies Can Out-Innovate Start-Ups. That means you get in the game now, with as big a vision as you can conjure up for yourself or your company. Then you start experimenting to see what works and what doesn’t — while spending extremely little money. You make sure you can kill the experiments as soon as you gather the needed information — no pilot projects allowed, at least not in the early days, and certainly no grand plans to go to market. And you keep iterating until both you and the market are ready. Then you start cashing checks.
Actually, one more thought: Consider coming to the Global Insurance Symposium that Nick and the fine folks in Des Moines (my dad’s hometown) are putting on in late April. Nick is as forward-thinking a regulator as I’ve met, and there will be lots of people there who can help you on your journey, whether that involves driverless cars or something else entirely. I’ll be there….
A big decline in both auto accident and severe injury frequency has not produced a corresponding decline in loss costs. The slack has been taken up by inflated soft tissue injury claims fueled by hospital cost shift. Financially savvy hospital administrators and new software that “enhances” billing techniques have overcome claim deterrents so effectively that the industry seems unaware. There is an answer, but the industry may be satisfied with the status quo for now.
A 2008 report by the Insurance Research Council (IRC) provides empirical evidence that since 2000, a significant decrease in auto claim frequency has been mysteriously offset by an equally significant rise in severity, leaving loss costs essentially unchanged. Of particular note, the Insurance Research Council report points to a study by the National Safety Institute showing that improved automobile safety engineering has been lowering the frequency of serious injuries and deaths. This makes the rise in bodily injury and personal injury protection claim severity particularly vexing.
The graph below is taken from the Insurance Research Council report and it depicts the described trends:
This paper is the result of research that was aimed at discerning the root causes of the three simultaneous trends and whether their relationships are coincidental or causal.
In summary, the findings were as follows:
The decline in claim frequency was (is) primarily causally related to lower per-capita driving, which in turn is causally related to the combination of a significant rise in gasoline prices coupled with rising unemployment over the same period.
The rise in property damage severity is largely causally related to an increase in vehicle repair and replacement costs that is in turn driven by the efforts to make vehicles safer, such as airbags.
The rise in bodily injury and personal injury protection severity is the result of a significant shift of the total cost of national health cost burden from the government and private health insurers to the Property & Casualty insurance industry.
The Root Cause Of Medical Cost Shifting
The decline in claim frequency and the rise in property damage severity were considered transparent enough not to warrant further elaboration in this article. This turned our focus to unraveling the seemingly mysterious rise in bodily injury and personal injury protection severity, especially in light of the decline in the rate of severe injuries that can be causally related to the property damage severity rise.
Our findings in this regard are a confluence of causally related phenomena as follows:
The government has been tightening payment controls and cutting reimbursement rates for medical providers under programs like Medicare and Medicaid.
Private health coverage payments to providers have declined as fewer employers provide coverage; for those who do, the deductibles and co-payments have grown considerably.
Hospitals and other significant medical entities have responded by appointing financially savvy administrators and implementing electronic medical record systems that have morphed from being efficiently focused to being revenue enhancement driven.
These savvy administrators and their new software programs are defeating the government and private software tools designed to vet electronic billing submissions. They accomplish this via “diagnostic upcoding,” a means of reporting an injury or illness as being more severe than in actuality.
Though these tactics are aimed primarily at the government and private health plans, they have worked equally well at overcoming Property & Casualty company claim deterrents, driving up the cost of what were once considered small soft-tissue personal injury protection and bodily injury claims.
While the tactics are effective against the government and private health insurers, those entities have mitigated their effects by lowering medical procedure reimbursement rates. Because the Property & Casualty industry lacks the means to do the same, it is absorbing an ever increasing share of total national health care costs, a phenomenon referred to as “cost shifting.”
Understanding Diagnostic Upcoding
The rise in bodily injury and personal injury protection severity is the manifestation of the growing cost shift from hospitals and other medical providers that are passing a progressively greater percentage of the total cost of national medical costs to the Property & Casualty industry.
In many ways, this shift is an unintended consequence of a financial stalemate between the government and private health insurers on one side and hospitals and other medical providers on the other. Hospitals and other providers turned increasingly to upcoding to offset the steadily decreasing reimbursements from the government and private health. But the Property & Casualty industry, which accounts for only about 10% of hospital utilization, was subjected to those same programmed upcoding schemes, seemingly without awareness, or at least without taking mitigating actions.
The following are direct quotes from the IRC (emphasis added):
“We use the following indicators and more: extent of disability, rate of hospitalization, days unable to perform duties. And we see that injuries are not becoming more serious nor have they changed much. But, it is still evident that something is driving the rise in severity. Since injuries do not appear more serious, medical usage and treatment costs are driving the increase in medical care expenses.“
“Low reimbursements from public health insurance programs, such as Medicare and Medicaid, have prompted hospitals to shift costs to automobile insurance companies — raising auto injury claim costs. Cost shifting in 2007 resulted in $1.2 billion in excess hospital charges. The full impact of hospital cost shifting, including that occurring in other insurance coverage, is likely much greater.“
Medical Coding 101
The medical profession has a well-established regimen of coding to describe both the nature of injuries and illnesses as well as the therapies utilized to treat them. The coding classification that defines the nature of pathology, the diagnosis, is referred to as “ICD-9 codes.” For therapies, the codes are referred to as “CPT and HCPCS codes.”
ICD-9 codes form the basis for CPT and HCPCS codes because the diagnosis precedes the selection and introduction of the appropriate therapy or therapies. So if in the same instance the ICD-9 code indicated a bruised hand but the CPT/HCPCS code reflected a coronary bypass, software programs employed by the government, private health care providers and the Property & Casualty industry can detect the mismatch and prevent the payment.
The government and private health insurers tie their reimbursement rates to the CPT/HCPCS codes. When the therapy code is correct for a particular diagnostic code, the software can discern the appropriate payment amount based on a programmed fee schedule. With such a system, it is easy for the government to institute an across the board fee reduction of 10% or to apply the reduction in a variable way and accurately estimate its aggregate impact.
The Property & Casualty insurance industry is able to follow government fee schedules in some instances (mainly Workers' Compensation) but in most states relies on “usual and customary” charges for auto, the aggregate average of what medical providers bill for each CPT/HCPCS code. There has been significant controversy and litigation related to the sources of the “usual and customary” data.
Overall the government, private health care and the Property & Casualty industry all use software programs to vet medical billing that start by insuring that the CPT/HCPCS coding for each therapy match the ICD-9 diagnostic code and then, checking the amount charged for each therapy against a fee schedule or, for the Property & Casualty industry, the “usual and customary” charge.
From “Patient Centered” to “Profit Center”
The belief that doctors would not falsely inflate a diagnosis, outside of outright fraud, was common at the outset of the electronic vetting system, and with good reason. But the confluence of government fee reductions and the decline of private health care created significant financial duress for hospitals and providers. Something had to give, and turning away the uninsured was not an option, although more and more providers are opting out of Medicare and Medicaid.
That answer came in the form of savvy hospital administrators and slick new software that added efficiency but even more so, drove up revenues. It did so by making certain that the highest legitimate diagnostic code was being selected. It also provided upfront audits to spot instances such as a therapy that overshot the initial diagnosis so that “coding corrections” could be made before the billing process was invoked. Increasingly, such corrective activity was administered by support personnel who lacked medical knowledge and sought only to satisfy the systems requirements.
The Impact Of Diagnostic Upcoding
The medical coding system is logical and it lends itself well to automation, which vastly increases efficiency for everyone. But its cornerstone is the ICD-9 diagnostic code and while expert systems can aid a doctor in making a diagnosis, the ultimate decision (at least for now) still rests with the doctor's judgment.
With enough information, a system could flag potential upcoding in certain instances. Gradually such a system will evolve and become increasingly effective, but for now, expert human intervention is required to decide whether the reported ICD-9 diagnostic code is reasonable in light of numerous data points derived from a forensic examination of the mechanism of injury.
This chart reflects a huge shift in ICD-9 supported CPT coding from 2002 to 2008:
Most Doctors Are Victims Not Perpetrators
It should be noted that hospitals and other providers were likely losing legitimate revenues by not paying sufficient attention to billing practices in the past. Therefore, some of the change in the above chart is likely justified. But like a pendulum that may have swung too far in one direction in the past, there is ample evidence of over-compensation on its way back.
This is not meant to suggest that all hospitals and providers, or even the majority, cross the line, but a systemic change has occurred and one manifestation is the alarmingly frequent allegations of billing related maleficence.
Examples Of Recent Articles From Hospital Industry Publications:
The Property & Casualty Industry Response
Had cost shifting not occurred in parallel with the significant decline in accident frequency, loss costs would have dropped and companies would have utilized the capital windfall to lower their prices and gain market share. That would have led to a significant decline in premiums accompanied by expense reductions significant enough to maintain underwriting and claim expense ratios.
Many of the financial incentives in the industry are determined as a percentage of premiums. Shrinking premiums produce shrinking companies, lower cash flow, weakening balance sheets and endangered financial ratings. None of those are desirable outcomes for carriers. Independent Agents and Brokers work on commission, a percentage of written premiums, so if they earn 15% on an $800 auto policy that without cost shifting may have shrunk to a $600 policy, they would have taken a 25% revenue cut.
There may be Nash equilibrium in play, with everyone being happy under the current circumstances. But as the Insurance Research Council points out, if accident frequency returned, first loss costs, and then premiums would spike. The longer and larger the cost shift is allowed to grow, the greater the potential market disruption becomes when the day of reckoning arrives. But for anyone who is not betting on a near term economic revival, and/or the significantly lowered gasoline prices that could fuel increased frequency, this may not be a burning issue.
Is Anybody Hurt By Cost Shift?
Auto insurance consumers are financing the cost shift through artificially high insurance premiums. To the extent that some of those same individuals consume more medical services than are paid for, there seems to be fairness. But for those who shoulder the full burden (or more) of their medical expenditures, “the affluent,” this resembles income redistribution.
What Does This Portend For Claims?
As things stand, most claim department leaders either don't realize what has happened, or believe that their particular policies and practices have prevented this for their company. A benchmark comparison of company loss costs against like competitors would force one to choose to either disbelieve the phenomenon entirely or accept that they are as vulnerable as everyone else.
The standard industry claim deterrents for medical cost containment are two software programs, medical bill repricing and automated bodily injury evaluation. Both are highly susceptible to diagnostic upcoding, but few claim leaders understand the algorithms that drive these systems and imbue them with capabilities that they don't have. Those claim people far enough into the details to know better are not empowered to act.Efforts to inform claim leadership typically meet with stiff resistance, because they genuinely believe that they “have it covered.” And even if they knew they did not, why would they want to have such significant leakage called out when loss ratios are stable, and nobody is pointing a finger in their direction? But acknowledging and addressing the issue would create more work on top of what already feels insurmountable.
This article was written for the purpose of calling out the significance of cost shifting to the industry. I do not believe that the industry is purposely allowing the cost shift, but when a bad situation creates comfort, a sense of urgency is elusive. The more entrenched the problem becomes, the more difficult the exit strategy.
The Property & Casualty industry will continue to represent a relatively small percent of hospital utilization, but it is continuing to pay a growing disproportionate share of the total cost. Even if driving never perks up again, as the cost shift grows a tipping point nears where premiums become too high.
Finally, there has been too much focus on automating claims over the past twenty years or more and far too little focus on basic claim handling. This is one example of numerous significant pockets of leakage that arose as a result.