Senate Judiciary Subcommittee Issues Testimony From University of California Hastings

WASHINGTON, June 12 -- The Senate Judiciary subcommittee on Antitrust, Competition Policy and Consumer Rights issued the following testimony by Thomas L. Greaney, visiting professor of law at the University of California Hastings College of Law, at a hearing entitled "Your Doctor/Pharmacist/Insurer Will See You Now: Competitive Implications of Vertical Consolidation in the Healthcare Industry":

"Thank you for the opportunity to appear before you today. It is truly an honor and pleasure to share my views on this important topic. As you can see from my bio, I've spent most of my career toiling in the vineyards of healthcare antitrust.

"By way of introduction, I am currently Visiting Professor of Law at the University of California Hastings College of Law and Distinguished Senior Fellow with the UCSF/UC Hastings Consortium on Law, Science and Health Policy. I am also the Chester A. Myers Professor Emeritus at Saint Louis University School of Law where I directed that school's Center for Health Law Studies. I have devoted most of my 30-year academic career to studying issues related to competition and regulation in the health care sector, writing numerous articles on the subject and co-authoring the leading casebook in health law. I have recently co-authored with Professor Barak Richman of Duke a two-part white paper for the American Antirust Institute analyzing consolidation in the delivery and payment of health care services. Before joining academia, I served as Assistant Chief in the Antitrust Division of the United States Department of Justice, litigating and supervising cases involving health care. My professional affiliations include membership in the American Health Lawyers Associations and I serve on the Advisory Board of the American Antitrust Institute. My testimony today and before the California Department of Insurance concerning the CVS/Aetna merger, and my work on all matters involving policy and law before public bodies is done on a strictly pro-bono basis: I receive no compensation from any organization for this work.

Summary of Testimony

"As this subcommittee knows well, antitrust law is under scrutiny today. A number of academic and policy experts have suggested that less-than-robust government enforcement together with constricting and antiquated legal precedents have turned us into a nation of oligopolies. And it is especially appropriate that this subcommittee take a close look at the consolidation trends in health care because mergers have contributed significantly to the high cost of care in this country.

"In addition to this statement, I am attaching an articles that contains my analysis of vertical merger activity in various health care sectors. Let me quickly summarize four key takeaways: - Our health care system depends on competitively-structured markets to provide high quality and innovation at affordable prices.

* Despite the commendable success of government antitrust enforcers in challenging mergers to near-monopoly in provider and insurance markets, they have maintained a laissez-faire approach to vertical mergers that threaten competition. Foregoing challenges to acquisitions of physician practices by dominant hospitals and to consolidations of PBMs, health insurers, and pharmacies has given an "all clear" signal on health care vertical mergers.

* While most vertical mergers do not impair competition, it should not be assumed that all are benign, that significant efficiencies will always be realized, or that cost savings will be passed along to consumers.

* Antitrust enforcers, health care regulators, and state and federal legislatures should take action with regard to vertical mergers in health care, e.g. evaluate and explain conditions conducive to lessening competition, bring cases that establish workable judicial precedents, and adjust regulatory incentives that artificially spur consolidation.

The Importance of Stopping Anticompetitive Vertical Mergers in Health Care

"The article I submitted begins with a quote from George Orwell's novel Animal Farm in which one of the animals, Snowball, describes his world view: "Four legs good, two legs bad."

"And I compare that to the Chicago School's view of mergers which is "Vertical Good, Horizontal (sometimes) bad." That pretty much describes how government enforcers, and to a degree, the courts have treated vertical mergers. It also explains why case law is sparse and in fact out-of-date in this area.

"However, contemporary economic analyses have sharply questioned the basis for a laissez-faire approach to vertical combinations. They have debunked many of the underlying assumptions that have misled the development of the law. And contemporary scholarship explains the circumstances giving rise to consumer harm. For example, by combining needed inputs or complements with distribution, a vertical merger can enhance incentives for the merged firm to exclude its downstream or upstream rivals, either by raising their costs or cutting off their access to critical resources. Professor Steven Salop's extensive body of work provides a sound economic model of foreclosure risks and maps the potential legal framework for applying the socalled "raising rivals' cost" principles to vertical mergers.

"Now the FTC, Department of Justice and State Attorneys general have had commendable success challenging horizontal mergers of hospitals, physicians and insurers. But at the same time, the nation has learned the hard way that overlooking hospital consolidation in health care is costly. Over a seven-year period during the 1990s no horizontal hospital mergers were challenged. This implicit "green light" accelerated a horizontal merger wave that gave rise to extensive local hospital market concentration which in turn has resulted in higher insurance premiums for consumers ever since.

"A similar litigation vacuum may be occurring with respect to vertical mergers. Economic evidence suggests that antitrust enforcers' benign neglect of vertical mergers between hospitals and physicians has resulted in excessive pricing of physician services. A significant body of research demonstrates that when hospitals in concentrated markets acquire physician practices, they raise the prices their employed physicians charge, exercising their market power and taking advantage of regulations that improperly reward consolidation.

"Not only have commercial insurers paid more as a result of vertical mergers, but so has Medicare: it pays both a physician fee and hospital facility fee when a physician becomes part of a hospital outpatient department whereas it would pay only a physician fee if the service had been provided in an outpatient physician office. And let's not forget the effect all this has on consumers who face high co-pays and deductibles: not only unaffordable prices, but for many foregoing needed health care.

CVS/Aetna: The Emerging Middleman Oligopoly

"As the title of this hearing suggests, the country is now entering a phase of consolidation of powerful middlemen. The merger of CVS and Aetna combines CVS, one of the nation's two largest PBMs and the largest pharmacy chain with dominant positions in local markets with Aetna, the nation's third largest commercial insurer. At the end of the day, illustrating the appreciable danger of this merger, we will see three firms: CVS/Aetna; United/Optum and Cigna/Express Scripts controlling the great majority of the nation's medical and pharmaceutical spend. Economic testimony presented last week at the Tunney Act proceeding before Judge Leon in the District Court for the District of Columbia outlined at least four highly plausible grounds for concern about the increasing bargaining leverage CVS/Aetna may be able to exercise:

* The risk that as a "must have" pharmacy in many local markets it could cut off or raise rival insurers' or PDP plans' costs

* As a "must have" PBM services supplier or part of a tight oligopoly, the risk that it can likewise cut off or raise rival insurer or PDP plans' costs

* That there will be significant "customer foreclosure" in local markets, as rivals will lose access to Aetna beneficiaries

* That there will be enhanced incentives for the three dominant, vertically consolidated PBM/insurance entities to act in lock-step fashion on price and administrative arrangements

"Former FDA Commissioner Gottlieb summarized the middleman risks well:

"The top three PBMs control more than two-thirds of the market; the top three wholesalers more than 80%; and the top five pharmacies more than 50%. Market concentration may prevent optimal competition. And so the saving may not always be passed along to employers or consumers.

"Too often, we see situations where consolidated firms -- the PBMs, the distributors, and the drug stores -- team up with payors. They use their individual market power to effectively split some of the monopoly rents with large manufacturers and other intermediaries rather than passing on the saving garnered from competition to patients and employers.

Efficiencies in Vertical Mergers: Pervasive but Over-Hyped

"The notion that vertical mergers are almost always procompetitive owing to their unique propensity to improve coordination and achieve other cost savings underlies the disinclination to closely examine most mergers. Professor Salop and others have debunked the economic underpinnings of this belief, cataloguing the empirical and theoretical learning that indicates that leads to overestimating benefits and ignoring the fact that many of claimed benefits are not likely to be achieved or merger specific.

"While there are unquestionably important benefits that flow from vertical mergers, it is a mistake to assume they always occur and to shape policy and enforcement priorities on such assumptions. First, as economist Martin Gaynor has cautioned, "consolidation is not coordination." That a large number of mergers fall short on promised benefits--one study shows that 83% fail to increase shareholder returns--should not be a surprise. Culture clashes, incompatible business methods, lack of synergistic capability and planning, absence of good management, and inadequate pre-merger information are among the many reason that hoped-for benefits are not realized. Studies of the outcomes of health care consolidation by Professor Lawton Burns and others indicate that savings accruing from vertical integration often prove to be ephemeral.

"Second, benefits attributable to mergers are sometimes also achievable by contracting.

"Joint ventures among vertically situated market participants are common in health care and because they are not permanent and pose less competitive risk. Accordingly, antitrust merger law appropriately insists that claimed efficiencies be "merger-specific." That standard should apply to investigations of vertical mergers.

Concentration Begets Anticompetitive Conduct

"Experience demonstrates that concentration coupled with entry barriers and some of the unique aspects of health care markets offer opportunities and incentives to engage in anticompetitive conduct. The history of antitrust law in the health care sector is littered with examples of hospitals, physician organizations, and insurers that have taken advantage of their dominant market positions, barriers to entry, and the absence of effective regulatory oversight to disadvantage rivals and impair competition. For example, in the last several years antitrust cases have been brought against: a dominant insurer that lessened competition by requiring hospitals to agree to most favored nations clauses; a hospital with market power insisting that payors refrain from using tiering arrangements discouraged competitive contracting; a large hospital system restraining competition by "all or nothing" contracting for its hospitals, restricting sharing of cost information and other practices; and patented drug manufacturers conspiring with generic firms to delay competitive entry.

"At the same time, antitrust doctrine is tolerant of extant market power and rarely sanctions dominant firms, especially in cases involving unilateral refusals to deal with rivals. It only condemns monopolists that inappropriately obtain or maintain market power, and even in those cases plaintiffs may settle for conduct commitments rather than divestiture of assets. Moreover, cases alleging anticompetitive exclusion have faced high doctrinal hurdles. Given the law's tolerance of extant market power and the propensity of dominant firms to entrench or extend their reach, merger law's prophylactic remedies are especially important. As Professor Herbert Hovenkamp has argued, it is most appropriate to apply the incipiency standard in certain cases-- such as vertical merger challenges-- where the consolidation is likely to lead to conduct that is both anticompetitive but also is difficult or impossible for antitrust law to reach once the merger has occurred.

Concentration Begets Regulation

"Concentration also begets regulation. State attorneys general have allowed anticompetitive mergers to go forward on the condition that the merged hospital agree to price caps and other regulatory restrictions. A number of states have adopted "Certificate of Public Advantage laws" that also give approval to mergers and other consolidations subject to a public agency regulating their rates and other commitments. Under antitrust law's state action defense, these "COPA" laws immunize mergers from federal antitrust challenge and the FTC has had to abandon challenges to hospital mergers-to-monopoly based on this doctrine. This unfortunate state of the law has become an open invitation for hospitals to lobby for regulatory approval of monopoly mergers. Indeed, I recently read an article in a health lawyers' publication entitled COPAs: A Way Around Antitrust Enforcement to Get Your Hospital Merger Through?

Fixes that Fail: Behavioral Remedies in Vertical Merger Cases

"The quintessential remedy in merger cases is structural relief: enjoining a merger or ordering divestiture of assets that raise competitive concerns. However in the over 20 vertical mergers challenged and settled by consent decree by the Department of Justice and FTC, the remedy has been "behavioral." These settlements permit mergers to go forward but require the parties to comply with a variety of restrictions such as adopting information firewalls, abiding by non-discrimination requirements, submitting to arbitration, and many others. Economic analyses by Professor John Kwoka and Diana Moss have pointed out that effective remedies are difficult to develop and enforce. Assistant Attorney General Delrahim apparently agrees and has expressed a strong preference for structural remedies. While this is sound policy, a concern may be raised--perhaps evidenced by the Division's failure to challenge the vertical aspects of the CVS/Aetna merger--that forbearance on behavioral remedies coupled with reluctance to aggressively pursue vertical mergers can result in even greater laxity in enforcement.

Going Forward

"Guidance concerning vertical merger law is sorely needed. While AAG Delrahim's announcement that DoJ is working on developing new non-horizontal merger guidelines is encouraging, it takes considerable time for guidelines or policy statements to diffuse and gain acceptance by courts and attorneys. The merger process is opaque: outsiders can gain only limited information about settled cases from complaints or competitive impact statements.

"Hence, mandated fuller closing statements, and perhaps requiring post-merger reviews of outcomes should be considered to increase the flow of information.

"But more than information is needed. Litigation in appropriate cases, especially in important markets like health care where vertical integration is spreading rapidly, would speed adoption of contemporary economic analyses. Relatedly, undertaking retrospective analyses of consummated mergers could supply useful information for courts, enforcers, and market participants to guide future actions. Notably FTC Chairman Muris' initiative in the mid 2000's to undertake retrospective studies of horizontal mergers played an important role by spurring renewed litigation that ultimately righted the ship and corrected erroneous precedents.

"Finally there is the view that merger law has strayed far from the original intent of the law. The legislative history suggests that in strengthening the Clayton Act in 1950 Congress intended that courts and enforcers take seriously the "reasonable probability" and "incipiency" standards and apply them to vertical as well as horizontal mergers. Summarizing the drift in merger law from those standards to one that requires almost certain evidence of price effects, Professor Tim Wu recommends that "an overhaul of merger law is a priority." It may well be the case that only a change in the statutory language of the Clayton Act can promptly undo years of erosion of the law's core objectives.

"Although beyond the scope of this hearing, in closing I would like to mention that a broad range of regulatory and statutory measures might be adopted to improve competition in health care markets. Proposed agendas authored by Greaney & Richman, Martin Gaynor, Avik Roy, and Emily Gee and Nathan Gurwitz are cited in the appendix to this statement. These papers provide a useful roadmap through the thicket of regulations, policies, and practices that restrict effective competition in health care.

"Thank you for your attention and I look forward to your questions."

[TheHill]