The Medical Arms Race Still Present In Today ’ s Managed Care Environment ? ∗

Prior to the emergence of managed care, the popular consensus and the majority of research supported the idea that hospitals competed for doctor affiliations and, through them, for patients by offering specialized, high-tech services. This phenomenon was known as the Medical Arms Race (MAR) and was facilitated by the reimbursement practices of health insurance that were common at the time. With the introduction of managed care and the Medicare Prospective Payment System, however, hospitals were no longer able simply to pass on inflated costs to their patients and began to concentrate on reducing costs. This paper examines whether the MAR exists in the current managed care environment. I investigate empirically whether the level of competition in the market influences hospitals in their decision concerning high-tech service provision using a sample of 15 high-tech services across 57 Californian counties. We find that hospitals do take into consideration the level of competition in their markets when deciding whether or not to provide high-tech services, indicating that managed care may not yet have extinguished the MAR. ∗ I would like to thank Professor Lawrence J. White (Stern School of Business, New York University) for his consistent and insightful guidance in writing this paper. I would also like to thank Professors William Greene, Richard Sylla and Richard Brief for their thoughtful comments and suggestions. This paper is extracted from my Ph.D. dissertation, “Essays in the Economic Behavior of Hospitals”, at the Stern School of Business, New York University.