Marshfield Clinic, Physician Networks,

Marshfield Clinic, Physician Networks,and the Exercise of Monopoly PowerWarren Greenberg

Objective. Antitrust enforcement can improve the performance of large, verticallyintegrated physician-hospital organizations (PHOs). Objective: To examine the recentcourt decisions in the Blue Cross and Blue Shield United of Wisconsin v. Marshfield Clinicantitrust case to understand better the benefits and costs of vertical integration inhealthcare.Summary and Conclusions. Vertical integration in the Marshfield Clinic may havehad the benefits of reducing transactions and uncertainty costs while improving thecoordination between ambulatory and inpatient visits, but at the cost of Marsh-field Clinic's monopolizing of physician services and foreclosing of HMO entry innorthwest Wisconsin. The denial of hospital staff privileges to non-Marshfield Clinicphysicians combined with certificate-of-need regulations impeded physician entry andsolidified Marshfield Clinic's monopoly position. Enforcement efforts of recent an-titrust guidelines by the U.S. Department ofJustice and the Federal Trade Commissionwill need to address carefully the benefits and costs of vertically integrated systems.

Key Words. Vertical integration, monopoly power, transactions costs, physician-hospital organizations (PHOs), antitrust, multiprovider networks, barriers-to-entry,market foreclosure

In one of the largest antitrust cases brought in the healthcare industry, BlueCross and Blue Shield United of Wisconsin and CompCare Health Services InsuranceCorporation v. Marshfield Clinic and Security Health Plan of Wisconsin, Inc. (883F. Supp.1247 (W.D. Wisc.1995), the U.S. District Court ruled against theMarshfield Clinic, the fifth largest group ofphysicians in the United States anda large, vertically integrated, physician-hospital-health plan organization, formonopolizing physician services and foreclosing HMO entry in northwestWisconsin.I Although the District Court's opinion was mostly overturned bythe U.S. Court of Appeals, the dominance of Marshfield Clinic physiciansin certain geographic areas and in certain specialties, and the benefits andcosts of the vertically integrated market structure of the Marshfield Clinic,were not fully addressed by the courts. Furthermore, much of the previous

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analysis of Marshfield has focused on the validity of the HMO market def-inition in the foreclosure aspect of the case (see Glassman 1996). Unfortu-nately, that focus obscures the two more basic issues raised by the Marshfieldlitigation-consolidation and barriers to entry in the market for physicianservices-which are likely to have much greater and more direct implicationsfor consumer welfare.

Using Marshfield Clinic as an example, this article attempts to showareas of physician concentration and barriers-to-entry, as well as physician-hospital connections and vertical integration, that need to be examined byprivate firms and public officials in order to assess the competitive conse-quences of these combinations. After a brief review of the Sherman AntitrustAct, under which this case was brought, this article provides an economicanalysis of Marshfield Clinic and its potential to exercise monopoly power athorizontal and vertical levels. It will also suggest alternative explanations forMarshfield Clinic's behavior. Within this framework, the article will criticallyexplore the opinion of the U.S. Court of Appeals in this case, suggesting howcomplex many of the concepts in the industrial organization of healthcarecan be. Second, it will examine some of the costs and benefits of horizontaland vertically integrated systems. Finally, the article suggests the importanceof control of hospital staff privileges and the presence of other barriers-to-entry, as well as the benefits and costs of multiprovider networks that must beconsidered in examining the effect on competition of horizontal and verticalphysician organizations.

THE SHERMAN ACT

The aim of the nation's antitrust laws is to increase competition withinindustries. The first and most important antitrust law is the Sherman Act of1890. Both sections of the Act are relevant. Section 1 states that conspiraciesin restraint of trade are illegal. Conspiracies may take the form, for example,of fixing prices or of dividing markets with competitors. Section 2 prohibitsattempts to monopolize by, for example, foreclosing the entry of potentialcompetitors or engaging in anticompetitive conduct.

Address correspondence to Warren Greenberg, Ph.D., Professor of Health Economics, GeorgeWashington University, 600 21st Street N.W, Bldg. 1T, Washington, DC 20052. This article, sub-mitted to Health Services Research on February 18, 1997, was revised and accepted for publicationon March 16, 1998.

Physician Networks and Monopoly

BLUE CROSS AND BLUE SHIELD OFWISCONSIN V. MARSHFIELD, 883 F.SUPP.1247 (W.D. WISCONSIN, 1995)

In 1994, Blue Cross and Blue Shield of Wisconsin, a private for-profit firm,and its HMO, CompCare, brought suit against the asserted monopoly powerof the Marshfield Clinic in allocating markets, in fixing prices, in blockinghealth maintenance organization entry, and in monopolizing the physicianservices market, for allegedly violating Section One and Section Two ofthe Sherman Act. (Although the U.S. Department of Justice (DOJ) andthe Federal Trade Commission (FTC) have primary federal jurisdiction inantitrust matters, currently more than 90 percent of all antitrust cases havebeen brought by nongovernmental private plaintiffs who believe that theyhave been harmed by anticompetitive behavior) (Greenberg 1995-1996).A decision favorable to Blue Cross and Blue Shield of Wisconsin wouldtheoretically reduce the monopoly power of the Marshfield Clinic, makeHMO entry easier, and lower prices of physician services for all third par-ties and managed care firms. In addition to nearly $50 million in dam-ages, Blue Cross and Blue Shield also asked the Courts for injunctive reliefsuch as divestiture of Security Health Plan, Marshfield Clinic's HMO; forMarshfield Clinic to negotiate in good faith with CompCare; and for thetermination of Marshfield Clinic's anticompetitive conduct [Blue Cross andBlue Shield of Wisconsin, Trial BriefRegarding Availability ofInjunctive Relief,November 30, 1994].

In December 1994, the U.S. District Court affirmed the jury decisionthat the Marshfield Clinic had violated Sections One and Two of the ShermanAct by (1) monopolizing the market for physician services, refusing to dealwith the Blue Cross and Blue Shield HMO, CompCare; and by (2) restrainingtrade by segmenting the market with North Central Health Protection Plan, anearby HMO. Total damages assessed to the Marshfield Clinic for its refusalto deal with CompCare were calculated to be $5.1 million. Damages ofhigherMarshfield Clinic physician fees due to high concentration and barriers-to-entry were $595,000. Since violations of the Sherman Act are subject to trebledamages, total damages of $17.1 million were ordered to be paid by theMarshfield Clinic to Blue Cross and Blue Shield of Wisconsin. Richard A.Posner, chiefjudge of the U.S. Court ofAppeals of the 7th Circuit, in October1995, however, reversed a large portion of the District Court decision, leavingintact the Section One violation that Security and North Central divided theHMO market between them.

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The Marshfield Clinic as a Horizontal andVertically Integrated Network

As both a horizontal and vertically integrated firm, the Marshfield Clinicincludes both 300 specialist physicians located mostly in Marshfield, Wiscon-sin, a small rural community of approximately 20,000 people, and approx-imately 100 primary care physicians and pediatricians located in 23 clinicsscattered throughout northwest Wisconsin.2 The Marshfield Clinic had annualrevenues greater than $200 million in the early 1990s. Marshfield Clinicphysicians are paid on a salary basis. Primary care and pediatric physiciansare expected to refer to specialists in Marshfield. As a vertically integrated firmthe Marshfield Clinic and its physicians also own Security Health Plan (SHP),an individual practice association (IPA) health maintenance organizationcovering 70,000 enrollees. The Security Health Plan utilizes Marshfield Clinicphysicians and holds contracts with 300 independent physician affiliates, paidon a capitated basis, who treat patients associated with Security Health Plan.Physician affiliates are required by contract to refer all of their SHP patients toMarshfield for specialized care. In addition, the Marshfield Clinic is affiliatedwith, and located at the site of the 524-bed St.Joseph's Hospital, the largest ter-tiary care hospital in the northwest region of Wisconsin. StJoseph's Hospitalperforms a broad range of sophisticated medical services including neonatalintensive care services, pediatric cardiac surgery, and neurosurgery. AlthoughSt. Joseph's is a nonprofit hospital owned and operated by the Sisters of theSorrowful Mother and not owned by Marshfield Clinic, physicians employedor affiliated with the Marshfield Clinic are the only physicians who havebeen granted full staff privileges. Only Marshfield Clinic physicians compriseSt. Joseph's medical committees. These committees, among other responsi-bilities, approve or disapprove staff privileges at the Hospital. MarshfieldClinic specialty care, primary care, and pediatric physicians must also referall of their patients to the St.Joseph's Hospital.3 Thus, while legally separate,the Marshfield Clinic and St. Joseph's have a strong, mutually dependentrelationship. One can consider the final output of the Marshfield Clinic asphysician, hospital, or HMO services to patients, with physician or hospitalinputs linked together in a continuous intra-firm, seller-purchaser relationship.

Additional Hospitals in the Relevant Market

Physicians who are not members of the Marshfield Clinic can gain staffprivileges at three central and northern hospitals that were calculated to be inthe relevant market: Wausau Hospital in Wausau (46 miles from Marshfield,


258 beds); Luther Hospital in Eau Claire (80 miles from Marshfield, 208 beds);and Sacred Heart Hospital in Eau Claire (309 beds). (See map, Figure 1). Eachof these hospitals, however, is far less sophisticated in areas such as cardiac,cancer, and neonatology care. Thus, physicians in these specialties, who arenot employed or affiliated with Marshfield, would find it difficult to competewith the Marshfield Clinic.

Physicians in the Relevant Market

The Marshfield Clinic physicians may be divided into three components inorder to help define the product market. The first component consists ofprimary care physicians employed by Marshfield who practice medicine in

Figure 1: Marshfeld Clinic, Clinic Sites, and Hospitals in NorthwestWisconsin

Ashland *0

WISCONSIN Mercer_r ~~~~~ParkFalls A A iocu

( *~~~~~~~~~~PhillipsRice Lake A AA Ladysmith Rhinelander

Bruce

(, *~~~Cornell<Chippewa Falls Saley olby Wausau

Eau ClaireHGreenwoodA StratfordA AMoie

A Loyal * AHDurand Marshfield * Stephens Point

Wisconsin Rapids *

A Clinic Sites used in theanalysis

* Clinic Sites not used inthe analysis

H Hospital

Miles

0 50 100

Wausau Hospital is located in Wausau: Sacred Heart Hospital and Luther Hospital are located inEau Claire: St Joseph's Hospital is located in Marshfield.

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the 23 clinics. The second component consists of pediatric physicians whomay also practice in the 23 clinics. The cross-elasticity of demand betweenprimary care and pediatric services appears to be low enough to classifythem into two distinct markets. Cross-elasticity of demand may be definedhere as the percentage change in the quantity of services provided by primarycare physicians in response to a percentage change in fees by pediatricians.Although children might be taken to see primary care physicians (internistsor family physicians) when fees of pediatricians are increased, adults wouldnot see a pediatrician regardless of their fees relative to the fees of primarycare physicians. The third component is made up of the specialist physicianssuch as surgeons, oncologists, and cardiologists, who would appear to havea low cross-elasticity of demand with primary care and pediatric physicians.Moreover, specialist physicians practice within their own product marketsand do not compete with each other.

How might one measure any potential market power of each of thethree Marshfield Clinic physician groups? Following the traditional literatureof industrial organization economics, one may examine the market sharesof Marshfield Clinic physicians in defined relevant geographic areas sincethe potential of market power can be assessed only in particular geographicareas. Again, one ideally would like to use a cross-elasticity of demandmeasure to observe the extent that patients will travel to visit physicianswhen there are relative changes in physician fees. One might also want toobserve the cross-elasticity of supply of physicians when there are relativechanges in price. Data are usually not available, however, to compute relativechanges in quantity demanded and supplied as well as relative changes inprices. Approximations must be made using relative flows in and out ofa hypothetical market area (the Elzinga-Hogarty (E-H) test) (Elzinga andHogarty 1973) or an approximate area where individuals would appear totravel for physician care. The geographic markets are computed for primarycare and pediatric services by including the area within a 30-mile radius ofeach of the 23 clinics within the northwest region of the state. Given thepotential for stormy weather in northwest Wisconsin, it was believed thatmost people would not travel more than 30 miles for pediatric or primarycare unless there were large changes in relative price (see also Gamick et al.1987). If 25 percent or fewer of the people went outside of the 30-milearea for care, and 25 percent or fewer of the people who received care inthe 30-mile area were from outside the area, the 30-mile radius around theclinic would be considered the relevant geographic market. If the 30-mile testdid not pass this 25 percent mark, increments of ten miles were iteratively


added to the radius until the market delineation tests were satisfied usingE-H criteria. Of the 23 clinics of the Marshfield Clinic, 13 satellite clinics andtheir relevant geographic markets were identified. Ten of the 23 clinics wereexcluded from the analysis because they were specialty clinics, clinics thathad been recently closed, or clinics for which insufficient data were availablefor the small number of primary care and pediatric physicians (see map,Figure 1).

Primary Care Physician Services

Using the "number ofpatient events," or the number oftimes that patients sawphysicians during the year, for each of the three years examined, 1991-1993,the Marshfield Clinic market share for primary care services was greaterthan 60 percent in 9 of the 13 satellite clinics. For pediatric services, themarket shares of the Marshfield Clinic were greater than 60 percent in 8 of13 satellite clinics.

Specialty Care Physician Services

For specialty services, the geographic market includes the Marshfield Clinicas well as the Marshfield Clinic satellite clinics that act as referral points tothe main Marshfield Clinic specialty physicians at St. Joseph's Hospital. Itwas from these referral points in northwest Wisconsin that Marshfield Clinicand St. Joseph's Hospital would receive many of their patients. This is alsothe market to which the Marshfield Clinic refers in its promotional brochuresand other internal planning documents. Moreover, this northwest Wisconsingeographic market was able to satisfy the 25 percent test for specialty carephysician services because fewer than 25 percent of the individuals receivedspecialty care from outside the area and fewer than 25 percent of those whoreceived specialty care came from outside the region.

Specialty care physician product markets were defined in terms ofservices delivered in approximately 300 separate diagnosis-related groups(DRGs). More than 100 of the existing DRGs, such as "allergic reactionsfor ages older than seventeen" (DRG 447) or "foot procedures" (DRG 225)were not included as separate specialty product markets since they were"catch-all" DRGs or DRGs too broadly defined. The Marshfield Clinic hadspecialist market shares greater than 60 percent (in terms of number ofprocedures or number of surgeries) for the combined years 1991-1993 for14 DRGs, including cardiac valve surgery, coronary artery bypass surgery,pelvic evisceration, and chemotherapy.

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Moving from DRG hospital groupings to the markets of specialty carephysician services is tenuous. It is important to note, however, that thesemarkets for specialty physicians were not contradicted by cross-examinationor defense testimony in the District Court trial. Moreover, the small numberof specialty services that appear to be monopolized confirms that St.Joseph'swas performing the most sophisticated surgery with its cardiac and cancer spe-cialists, while the other hospitals and St.Joseph's specialists were reasonablycompetitive on other hospital procedures. Although the District Court foundhigh concentration ratios in 14 of 494 DRGs,Judge Posner dismissed eventhe high concentration ratio of the 14 DRGs by suggesting, without evidence,that high cross-elasticity of supply among specialized physicians may exist insome DRGs [Posner opinion, p. 8].

For primary, pediatric, and specialty care physicians, the greater than60 percent market share of the Marshfield Clinic exceeded the DOJ and FTCguidelines for physician services by a wide margin. [The antitrust agenciesgenerally use the Hirschman-Herfindahl Index (HHI) for market concen-tration guidance (see Department ofJustice and Federal Trade Commission1992, 28-29). The HHI is the sum of the squares of the individual firmsin the marketplace, and an HHI above 1,800 in a market is considered"highly concentrated." Thus, a single firm with a market share of more than60 percent (an HHI of at least 3,600) would be considered to be highlyconcentrated]. A single firm with a greater than 60 percent market share wouldalso exceed the threshold at which most industrial organization economistswould term a "concentrated market." Concentrated markets, however, mightalso imply that a firm or group of firms has grown relative to its competitorsbecause of its superior services or products. No evidence was presented in theDistrict Court trial to suggest that this might be the case. However, the useof both employed Marshfield Clinic physicians and physician affiliates (whodepend on referrals from Security HMO) as part of the Marshfield Clinicmarket share can be controversial [p. 7]. Blue Cross and Blue Shield includedaffiliates in its calculations of Marshfield Clinic's market share because theaffiliates' ties to Marshfield made them vulnerable to Marshfield Clinic'sinterest. In contrast, one might argue that since affiliates were still allowedto price and compete as they wished without regard to the Marshfield Clinic,they ought not be included in Marshfield Clinic's market share. Concen-trated markets, however, must be coupled with barriers-to-entry to conferinferences of monopoly power. Substantial barriers-to-entry were found inMarshfield.


Barriers-to-Entry: Structural

Barriers-to-entry are costs imposed on potential entrants by government orby existing firms that increase the difficulty for new firms to enter the market.St. Joseph's Hospital, the largest hospital in the relevant geographic market,is also the area's largest referral center and, as such, is the only hospital in theregion that performs a broad range of sophisticated medical services.

Hospital staff privileges may act as a barrier-to-entry to non-MarshfieldClinic physicians. Only Marshfield Clinic physicians have had full staff privi-leges at St. Joseph's Hospital. St. Joseph's Hospital retains only MarshfieldClinic-employed physicians on its credentialing committee, which exertscontrol over staff privileges and other planning and policy decisions of theHospital. Thus, both non-Marshfield Clinic specialists and primary carephysicians are excluded from St. Joseph's Hospital, although staff privilegesfor some specialists and primary care physicians appear to be available atWausau, Sacred Heart Hospital-Eau Claire, and Luther. Posner dismisseshospital privileges as an entry barrier, however, declaring that "hospitalsare not public utilities, required to grant staff privileges to anyone with amedical license" [Posner opinion, p. 12]. It is true that a hospital or its medicalstaff committees, might, for its image or for quality control, want to retainand control its own mix of physicians. This may be pro-competitive. Yet,when St.Joseph's Hospital excluded only non-Marshfield Clinic physiciansin Marshfield, there were no other hospitals in the relevant market wheresome of the sophisticated specialists could practice.

Security HMO and its connection to the Marshfield Clinic may act asanother barrier. Marshfield Clinic Security affiliates must refer to MarshfieldClinic specialists, which makes it difficult for other specialists to enter themarket. Evidence exists in the District Court trial that affiliates also pref-erentially referred non-Security patients to Marshfield Clinic specialists aswell. It is possible that these referrals might reflect a belief that MarshfieldClinic physicians are better physicians or a reluctance of the affiliates toupset the Marshfield Clinic. Marshfield Clinic affiliates who do not referpatients to the Marshfield Clinic or St. Joseph's Hospital may risk possibletermination from affiliation with Security Health Plan and its 70,000 memberpatients. In addition, of course, all Marshfield Clinic physicians who practicein the satellite clinics must refer their patients to the Marshfield Clinic or toSt.Joseph's Hospital for tertiary and other specialized care.

Another important barrier-to-entry is the State of Wisconsin CapitalExpenditure Review (CER) program, equivalent to many certificate-of-need

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(CON) programs that have been used in many states. Under the CER pro-gram, capital expenditures by hospitals or new hospital entrants that exceed$1.0 million must be approved by Wisconsin's Cost Containment Commis-sion. CER programs can act as a barrier-to-entry because it becomes difficultto justify such expenditures, for an entering hospital or for an existing hospital,when already existing hospitals are providing certain medical procedures orservices. In the past, existing hospitals have used CON regulations to limitthe entry of new hospitals or the expansion of existing hospitals. Thus, newphysician entrants would be unable to compete against St.Joseph's with staffprivileges in new or expanded tertiary care hospitals. In addition, with CON-like barriers-to-entry, the potential entry or expansion of new hospitals wasnegligible.

Barriers-to-Entry: ConductMarshfield Clinic physicians would not provide cross-coverage of patients fornon-Marshfield Clinic physicians. Thus, physicians who must be absent fora professional meeting or vacation must seek to arrange coverage, if possible,from the widely scattered independent physicians; this necessity can act asan annoyance or a real administrative burden for the non-Marshfield Clinicphysician. Marshfield's dominance in many areas will make this difficult.Posner, however, does not accept Marshfield's refusal to cross-cover forindependent physicians as a barrier-to-entry [Posner opinion, p. 12]. Indeed,Posner uses backward reasoning to suggest that Marshfield's reputation willsuffer if Marshfield physicians treat the patients of independent physicians[Posner opinion, p. 12]. Perhaps Posner meant to state that Marshfield patientswould be less satisfied if an independent physician had to cross-cover for aMarshfield physician.

The Marshfield Clinic also enforced a non-compete clause with physi-cians who were formerly employed by Marshfield. Such physicians could notpractice within 30 miles of Marshfield for three years after termination fromthe Clinic, resulting in less competition to the Marshfield Clinic. Physicians,however, could practice in outlying areas near the smaller clinics if theydesired. Marshfield's non-compete clause is not addressed in the Posneropinion.

In discussing Marshfield Clinic's behavior in paying affiliate physicians,Posner finds Marshfield's policy to be sound in not paying physician affiliatesany more than what other patients or third parties are charged [Posneropinion, pp. 15-16]. As a "most favored nation" bargaining tool, it is difficultto disagree with Posner's view that this type of behavior is what " . . . the


antitrust laws seek to encourage." [Posner opinion, p. 16] (Goldberg andGreenberg 1995). That is, Marshfield is attempting to pay the lowest pricepossible for physician input, which may make its clinic more attractive tomanaged care plans concerned about the price of their premiums.

It was also asserted by Blue Cross and Blue Shield that the MarshfieldClinic physicians did not negotiate in good faith with the Blue Cross and BlueShield-affiliated HMO, CompCare, which had desired to enter the northwestWisconsin market. Blue Cross and Blue Shield maintained that if it couldnot use Marshfield Clinic physicians on its panel of physicians, access toSt.Joseph's Hospital would be impossible.

Finally, it was alleged that the Marshfield Clinic and its Security HealthPlan agreed to divide the northwest Wisconsin market with the 37,000-member North Central Health Protection Plan, anHMO based in the middleof the state. Neither HMO would enter, advertise, or otherwise compete inthe region of the other HMO, a violation of the "conspiracy in restraintof trade" provision of Section One of the Sherman Act. A "division ofmarkets" agreement can have more deleterious effects than simply fixingprices, however. Oftentimes firms may agree to fix prices but will still discountfrom list prices or compete on quality or access. A "division of markets"agreement means that firms cannot compete on any basis. In many respects,therefore, division ofmarkets incurs a greater efficiency loss than price fixing.Posner seems to be on solid ground in finding the division ofmarkets betweenSelectCare and North Central HMO to be a violation of the Sherman Act.

BENEFITS AND COSTS OF VERTICALLYINTEGRATED NETWORKSIN HEALTHCARE

Since the benefits and costs of high horizontal concentration levels have beendebated at length elsewhere (Scherer and Ross 1990), this section will brieflyexamine a less studied area, vertical integration in healthcare.

In Marshfield Clinic the clinic physicians, by aligning with St.Joseph'sHospital, might be able to guarantee a steadier stream of patients to thehospital. The Marshfield Clinic primary care physicians might also be morecomfortable with a predictable level of high-quality physicians on the staff ofSt.Joseph's Hospital. Specialists who referred back to primary care physicianswould also be assured of a certain level of quality. Hospitals have generallygranted staff privileges to physicians in order to create incentives for physi-cians to admit to the hospital granting the privileges. Vertical integration,

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however, would be a more formal way to cement these ties because physi-cians generally have staff privileges at more than one hospital. In addition,physician-hospital organizations may achieve some efficiencies with a steadierstream of referrals, which can help achieve economies of scale for hospitalsas well as for physicians. Costs may also be saved and quality improved bybetter coordination of ambulatory and in-patient visits. Furthermore, the risksthat might be incurred from higher than expected utilization in risk-basedcontracts with managed care plans may be jointly shared between physiciansand hospitals. Moreover, Shortell finds advantages in clinical integration suchas enabling budgeting policies and practices to be coordinated for variousservices (Shortell et al. 1994). The Marshfield Clinic's relationship with itsSecurity HMO may also result in some transactions cost economies forboth parties. Contracting with managed care plans potentially would achievehigher hospital occupancy rates and an increase in physician members of thePHO. In general, integration can help protect against potential monopoliza-tion or monopsonization practices by hospitals, physicians, or HMOs.

Potential of Vertical Integration to Reduce Transactions CostsWilliamson has suggested that the most important benefit of vertical inte-gration might be the potential to reduce transactions costs between buyerand seller or between manufacturer and distributor (Williamson 1979; seealso Fenton and Harris 1994). A managed care organization that periodicallynegotiates with different independent physicians on the number of hours ofwork, the methods and types of utilization review, and the incentives for costcontainment might save substantial transactions and administrative costs forboth the managed care plan and physicians when a vertical relationship exists.A single integrated network, such as in Marshfield, however, may curtailthe entry of managed care plans and other physicians by limiting hospitalstaff privileges to its own physicians or by those physicians' refusal to dealwith other managed care plans. It may raise the costs of entry for rivals (see"Illegal Price-Fixing. . ." 1995, where physicians refused to deal with anybut the existing managed care plan; Salop and Scheffman 1983; Salop 1993).Monopoly power exercised by a hospital in a physician-hospital organization(such as in Marshfield) is possible, and this can lead to further exclusion ofcompetitors for physician services. Physician services may be thought of asinput into hospital services in order to produce health services output. Undervertical integration, primary care physicians might be required to refer all oftheir patients to a particular hospital, and as a quid pro quo, the hospital mightrefer patients back to these primary care physicians to receive follow-up care.


One can ask further, however: What barriers are confronted by existinghospitals in performing more complex specialties or by new hospitals enteringthe market? In Marshfield, certificate-of-need legislation hampered entry. Butif there are no such barriers, or if a natural monopoly is not in place (of whichthere is no evidence here), hospitals, in competition with one another, maybe able to limit staff privileges without fear of the antitrust authorities.

As we have seen, there are benefits and costs to integrated networks.The trade-off between the gains of greater efficiency, lower costs, and betterquality will have to be weighed against the costs of market power, such ashigher prices, by the courts. Most economists are unconcerned about verticalintegration unless it leads to market power. If markets were competitive,substantial efficiencies would be attached to such integration, with each in-tegrated system attempting to have lower costs and higher quality than theother. The welfare of the healthcare consumer would improve. The costs ofvertical integration arise when one or even a few firms monopolize one ofthe integrated links of the market. In Marshfield the District Court found thatmarket power exists while the Court of Appeals believed that Marshfield, forthe most part, operates in an efficient manner. Efficient actions, however, maynot be immune from the pursuit of market power.

Recent Antitrust Guidelines in Physicianand Multiprovider Networks

In August 1996 the U.S. Department ofJustice (DOJ) and the Federal TradeCommission (FIC) issued their combined guidelines, Statements ofAntitrustEnforcement Policy in Health Care. Their guidelines addressed physician jointventures or networks as well as multiprovider networks similar to the com-bination of the Marshfield Clinic, St.Joseph's Hospital, and Security HealthPlan. The Statements define the legality of physician networks based on "ruleof reason" criteria rather than defining them per se as illegal price-fixingnetworks (barring substantial risk taking or efficiencies), which was the casein the prior DOJ and FTC guidelines (1994, p. 71). The "rule of reason" inthese new Statements requires the antitrust authorities to take into account" . . . significant efficiencies that benefit consumers" (1996, pp. 107-108) aswell as the structure of the physician services market in a defined geographicarea (1994, p. 71). The task of the antitrust agencies is to balance the potentialinefficiencies of a single, fixed price among competing physicians againstthe potential for competition and efficiencies from a physician-controlledmanaged care plan in the marketplace.

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Costs ofPhysician Networks

Since physicians may be independent competitors, any agreement to jointogether as a physician network means fewer competitors in the marketplace.But it is possible that there may be economies of scale to physician practices.For example, Pope and Burge (1992) find in their review that physicians whopractice in groups achieve more economies-by, for example, sharing thefixed costs of office space and equipment-than do physicians who practiceon a solo basis. They also suggest that economies may result from the bulkpurchase of medical supplies and pharmaceuticals, or from greater special-ization as physicians assign more tasks to allied health professionals.

Advantages ofPhysician NetworksIt may also be possible that the physician group is so small relative to theremainder of the market, and barriers-to-entry so low, that the physiciangroup poses little threat to competition. It may also be possible that physiciansworking together may improve the quality of care. There may even be someadvantages, such as a reduction in transactions costs, to physician networksin selling their services directly to employer groups. For example, the MayoClinic provides health services directly to the Deere Company in Iowa andIllinois and to IBM in Minnesota ("Doctors, on Offensive,.. .." 1995). Theentry of the Mayo Clinic yields an additional competitor in the marketplace.Thus, a rule of reason test to balance new entry and possible efficienciesagainst the possibility of monopoly power is necessary. Moreover, the ruleof reason test should recognize that some physicians would be independentcompetitors if they were not combined in a group.

The Statements (1996) urge that multiprovider or physician-hospitalnetworks also be treated on a rule of reason basis. The competitive impactof multiprovider networks will depend on the efficiencies generated relativeto their potential to exclude competitors (pp. 107-108). As we have seen,rules ofreason for vertical integration may be appropriate since many verticalintegration arrangements can be efficient and can promote competition whileothers may promote monopoly power.

SUMMARY

With the growth of physician-hospital organizations and the desire of physi-cians to form their own networks, more attention will need to be paid to theconcentration and the potential for anticompetitive behavior and efficiency


in vertically integrated market structures and physician-controlled healthplans. Although the U.S. Court of Appeals dismissed control of hospital staffprivileges as a source of monopoly power in Marshfield, the control of staffprivileges, along with other impediments to competition, must be balancedagainst the costs and benefits of vertical integration as a whole.

The Marshfield Clinic case and the physician network guidelines doillustrate, however, the complexity of setting antitrust policy in this area.Sound antitrust policy might treat vertical integration in a benign manneras long as one segment of healthcare services does not have monopolypower and patients can choose among vertically integrated and non-verticallyintegrated firms. New empirical work is needed, however, to help calculatethe benefits and costs of vertical integration as well as the variety of physiciannetworks.

ACKNOWLEDGMENTS

I would like to thank Hal Luft and two anonymous referees for their insightfuland helpful comments.

NOTES

1. The author was expert economics witness for the Blue Cross and Blue ShieldUnited of Wisconsin in this litigation.

2. The Marshfield Clinic identifies family, general practice, and internal medicinephysicians as primary care physicians.

3. In a Marshfield Clinic physician recruiting brochure that was being circulated in1990, the following quotation may reflect the clinic's relationship with St.Joseph'sHospital: "This quality of hospital care pleases the Marshfield Clinic doctor, who,with his or her colleagues, virtually is the St. Joseph's Hospital medical staff."[The Marshfield Clinic: For the One in Four, p. 19, undated, from Report of WarrenGreenberg to U.S. District Court, Western District of Wisconsin, 26 September1994, pp. 4-5].

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