Bernard Hickey on why scrapping the co-payment benefits everyone.

This is an edited version of a post first published on Bernard Hickey’s newsletter, The Kākā.

The phrase “penny wise and pound foolish” has applied to much of the government’s approach to spending and investment over the last 30 years. Since the early 1990s, both National and Labour governments have kept sinking lids on real spending and investment on housing, transport, health and education as part of their drive for lower taxes and government debt to at or below 30% of GDP.

It seemed like a good idea at the time, especially if you believed previous generations (pre-1984) had “over-invested” in public infrastructure and services and you believed – as most did in the early 1990s – that Aotearoa’s population was likely to be flat and ageing for decades to come. After all, who doesn’t love low taxes and low interest rates, all while avoiding the fear of some sort of public debt crisis?

Eventually, however, the true cost in “pounds” of those pennies saved through the 1990s, 2000s and 2010s began making itself known. Things began breaking because of a collective case of deferred maintenance and avoided investment. Our primary health care spending decisions are the latest case in point, including one publicised this week. A new report shows that for every $1 in prescription co-payments collected by the government, it effectively pays $18 in extra hospital costs.

$18 in savings foregone for every $1 in co-payments ‘earned’

A University of Otago study of a group of people with high health needs tried to quantify the effect of the $5 prescription charge on health outcomes. When those in the study didn’t have to pay the $5 they were more likely to get their medicines when they needed them, and thus avoided having to go to hospital. For every 100 people who had to pay the $5 fee for a year, the study found they generated an extra 118 nights of hospital stays at up to $1,500 per night, over and above a comparable 100 people who didn’t have to pay.

That means that for those 100 people with chronic conditions such as diabetes, mental health issues, obstructive pulmonary disease, the “lost” $10,000 a year in co-payments (an individual has to pay for 20 prescriptions in a year before a subsidy kicks in) actually cost up to an extra $177,000 in higher hospital costs. For every $1 earned from the fee, we could be paying up to $18 in extra hospital costs.

So why hasn’t the government removed the $5 fee already? Surely Treasury has done a proper cost-benefit analysis of the cost of up to $1,500 per night in extra hospital days vs the foregone cost of the co-payments? Surely this is the sort of “wellbeing” analysis that Treasury would have done since its first “wellbeing budget” in 2019 and its adoption of the “living standards framework” earlier in the decade?

It turns out no such analysis has been done, despite international evidence on the benefits of removing the fee and despite then health minister David Clark asking about it in 2018. Actually, the government chose not to do it in the 2020 budget, to avoid the $147 million a year in lost revenue that would result. Now it turns out this penny wise and pound foolish decision could be costing over $2.65 billion a year and putting an extra strain on hospitals at a time when our hospitals and staff are stretched to breaking point.

Treasury has form on this. Back in 2012, the fee was increased from $3 to $5 per prescription by the Key-English National government in an attempt to get the budget back into balance after heavy Christchurch earthquake spending. Treasury even recommended the fee be raised to $10 to increase revenues, and therefore reduce foregone debt. It did that despite evidence from a Canadian study that doing so would generate extra hospital stays when sick people couldn’t get their medicines.

Essentially, Treasury successfully argued that the benefits of government debt reduction, in the form of slightly lower interest rates and higher asset values, were worth more than the unexamined but very real long-run costs of tens of thousands of sick people spending hundreds of thousands of extra nights in hospital.

So what’s the latest evidence?

In a randomised and controlled study published last month, University of Otago public health researchers found that the 469 people in their one-year study who had to pay the $5 charge spent many more nights in hospital than the 591 who didn’t.

Of every 100 people who received free prescriptions in the study, 33​ were admitted to hospital and stayed for 208​ days. Of every 100 people who still had to pay the $5 charge, 41​ were admitted to hospital and stayed for 326​ days. So the difference is an extra eight people in every 100 people spending a net extra 118 days in hospital per year. In the study, the government would have lost up to $10,000 in forgone prescription fees (the researchers in this case paid the fees for participants), but had to pay an extra $177,000 for the extra hospital nights.

Māori and Pasifika much more affected by $5 fee

The latest NZ Health Survey for 2021-22 found that 3.3% of people reported not getting their medicines because of the $5 fee, with Māori and Pasifika adults being 3.3 times and 1.1 times respectively more likely not to collect a prescription due to the cost.

The researchers recommended in their paper that Aotearoa follow the precedent of Scotland, Wales and Northern Ireland, which abolished prescription charges in 2011, 2007 and 2010 respectively.

As the researchers write in their conclusion to the paper, “eliminating a small co-payment appears to have had a substantial effect on patients’ risk of being hospitalised. Given the small amount of revenue gathered from the charges, and the comparative large costs of hospitalisations, the results suggest that these charges are likely to increase the overall cost of healthcare, as well as exacerbate ethnic inequalities.”

So how much would be saved and lost in any change?

The government has estimated that the $5 fee will bring in $147 million in the current 2022-23 fiscal year. On the other hand, given the $18 to 1$ benefit to cost ratio, removing the fee would generate savings of around $2.65 billion.

So why hasn’t it been proposed and done already?

Papers released under the OIA show David Clark asked in 2018 for advice on removing the fee. Officials pushed back then, and again in 2019, pointing out that some pharmacy chains (Chemist Warehouse and Countdown Pharmacies) were choosing not to charge the fee, and were instead effectively using the fee (which still has to be paid to the government) as a loss leader.

The heroes of this story are… Chemist Warehouse and Countdown?

Essentially, officials were saying the health system could get some of the benefit of the removal of the charges without having to give up the revenues. It was saying this was a win-win: let shareholders of the two chains be generous with their “loss leader” profit sacrifice while allowing the government to keep the much-needed revenues.

Thus, in their desire to grab more market share, Chemist Warehouse and Countdown have arguably done more to reduce the stress on our health system than Treasury or politicians of both parties.

This effect can be seen in the changing results for non-collection of prescriptions between the Health Surveys of 2016-17 and 2021-22. The percentage of respondents saying they didn’t pick up prescriptions because of the cost fell from 6.6% in 2016-17 to 3.3% in 2020-21. The Australian-based Chemist Warehouse launched in the New Zealand market in 2017. From the start, the chain’s flagship discount has been the removal of the $5 prescription charge which it still pays to the government, but does not charge to customers. Countdown now has a similar policy for its in-store pharmacies. Chemist Warehouse now has 37 stores in Aotearoa and Countdown has 34.

Clark had another go in 2019, with OIA’d documents showing the government was in favour of removing the fee. Yet no cost-benefit analysis was done, with the main focus being the need to compensate DHBs for the likely loss mof $133 million in fee revenue. Wider discussions of “wellbeing” or the “living standards framework” are nowhere to be seen .

In 2020 Clark said the government would not remove the fee.

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How Treasury viewed the issue

Detailed advice and Cabinet papers from 2011 and 2012 show how Treasury approached the suggestion of increasing the fee to save money in the wake of the earthquakes and National’s push for “zero” budgets. The fee was increased from $3 to $5 from the beginning of 2013, but Treasury actually recommended it be increased to $10 to save up to $200m a year.

Here’s what officials said at the time:

“In the current fiscal environment the government needs to think carefully about which services it funds, and for whom. Increasing cost sharing is one way to shift a share of health costs from the public health system to those who use and can afford to pay for services. Cost sharing also sends a price signal to patients and can help improve the efficiency and effectiveness of the health system.

“The government is operating under tight fiscal constraints and increasing cost pressures. In order to return to budget surplus by 2014/15 in accordance with the fiscal strategy, Ministers will need to make choices on spending priorities in Budget 2012.

“In the very different fiscal environment the Government now faces it is appropriate to reconsider whether the benefits of universal subsidies outweigh the benefits of targeting scarce public funds to the areas and individuals/households with greatest need.”

Treasury knew about a 2001 Canadian study of the effects of co-payments on hospitalisation rates, but argued it was not directly comparable and showed only small effects, even though the study had not focused on those with low incomes.

The detail above may seem overkill, but it gives you an idea of how these decisions are made and the incentives at play.

Governments of both colours have prioritised low debt, low interest rates and high asset values in the short term at the expense of people’s health and public health costs in the long run.

And everyone wonders why our productivity growth has been so stagnant.

This article was first published in Bernard Hickey’s newsletter The Kākā