Hawkins v. McGee and the Costs of Healthcare

One of the joys of being a contracts prof is that you get to teach Hawkins v. McGee, the hairy-hand case of Paper Chase fame. Reading this week’s Economist briefing on health care has got me thinking about the meaning of the holding in that case for the current health care debates.

At the outset, I’ll stipulate that I am no expert in health care but that my biases are strongly against the expansion of government entitlements in this or other areas. Discount my meanderings as you see fit. My understanding, however, is that a large part of the problem in health care costs comes in the way in which we price the system. We pay for services rather than outcomes. This creates an incentive for providers to create a system structured around providing expensive procedures rather than providing positive health outcomes. I wonder, however, if Hawkins v. McGee doesn’t provide a way forward.

The case is normally presented as being about the proper measure of damages. Hawkins had a badly burned hand, and McGee promised that if he could perform an experimental skin graft Hawkin’s hand would be a “one hundred percent good hand.” The operation was a horrible failure, leaving Hawkins with a maimed and hairy hand. The court awarded expectation damages, namely the difference between what was promised — a good hand — and what was delivered — a maimed and hairy hand. (It turns out that a hand wasn’t worth much in New Hampshire in 1929; Hawkins got a couple of hundred bucks.) The case is odd because it presents what would ordinarily be a malpractice claim as a contract claim precisely because McGee did more than simply promise to perform services for a fee. He promised an outcome.

Suppose that we replaced the ordinary healthcare contract with the Hawkins v. McGee contract, namely that hospitals promised to deliver healthcare outcomes rather than healthcare services. First, it would align the incentives of health care providers much more closely with patients. Second, it would inject a lot of uncertainty into health care providers liabilities. After all, in many cases they will not be able to deliver particular outcomes, causing a breach of their contracts. This second issue could be controlled in two ways. First, health care providers could specify the amount they would pay in the event of unsuccessful treatment in a liquidated damages clause. Provided the courts enforced these clauses, they would diminish the unpredictability of payouts. Second, and perhaps more importantly, a fee-for-outcome contract would create a powerful incentive for healthcare providers to actuarialize the effectiveness of treatments, carefully compiling data on how likely successful outcomes actually are.

Were this contract adopted, going to the doctor would involve the purchase of a very different bundle of rights. Rather than buying services on the advice of a conflicted expert advisor, one would in effect purchase a form of insurance. In return for a fee, you would be promised a favorable outcome or the payment of some sum of money. The hospitals would then, in effect, be in the position of making bets on the effectiveness of their own treatments, bets that would become more profitable the better the outcomes were.

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7 Responses

  1. Patrick says:

    Wouldn’t this just result in doctors refusing to treat the patients most in need of medical care?

  2. jimbino says:

    A big problem in charging/paying by outcome is that the medical consumer has no idea of what is a proper outcome. Some things are easy: no iatrogenic/nosocomial infection.

    But what about “Small incision, minimal scarring, pain-free, restored mobility, etc” expectations?

  3. Civ Pro King says:

    “We pay for services rather than outcomes. This creates an incentive for providers to create a system structured around providing expensive procedures rather than providing positive health outcomes.” Not neccesarily so, but if this is indeed the case, it is because medical doctors are more incentivized to practice defensive medicine… hence more procedures… et cetera.

    By the way, have you been to the doctor recently?

  4. Ken says:

    I think there is a general presumption in the fulfillment of a contract that *if* the contractor has not made an absurd promise, then his risk is that he has underestimated his cost to deliver. When I was in the software business, I always knew I could produce the programs the customer wanted, or I would not even try to negotiate a price. I had to estimate my cost, add a margin of safety for unexpected problems, add a margin for overhead and profit, and hope that my resultant price would be low enough to win me the work. And if I had underestimated? Then I simply had to bite the bullet and keep my programmers working until they finished.

    Medicine doesn’t fit that model. The doctor can’t keep his promise to deliver the cure simply by overrunning his buget, working longer or harder. There is an element of chance that is *inseparable* from the nature of the work. In that regard, it’s very much like sports. The law of large numbers ensures that performers who work harder have more success *on average,* but no individual outcome is guaranteed to follow the law of large numbers.

    BTW, a side observation on the “absurd promise” in my first sentence–a patient who has unrealistic expectations is just as silly as a software customer who has unrealistic expectations. Sillier, in fact, because his medical expectations may not be fulfillable, while my customer’s expectations were merely more expensive than he realized.

  5. Frank says:

    You may find these articles of interest:

    Haavi Morreim, “High-Deductible Health Plans: New Twists on Old Challenges from Tort and Contract,” 59 VAND. 1. REv. 1207, 1249-50 (2006).

    and

    Mark A. Hall, “The Legal and Historical Foundations of Patients as Medical Consumers,” at
    http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1090618

  6. Nate Oman says:

    Patrick: This contract would result in a diminished market for a lot of services. This, however, is the point. If the agency cost and incentive story about health care costs is right, then there are a lot of very expensive procedures that we are performing right now that aren’t providing much in the way of medical benefits. A big market in such services is not such a grand thing. What a fee for outcome contract would do is to price medical effectiveness. The more effective the treatment, then lower would be the price. The price mechanism would then help to allocate health care spending more efficiently.

  7. medlaw says:

    I think what you are discussing in a roundabout way is holistic medicine. By that term I do not mean alternative medicine but, rather, treating the whole person to hopefully foster greater health and wellness that prevents future illness. The thought being that this method is cheaper than treating illness on an ad hoc basis is most health care providers currently due in the American system.