Terrific article on the complexity of reducing health care costs

This article by Atul Gawande highlights both the incentives built into the system for driving up health care costs and elements of what our system will have to look like to keep costs under control without sacrificing health outcomes. He draws in part on an intriguing comparison between a high medical cost area, McAllen, Texas, and a low cost but otherwise relatively similar area, El Paso, Texas.

One interesting aspect of Gawande's analysis is that the incentive problems he describes exist today regardless of whether we have private or public payors and the organizations/regions that have kept health costs low have formed despite the incentives. [Changes in what gets paid for could substantially change these incentives]. We as a society will need to figure out how to create the conditions in which professional norms seem to outweigh economic incentives.

But, this is a thought-provoking article.

Chrysler Bankruptcy -- Fixing The Auto Industry Revisited

In my first real blog entry, I identified what will have to be agreed before US car companies become sustainable businesses. Debtholders will have to sacrifice (in Wall Steet lingo, take a haircut). But the structural problems associated with retiree health and pension benefits and worker health and pension benefits need to be addreessed before these companies can be competitive. It appears that, rather than address the hard choices, the Obama administration in its plan for Chrysler has creatively kicked the can down the road. At some point, they are going to have to pick up the can and deal with it.

The Obama plan requires a haircut from debtholders and current workers, who have apparently agreed to get pay and benefits comparable to workers at Toyota’s workers US plants, although analysts say that the union preserved high wages and rich benefits for its employees. The UAW has also agreed to concessions that undoubtedly should have come well before the last moments before bankruptcy. According to the Wall Street Journal, "Among the cost-cutting measures that the UAW leaders have accepted are a suspension of cost-of-living-adjustments and new limits on overtime pay. Workers will only be paid for overtime after they have worked at least 40 hours in a week. Chrysler workers will also lose their Easter Monday holiday in 2010 and 2011, according to the union summary."

The Obama plan differs from what I presented in my earlier blog entry because it does not yet get to the inevitable changes involving the treatment of health care for retirees and of pensions. Chrysler transferred obligations for retiree health obligations to a trust run by the UAW but still owed roughly $10 billion to that trust. In lieu of that obligation, the trust will receive a $4.6 billion note and 55% of the stock in the new Chrysler, which it will have to use to pay for retiree health benefits. While this could be overturned by the bankruptcy judge, my impression is that this step just postpones the day of reckoning on health care costs. Similarly, the administration’s plan does not transfer pensions over to the Pension Benefit Guarantee Corporation (PBGC). As a result, the company will still be burdened by some structurally high costs that its non-American competitors do not have to pay. To become competitive, these costs too will ultimately have to be transferred and the question is whether to do it now or in a subsequent bankruptcy.

One interesting aside: People don't fully understand the incentives this plan has for the UAW workers at Chrysler. To the extent that Chrysler does not become profitable, its shares will be worth fairly little and the trust will not have the wherewithal to pay for retiree health care. If workers obstruct improvements in productivity, their actions will drive down the value of the stock, which will reduce what is available for retiree benefits. Analysts have noted that this will place discipline on the UAW to behave in a constructive manner. But the pain that nonconstructive UAW behavior creates will be born not by the workers but by retired workers. In my experience as an investment banker for labor unions, I never saw the chief political constituencies in a union sacrifice their wages and work rules for the benefit of other union members.

At the core, this is a political deal. In comparison to traditional bankruptcies, the Obama administration advantaged obligations to workers for health care, retiree health care, and pensions relative to senior creditors. As the only party willing to inject new cash, it can call the shots and offer whatever deal it wants to the creditors as a take-it-or-leave-it offer. It did and some of the creditors left it, so the company was forced filed for bankruptcy. The main problem is that this political deal doesn’t yet eliminate the structural burden placed on the company by its retiree health and pension costs. The Obamanauts have kicked the can down the road, but someone will have to pick it up at a later date when they or their successors will have to take actions that are painful to the unions if they intend to actually fix the problem.

Blog Rally to Help the Boston Globe

We have all read recently about the threat of possible closure faced by the Boston Globe. A number of Boston-based bloggers who care about the continued existence of the Globe have banded together in conducting a blog rally. We are simultaneously posting this paragraph to solicit your ideas of steps the Globe could take to improve its financial picture:

We view the Globe as an important community resource, and we think that lots of people in the region agree and might have creative ideas that might help in this situation. So, here's your chance. Please don't write with nasty comments and sarcasm: Use this forum for thoughtful and interesting steps you would recommend to the management that would improve readership, enhance the Globe's community presence, and make money. Who knows, someone here might come up with an idea that will work, or at least help. Thank you.

(P.S. If you have a blog, please feel free to reprint this item and post it. Likewise, if you have a Twitter or Facebook account, please add this url as an update or to your status bar to help us reach more people.)

Government Spending Has Not Created a Single Job. Really?

I'm going to have to start writing my thoughts down sooner as I get into the habit of having a blog, but here's one absurdity for the blog.

In addressing Obama’s stimulus plans, Michael Steele, head of the Republican National Committee said, “… first off the government doesn’t create jobs. Let’s get this notion out of our heads that the government creates jobs. Not in the history of mankind has the government ever created a job.” Bobby Jindal seemed to echo the same kind of silliness in responding to President Obama’s address to the nation.

Guess what: Some government spending creates jobs. In addition to Michael Steele’s own former job as Lt. Governor of Maryland and the huge number of public sector employees, government spending has created lots of private sector jobs. The only people who would deny it are right-wing ideologues. Fortunately for the Democrats, this seems to include the leadership of the Republican Party. (There is a much more sophisticated argument that could be made about the inefficiency of government spending in creating jobs, but that's not the argument we've been hearing.)

A few modest examples of government-spending that created jobs:

• Al Gore notwithstanding, the US military funded the Arpanet, which later became the internet. It seems to me that creating that infrastructure did create one or two jobs that have lasted beyond the government funding. Ever hear of Google?Yahoo?Akamai? Amazon?
  
  

• Although it may not be politically correct to use this example in the current political environment, has anyone ever heard of Lockheed Martin or Halliburton, both of whom have created a job or two from defense spending?
  
  

• Similarly, would the same number of gas station jobs exist if the government had not funded the construction of roads and highways? There would probably be private roads, though fewer of them, and thus fewer jobs for gas station attendants and likely for auto companies and oil companies.
  
  

• A more current example. Government funding of the Human Genome Project has led to lots of knowledge and technology. Companies were started to develop faster sequencing technologies to speed the completion of the HGP. Now, many companies using these technologies and greater knowledge of the human genome and genomics are creating jobs beyond the original funding.
  
  

I think the problem with Obama’s spending plan is that too much is directed to areas that do not represent the same kind of long-term investment that has produced significant numbers of jobs over time and too much to do things like resodding the national mall (Demopork is not necessarily any better than Repubopork just because it is sponsored by Democrats).

How to Write a Customer Complaint Letter

A Virgin Atlantic passenger named Oliver Beale wrote what may be the best and funniest customer complaint letter ever written to Richard Branson, Virgin's CEO. When I grow up, I want to learn to write letters like this one. Let me know what you think.

Apparently, Branson personally called Mr. Beale to invite him to Virgin's kitchen to help select menus for Virgin flights.

On a more serious note, I don't think I've ever advised using sarcasm and ridicule to help persuade someone to act. But, the customer was asking for a change in policy and possibly indirectly for compensation. His BATNA (Best Alternative to a Negotiated Agreement) was bad -- most airlines typically send back faux "I feel your pain" responses to complaint letters and he might eventually have taken his business to an airline he likes less. And there was likely little negative consequence to his letter. But, his written charm and grace made it work.

Don’t Bail Out the Auto Industry or Let It Die – Fix It

Prior to Congress’s first bail-out of the US auto industry, auto industry management’s presentation to Congress gave us only part of the reason we shouldn’t try to bail out the auto industry – management teams that have not seemed to grasp, over many years, what will enable them to reverse a long-term decline, a decline that has merely been exacerbated by our current credit crisis and recession. Our elected representatives did succumb to pleas and forked over $15 billion to GM and Chrysler, $15 billion which will be wasted as I’ll explain below, and the industry will be back for more money.

Simply bailing out the car industry won’t work because the car companies’ basic business model does not make sense as it stands. Until the financial crisis, they made just enough money to cover the health care and pension obligations to current and previous employees and profits if any came from their financing arms. For example, at present, GM is paying health care benefits for three times as many retired works as current workers and GM states that its health care costs amount to $1500 per car. Without the ability to make money on financing, US automakers can’t and won’t make enough to meet their obligations for health care and pensions, let alone approach the Holy Grail for the auto industry of actually making a profit.

A natural approach to lack of profitability would be to downsize, focusing only on products that the public wants and thus should be profitable. However, this doesn’t work easily for the auto companies and likely makes the fundamental problem worse. When they downsize (as they have tried to do), pension and health care obligations may drop a little but are largely unchanged. Yet, these roughly constant obligations are spread over fewer cars. This means that the car makers would be further in the hole for each car. An average auto worker receives $28 per hour in wages but the average hourly cost including benefits for the worker and retired workers is $70 per hour. The only saving grace of downsizing is that they incur fewer future obligations for pensions and health care. But, even this silver lining is smaller than it should be. GM (and I think other car companies) have had contracts that did not allow them to rapidly cut labor costs as volume fell; employees were paid whether or not they were needed to make cars and, of course, retiree pension and health care benefits were always paid. Because GM would lose more by shutting the plants down than by running them at a loss, GM had an incentive to keep factories open and produce cars that were not economic. This policy is consistent with actual GM behavior. Although GM has introduced a number of very good cars such as the Malibu and the Volt recently, it has been very slow to shut down production of poor and mediocre older cars. Nothing about our first $15 billion will change these perverse incentives.

Until they fix their business model, bailing out today’s US auto industry will not work. Like our first $15 billion, additional funds would merely transfer money from taxpayers’ pockets to auto workers' pockets. This would be a classic case of throwing our good money after bad. Think about it this way, the money that we and our kids and grandkids spend paying higher taxes for health care and pensions for auto workers is money that we taxpayers could have saved for our own retirement.

To reach a sustainable profitable future, automakers need to end agreements that pay for less than productive worker effort. But, more importantly, automakers need to transfer pension obligations, health care benefits and other obligations away from the company before any new investment should come from any government entity. With no new investment, the alternative of liquidation over time would likely eliminate all health care obligations going forward. But, such a change in an existing company would not fly in the Obama administration. Transferring the health care obligations would be harder than shedding pension obligations, but the need to make the transfer might provide a great opportunity to jump-start President Obama’s eventual plan for universal health care. Unions, and thus the Obama administration, would have great difficulty agreeing to such a transfer up front. The car makers cannot easily shed these obligations without entering bankruptcy. Labor contracts that block or make costly the company’s flexibility would be voided by the bankruptcy, but the automakers would, in return for the investment, need to develop a plan that maintains a significant US employment base in its operations. Transferring the pensions can be handled under existing law to the Pension Benefit Guarantee Corporation, although it is likely that the PBGC would be strained by the big increase in its obligations (and we taxpayers will be on the hook for auto workers’ pensions, but at a much lower cost than if we bail out the car companies to prevent them from filing for bankruptcy).

With a plan to ensure that it can sell cars for more than the cost of a) making them; and b) paying for pension and health care obligations if any remain after a bankruptcy, management would be running a company that has a chance of making profits in the future. This puts an onus on the new controlling shareholder to bring in new and capable management, where it has been lacking. [Note: To this non-auto industry expert, it appears that management at Ford has a much better grasp of how to deal with the challenges it faces than do managements at GM and Chrysler. It is entirely possible that their managements actually knows what will really be needed to fix the industry but can't say it for one of a number of reasons, though there is no evidence of this.] As investors going into this, we'd also have to know that there appears to be substantial overcapacity in the global automobile industry and thus not all companies will survive. Perhaps we as investors would invest in the Ford and GM businesses but conclude that Chrysler is not viable even with a big infusion of cash.

As the car makers slip toward bankruptcy, which they inevitably will and sooner more likely than later, the government can take control of restructuring by providing debtor-in-possession financing, a form of investment that makes it senior to all previous equity-holders and other creditors. With this control, the government can induce the changes that are needed for the companies’ survival. Rather than throwing good money after bad, taxpayers would ultimately realize gains from the matching the companies’ obligations to realistic expectations for what they can manufacture and sell. Customers who are now reticent to buy a car from a company that might have to liquidate would know that these companies have, at least for some time period, capital from the government to enable them to survive and restructure.

To put more money into the car companies without ensuring a real restructuring plan that, among other things, sheds health care and pension obligations, would be akin to writing another check from our retirement funds to retired and current auto industry workers. And doing so would not obviate their need to repeatedly come back to the public coffers because their fundamental model is flawed.

Getting Started

I had an interesting hike yesterday through some snowy conservation land in Concord, MA with my friend Paul Levy, who writes the terrific blog Running a Hospital. Our walk stimulated me to begin my own blog.

I've been writing about negotiation with my friend, colleague and business partner Jim Sebenius, including our latest book 3-D Negotiation, an earlier book The Manager as Negotiator and other articles and books for 25 or so years. Through our consulting firm, Lax Sebenius LLC (www.negotiate.com), we have had to good fortune to be advisors to major companies and governments in a wide range of complex and fascinating negotiations with businesses, governments and interest groups. These negotiations have ranged from North America to South and Central America to Europe to Asia to Oceania and Africa (we're waiting for our first engagement in Antarctica); they've have been in industries ranging from oil and gas to professional sports to health care to pharmaceuticals to software to cosmetics to finance to basic manufacturing to biofuels to water and power. We've had the opportunity to reflect on these experiences and infuse them into our writing on negotiation.

In addition to reflecting on negotiations, I have many often iconoclastic ideas about politics, economics, career choices and personal development that people often find interesting and helpful but for which I've never sought an outlet. So, I am going to use this blog to post stray thoughts of an errant negotiation guru. I'd be delighted to have some of these ideas receive greater exposure and others be retired to the trash heap (or recycling bin) of ideas whose time has not yet come, has come already, or will never come. Your feedback is welcome.