The current structure of healthcare payments in the United States has long been under scrutiny for its inefficiencies and unintended consequences. Many experts agree that the existing fee-for-service (FFS) system incentivizes volume over value, leading to inflated costs, subpar patient outcomes, and unnecessary procedures. As healthcare costs escalate and disparities persist, it becomes imperative to understand the flaws inherent in this model and explore more sustainable alternatives that prioritize quality and accountability.
The fee-for-service approach pays healthcare providers separately for each individual service or procedure performed, rather than rewarding overall patient health or treatment effectiveness. For example, when Claire Lang-Ree visited an emergency room in Colorado with severe abdominal pain, her bill exceeded $19,000, including charges for an “IV push,” which cost $700 per administration. While her insurance blocked most of these additional charges, hospitals increasingly bill for such services, contributing to rising healthcare costs. This billing practice is just one of over 10,000 billable services, with the number of codes tripling since the system’s inception in 1966. The complexity of this fee-for-service system encourages providers to seek ways to maximize revenue, often at the expense of patient-centered care. Importantly, these billing practices are disconnected from patient health outcomes, which diminishes accountability across the healthcare system.
What Is Fee-for-Service?
The traditional payment framework for healthcare in the United States revolves around fee-for-service payments. This model involves billing separately for each service—such as tests, procedures, drugs, or consultations—that a healthcare provider delivers. In 2018, this method accounted for approximately 70% of physicians’ total revenue, underscoring its dominance. When a patient receives care, hospitals and doctors use detailed coding systems to determine the billable amount. For instance, the billing process involves assigning diagnosis codes from the ICD-10 system, which contains over 70,000 distinct codes, and procedure codes from CPT and HCPCS Level II systems, which include over 17,000 entries. These codes are then entered into billing systems that generate the maximum amount a provider can bill.
Insurance companies, whether public like Medicare or private, scrutinize these bills to verify the appropriateness of the codes and whether the services are covered. For Medicare, the Centers for Medicare and Medicaid Services (CMS) maintains a fee schedule that defines maximum payments based on these codes, with adjustments for geographic factors. Private insurers negotiate rates, which vary widely across regions and providers, adding opacity to the actual costs patients and payers face. Although recent efforts aim to increase transparency—such as requiring hospitals to publish price lists—their compliance remains limited.
To streamline hospital billing, Medicare introduced Diagnosis Related Groups (DRGs) in the 1980s, consolidating thousands of ICD-10 codes into about 750 categories. This system assigns a fixed payment based on the average cost for treating a typical patient within that group, adjusted for factors like age and comorbidities. While DRGs encourage hospitals to improve efficiency, they do not extend to most physician services, which remain billed separately, perpetuating fragmented incentives.
The core issue with fee-for-service is that it rewards higher volume—performing more tests, procedures, or visits—regardless of whether these actions improve patient health. This misalignment fosters a range of problems that harm patients and inflate costs.
Problem #1: Substandard and Excessive Patient Care
The structure of fee-for-service creates incentives that are fundamentally misaligned with optimal patient outcomes. Without accountability, providers and insurers often shift blame when care goes awry, resulting in a system that can harm patients and inflate expenses. This leads to three major issues: over-treatment, under-treatment, and the provision of inappropriate care.
Over-treatment and Over-testing
One stark consequence of fee-for-service is that many patients receive unnecessary care. Studies suggest that roughly 20% of medical interventions are needless, including a significant proportion of medications, diagnostic tests, and procedures. For example, hospitals tend to perform more tests and admit more patients in regions with higher hospital bed availability—an effect known as supply-induced demand. This phenomenon is reinforced by the financial incentives that reward volume, which can lead to over-utilization of services like ICU stays or specialty consultations.
Additionally, attempts to minimize unnecessary interventions are often thwarted by the system’s design. Healthcare providers are financially rewarded for performing more services, not for achieving better health outcomes. Consequently, when complications arise—such as hospital readmissions due to surgical errors—the system inadvertently incentivizes more care rather than better quality. This cycle results in higher bills for patients, many of whom pay out of pocket for procedures that offer little or no benefit.
The overuse of certain treatments can have deadly consequences, such as the over-prescription of opioids, which contributed to thousands of overdose deaths in recent years. Excessive testing exposes patients to unnecessary radiation, as with duplicative scans, and can lead to infections and other complications. Antibiotic overuse is another grave concern, promoting resistant bacteria that threaten public health.
Under-treatment and Care Gaps
While overuse is problematic, the opposite issue—underuse—is even more widespread. Patients frequently do not receive the care they need due to limited access, provider shortages, or high costs. Underuse, which is four times more common than overuse, exacerbates health disparities and leads to worse outcomes, especially among marginalized populations. For instance, many individuals with chronic conditions like hypertension or diabetes are not receiving recommended preventive treatments, which can result in severe complications such as blindness or amputations.
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The fee-for-service model emphasizes payment for procedures rather than preventive care. As a result, primary care physicians, who provide essential ongoing management, are underpaid compared to specialists, creating a shortage of primary care providers. This imbalance reduces timely access to preventive services and routine monitoring, placing patients at higher risk of avoidable health crises.
Financial barriers also lead patients to cut back on necessary medications. For example, many diabetic patients skip insulin doses because of high costs, risking severe complications that are far more expensive to treat than their medication. This cycle of under-treatment not only harms individual health but also escalates overall healthcare spending due to preventable hospitalizations and emergency care.
Misuse and Inappropriate Care
The fee-for-service system also fosters the delivery of low-value or unnecessary treatments, often referred to as misuse. A significant percentage of Medicare patients—between 25% and 42%—receive tests or treatments that provide little or no benefit. These include drugs, scans, or procedures that do not contribute to health improvements, yet they generate substantial costs.
Medical errors, misdiagnoses, and unnecessary interventions can cause harm, with Johns Hopkins researchers estimating that medical errors kill over 250,000 Americans annually—making it the third leading cause of death. Incidental findings during scans often lead to additional invasive procedures, psychological distress, and increased costs, exemplifying how misuse of care wastes resources and jeopardizes patient safety.
Problem #2: Inflated Healthcare Prices
Beyond patient care quality, fee-for-service significantly contributes to soaring healthcare costs. The complexity and opacity of billing for thousands of services make it difficult for consumers, employers, and insurers to compare prices and make informed choices. This lack of transparency hampers competition and allows providers to charge higher prices, especially in markets with limited competition.
Drivers of Cost Inflation
Four interconnected issues drive up healthcare prices under the fee-for-service paradigm:
- Limited Price Transparency: Patients often have no clear idea of the actual costs associated with procedures. For example, the bill for a 15-minute anesthesiologist’s segment can vary greatly, but patients rarely know the exact price beforehand. This lack of transparency prevents meaningful comparisons and informed decision-making.
- Absence of Outcome Accountability: Providers are paid for each individual service, but no one is held responsible for the overall results or costs of care. This disconnect fosters fragmented care and encourages providers to perform extra procedures or prescribe costly drugs without regard to their impact on health or expenses. Although drugs account for a smaller proportion of total costs, their prices tend to rise due to billing practices that lack oversight.
- Market Power of Providers: Hospitals and practices increasingly consolidate, which can theoretically improve care coordination. However, under fee-for-service, consolidation often gives providers leverage to set higher prices and develop creative billing methods. Regions with dominant hospitals can charge up to two or three times more than comparable areas, reflecting their increased pricing power.
- High Administrative Overhead: The detailed documentation and billing requirements in a fee-for-service system impose substantial administrative costs on providers and payers. Disputes over what constitutes necessary care further inflate expenses, diverting resources from patient care.
The Need for Systemic Change
Without significant reforms, these issues threaten to erode any minimal competitive benefits that might exist. The absence of transparency and accountability, combined with provider market power, sustains high prices and wasteful spending. Moving toward a system that emphasizes value over volume is critical to controlling costs and improving quality.
Moving Beyond Fee-for-Service
Experts from across the political spectrum concur that the current healthcare payment model is unsustainable. Transitioning to value-based payment systems—where providers are rewarded for positive health outcomes and efficient care—can address many of these issues. Such reforms aim to reduce unnecessary procedures, improve coordination, and incentivize preventive care.
Efforts to incorporate advanced technologies, including artificial intelligence, hold promise for transforming healthcare expenditure management. For example, exploring the transformative role of artificial intelligence in healthcare expenditure can lead to smarter resource allocation. Additionally, adopting innovative payment models can help transform healthcare with artificial intelligence unlocking billions in savings by 2050, making care more affordable and effective.
Furthermore, implementing strategies to enhance revenue cycle management effectiveness is essential for creating a more transparent, accountable, and financially sustainable health system. Only through such comprehensive reform can we ensure equitable, high-quality care for all Americans.