Where do HMOs and PPOs locate? Debunking an urban myth

Abstract

The potential geographic distribution of preferred provider organizations (PPOs) differs greatly from that of health maintenance organizations (HMOs). We explain this theoretically by the natural ordering of insurance types according to the degree of consumer choice of provider. We examine the issue empirically, employing a unique data set based on California hospital discharges in 1998, a time when PPO and HMO insurance types were coded separately. Because HMOs are more restrictive than PPOs in the provider networks allowed, we find that they require urban areas with many physicians to form viable networks. PPOs are less restrictive in the provider networks, which we find allows PPOs to thrive outside of urban areas where HMOs cannot. We find that indemnity-type plans, also known as fee-for-service plans, can survive anywhere because they do not impose restrictions on provider choice. These findings have real world implications for Medicare modernization efforts aimed at increasing the proportion of seniors enrolled in Medicare managed care plans. Regional PPOs established under the Medicare Modernization Act of 2003 are likely to thrive, extending the geographic coverage of managed care service options to all seniors.