We use insurance claims data for 27.6 percent of individuals with private employer-sponsored insurance in the US between 2007 and 2011 to examine the variation in health spending and in hospitals' transaction prices. We document the variation in hospital prices within and across geographic areas, examine how hospital prices influence the variation in health spending on the privately insured, and analyze the factors associated with hospital price variation. Four key findings emerge. First, health care spending per privately insured beneficiary varies by a factor of three across the 306 Hospital Referral Regions (HRRs) in the US. Moreover, the correlation between total spending per privately insured beneficiary and total spending per Medicare beneficiary across HRRs is only 0.14. Second, variation in providers' transaction prices across HRRs is the primary driver of spending variation for the privately insured, whereas variation in the quantity of care provided across HRRs is the primary driver of Medicare spending variation. Consequently, extrapolating lessons on health spending from Medicare to the privately insured must be done with caution. Third, we document large dispersion in overall inpatient hospital prices and in prices for seven relatively homogenous procedures. For example, hospital prices for lower-limb MRIs vary by a factor of twelve across the nation and, on average, two-fold within HRRs. Finally, hospital prices are positively associated with indicators of hospital market power. Even after conditioning on many demand and cost factors, hospital prices in monopoly markets are 15.3 percent higher than those in markets with four or more hospitals.

This paper reviews the literature devoted to studying markets for health care services and health insurance. There has been tremendous growth and progress in this field. A tremendous amount of new research has been done in this area over the last 10 years. In addition, there has been increasing development and use of frontier industrial organization methods. We begin by examining research on the determinants of market structure, considering both static and dynamic models. We then model the strategic determination of prices between health insurers and providers where insurers market their products to consumers based, in part, on the quality and breadth of their provider network. We then review the large empirical literature on the strategic determination of hospital prices through the lens of this model. Variation in the quality of health care clearly can have large welfare consequences. We therefore also describe the theoretical and empirical literature on the impact of market structure on quality of health care. The paper then moves on to consider competition in health insurance markets and physician services markets. We conclude by considering vertical restraints and monopsony power.

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We examine competition in the hospital industry, in particular the effect of ownership type (for-profit, not-for-profit, government). We estimate a structural model of demand and pricing in the hospital industry in California, then use the estimates to simulate the effect of a merger. California hospitals in 1995 face an average price elasticity of demand of -4.85. Not-for-profit hospitals face less elastic demand and act as if they have lower marginal costs. Their prices are lower than those of for-profits, but markups are higher. We simulate the effects of the 1997 merger of two hospital chains. In San Luis Obispo County, where the merger creates a near monopoly, prices rise by up to 53%, and the predicted price increase would not be substantially smaller were the chains not-for-profit.