China’s Healthcare Quandary --- How Partial Privatization Values Quality over Equality

by Kelly Diep
From Climate Change, Vol. 30 (2) - Summer 2008
Kelly Diep is a staff writer of the Harvard International Review.

In 1978, Deng Xiaoping began the economic reforms now referred to as “Gaige Kaifang,” through which China ushered in an era of unprecedented receptivity to foreign influence. The shift to liberalized trade policy led to reduced poverty levels and set China on the path to economic strength. But the reforms also catalyzed massive change within the formerly centralized medical system. Medicine is now the domain of the private sector and provincial and local governments, rather than the national government. While market reforms in the economy have been a boon for the Chinese, similar reforms in the healthcare system have improved quality but also created unequal access to healthcare due to rising costs.

While healthcare prices have risen over the past two decades, the number of hospitals in China has actually grown. In 1980, there were approximately 9,900 hospitals in China. As of 2005, there were about 18,700. A boom in the number of hospitals in such a short span speaks to the changing medical landscape in China. However, it also obscures the added costs that have come along with this seemingly positive change.

Chinese hospitals, especially in urban centers, increasingly rely on advanced medical technology. The increased importation of such technology, from MRIs to CT Scans and surgical equipment, along with the inevitable diffusion of such technology throughout Chinese hospitals, has certainly increased the efficiency and quality of medical practice. But rather than increasing competition and driving down costs, the introduction of free market reforms and improvements in the level of medical technology have had the reverse effect; they have actually driven costs, and prices for patients, up.

As the Chinese government continues to privatize healthcare, it is vital to understand the cause behind the seemingly paradoxical rise in medical costs. Economic reforms, if focused solely on economic policy and not tailored to specific sectors such as healthcare, can undermine a country’s medical system by creating increased disparity in medical services for the wealthy and the poor. There is no better example of this pitfall than today’s China. More importantly, and there is no real solution in sight. As medical costs for patients rise, expensive medical technologies continue to enter hospitals all over the country and push up costs even further.

William Hsiao of the Harvard School of Public Health attributes this phenomenon to new profit incentives that are reordering priorities for Chinese hospitals and medical practitioners. Profit incentives decrease physicians’ concern for providing affordable, accessible treatment and increase the pressure to use high-cost technology catered towards those who can pay for it. The contradictory coexistence of an economic boom and a healthcare gap presents a tradeoff for China’s policymakers. The government can either allow an American-style high-quality but expensive medical care system, or pursue a more egalitarian, but more regulated and inflexible system. Chinese policy towards the market for advanced medical devices reflects the government’s attempts to address this dilemma.

Laissez-Faire Healthcare
Under Mao Tse-tung’s government, Chinese healthcare was based on communal principles, wherein the state owned and operated aspects of the healthcare system. China’s Cooperative Medical System during the Cold War era ensured that even rural farmers had some access to healthcare, even if it came from barefoot doctors who were community experts in Western and traditional forms of medicine. Some of the accomplishments under the old system included a decline in infant mortality and a modest increase in life expectancy.

The barefoot doctor system would not survive the turbulent years of economic reform. The power struggle between economic liberals and hard-line communists created political turmoil in the early 1980s that shook the foundation of the government’s healthcare program. The economic liberals won out in the end, as Deng advocated a vision which would boost the economy and confidence in the government. The changes the healthcare system would have to undergo, however, were not clearly thought out, as Deng’s economic reforms soon took the front seat.

To become an economic power, China assimilated itself into the world economic system. It began collaboration with transnational manufacturers, participation in the World Trade Organization, and the use of advanced technological capabilities. The introduction of high-tech equipment into the medical system can perhaps be seen as an inevitable outcome of this economic modernization. In 2006, it was estimated that the medical equipment market (including domestic and imported products) was valued at US$13.7 billion. The US Department of Commerce estimates that the Chinese medical device market is growing at a rate of 10 to 15 percent a year.

The main factor that has created the continuous diffusion of medical technology in China is the gradual easing of government regulation on medical technology imports, which provided the stimulus for increased supply. As China has moved towards a market-driven economy since 1979, the practice of setting all imports to domestic prices that had been so common during the communist era began to end and imports started to roll in. In 1984, China began “foreign trade agent price formation,” which was an attempt to price imported goods, including medical devices, at world prices, in addition to any extra fees and tariffs that were required.

Despite the more open trade policies, pricing and consequently demand were still subject to the distortion brought about by the extra tariff fees. However, the Chinese government changed its policies towards medical device imports at the beginning of the 21st century. Tariffs on medical apparatuses fell from 9.9 percent in 2000 to 4.7 percent after China’s admittance to the World Trade Organization in 2001. The tariff reduction can be associated with the boom in the medical device market, which saw a revenue increase of almost 60 percent in two years between 2003-2005 as compared to the 70 percent increase in six years between 1997-2003. Effectively, the doors to China’s medical device market were flung wide open. The move towards liberalized trade in medical devices reflected a desire to introduce new technology and medical methods to the country, a push for modernization which naturally accompanied the country’s economic growth.

Recently, however, the Chinese government looks as if it wants to make medical device production a more domestic endeavor and has thus increased its effort to create an endogenous industry. China currently imports much of its advanced medical equipment, but also has the second largest domestic medical device market in Asia behind Japan’s. Hsiao estimates that 50 percent or more of the medical equipment in China originates from foreign suppliers, with the United States as the largest importer, but that may change given new regulations.

Favoring Domestic Industry

Imported medical technology was predominant in the 1990s and early 2000s in part because imported devices were not scrutinized for safety violations, nor were they required to be registered. Back then, the Chinese government had a vested interest in the free importation of medical goods in order to facilitate learning within the domestic medical device sector. The goal was that in time, China would no longer rely solely on foreign imports.

As recently as 1998, China’s “Measures for the Supervision and Administration of Biological Materials and Medical Apparatus” focused more on outlining the specific responsibilities of the Ministry of Health with regards to medical devices, rather than on implementing specific regulations. With only 23 articles, it did not set up a clear approval process for medical devices. Numerous loopholes made regulations difficult to actually enforce. Medical devices thus poured into the country in the early 1990s without any examination of their safety or necessity.

Lack of accountability in regulations and improved access to the Chinese market enabled many foreign medical device companies to engage in profitable trade with China, though all the while Chinese industrialists were learning to reproduce the same technologies. The Chinese government saw an opportunity in this sector, and began to pour funds into universities and companies that would contribute to the growth of the country’s domestic medical device industry. These subsidies to domestic industry were meant to increase competition and lower the costs of medical devices. In turn, this system would lower the cost of medical care to the patient, thereby increasing access.

Such a policy marks a return to old Chinese norms of egalitarian healthcare, as well as general promotion of a China-first policy. Unfortunately for the Chinese people, however, not everything worked as planned. In fact, the policy has actually resulted in a trend of rising medical prices and unequal access to healthcare that echoes the healthcare situation in the United States.

Regulating for Domestic Suppliers

The Chinese Ministry of Health is currently attempting to bridge the gap between the rich and poor in the healthcare sector by opening more avenues for domestic production and competition, while educating poorer consumers on product safety. The government is placing increased emphasis on the latter, especially after the regulation scandal in China’s State Food and Drug Administration (SFDA), which resulted in the execution of the adminstration’s head, Zheng Xiaoyu, on charges of corruption on duty. As such, today’s medical device regulatory system has been increasingly concerned with ensuring product quality through a more stringent evaluation process, so as to reassure suspicious patients that new devices are not harmful.

China is also fostering a regulation environment that hopes to increase the amount and quality of medical technology produced in China. The idea is to increase the number of suppliers and the competition between them through subsidies and research at home. Increased competition over buyers of medical technology will lower prices, thus increasing access to healthcare services. Domestic medical devices appear to have been outright favored in certain instances. For example, while domestically manufactured products must be registered through Provincial Health Bureaus, imported medical devices are required to register through the SFDA in order to ensure that products match the Chinese national standard.

While some simplifications to the registration process were made in 2004, the SFDA will soon publish a new version of the medical device regulations, which will be much longer than the version that was published in 2000. These regulations have many foreign companies concerned, since they enhance supervision and add several new trade regulations. Indeed, foreign criticism of recent medical device regulations has already been sharp. However, it is difficult to gauge to what extent the increased focus on product safety, which indirectly favors domestic producers, will add additional barriers to trade.

Still, any new barriers to trade, which the new SFDA guidelines may create, would probably wind up increasing the cost of technology and creating higher medical costs for already strained Chinese patients. While the promotion of domestic medical device businesses may help further improve the quality of China’s healthcare system, it may also push the country further away from an egalitarian ideal by increasing medical prices.

Privatization vs. Inequality

A secondary factor driving the medical device boom in China is the government-mandated requirement that state hospitals collect 70 to 90 percent of their revenue from user fees. This rule has not only created increased demand for advanced medical devices which can be used for expensive procedures, but also favors high-end hospitals at the expense of general hospitals that provide basic care.

In China, public hospitals are divided into three levels, with the higher levels providing increasingly advanced healthcare services. While Class II and Class III hospitals make up only about 23 percent of the total number of hospitals, they still have the most beds per hospital, receive the most funding, and often serve only those who can afford expensive treatment. The official bidding and tendering process for purchasing medical technology further complicates state hospitals’ freedom to purchase medical devices. Through this system, a company has to go through the Ministry of Health and a third party tendering company in order to sell products to a state hospital. The extra costs associated with this process are inevitably passed on to the patient.
Because state hospitals are expected to produce 70-90 percent of their own revenue, many have been compelled to use high-tech equipment in order to recover costs. There is a huge incentive for doctors to rush into using expensive equipment and procedures to treat patients, subsequently raising the issue of misuse of medical resources. Naturally, foreign companies, which import high-level medical technology into China, focus on the hospitals that can afford to purchase them—Class II and III hospitals. While these hospitals only make up only about one fifth of the health institutions in China, they provide the most services. If China is to maintain any remnant of state control over its healthcare system for egalitarian purposes, this inefficient allocation of healthcare resources must be fixed.

The Ministry of Health is trying to address this imbalance in healthcare distribution by imposing new regulations. In 2006, the National Development and Reform Commission (NDRC) announced a price ceiling for medical devices due to rising costs. The NDRC is collaborating with the China Association of the Medical Device Industry and the China Price Association to oversee these new restrictions. Such a price ceiling could result in high demand for medical technology, but a shortage in supply. Furthermore, it could discourage foreign companies from importing into China. The extent to which a shortage in supply will eventually force the government into the tough position of balancing fair prices with limited technological access is yet to be seen.

China’s changing regulatory environment will undoubtedly affect both the supply and demand for medical goods. New regulations and price ceilings may discourage foreign and domestic suppliers, but the institutional favoring of domestic suppliers could compensate for this problem and increase supply. On the other hand, safer and cheaper products may increase demand as purchasers become gain confident in medical products. We could see shortages in equipment if price ceilings stick politically. If price ceilings do not stick, basic supply and demand models tell us that if both supply and demand increased, the amount of medical devices available will increase while the effect on price of those products will be ambiguous.

Looking Forward

It is evident that rising medical costs will only further exacerbate healthcare inequality in China unless the government acts quickly to reform its policies on the healthcare system. Creating barriers to trade and imposing price ceilings will only add new costs that will be passed on to patients But allowing entirely free market trade in medical devices could do just the same, as the early 1990s illustrated. Certainly reforms are needed to the “Class” scheme if China is to reduce its problems with unequal access to medical care. China will most likely continue to try to find the right regulatory balance to reduce the prices of medical devices while not sacrificing their production. But it may very well go the other way towards an almost entirely privatized healthcare system such as America’s, where egalitarian treatment is largely sacrificed for quality of care.

China’s remarkable economic development in the past three decades is both a testament to Adam Smith’s vision of the power of the market’s “invisible hand” and a demonstration of the inequality externality of globalization, a view espoused by Nobel Prize-winning economist, Joseph Stiglitz. While China’s economic openness has truly provided increased business opportunities and through trade, it also has come at a cost to those who can afford it the least. The increased importation and domestic manufacturing of advanced but expensive medical technology may generally raise the quality of healthcare that is delivered to those who can afford it, but skeptics see such benefits as minimal when compared to the growing healthcare inequality that is reflective of the larger global trend of healthcare disparities between the rich and poor.

Deng Xiaoping’s vision for China’s improved economic relationship with the West has come true, but China also seems to be following the US practice of valuing healthcare quality over healthcare equality. Whether or not this model is a good one for China, a society which for almost 60 years has been trained to think of equality as a high priority, remains to be seen.