The Ethics and Economics of Kickbacks and Fee Splitting

This paper examines the welfare effects of fee splitting or kickbacks paid by one physician to another in return for patient referrals. This practice is regarded as unethical and illegal in most cases, but it is shown that in a principal-agent context it is possible for fee splitting to offer incentives which actually improve patient welfare. Fee splitting occurs when there is a divergence between price and the referral partner's marginal opportunity cost. A restructuring of fee levels to yield physicians equal net income per unit time would remove the incentive for fee splitting. In the absence of this reform it is shown that fee splitting may induce the first-contact physician to refer instead of performing a lower quality procedure himself, and can also be a tool for eroding specialist monopoly power.