Michael Burry's Forgotten 1994 Paper Predicted Hidden Healthcare Bubble, Why It Was Doomed To Burst

Long before his historic wager against the U.S. housing market, investor Michael Burry was dissecting a different kind of bubble.

This one was unfolding in the American healthcare system and was driven by deeply flawed federal incentives, not unlike the system that is still being followed today.

Unintended Consequences Of Federal Policies

In his newsletter on Thursday, Burry shared a paper that he had written all the way back in August 1994, when he was a medical student extern at Northwestern University.

The paper examines how federal reimbursement rules unintentionally fueled a massive expansion in rehabilitation medicine. He said the paper remains relevant today because “the government plays no small role, and the business of medicine follows the incentives that are laid down for it.”

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Burry explains how rehabilitation hospitals “literally erupted” in number from the early 1980s through the early 1990s, even during an era of mounting concern over healthcare costs.

He attributes this to a federal policy distortion, with acute-care hospitals being placed on a fixed-payment system in 1983, while inpatient rehabilitation facilities remained on a cost-based reimbursement structure. This asymmetry, Burry said, fundamentally reshaped hospital behavior and investment decisions.

Under the new structure, acute-care hospitals suddenly carried the financial risk of patient treatment and therefore had strong incentives to discharge patients as quickly as possible.

Rehabilitation facilities, by contrast, were reimbursed based on their reported costs, encouraging aggressive expansion and heavy upfront spending.

The result was a surge in new rehabilitation hospitals and units, which, according to Burry, rose from 74 to 159 and 345 to 848 in less than a decade.

Because Medicare was covering “greater than 50% of rehabilitation patients,” the industry's growth became deeply dependent on federal policy. Burry warned that this dependency made the entire expansion inherently unstable.

Burry pointed to a proposal then circulating within the Health Care Financing Administration, now called Centers for Medicare & Medicaid Services, that was set to penalize hospitals for discharging patients to rehabilitation facilities. “This proposal would devastate rehabilitation medicine throughout the nation,” he said.

He concluded by framing this as a warning about policy-driven bubbles. “Much of it is predictable by following the incentives,” he said.

Recent Healthcare Policy Proposals

The American healthcare industry, which is now increasingly reliant on the U.S. government, faces several policy-related headwinds from recent proposals.

Last month, the government proposed new payment models, known as GUARD and GLOBE, aimed at lowering Medicare drug prices by benchmarking U.S. costs against international markets, reflecting an ongoing federal push to rein in healthcare spending and redesign industry incentives.

Leading healthcare stocks have witnessed significant volatility in recent weeks amid uncertainties surrounding the extension of Affordable Care Act subsidies.

Billionaire investor Mark Cuban has repeatedly warned in recent months about the outsized power held by insurers and pharmacy benefit managers under the current system, while accusing them of “abusing” independent physicians.

Cuban said that the ACA, also known as Obamacare was “garbage today,” while adding that “the fault isn’t with the ACA, it’s with politicians and administrations that let the abuse of the ACA occur.”

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