Psychiatric Overdiagnosis: The Price of Prosperity?

Abundance, loose criteria, and perverse healthcare incentives turned normal struggles into a diagnosable epidemic.

by Adam Omary, Jeffrey Singer, and Alexander Williams.

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According to the World Health Organization, more than 1.1 billion people worldwide are living with a mental disorder. The figure has grown faster than the global population, and the burden falls disproportionately on the world’s wealthiest societies. In the United States, an estimated 49.5 percent of adolescents have met diagnostic criteria for at least one mental disorder at some point in their lifetime. Additionally, about 31 percent of American adults will experience an anxiety disorder at some point in their lives, and 21 percent a mood disorder, according to the National Institutes of Mental Health.

In Australia, the National Study of Mental Health and Wellbeing found that 21.5 percent of adults over 25 and over 38 percent of young people aged 16 to 24 met criteria for a mental disorder in the previous 12 months. Across OECD nations, one in five adults experiences at least mild depressive symptoms, with over 9 percent of the population reporting clinical depression or anxiety.

These trends have become perhaps the most common objection to the case for human progress: If life is getting better, why are so many people apparently unhappy? Why are hundreds of millions of people across the most prosperous nations on Earth labeled clinically mentally unwell?

For one, rising mental health diagnoses may themselves be a sign of progress. Psychiatry as a discipline is barely more than a century old, and it was stigmatized and unscientific throughout most of its history. What we now call mental health problems are, in many cases, what our ancestors called the inevitable vicissitudes of life. When survival demanded hard physical labor from dawn to dusk, there was little room for psychoanalysis. Perhaps only in a world of material abundance, safety, and comfort—where mood swings and relationship conflict represent life’s biggest challenges for many otherwise healthy people—do we begin to treat such adversity not as fate but as a problem to be solved.

That is not to dismiss the problem entirely. Our survival-evolved brains are navigating environments they were never built for. It was adaptive to be vigilant about threats in one’s local environment; there was no possibility of witnessing every catastrophe on Earth in real time. Social media, sedentary lifestyles, weakened community bonds, and the erosion of traditional sources of meaning all represent genuine evolutionary mismatches that plausibly contribute to psychological distress.

But at least in the United States, there is strong reason to believe that a less-examined driver of the supposed rise in mental illness is the healthcare financing system itself, which pays more when providers diagnose more.

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Psychiatric Overdiagnosis in the United States

Psychiatric diagnoses in the United States are rising across virtually every category, in every age group. According to the National Institutes of Mental Health, more than one in five U.S. adults—59.3 million people—lived with a mental illness in 2022. By these numbers, mental illness is not a rare affliction but a near-universal feature of American life, prompting some, including former US Surgeon General Vivek Murthy, MD, to declare a mental health epidemic.

The rise is evident across specific conditions as well. The Centers for Disease Control and Prevention (CDC) now places autism prevalence at 1 in 31, a 381 percent increase since 2000. Attention-Deficit/Hyperactivity Disorder (ADHD) diagnoses among American children nearly doubled from 6.1 to 11.4 percent between 1997 and 2022. Among adults, self-reported ADHD diagnosis among working-age adults has more than tripled since 2012, from 4.25 to 13.9 percent. Diagnosed anxiety among children aged 3 to 17 rose from 6.9 to 10.6 percent between 2016 and 2022—a 54 percent increase in just six years. Diagnosed depression among the same age group climbed from 3.1 to 4.6 percent, a 48 percent increase, in the same time period. Among adults, the past-year prevalence of any mental illness rose to 23.1 percent in 2022, with young adults aged 18 to 25 reporting the highest rate of 36.2 percent.

A surface-level reading of these numbers suggests that America is indeed in the midst of a mental health crisis. But diagnoses can change even when our underlying psychology does not.

Psychiatric diagnoses differ from most of medicine because they rely on subjective mental phenomena and behavioral symptoms instead of physical symptoms or biomarkers. There is no blood test for autism, no imaging scan that confirms ADHD, and no objective test that differentiates clinical anxiety from ordinary worry. Diagnosis depends on clinical judgment about whether a person’s behavior exceeds a threshold established by committee consensus in the Diagnostic and Statistical Manual of Mental Disorders (DSM).

The DSM has progressively broadened the boundaries of major psychiatric categories over successive revisions. The DSM-5, published in 2013, collapsed previously distinct autism categories into a single spectrum, making “on the spectrum” a label elastic enough to encompass both nonverbal children requiring constant care and socially awkward adolescents who prefer solitude. The same revision loosened ADHD criteria, allowing symptoms to appear as late as age 12 rather than requiring onset by age 7, and reducing the symptom threshold for adults. Generalized anxiety disorder requires only that worry be “excessive” and cause “clinically significant distress or impairment,” judgments that depend entirely on a clinician’s interpretation of where normal worry ends, and disorder begins.

Defenders of modern psychiatry often claim that expanding diagnostic criteria reflect better screening, capturing subtler presentations, and that rising diagnoses reflect more accurate assessments of the true population prevalence of mental illness. But aside from the grim forecasts of living in a world where half of all young people have experienced mental illness, there is reason to believe that psychiatric diagnoses have become less precise, not more.

Broad diagnostic criteria often interact with screening instruments that cannot reliably distinguish clinical conditions from normal variation. The CDC’s autism prevalence estimates, for instance, rely on surveys such as the Social Responsiveness Scale, which asks parents to rate statements like “Would rather be alone than with others,” “Has difficulty making friends,” and “Is regarded by other children as odd or weird.” These items describe behavioral traits common to social anxiety, introversion, and ordinary shyness and cannot reliably distinguish autism. Yet researchers routinely use high scores on such instruments as proxies for clinical diagnosis in prevalence studies, including in the CDC’s own data.

The limitations of this approach became especially apparent after the COVID-19 pandemic. CDC autism prevalence surged an additional 40 percent in just four years, from 2018 to 2022—a period during which millions of children experienced prolonged social isolation, disrupted routines, and reduced peer interaction that would predictably elevate scores on parent-reported behavioral surveys measuring social difficulties, whether or not the underlying rate of autism had changed.

None of this diminishes the reality of autism, ADHD, or anxiety disorders for individuals with significant functional impairment. But when the boundaries of diagnosis are inherently subjective, and when diagnosis is the key that unlocks streams of taxpayer-funded services, the system will predictably expand those boundaries.

How Medicaid and the ACA Reward Diagnostic Expansion

When diagnosis is subjective, and payment depends on diagnosis, the system will reward expanding the definition of illness.

Incentives drive behavior. Psychiatric overdiagnoses would matter less if the diagnosis were merely a label. But in the American healthcare system, diagnoses serve as keys that unlock streams of taxpayer dollars.

The Mental Health Parity and Addiction Equity Act of 2008, extended by the Affordable Care Act (ACA), requires health plans, including Medicaid managed care plans, to cover behavioral health services at parity with medical and surgical services. Parity addressed a real problem: mental health conditions were historically under-covered. But parity also limits the tools that plans can use to manage utilization. Prior authorization requirements, visit caps, and annual spending ceilings can all be challenged on parity grounds. Plans that wish to avoid litigation or regulatory action have a strong reason to approve rather than deny.

Under the fee-for-service payment model within Medicaid, which 2008 parity provisions dramatically expanded, providers submit a claim to the state Medicaid agency. The state then pays the provider in accordance with the predetermined price of the service, otherwise known as the fee schedule. The fee schedule, in theory, serves to regulate providers’ room for maneuver with respect to payment claims, thereby preventing undue financial gain. The reimbursement structure underlying the fee-for-service model is designed to mitigate abuse by binding providers to a prearranged sum.

However, the fee schedule only governs the prices to which providers are entitled for their services. It introduces no effective mechanism by which to govern the legitimacy of the services themselves. This empowers providers to profit by inflating the frequency of services, knowing that the fee-for-service model fixes only the pricing and not the services. This creates the conditions for supplier-induced demand.

In practice, therefore, providers have the freedom to manipulate demand by lowering the diagnostic threshold for services. Across states, weak spending constraints further subsidize this demand. This serves to distort natural market forces by enabling providers to expand mental health services beyond the point at which their cost would be acceptable to recipients, especially those with minimal diagnostic eligibility.

Similar risks persist in managed care, which pays per patient rather than per service. While this model improves cost predictability, it does little to ensure services are necessary. Providers still control enrollment, and expanding the number of patients can drive spending just as effectively as increasing the number of services. Changing the payment mechanism does not eliminate the incentive—it simply shifts how it is exploited.

Additionally, under Medicaid’s Early and Periodic Screening, Diagnostic, and Treatment (EPSDT) benefit, states must cover all medically necessary services for children under 21, even services not otherwise included in the state’s Medicaid plan, including mental health services.

When diagnoses rest on subjective behavioral criteria, and when coverage means open-ended reimbursement for services billed by the hour, the connection between spending and genuine clinical need begins to erode.

Then there is the federal matching structure. Medicaid’s open-ended Federal Medical Assistance Percentage reimburses states for 50 to 83 percent of Medicaid expenditures. When a state spends a dollar on autism services, it pays 17 to 50 cents. Federal taxpayers cover the rest. And because the match is open-ended, more spending automatically brings in more federal dollars. States bear only a fraction of the cost, weakening the fiscal discipline that comes with spending their own money.

Once therapy became mandatory, states used Medicaid waivers to circumvent standard rules and expand services and eligibility with federal funds. These waivers—and similar authorities—opened the door for providers to significantly increase Medicaid billing.

Enhanced federal matching rates during the COVID-19 public health emergency further reduced the state share, especially during the period when mental health spending grew the fastest. The pandemic significantly increased both the supply of and demand for psychiatric services. Telehealth services for mental health conditions surged 16- to 20-fold during the first year of the pandemic, according to a RAND study of over 5 million commercially insured adults, more than compensating for the drop in in-person care. By August 2022, overall mental health service utilization was 38.8 percent higher than before the pandemic. Mental health and substance use diagnoses grew from 11 percent of telehealth visits in early 2019 to 39 percent by mid-2021. The share of all outpatient visits carrying a mental health or substance use diagnosis doubled from 4 to 8 percent.

Pandemic emergency waivers and telehealth policies further loosened restrictions on how services could be delivered and reimbursed. States such as Massachusetts, North Carolina, Indiana, and Colorado expanded telehealth eligibility (including audio-only services) and adopted payment parity for telehealth, effectively turning remote services into scalable, high-volume billing opportunities. The result was not just a shift in how care was delivered, but a notable increase in utilization and spending, often in the tens of millions of dollars per state annually, consistent with policy changes that reduced the marginal cost of delivering and billing for services.

A substantial body of research suggests that financial incentives can influence psychiatric diagnosis rates. In the United States, eligibility for school services and insurance coverage often depends on specific diagnostic categories. For example, states offering more autism-specific services tend to report higher autism prevalence, while classifications of other developmental disabilities decline—a pattern consistent with diagnostic substitution. A 2009 study estimated that at least 26 percent of the increase in autism diagnoses in California between 1992 and 2005 could be explained by diagnostic substitution, primarily from children previously classified as having intellectual disability.

A Problem of Prosperity?

In economic terms, what has unfolded in American mental healthcare is supplier-induced demand operating within a system that lacks the price signals, utilization controls, and outcome accountability mechanisms that would normally constrain it. The therapy industry has expanded to absorb the available reimbursement, exactly as economic theory would predict in a fee-for-service system with elastic diagnostic criteria, open-ended coverage mandates, and absent oversight.

That is worth stating clearly, because the rising tide of psychiatric diagnoses is often cited as proof that modernity has failed; that the improvements in life expectancy, poverty reduction, literacy, income, and so forth are hollow, because they mask a deeper spiritual or psychological collapse. That narrative is understandable. It is also incomplete.

The story of mental health in the modern world is not one of pure decline. It is a story of multiple forces operating simultaneously, some genuinely concerning and some artifacts of the very prosperity that makes psychological well-being a priority in the first place. Wealthy societies can afford to screen for, name, and treat conditions that our ancestors endured in silence or never recognized at all. That is a form of progress. But when the systems designed to deliver that care are structured to reward volume over value, diagnosis over outcome, and spending over accountability, the result is predictable: an ever-expanding pool of diagnoses that dilutes resources away from those with the most severe impairment.

There is reason to be optimistic. The fact that societies are wealthy and secure enough to attend to psychological suffering at all—rather than simply enduring it—represents a remarkable achievement.

But the same ingenuity that produced modern medicine, market economies, and unprecedented material abundance can also produce perverse incentive structures that undermine the goals they were designed to serve. Understanding that human systems, like the humans who design them, are imperfect and responsive to incentives, is not an argument against progress. It is a precondition for sustaining it. Progress, as ever, depends on getting the incentives right.

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Authors:

Adam Omary is a Research Fellow at the Cato Institute’s Center for Global Liberty and Prosperity. Subscribe to his Substack, Psychology of Progress.

Jeffrey Singer is a Senior Fellow in Health Policy at the Cato Institute.

Alexander Williams is an intern at HumanProgress.org.