317_L32, April 2, 2008, J. Schaafsma 1 Review of the Last Lecture Began our discussion of models of not-for-profit acute care hospitals Discussed the organic model of the NFP acute care hospital and its implications for technical and allocative efficiency: with and without insurance and with and without SID Today begin with a brief discussion of the transactions (bargaining) model of the NFP acute care hospital then begin our discussion of the last topic: four different hospital reimbursement systems and their incentive effects for technical and allocative efficiency

317_L32, April 2, 2008, J. Schaafsma 2 The 2 nd Model of the NFP Acute Care Hosp.: the Transactions Model this model recognizes that various groups with different objectives all have input into the management of the hospital sometimes their objectives coincide and sometimes they compete groups that have input into how a hospital is run: administration medical staff board of management nursing staff provincial ministry of health each has its own objectives and constraints “transactions model” since these groups give and take, i.e.“bargain” in pursuit of their main objectives. ///

317_L32, April 2, 2008, J. Schaafsma 3 Usefulness of the Transactions Model Approach probably the most realistic approach to modeling Canadian acute care hospitals however, extremely complex to model the interaction of multiple groups with coinciding and competing objectives subject to different constraints. Why even try to model the NFP acute care hospital?  1.Would like to understand what drives input and output decisions, can we be confident that allocative and technical efficiency are achieved? 2. need a model to predict how the hospital will respond to policy changes. ///

317_L32, April 2, 2008, J. Schaafsma 4 Implications of the Transaction Model does not provide a basis for being confident that the Canadian acute care hospital is technically efficient => There is nothing in the model that suggests decisions will be based on minimizing costs provides no assurance that hospital admissions per capita per procedure is the correct rate (whose preferences determine admission rates?: prov gov’t?, Drs?, patients? lobby groups?) provides no assurance of appropriate service intensity (whose preferences determine service intensity?: prov gov’t?, Drs?, patients? lobby groups?) provides no assurance that the hospital length of stay is the correct one ///

317_L32, April 2, 2008, J. Schaafsma 5 VII(3): Hospital Reimbursement Systems and Incentive Effects will look at four hospital reimbursement systems: - prospective reimbursement - payment by unit of service - payment by episode of care - capitation payment will look at what each one is and critically evaluate its incentives for: - technical efficiency (least cost production of care) - Allocative efficiency - hospital admissions, service intensity, length of stay ///

317_L32, April 2, 2008, J. Schaafsma 6 1. Prospective Reimbursement hospital negotiates a budget for the coming year with the Ministry of Health budget based on anticipated workload and cost of inputs  hence “prospective” over-runs at year-end may or may not be funded: i) if not funded  budget allocation is a tight constraint ii) if funded  no financial constraint on the hospital budgetary surpluses may or may not be recaptured by gov’t: i) recapture dulls incentive for technical efficiency ii) if not recaptured, incentive effect depends on what motivates administrators of NFP acute care hospitals

317_L32, April 2, 2008, J. Schaafsma 7 Incentive Effects of Prospective Reimbursement if deficits not funded  seek to maximize budgetary requests for the coming year if surpluses recaptured  encourages the spending of all the allocated funds  no incentive for technical efficiency other than the need to break even if surpluses may be retained  incentive for technical efficiency  but will the hospital admin respond to this incentive?  surpluses can’t be distributed amongst administrators so why would they try for technical efficiency?  need some other motivation for wanting to earn a surplus: reinvest surplus in high tech equipment and build a hospital reputation? Quantity maximizers? ///

317_L32, April 2, 2008, J. Schaafsma 8 Incentive Effects of Prospective Reimbursement: Concluded no incentive to achieve allocative efficiency (optimal admission rate, optimal service intensity, optimal length of stay) if a budget deficit is anticipated and it won’t be funded  incentive not to admit patients, and/or under-service patients, and/or reduce length of stay if a budget surplus is anticipated and it cannot be retained and administrators are output maximizers  incentive to admit patients, or to over-service them, or increase length of stay. prospective reimbursement basically funds on the basis of historical precedent, anticipated growth, quality improvement, and expected inflation  can perpetuate inefficiencies year after year. ///

317_L32, April 2, 2008, J. Schaafsma 9 Using the Budget Constraint to Pursue Efficiency prospective reimbursement can push the hospital into the direction of technical and allocative efficiency by reducing funding => will force management to produce output at a lower cost, focus on the appropriate admissions rate, service intensity, and length of stay two problems: 1) Drs generally control admissions and servicing levels  admin must balance the budget  must lean on the Drs to control expenditures  How?  no easy answer 2) How do we know the budget reduction is the right amount, what is the right funding level? ///

317_L32, April 2, 2008, J. Schaafsma Payment by Unit of Service hospital is reimbursed a fixed price per unit for the various components of care, e.g., hotel care (room and board), diagnostic procedure, therapeutic intervention, medicine payment per unit of service is equalized across hospitals no global budget constraint technically inefficient hospitals under pressure to become efficient to avoid a deficit technically efficient hospitals  earn a surplus  may spend as desired  generally expand/upgrade high tech equipment however, if a hospital not interested in earning a surplus  may simply manage its affairs to break even at prices paid. lowering unit prices can impose a high degree of technical efficiency//

317_L32, April 2, 2008, J. Schaafsma 11 Payment by Unit of Service: Allocative Efficiency incentive to avoid admitting patients who need services where the hospital is not technically efficient (where the hospital’s unit costs are higher than the unit prices) => avoid deficits If these patients are admitted => may be underserviced or shorter stay incentive to admit patients who need services where the hospital is technically efficient (where the hospital’s unit costs are lower than the unit prices) => earn surpluses If these patients are admitted => may be over serviced or have excessively long stays.

317_L32, April 2, 2008, J. Schaafsma 12 Payment by Unit of Service and Rising Service Intensity payment by unit of service believed to cause rising service intensity with this reimbursement system some hospitals will always earn a surplus (since unit prices are averages across hospitals)  surpluses generally used to get more equipment  perceived higher quality of care  sets standard for other hospitals to emulate  eventually government funds acquisition of equipment for those who can’t generate surpluses  hospital expenditures  lack of government control over rising service intensity is the main reason why payment by unit of service is not used since the method requires that hospitals be allowed to retain surpluses. this reimbursement method can promote technical efficiency by lowering unit prices paid. More concerned about over-servicing ///

317_L32, April 2, 2008, J. Schaafsma Payment by Episode of Care also called payment by diagnostic related grouping (DRG) hospital is paid a fixed amount for treating a patient with a specific problem  case based payment  so much per appendectomy case, tonsillectomy case, etc. payment reflects average cost across hospitals of treating such a case. incentive to avoid producing at above average cost  would incur a loss on the case. if surpluses are desired  incentive for technical efficiency and to limit service intensity  cost per case below average  surplus Problem  Drs control admissions and service intensity///

317_L32, April 2, 2008, J. Schaafsma 14 Payment by Episode of Care: Problems need an accurate classification system for HC problems that includes a severity index  vary payment with the complexity of the episode incentive for procedural reclassification if relative prices across DRG’s inconsistent: e.g., upgrade procedure to get higher fee if the fee increases proportionately more than the cost of the procedure incentive to under-service to control costs (note: this incentive is stronger here than with payment per unit of service)  need a strong quality assurance program in the hospital definition of an episode  discharge a little too early and then readmit  same episodes or two separate ones? system requires surplus retention by hospitals  service intensity  ///

317_L32, April 2, 2008, J. Schaafsma 15 Payment by Episode of Care: Hospital Admissions no revenue if no hospital admissions  incentive to admit “cream skimming”  incentive to admit “cheap” cases (earn a surplus) and discourage admission of “expensive” cases (where a loss might be incurred) ///