Measuring hospital efficiency with frontier cost functions

Area of Science:

• Health Economics
• Healthcare Management
• Operations Research

Background:

• Measuring hospital inefficiency is crucial for cost containment and quality improvement.
• Previous models often struggled to account for unobserved variations in hospital outputs.

Purpose of the Study:

• To derive accurate, hospital-specific measures of inefficiency.
• To incorporate illness severity, output quality, and patient outcomes into cost function models.
• To test and address the assumption of output endogeneity.

Main Methods:

• Employed a stochastic frontier multiproduct cost function.
• Utilized data from the AHA Annual Survey, Medicare Hospital Cost Reports, and MEDPAR.
• Explicitly tested and rejected the assumption of output endogeneity.

Main Results:

• Inefficiency was found to account for 13.6% of total hospital costs.
• The inefficiency estimates were robust across different model specifications and data pooling methods.
• Direct measures of illness severity, output quality, and patient outcomes improved inefficiency estimation.

Conclusions:

• A significant portion of hospital costs is attributable to inefficiency.
• The methodology provides a reliable approach for measuring hospital inefficiency.
• Accounting for output characteristics is essential for accurate inefficiency assessment.