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How did Medicare's prospective payment system affect hospitals?
Abstract:
Using data from 1982 and 1984, we examined how Medicare's prospective payment system affected hospitals. The study showed that hospitals paid through the prospective payment system had significantly lower increases in Medicare costs and greater declines in Medicare use than did other hospitals. Unlike these other hospitals, for which Medicare costs approximately equaled Medicare revenues, hospitals receiving prospective payment kept Medicare costs from rising as fast as Medicare revenues, earning the profit that the prospective payment system allowed. The opportunity to earn a profit led hospitals to slow increases in Medicare costs, regardless of the level of revenue constraint. However, the more the prospective payment system constrained hospitals' revenues, the more hospitals slowed increases in Medicare costs. In the most constrained hospitals, slower increases in Medicare costs were accompanied by slower increases in total hospital spending. The least constrained hospitals slowed Medicare cost increases the least and did not show their overall spending. These hospitals nevertheless increased their profit margins the most, since the prospective payment system's federal rate paid them the highest rates relative to base-year costs. Since federal rates produced extra profits, not extra cost containment, their appropriateness is questionable. The prospective payment system should be modified to eliminate windfalls while continuing to promote cost containment.
Insights
The prospective payment system (PPS) reduced Medicare costs and use. Hospitals earning profits under PPS slowed cost increases, with greater savings in more revenue-constrained facilities, suggesting modifications for better cost containment.
Area of Science:
- Health Economics
- Healthcare Management
- Public Health Policy
Background:
- The implementation of Medicare's prospective payment system (PPS) in the early 1980s aimed to control rising healthcare expenditures.
- Understanding the financial and operational impacts of PPS on hospitals is crucial for healthcare policy evaluation.
Purpose of the Study:
- To analyze the effects of Medicare's prospective payment system on hospital costs and utilization.
- To investigate the relationship between revenue constraints, profit opportunities, and cost containment under PPS.
Main Methods:
- Analysis of hospital financial and utilization data from 1982 and 1984.
- Comparative analysis between hospitals under PPS and those under different payment models.
Main Results:
- Hospitals under PPS demonstrated significantly lower increases in Medicare costs and greater declines in Medicare utilization compared to non-PPS hospitals.
- The opportunity for profit under PPS incentivized hospitals to slow Medicare cost increases, independent of revenue constraints.
- Stronger revenue constraints under PPS correlated with more substantial reductions in Medicare cost growth and, in some cases, total hospital spending.
Conclusions:
- The prospective payment system effectively reduced Medicare costs and utilization, driven by profit incentives.
- The degree of revenue constraint under PPS directly influenced the extent of cost containment achieved.
- Current federal rates may offer excessive profits without guaranteeing optimal cost containment, necessitating system modifications to eliminate windfalls and enhance cost control.