Cost allocation patterns between hospital inpatient and outpatient departments

This study examines changes in hospitals' cost allocation patterns between inpatient and outpatient departments in response to the implementation of the prospective payment system. DATA SOURCES AND STUDY SETTINGS: The analysis was carried out using data for 3,961 hospitals obtained from the Medicare Cost Reports and from the American Hospital Association for the years 1984 through 1988.

A total operating cost function was estimated on the two outputs of discharges and outpatient visits. The estimation results were instrumental in disaggregating costs into inpatient and outpatient components. This was done cross-sectionally for each of the five years.

Comparison of this cost breakdown with that of hospital revenue provides evidence of distinct patterns in which nonteaching, rural, and small hospitals increasingly allocated greater costs to outpatient departments than did large, urban, and teaching hospitals.

The results suggest that small rural hospitals turned to the outpatient side in the face of tough economic challenges over the period of study. Because differences in cost allocation patterns occur by particular hospital category, analyses that rely on accounting cost or revenue data in order to identify cost differences among those same categories may come to erroneous conclusions. In particular, because teaching hospitals apportion costs more heavily on the inpatient side, cost allocation differences cause upward bias in the PPS medical education adjustment.