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Health Care Cost and Financing

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Community program to limit hospital budgets restrained overall hospital costs, but at a price to individual hospitals

A community program to limit annual revenues of hospitals in Rochester, NY, was successful in constraining overall costs for hospital care in the area. However, individual hospitals may have paid the price. Their total revenue margins appeared to be neither consistently high nor stable during the program, according to a study of the program's impact by Bernard Friedman, Ph.D., and Herbert S. Wong, Ph.D., of the Center for Delivery Systems Research, Agency for Health Care Policy and Research.

Rochester area hospitals, which voluntarily participated in the Hospital Experimental Payment (HEP) Program, were waived from the payment rules in Federal and State programs such as Medicare and Medicaid. Instead, the HEP program, which operated from 1980 to 1987, assured all payers the same rate of increase in payments per case, assured hospitals compensation for care of the uninsured, and provided a forum in which the allocation of capital spending for particular projects could be debated.

Real hospital expense per case grew annually by about 3 percent less for Rochester area hospitals than for other hospitals between 1980 and 1984. Although wages and benefits were higher in Rochester hospitals prior to 1980, these differences narrowed and, in the case of benefits, reversed by the end of the budget agreement. Capital-intensive and expensive services, such as intensive care units, were restrained in Rochester, compared with elsewhere. Although hospitals were able to charge all payers the same rate, which reduced administrative costs and competition with other hospitals, cash flow in relation to total liabilities was reduced to levels that were quite low by the end of the period. The community might then have been forced to deal with more difficult questions of reducing services or quality, according to the researchers. They conclude the program probably ended when hospitals felt that other payment schemes, such as Medicare and Medicaid, offered them better financial opportunities than the fixed budget of the HEP program.

For more information, see "Impacts of hospital budget limits in Rochester, New York," by Drs. Friedman and Wong, in the Summer 1995 issue of Health Care Financing Review 16(4), pp. 201-219.

Hospital mergers in the 1980s often resulted in conversion of acute services to other functions

New technologies and pressure to shorten hospital stays reduced the need for hospital acute care beds during the 1980s. In this environment, hospital mergers occurring between 1983 and 1988 frequently converted acute, inpatient wards to other functions, with less than half of acquired hospitals continuing acute services after merger. A study analyzing hospitals that were involved in mergers at this time suggests that mergers reflected two hospital strategies: elimination of direct acute care competitors or expansion of acute care networks. Both strategies were designed to strengthen the financial position of the acquiring hospital.

The study, supported by the Agency for Health Care Policy and Research (HS06250), examined the premerger characteristics of acquiring and acquired hospitals and the uses to which acquired hospitals were put after merger. Researchers found that acquired hospitals were closed in 17 percent of the mergers. After 42 percent of the mergers, acquired hospitals continued to be used for acute services. When both hospitals retained acute services, the acquirer and the acquired had greater similarity in service mix, full-time equivalents per bed, and occupancy rates and had complimentary locations. These factors allowed the development of a horizontal network of acute care services and expansion of the resulting entity's market share.

In 41 percent of the mergers, the acquiring hospital converted general acute wards of the acquired hospital to nonacute inpatient uses (for example, psychiatric and substance abuse services, rehabilitation, and long-term care), which are reimbursed by Medicare on a more favorable basis than acute services. These mergers served to reduce direct competition, consolidate services, and strengthen the financial position of the resulting entities relative to the premerger hospitals.

The authors point out the need for additional studies to look at institutions and communities after merger on a case-by-case basis to find out how the community perceives the change and the resulting institution, under what circumstances a community embraces or turns away from the postmerger entity, when a merger is counter to the public good, and finally, what criteria define a merger that leads to lower costs to the community, improved access, and/or better quality.

For more details, see "Hospital reorganization after merger," by Richard J. Bogue, Ph.D., Stephen M. Shortell, Ph.D., Min-Woong Sohn, M.A., and others, in Medical Care 33(7), pp. 676-686, 1995.

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