Very Basic Health Care Financing for the Interested Medical Student1
The basics of financing any health care system boil down to three components, which are not all that different from how money works in your house and mine. They are:
- Getting the money. This is analogous to your income. Just as you may receive income from many sources – a paycheck from work, $30 cash from babysitting your nephew, that quarter you found yesterday on the sidewalk – so can a health care system raise funds from several places. Examples include premiums, deductibles, co-payments, and taxes.
- Pooling the money. This is analogous to your savings – putting your money in a bank, wrapping it in tin-foil and keeping it in the freezer, or burying it in a mayonnaise jar in the back yard like I do. In America the money is largely pooled by private health insurance funds. In England there is one big pool for the whole public health care system.
- Spending the money. This is analogous to when you go out and splurge on those fancy new shoes. The merchant selling you the shoes is similar to the health care provider. You might buy shoes at a big department store, in which case the person who sells you the shoes (the doctor, in this metaphor) probably doesn’t have a lot of say in the way the company is run. A small boutique owner (administrator) who is also the salesman (doctor) may have more flexibility to stock the styles and prices of shoes that are appropriate for the population of customers living around the shoe store. The three most commonly used methods of transferring money from a central funding source to a provider are fee-for-service, capitation, and budgeting. Outcome-based payment – both to providers and individual practitioners – is being used with increasing frequency both here and abroad.
I’ll now say a few words about the benefits and drawbacks of the provider reimbursement schemes.
Fee-for-service, a very popular model in the United States, is good because when doctors work harder, they get more money. We like doctors to work hard. But not too hard. Personally, I would like my doctor to do as little work as necessary to get me well. I think most patients would agree. Doing less work – as long as the results are the same – takes less of the patient’s time and costs less money. However, the fee-for-service scheme establishes a disincentive for providers to find more efficient ways to perform the same medical care. This is what I call the, “Why do a physical exam when an MRI will do?” mentality. Medicare uses something called yardstick competition2 in an attempt to insert efficiency back into a fee-for-service framework.
Capitation is a method of reimbursing providers where the money follows the patient, rather than the service. Every year a health care provider receives a lump sum for each patient enrolled with it’s service. If a service is really terrible and people leave, the provider loses money. If a service is really great, it can attract more patients and more money. This creates an incentive for providers to offer the kind of care their patients want – whatever that care may be. There is also an incentive to be efficient, since any savings created by lowering practice costs can be transferred to the doctors, or be invested back in the clinic.
This incentive to be efficient can be taken too far, however – it doesn’t take a Masters of Health Administration to figure out that sick patients cost more than healthy ones, and the clinic that enrolled the healthy and excluded the sick might find itself happily in the black at the end of the year. This processes is called cream-skimming. Cream skimming may be overt or subversive. Overt cream skimming – where providers refuse to enroll patients based on health status – can be neutralized by requiring that providers accept all patients. The problem of subversive cream skimming –where providers attempt to make themselves less attractive to sick patients through inconvenient location or hours or through providing fewer services – requires a slightly more finessed policy solution. In this case the capitation formula is usually adjusted to offset the financial burden of taking on a sick patient. It can even be over adjusted in order to create an incentive for providers to offer more services to suit the needs of the sick. For example, a health care system could pay double for a diabetic patient what they pay for a non-diabetic patient, giving providers an incentive to create special diabetic clinics and patient management programs to attract more diabetic patients and the financial windfall that accompanies them.
Global budgeting is being used less and less in health care systems across the world. The idea of a budget is that a provider is given a lump sum at the beginning of the year to treat all their patients. The budget may be determined based on many variables, but often historical operating costs are the major determining factor. This provides a disincentive for efficiency, as the hospital that spends less, gets less, and existing operating inefficiencies are not addressed. Giving hospitals less money than they spent the previous years may give an incentive to increase overall efficiency, but budgeting remains a crude mechanism of cost control when compared with other financing methods.
Outcome-based reimbursement schemes, otherwise known as "Pay for Performance", are a newer way to pay providers that focus on increasing quality of care. The idea is that doctors should get paid for results. The problem is that medical outcomes often reflect many factors, including not only the input of the provider and practitioner but also medical uncertainty and patient variables such as co-morbidity or compliance. More recent models reward the steps that have been proven to lead to good outcomes – such as counseling smoking cessation or performing a foot exam in a diabetic – rather than the outcomes themselves. For more information on how the UK pays for performance in general practice, please see the post on Creativity in Health Policy. A great article on pay for performance (P4P) in America is available through the American Association of Family Practitioners (AAFP) Journal Family Practice Management. Find it at http://www.aafp.org/fpm/20060700/69what.html
(FOOTNOTE 1) I would encourage any person in the healthcare field to become well versed in economic theory (I’m not yet there myself, but I continue to try). I find that evolutionary biology and ecology – more familiar subjects for medical types – are a great place to start. Animals behave with an economics very similar to ours, just with a different currency.
(FOOTNOTE 2). The basics of yardstick competition is to base fee-for-service payments on the average cost of providing a service among hospitals in an area. If four hospitals in and around Duluth provide MRIs for $1,000, $1,200, $2,200 and $2,300, the yardstick payment would be $1,675. If the hospitals can do MRIs for less, they save money. Say the next year the average cost among the four hospitals comes down to $1,100, due to investments in efficiency in the most expensive hospitals. The new yardstick payment is $1,100, creating a drive for hospitals to be more efficient still. This process continues until hospitals cannot provide the service any cheaper, and this is approximated as the true cost of the service. For more on yardstick competition and diagnosis-related groups (DRGs), I would recommend consulting The Economics of Health and Healthcare, eds. Folland, Goodman and Stano.
