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Andrew Street is funded by the Department of Health in England as part of a programme of policy research at the Centre for Health Economics, University of York. The views expressed in this article are those of the authors only.
The authors thank Maria Goddard for comments on an earlier version.
Introduction
By introducing 'Payment by Results' (PbR) the NHS in England is emulating the USA, Australia and many European countries by funding providers on the basis of the 'equal pay for equal work'. Under PbR, purchasers (Primary Care Trusts) pay a fixed price - the national tariff - to providers for each patient treated. As income depends on activity, low cost providers have strong incentives to do more work and reduce waiting lists and all providers have an incentive to reduce costs in order to maximise 'profit' from their activity. PCTs have the financial incentive to prevent hospital admission because they can spend the tariff on primary and community care. The English have introduced innovative design features to this payment system but further lessons can be learned from international experience. This paper discusses this experience and argues that further policy reform is needed to prevent PbR increasing health care costs and distorting health priorities.
Driving day case activity
The first innovative English feature epitomises how prices can be designed to change behaviour because there are strong incentives for hospitals to undertake work in the cheaper day case setting, a policy advocated for over 30 years (Department of Health and Social Security, 1976). For each treatment, defined by Healthcare Resource Group (HRG), the elective price is based on the national average reference cost for inpatient care for each HRG and the average reference cost for day cases, weighting these two averages according to the proportion of activity nationally that is undertaken in inpatient and day case settings respectively.
Figure 1 illustrates the relationship between costs and the national price based on activity and cost data for three HRGs as shown in Table 1. For each HRG, the national average and inter-quartile range in day case costs is shown as the first vertical line; inpatient costs are shown in the second vertical line. As the proportion of day case activity increases, the price covers less of...