DHA 700 Week 3 Health Care Financing and Payment Example

Same Knee, Five Prices: How Financing and Payment Methods Shape the Decisions of a Rural North Carolina Health System

[Student Name]

University of Phoenix

DHA/700: Introduction to Health Administration in Doctoral Study

Week 3 Assignment

[Instructor Name]

[Date]

The rural health system, its payer contracts, rates, accountable care results and decisions are composites written for a model paper; research findings come from the sources cited.

At the composite rural health system's finance committee, the chief financial officer put a single procedure on the screen: a total knee replacement at the regional hospital. Traditional Medicare paid one amount, a Medicare Advantage plan another, a Medicaid managed care plan a third and two commercial insurers two more, the highest nearly three times the lowest. A committee member asked why the same knee had five prices. This paper answers by examining health care financing and payment.

Where the Money Comes From

Health care is financed by employers and households through premiums and out-of-pocket payments, by federal and state taxes through Medicare, Medicaid and other programs and by philanthropy and investment income. For the composite system, Medicare and Medicare Advantage provide about 42% of patient revenue, Medicaid about 27%, commercial insurance about 24% and self-pay and other sources the rest.

Payment Method One: Fee-for-Service

Under fee-for-service, every visit, test and procedure generates its own bill and its own payment. The method rewards volume: more visits, tests and procedures bring more revenue. It pays nothing for coordination or prevention that avoids services, which is why many reformers view it as a driver of spending.

Payment Method Two: Prospective Case Rates

Medicare pays most hospital stays a fixed amount per case, set by diagnosis group, regardless of length of stay. The method rewards efficiency within the stay: a hospital that discharges patients promptly and controls supply costs keeps the difference. It can also reward admitting more cases and discharging patients quickly, which is why readmission penalties were added.

Payment Method Three: Cost-Based Payment

The system's smallest hospital is a critical access hospital, paid by Medicare based on its reasonable costs rather than a fixed rate. Cost-based payment protects small rural hospitals from losses on low volumes but offers weak incentives to reduce costs.

Payment Method Four: Capitation

Under capitation, an organization receives a fixed payment per person per month to cover a defined set of services. It rewards keeping people healthy and avoiding unnecessary care but shifts financial risk to providers, which can be dangerous for small organizations with few enrollees.

Payment Method Five: Value-Based Programs

Value-based programs tie some payment to quality or total cost: bonuses and penalties for quality measures, readmission penalties, bundled payments for episodes of care and shared savings for accountable care organizations. They aim to reward results rather than volume.

Why Prices Are High

The committee member's question about five prices points to a larger issue. Anderson and colleagues compared the United States with the other wealthy democracies in the OECD and found a paradox: Americans used fewer hospital days and doctor visits than the typical member country, yet the nation spent far more. Their conclusion, captured in the paper's blunt title, was that higher prices explain most of the gap (Anderson et al., 2003).

Why Prices Vary

Prices vary within the US too. Working from insurance claims for more than a quarter of Americans with job-based coverage, Cooper and colleagues found that spending per privately insured person differs threefold across regions and correlates poorly with Medicare spending; prices vary across regions, across hospitals and even within hospitals, and monopoly hospitals charge about 12% more than hospitals in markets with four or more rivals, with prices rising more than 6% after mergers of nearby hospitals (Cooper et al., 2019). A hospital's price for private patients depends less on its costs than on its bargaining power.

Price Transparency

Federal rules now require hospitals to post their negotiated prices, which is how the committee member could compare the knee's five payments. Transparency has revealed wide variation but has not yet changed prices much, because patients rarely shop and insurers already know competitors' rates. For the composite system, posted prices also invited questions from employers about why their plans pay more.

The Five Prices Explained

The knee's five prices reflect five payment arrangements. Traditional Medicare sets its rate administratively. Medicare Advantage and Medicaid plans negotiate rates, often near public program levels. Commercial insurers negotiate privately, and the regional hospital, as the only full-service hospital within an hour, has bargaining power with some insurers but not with the largest statewide insurer.

What Value-Based Payment Can Achieve

Evidence on accountable care organizations shows modest but real savings. In the Medicare Shared Savings Program, physician-group accountable care organizations reduced spending relative to local comparison groups, with savings growing over time: by 2015, per-patient spending fell by $474, or 4.9%, for physician groups that entered in 2012, while hospital-integrated organizations achieved significantly smaller reductions (McWilliams et al., 2018).

Why Hospital-Integrated Organizations Save Less

The finding matters for the composite system, which leads a hospital-integrated accountable care organization. Hospitals earn revenue from admissions and procedures that accountable care aims to reduce, so their incentives are mixed. Physician groups lose little when hospital use falls and gain from shared savings.

Implications for the System's Strategy

The analysis suggested four strategic steps. First, strengthen primary care and care management so the accountable care organization can reduce avoidable admissions, accepting lower hospital volume in exchange for shared savings. Second, prepare for Medicaid managed care contracts that include quality incentives, investing in data to track results. Third, avoid taking full capitation risk until the system has enough enrollees and data to manage it. Fourth, negotiate commercial contracts that reward quality as well as volume.

The Growth of Medicare Advantage

Medicare Advantage now covers a large share of the system's older patients. The plans pay close to Medicare rates but add prior authorization and denials that raise administrative costs and delay care. The finance team tracks denial rates by plan and has begun negotiating contract terms on authorization turnaround times, not only on rates.

Risks

Value-based contracts carry risk for a small rural system: small populations make results volatile, data systems are expensive and lower admissions reduce revenue before savings arrive. The critical access hospital's cost-based payment offers stability but little incentive to change.

How Payment Shaped a Recent Decision

Payment incentives already shaped one decision. The system considered adding a second orthopedic surgeon. Under fee-for-service, the added volume looked profitable. Under the accountable care organization's shared savings, added elective surgery would raise total cost for attributed patients. The system hired the surgeon but paired the hire with a joint replacement pathway designed to lower complications and post-acute costs, protecting both revenue and savings.

Equity Considerations

Payment affects access. Lower Medicaid rates make services for low-income patients harder to sustain, and rural hospitals depend on public payers. Advocacy for adequate Medicaid rates and rural payment protections is part of financial strategy.

Conclusion

The knee's five prices reflect a financing system with many payers and payment methods, each with its own incentives. Research shows that high US spending stems mainly from prices, that market power drives price variation and that accountable care organizations can save modestly, more so when led by physician groups. For a rural system, the lesson is to invest in primary care and data, move carefully into risk and treat payment strategy as part of its mission.

References

Anderson, G. F., Reinhardt, U. E., Hussey, P. S., & Petrosyan, V. (2003). It's the prices, stupid: Why the United States is so different from other countries. Health Affairs, 22(3), 89-105. https://doi.org/10.1377/hlthaff.22.3.89

Cooper, Z., Craig, S. V., Gaynor, M., & Van Reenen, J. (2019). The price ain't right? Hospital prices and health spending on the privately insured. The Quarterly Journal of Economics, 134(1), 51-107. https://doi.org/10.1093/qje/qjy020

McWilliams, J. M., Hatfield, L. A., Landon, B. E., Hamed, P., & Chernew, M. E. (2018). Medicare spending after 3 years of the Medicare Shared Savings Program. New England Journal of Medicine, 379(12), 1139-1149. https://doi.org/10.1056/NEJMsa1803388