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  1. 1. Chapter 4 Basic Clinical Health Care Economics
  2. 2. Objectives <ul><li>Upon completion of this chapter, the reader should be able to: </li></ul><ul><ul><li>Analyze why health care must be managed as a business </li></ul></ul><ul><ul><li>Apply the cost equation to the mission statement of a health care enterprise to discover why the enterprise may be thriving or struggling </li></ul></ul><ul><ul><li>Analyze the impact of at least three contemporary economic or social pressures driving health care enterprises to be managed in accordance with business principles </li></ul></ul>
  3. 3. Objectives <ul><ul><li>Apply the Break-Even formula to compute a break-even point for a piece of equipment your health care organization is planning to purchase </li></ul></ul><ul><ul><li>Discover how a health care enterprise is balancing quality and profit by assigning its satisfaction rating and margin to an appropriate square on the Nosek-Androwich Profit: Quality (NAPQ) matrix </li></ul></ul>
  4. 4. Principles of Economics <ul><li>Scarcity </li></ul><ul><ul><li>Resources exist in finite quantities, and consumption demand is typically greater than resource supply </li></ul></ul><ul><li>Choice </li></ul><ul><ul><li>Decisions are made about which resources to produce and consume among many options </li></ul></ul><ul><li>Preference </li></ul><ul><ul><li>Individual and societal values and preferences influence the decisions that are made </li></ul></ul>
  5. 5. Health Care Difference <ul><li>In a typical market, the buyer is also the payer </li></ul><ul><li>In health care, the payer is not the provider or the buyer </li></ul><ul><li>The actual payer is the third-party reimburser (the insurance company or government) </li></ul><ul><li>The end result is a skewed financial picture </li></ul>
  6. 6. Traditional Perspective on Cost of Health Care <ul><li>Health care as altruism </li></ul><ul><ul><li>Altruism: the unselfish concern for the welfare of others </li></ul></ul><ul><ul><li>Ethics: the doctrine that the general welfare of society is the proper goal of an individual’s actions </li></ul></ul><ul><ul><li>Early nursing generally focused on altruistic service, which evolved from early charitable institutions </li></ul></ul>
  7. 7. Traditional Perspective on Cost of Health Care <ul><li>Need for health care determined by provider  </li></ul><ul><ul><li>Paternalistic model of governance and control </li></ul></ul><ul><ul><li>Health professionals controlled medical knowledge and skill </li></ul></ul><ul><ul><li>Knowledge and skill required extensive and expensive education not shared with “outsiders” </li></ul></ul><ul><ul><li>Health care professionals determined what health care was needed and what to charge for it </li></ul></ul>
  8. 8. Traditional Perspective on Cost of Health Care <ul><li>Right to health care at any cost  </li></ul><ul><ul><li>Prior to 1960s, Americans considered health care a “right” </li></ul></ul><ul><ul><li>American government established Titles XVIII (Medicare) and XIX (Medicaid) of the Social Security Act, to control spiraling health care costs </li></ul></ul><ul><ul><li>Private insurers established their own requirements, beginning the overall budgeting of health care </li></ul></ul>
  9. 9. Traditional Perspective on Cost of Health Care <ul><li>Cost plus  </li></ul><ul><ul><li>Includes actual cost incurred by provider plus profit incentive </li></ul></ul><ul><ul><li>Incentive was “the more you spend the more you get” rather than “how can this be accomplished more economically?” </li></ul></ul>
  10. 10. Contemporary Perspective on Cost of Health Care <ul><li>Health care as a business  </li></ul><ul><ul><li>HCFA and TEFRA, which established government payments at flat rates (prospective payment) </li></ul></ul><ul><ul><li>Emphasis among providers on providing care for less than prospective payment, thereby making profit </li></ul></ul><ul><ul><li>Cost became the focus of managers, administrators, and employees at all levels of health care </li></ul></ul>
  11. 11. Contemporary Perspective on Cost of Health Care <ul><li>Need for care determined by the consumer  </li></ul><ul><ul><li>Emphasis on cost has led to concerns that safety and quality have suffered </li></ul></ul><ul><ul><li>Total quality improvement (TQI) and continuous quality improvement (CQI) were initiated to assure society that cost management was not compromising safety or quality </li></ul></ul><ul><ul><li>Emphasis on involvement of patients, health care consumers, and allied health care providers </li></ul></ul>
  12. 12. Contemporary Perspective on Cost of Health Care <ul><li>Right to health care at reasonable cost  </li></ul><ul><ul><li>Insurers determine reasonable cost </li></ul></ul><ul><ul><li>Lack of consensus on what constitutes reasonable cost is at the heart of contemporary controversy </li></ul></ul>
  13. 13. Contemporary Perspective on Cost of Health Care <ul><li>Managed care </li></ul><ul><ul><li>Integrates financial and clinical care delivery functions into a single organized system by contracting to be responsible for the clinical outcomes of an enrolled population for a fixed fee </li></ul></ul><ul><ul><li>Emphasizes delivery of a coordinated continuum of services across the care spectrum from wellness to death, using financial incentives to achieve cost efficiency </li></ul></ul>
  14. 14. Contemporary Perspective on Cost of Health Care <ul><li>Managed care </li></ul><ul><ul><li>The only health services program generated from a market response, rather than from a formal federal government legislative initiative </li></ul></ul><ul><ul><li>Is not about providing healthcare; it is about being a for-profit brokerage business </li></ul></ul><ul><ul><li>Care is rationed through requirements such as preapproval, physician choice, and copayment </li></ul></ul><ul><li>Coordinated care is replacing the term “managed care” </li></ul>
  15. 15. Contemporary Perspective on Cost of Health Care <ul><li>Socialized health care </li></ul><ul><ul><li>In theory, socialized medicine provides complete medical and hospital care to all the citizens in a community, district, or nation (universal access) </li></ul></ul><ul><ul><li>Funding usually comes through taxation of citizens </li></ul></ul>
  16. 16. Future Perspective on Cost of Health Care <ul><li>Future costs may be affected by expensive technologies, new diseases, and an increasingly aged population </li></ul><ul><li>Changes in demographics and cost may affect the way health care is provided </li></ul>
  17. 17. The Cost Equation: Money = Mission = Money <ul><li>There must be cohesion and consistency across the mission, vision, and strategic plan for the business </li></ul><ul><li>The health care facility must determine what is the cost in achieving its mission  </li></ul><ul><li>The health care facility must decide if providing health care services not directly related to the mission is a viable option </li></ul>
  18. 18. Business Profit <ul><li>Revenue (income) minus cost (expense) equals profit </li></ul><ul><li>Every business must generate more income than it spends in order to remain in business </li></ul><ul><li>For-profit business </li></ul><ul><ul><li>The profit is distributed to stockholders and to maintain and grow the organization </li></ul></ul><ul><li>Not-for-profit business </li></ul><ul><ul><li>All monies are fed back into the business </li></ul></ul><ul><ul><li>All profit is referred to as margin </li></ul></ul>
  19. 19. Fundamental Costs <ul><li>Direct cost </li></ul><ul><ul><li>Directly related to patient care (wages and supplies) </li></ul></ul><ul><li>Indirect cost </li></ul><ul><ul><li>Not explicitly related to care, but are necessary to support care (utilities, maintenance) </li></ul></ul><ul><li>Fixed cost </li></ul><ul><ul><li>One that exists irrespective of the number of patients for whom care is provided </li></ul></ul>
  20. 20. Fundamental Costs <ul><li>Variable cost </li></ul><ul><ul><li>Varies with the volume of patients </li></ul></ul><ul><ul><li>Can increase or decrease with volume of patients or costs of supplies </li></ul></ul>
  21. 21. Cost Analysis <ul><li>Budget </li></ul><ul><ul><li>A plan for how much will need to be spent in the ensuing time period (generally one year) </li></ul></ul><ul><li>It is based on: </li></ul><ul><ul><li>What is known about how much was spent in the past </li></ul></ul><ul><ul><li>How that will inevitably change in the coming year </li></ul></ul><ul><li>A cost prediction is a tool for developing a budget </li></ul><ul><ul><li>High-low cost analysis </li></ul></ul><ul><ul><li>Regression analysis </li></ul></ul><ul><ul><li>Break-even analysis </li></ul></ul>
  22. 22. High-Low Cost Analysis <ul><li>Not extremely accurate, but provides “good enough” estimate </li></ul><ul><li>Examines both fixed and variable cost information from the most recent five years for each category of expense </li></ul><ul><li>Both fixed and variable dollars must be adjusted upward to account for inflation </li></ul>
  23. 23. Regression Analysis <ul><li>More precise than high-low analysis </li></ul><ul><li>Examines all available past cost information over a specific time period </li></ul><ul><li>Only one dependent variable: cost </li></ul><ul><li>Only one independent variable: volume, which causes change in cost </li></ul><ul><li>All cost information plotted on a vertical axis </li></ul>
  24. 24. Regression Analysis <ul><li>All volume information plotted on a horizontal axis </li></ul><ul><li>Scatter diagram results </li></ul><ul><li>Straight line through scatter diagram best approximating all the points is used to predict cost at a specific volume of use </li></ul><ul><li>Analysis is carried out for each item for which cost needs to be predicted </li></ul>
  25. 25. Break-Even Analysis <ul><li>Projecting whether and when profitability will be achieved is necessary for both proposed and well-established programs and services </li></ul><ul><li>Break-even analysis assists the provider in predicting the volume of services that must be provided (and for which payment must be received) in order for the cost of providing the services to be equally matched by the payment received, yielding neither a profit nor a loss </li></ul>
  26. 26. Diagnostic, Therapeutic, and Information Technology Cost <ul><li>The most expensive items on the total budget are diagnostic, therapeutic, and information technologies </li></ul><ul><li>Managed care programs have begun requiring justification for and preapproval of use of complex, expensive technology </li></ul><ul><li>Concerns have arisen about rationing technology to those who can afford to pay </li></ul>
  27. 27. Nursing Cost <ul><li>Fiscally, nursing is viewed as a cost center that does not independently generate revenue </li></ul><ul><li>Ongoing efforts to measure and establish the cost of the various components of nursing care are disappointing </li></ul><ul><li>Nursing cost is associated with budgeted and actual nursing care hours per patient day </li></ul><ul><ul><li>A measure of time rather than a measure of type or level of care </li></ul></ul>
  28. 28. Patient Classification System (PCS) <ul><li>The tool most broadly used to identify nursing cost  </li></ul><ul><ul><li>A system for distinguishing patients based on their acuity, functional ability, or resource needs </li></ul></ul><ul><li>Patients with similar requirements for care are assigned to five progressively weighted categories of acuity </li></ul><ul><ul><li>The higher the acuity of the patients, the more nursing resources the PCS assigns </li></ul></ul>
  29. 29. Relative Value Unit (RVU) <ul><li>An index number assigned to various health care services based on the amount of resources used   </li></ul><ul><li>This approach provides a reasonably accurate per patient costing approach </li></ul><ul><ul><li>It does not account for the differences in costs based on the type of health care worker </li></ul></ul>
  30. 30. Quality Measurement <ul><li>An evidence-based concept of quality </li></ul><ul><ul><li>Grounded on scientific evidence that a diagnostic or therapeutic approach to care improves patient outcomes  </li></ul></ul><ul><li>Four core components </li></ul><ul><ul><li>A mechanism that establishes consensus about what constitutes best practices </li></ul></ul><ul><ul><li>Strong feasible processes to accomplish such practices </li></ul></ul><ul><ul><li>A disease prevention and health promotion component </li></ul></ul><ul><ul><li>A system to review actual performance and outcomes </li></ul></ul>
  31. 31. Regulatory Oversight <ul><li>The quality industry measures and tracks organizational performance </li></ul><ul><ul><li>The primary accrediting body is The Joint Commission </li></ul></ul><ul><ul><li>Accreditation signifies that the organization meets the standard of practice and influences market perception </li></ul></ul>
  32. 32. Customer Satisfaction <ul><li>No matter how superior providers feel their product is, if customers perceive it not to be needed or wanted, the product will fail </li></ul><ul><li>Commercial surveys measure how satisfied customers are with their care, environment, and interactions with the staff </li></ul>
  33. 33. Health Care Site Economics <ul><li>Economics focuses on how choices are made to overcome a scarcity of resources </li></ul><ul><li>Requires: </li></ul><ul><ul><li>Redesigning </li></ul></ul><ul><ul><li>Restructuring </li></ul></ul><ul><ul><li>Reengineering </li></ul></ul>
  34. 34. Health Care Provider Economics <ul><li>Economic risk is borne by individuals, as well as by organizations  </li></ul><ul><li>Individual providers receiving direct payment from insurers bear risk when they must lower their usual fees to a flat rate in order to be included for payment by the HMO </li></ul><ul><li>Patients bear the risk of being unable to access services they regard as either optimal or as minimal, jeopardizing their health </li></ul>