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American Journal of Health Economics: Why Don't Commercial Health Plans Use Prospective Payment?

Abstract:

One of the key terms in contracts between hospitals and insurers is how the parties apportion the financial risk of treating unexpectedly costly patients. "Prospective" payment contracts give hospitals a lump-sum amount, depending on the medical condition of the patient, with limited adjustment for the level of services provided. We use data from the Medicare Prospective Payment System and commercial insurance plans covering the nonelderly through the Health Care Cost Institute to measure the extent of prospective payment in 303 metropolitan statistical areas during 2008-12. We find that the extent of prospective payment in commercial insurance is lower and more variable across hospitals and geographic areas than in Medicare. In addition, we find that the differences in prospective payment across hospitals is positively associated with hospital market competitiveness, the share of admissions paid by commercial managed-care plans, and the share paid by the Medicare Prospective Payment System.