NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Federal Spending Brings No Extra Care

"Of the several billion dollars paid out to California's general acute care hospitals by the federal government during the first five years of the DSH program, which was intended to increase care for the poor, virtually none of the funds lead to increases in medical care inputs."

Public and private hospitals react differently to changes in financial incentives because local governments tend to reduce subsidies to public hospitals when their revenues increase. Government programs to increase medical care for the poor thus may fail to improve health outcomes because of this "soft budget constraint".

In Hospital Ownership and Public Medical Spending, (NBER Working Paper No. 7789), Mark Duggan shows that the distinction between private and public hospitals is much greater than the difference between private for-profit and private not-for-profit providers. For all practical purposes, both types of private hospitals react in the same way to changes in their financial incentives and to plausibly exogenous increases in their revenues.

Duggan's study exploits a 1990 change to California's Medicaid program that was intended to significantly increase hospitals' financial incentives to treat the poor by transferring vast sums of money to those hospitals that provide a disproportionate amount of care to the indigent. He shows that private not-for-profit hospitals are just as responsive to the changes created by the Disproportionate Share Program (DSH) as are private for-profit facilities. Both types of private hospitals are significantly more responsive than public hospitals to the improved financial incentives. The private for-profit and private not-for profit hospitals attract the most profitable indigent patients (those with Medicaid coverage) from public hospitals while continuing to avoid the unprofitable ones (the uninsured).

Duggan uses hospital financial data to explore the reasons for this difference. He finds that local governments reduce their subsidies to public hospitals by $1 for every $1 in DSH funds received, so that these hospitals are left without benefit. This soft budget constraint demonstrates why public hospitals are relatively insensitive to the policy-induced change in financial incentives. Both types of private hospitals use the increased revenues that they receive from this program to increase their holdings of financial assets rather than to improve medical care quality for the poor. This latter finding suggests that not-for-profit hospitals are no more altruistic than their for-profit counterparts.

Thus, Duggan finds, of the several billion dollars paid out to California's general acute care hospitals by the federal government during the first five years of the DSH program, which was intended to increase care for the poor, virtually none of the funds lead to increases in medical care inputs. He then examines whether the reallocation of Medicaid patients that results from the DSH financial incentives improve health care outcomes for the poor. His findings reveal that zip codes in which a substantial share of Medicaid patients are reallocated from public to private hospitals have no greater improvements in health outcomes, as measured by changes in zip code-level infant mortality rates.

Duggan concludes that programs to provide improved medical care for the poor must be much more carefully designed if they are to benefit the disadvantaged. If California's experience is representative of the United States as a whole, then the benefits of the $18 billion spent annually in the United States through the DSH program have been much smaller than the costs.

-- Andrew Balls


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