The first of July saw the introduction of one of the most important health care reforms for Australia’s public hospitals: national activity-based funding (ABF). Hospitals will now be paid a fixed price (the national efficient price) for each episode of care, meaning ABF is essentially a fee-for-service payment model.
Treasuries and governments hope ABF will make hospitals more efficient. But key flaws in the design of the scheme may hamper these potential cost savings and result in an ineffective funding system.
Hospital profits
If a service provided at a hospital (such as a hip replacement) costs less than the fixed price paid under ABF, the hospital makes a profit for that service, and has incentives to expand that service. The set of relative prices across all types of operations and procedures will therefore influence a hospital’s incentives to invest in new services. The strongest incentives will be for services that deliver the greatest profits.
If the set of prices reflect costs and not the relative cost-effectiveness of these services, there is potential for a misallocation of resources. After all, the most profitable services don’t necessarily produce the greatest health gains for the population.
At a time when policy should be trying to keep people out of hospitals and provide incentives to sustain smaller hospitals in the longer term, ABF seems clearly out of step. Caps on volumes may help, but this is no difference from the status quo.
Hospital losses
The second problem is that hospitals with costs above the fixed price for each service will make a loss on that service. Hospitals can respond in a number of ways to improve efficiency, reduce waste and cut unnecessary costs, including undertaking more (cheaper) day surgery, changing the staffing mix of services, or reducing lengths of stay.
Of course, some of these measures may compromise quality of care. Reducing length of stay and employing enrolled nurses rather than registered nurses are just two examples of this.

Alternatively, a hospital may decide not to provide the service at all. From the hospitals’ perspective, this could be seen as efficient, but it will mean patients face reduced access. Decisions to disinvest in services will therefore be heavily influenced by costs and not necessarily on cost-effectiveness.
Hospitals could also engage in cream-skimming or patient dumping. In other words, they could transfer more complex patients to other hospitals wanting to increase their patient volume, or to other settings not covered by ABF. The ability for hospitals to cream-skim and dump patients depends on whether the set of prices adequately captures differences in the costs of treating complex cases.
No rewards for improving quality
The third problem with fee-for-service and ABF is it doesn’t reward improvements in quality of care or health outcomes. Neither did the old system, but ABF provides an opportunity to rectify this shortfall.
The Independent Hospital Pricing Authority (IHPA) considered schemes in other countries that do not pay hospitals for care where medical errors are made. Some countries also pay extra for services that are delivered according to “best practice” clinical guidelines.
Paying more for services that are cost-effective, and less for services that aren’t, seems to be a very useful purpose of such a funding scheme. But the IHPA has delayed what would be a relatively simple scheme that doesn’t pay for medical errors. Though an opportunity has been missed, it’s clearly an important proposal that requires further development research.
Ensuring quality of care
The new National Health Performance Authority will play a key role in monitoring public hospitals’ performance. The Authority will produce a report card for each hospital that shows its performance along a range of indicators. Though improvements in these indicators are not linked to funding or ABF, they will provide an important monitoring mechanism for those aspects of performance that can be measured and influenced through ABF.
Setting the efficient price
With payment schemes such as ABF, the devil is in the detail. Though there is much discussion of the role of the fixed national efficient price, in reality its influence will be muted by the remaining power of the states.
The national efficient price each hospital faces will be a combination of the Commonwealth’s share (40%) and the states' share of the price. States can choose to fund more than their 60% share, and can therefore still “bail out” hospitals facing deficits and influence funding for political reasons. But if hospital managers expect their deficit to be funded by the state, they will have little incentive to reduce costs or services to improve efficiency.

Giving states the discretion to fund deficits may mean the potential for ABF to improve efficiency will be lost. This is a major flaw in the design of the current and relates to the Commonwealth government’s failure to fund 100% of the price of hospital services. The blame game will live on as long as states continue to provide funding.
What happens next?
Since politicians rarely close hospitals, political imperatives are likely to override the imperatives for increased efficiency. And top-down policies to improve population health and reduce costs usually do no more than set the framework for behaviour change.
What really matters for patients’ health outcomes and costs of care are the decisions of health professionals within and outside of hospitals.
How ABF, along with other health reforms, translates into changed behaviours for health professionals and hospital managers will be the key to securing the efficiency gains hoped from activity-based funding. Yet the reform bodies remain silent about how this would occur.
el don
logged in via Twitter
thanks for this succinct and prescient article.
i'm not even a health care professional, but i thought this would be a bad move for quality care from the beginning. from my perspective, i want doctors to be treated well, too. not just treated as cash cows who will need to become 'more efficient' by doing more operations. already it seems doctors are pushed to extremes and asked to work long hours in a very sensitive and demanding line of work. not just work, essential services. same goes for nurses.
these new conditions will not improve health care at all, only so-called 'efficiency'. this is not an area where profits and rush-through should be the standard at all.
if we want more efficiency, we need to pay for it properly, not just cut costs, and corners.
Bruce Moon
Bystander!
From a policy analysis perspective, I dare say your comments will be true.
But, there is another possible outcome - though I wouldn't hold my breath waiting for it to occur.
That possibility is to restructure the hospital from the (currently) gargantuan generalist entity delivering healthcare according to Taylorist principles.
The current model is an apexically oriented bureaucratic structure controlled by a managerial system based on a top down approach. While considerably refined, it…
Read moreSue Ieraci
Public hospital clinician
Bruce Moon - I see a few issues with your model.
Firstly, the majority of hospital admissions are not for procedures (operations or complex tests) upon which a profit can be made. Most public hospital patients are the elderly with complex medical problems. Similarly, sick young children are generally not a profitable business.
Wealthy, fee-generating procedural units already generate the funds to employ staff and enhance their reputations - which is one of the causes of inequity within the…
Read moreBruce Moon
Bystander!
Sue
I suggest you highlight one of the cross subsidisation issues.
The federal gov't seeks to minimise health care costs by on the one hand compelling hospitals to treat the sick and on the other setting the Medicare recompense rate lower than operational cost. In these circumstances, hospitals have to cross subsidise when they treat the income poor, like Centrelink clients.
The 'difference' often comes from State budgets. But, it also comes from higher income groups paying an inflated price for their treatment.
For mine, we can really only get an idea of procedural efficiencies and operational costs when we remove the cross subsidisation process.
I'm not advocating Tea Party ideology. Far from it. Rather, we will endlessly have these public funding contests until we break the nexus between generic cross subsidisation and case by case public funding.
Cheers
Sue Ieraci
Public hospital clinician
On that point I do agree, Bruce.
The federal/state funding split (federal-medicare, state-hospitals) does create perverse incentives to shift costs from one system to another. IF this were not the case, care could be provided in whichever location was most suitable and most cost-effective. We appear to be a long way from achieving that.
R. Ambrose Raven
none
The yeoman farmer model, it seems.
Consider Job Network, which is a similar disaster imposed on simplar vapid reasoning. Such approaches are similar to the Blair New Labour model - flogging-out government responsibilities using the ideological and self-serving claim that NGOs are closer to the community so will do it better. It’s failed, as was to be expected. But then, provision of equal or better than public services was never the real aim; it was to cut costs, shift and preferably remove…
Read moreR. Ambrose Raven
none
Mr Moon is an individual who has learnt nothing from thirty years of economic fundamentalism - or who takes care not to see.
From about 1980, transnational companies allied with the national ruling classes exploited their community of interest to much more aggressively plunder a much larger proportion of national and global wealth through the debt-driven asset price boom. Economic fundamentalism was useful as an ideological framework that could be easily promoted by its network of politicians…
Read morePeter Fox
Peter Fox is a Friend of The Conversation.
Medical doctor
Thanks Anthony for a fantastic article. I've been discussing similar problems with colleagues for some time (I'm a hospital doctor) - it's wonderful to have this discussion before hospitals transition to ABF. In my opinion, this is a ludicrous system that is truly bureaucracy on steroids.
Most hospital doctors view the impending changes with a combination of skepticism and fatalism. We feel that these changes will potentially detract from patient care, and add another layer of bureaucracy…
Read more...
logged in via Twitter
As if the monolithic public hospitals would commit to activities, like prevention & education, that would lessen demand for their "services" and hence fewer beds in acute hospitals. Every clinical service builds on its bed allocation & they compete savagely with each other for space & kudos. Hospital managers just sit back & direct the traffic.
NHPA? Well, when they publish conflict-of-interest guidelines we may start to believe it will do something more than finger a scapegoat or two for Ministerial approval.
Sue Ieraci
Public hospital clinician
Nice idea, ..., but it doesn't work that way. Prevention and education are worthwhile pursuits, but it's a common fallacy that they reduce acute care costs: if anything, they INCREASE them.
You see, acute health care demand is uncapped. IN a risk-averse and increasingly demanding society, acute health care costs will always keep rising as people want access to new and more treatments.
There is no obective level of "enough" health care. Unless we completely stop innovation and improvement, and stop treating people who previously had no access, we won't contain costs.
That means no new imaging technology, no new medications, no better dressings, no better cancer treatment regimes, no better surgical techniques, and no more hospital admissions.
I don't think our community is ready for that yet. Do you?
...
logged in via Twitter
Sue, I got crook a couple of years ago, went straight to the nearest public hospital. Could have gone private, but knew enough about the possibilities to stay close to quality. On Day One I was asked if I agreed to send the bill to HBA, and happily signed off.
Read moreAs far as I can work it out, there were three ways my carers could have been reimbursed. (1) entirely within the private system (2) entirely public (if I chose to not sign the transfer) or (3) by the public hospital billing HBA.
All fine…
Sue Ieraci
Public hospital clinician
Thanks, Trevor,
My response above was to your previous post, where you said "As if the monolithic public hospitals would commit to activities, like prevention & education, that would lessen demand for their "services" and hence fewer beds in acute hospitals."
This is a common misconception, which I wanted to dispel. Your experience confirms that fact that the average punter (including you and I) want the best of what is available.
I agree that we should all be better informed about cost-effectivenss, but I wanted to emphasise that preventive health doesn't stop acute care costs from rising - if anything, great longevity and better results of treatment only serve to increase expectations and therefore demand.
Laurie Willberg
Journalist
"Preventive health doesn't stop acute care costs from rising"?!
This is just plain nonsense, as is the rest of your post. There have been no efforts made towards "preventive health" in the existing system ever. And a huge drain on the system is the overwhelming number of patients admitted for adverse reactions from drugs, information easily obtained from hospital records regarding emergency department admissions.
Because the conventional system does not even come close to addressing issues regarding preventive health -- a failing that dates back decades -- the system will continue to face the issue of "different day, same pile". The definition of stupidity is continuing to do what has been shown not to work.
Trevor Kerr
ISTP
Allow me to politely disagree with Laurie. :)
Read more(I apologise for using another Twitter alter, this one is better.)
So, there are different aspects to Prevention. At grass-roots, nothing beats clean water, waste disposal, vaccination - you know the drill.
At a higher level, look at what we were doing 30-40 years ago. Partial gastrectomies for duodenal ulcer gave way to an explosion of endoscopy suites, but H.pylori testing & anti-Hp medication must have driven a few specialists into the ground…
Sue Ieraci
Public hospital clinician
Laurie Willberg, homeopathic journalist - you say "There have been no efforts made towards "preventive health" in the existing system ever." THAT is nonsense.
Let's count a few (in no paticular order):
vaccination
smoking cessation
milk in schools
Folate for pregnant women
Weight reduction programs for type 2 diabetes
Needle exchange programs
Safe sex and condoms
Exercise for low back pain
Mammography
Pap smears
Dental care
Colonscopy
Calcium supplementation
"The definition of stupidity is continuing to do what has been shown not to work." Sure. That describes homeopathy to a 't'.
"
Laurie Willberg
Journalist
Medical testing is not prevention -- it's a profit centre. Mammography has been found to cause breast cancer, not prevent it.
Read moreCalcium supplementation is now a major cause of hardening of the coronary arteries in women. We can thank mainstream medicine for fear-mongering about osteoporosis, and then being completely ignorant of the fact that standalone calcium supplementation is a disaster that ignores all the co-factors necessary for it to be deposited in the right place.
Pasteurized milk is…
Sue Ieraci
Public hospital clinician
Even allowing your excuses, Laurie Willberg, that still leaves:
Vaccination
Smoking cessation
Milk in schools
Weight reduction programs for type 2 diabetes
Needle exchange programs
Safe sex and condoms
Exercise for low back pain
Dental care
and some new ones:
Read morePhysical activity for the elderly
Identification of partner violence
Identification of non-accidental injury in children (child-abuse)
Digital/manual examination for rectal, testicular and prostate cancer
Skin care and examination…
R. Ambrose Raven
none
From about 1980, transnational companies allied with the national ruling classes exploited their community of interest to much more aggressively plunder a much larger proportion of national and global wealth through the debt-driven asset price bubble. Economic fundamentalism was useful as an ideological framework that could be easily promoted by its network of politicians, businesspeople, academics, the media, and other agents of influence.
One of many aspects of that economic fundamentalism…
Read moreJohn Robert Davidson
Retired engineer
One of the things that wasn't mentioned was standby capacity. Hospitals need to have the capacity to deal with things like epidemics or major accidents.
Fee for service also comes with problems because part of hospital costs are fixed costs that don't depend on how many people are being treated. There is a case for a funding formula that reflects the cost distribution.
Sue Ieraci
Public hospital clinician
John Davidson - the issue with capacity for epidemics and major incidents isn't just a physical capacity, it's mainly limited by staff availability.
At the moment, hospitals are experiencing a lot of sickness amongst front-line staff, who are exposed to the seasonal viruses from the patients that they treat. Staff are most exposed to sickness at the times when there is greatest need.
For outbreaks and major disasters, there are plans in place short-term, but staff cannot function indefinitely.
If somebody could contruct a reliable plan for short-term additional skilled staffing at times of need, it would be a huge bonus.
John Robert Davidson
Retired engineer
Sue, Having the physical capacity is a start because it makes it easier and faster to bring in people from outside the crisis area. I don't know enough about hospitals to speak with authority but logical options might include:
Using medical people who normally work on lower priority tasks.
Using admin and similar people to take over some of the tasks normally handled by medical people.
Using a volunteer "medical reserve" to help during crisis.
I assume some of this is already part of emergency plans. It would help of course if medical staff were not already working long hours.
Sue Ieraci
Public hospital clinician
If only we could make one of those systems viable.
It's hard to find medical and nursing staff to deploy from "lower priotity tasks" - which tasks would they be? We try to move some of the admin tasks to admin staff but, whenever there are cutbacks, it is promised to get rid of all those "administrators" and preserve front-line clinical positions. And the result? Front line clinicians have to do the clerical/admin work!
Where would we find a volunteer "medical reserve" that has the qualifications and ability to safely and competently step in? And where would we send them back to after the crisis?
I'm not dismissing your thoughts, but I wish there were a viable solution. It's not that it hasn;t been considered before, but practical solutions are not emerging.
Laurie Willberg
Journalist
Oh, aren't the staff vaccinated against those "seasonal viruses"? Gee, why isn't it working?
Laurie Willberg
Journalist
Does someone pay you to post excuses? There isn't a single profession in the world that doesn't require some form of written reporting. Suck it up, buttercup. You may not like to do it but it's part of your job description.
Sue Ieraci
Public hospital clinician
No vaccine yet for the common cold, Laurie Willberg - unfortunately.
Sue Ieraci
Public hospital clinician
Laurie Willberg - does someone pay you to pose as a journalist while lobbying for Big Tincture?
You clearly have no knowledge or expertise in hospital funding, but have joined the thread just to throw rosks, it seems.
The poster above (John Davidson) suggested " Using admin and similar people to take over some of the tasks normally handled by medical people."
I responded to that from my personal experience.
No excuses needed. I like my job.
John Robert Davidson
Retired engineer
Sue: I don't know enough about hospitals to provide detailed replies. However, at one stage in my life I was responsible for emergency services for a mine on an Island where any back-up services would have had to be flown in. I had professional firemen and ambulance people working for me but these were augmented by volunteer firemen and ambulance people who we trained so that they were able to help in emergencies. Our emergency plan included the use of equipment and people who would normally be working elsewhere.
My general comment is that most jobs that professionals do consist of a mix of things that really need to be done by skilled professionals and parts that can realistically be done by people with limited training.