Changing Contractual Relations in the English NHS - Transaction Costs Analysis

Abstract

From 2003 the English National Health Service locally negotiated block contracts have been replaced by a system of activity-based financing, under which hospitals are paid on the basis of fixed national prices but no longer face a ceiling on the volume of their activity.

This paper applies a transactions cost approach to quantify and analyse how contracting costs have changed under the new system, termed Payment by Results (PbR). Data collection was based on semi-structured interviews with key stakeholders from hospitals and Primary Care Trusts (PCTs), which purchase hospital services on behalf of geographically defined populations.

The main changes in transaction costs arise from: • higher costs of negotiation. While there are lower costs in negotiating prices and volumes, this is offset by difficulties PCTs have in managing activity levels, because hospitals no longer have to get approval to expand their activity, thus making it more difficult for PCTs to live within their budgets. • higher costs of data collection, due to PbR's requirement for accurate patient-level data. Hospitals have recruited staff to ensure better extraction of data directly from case notes rather than summary forms. • higher monitoring costs, partly because hospitals no longer have to get approval to increase their activity, which means that PCTs face greater uncertainty about what they might have to pay for, and partly because PCTs need to verify that hospitals are not behaving opportunistically with respect to coding their activity to particular Healthcare Resource Groups. • higher enforcement costs, with the sharper relationship between activity and income/expenditure increasing the potential for more disputes between Hospitals and PCTs.

Extrapolating from our study, the overall effect is estimated to be an increase in annual the contracting costs of around £40-£60 million for England as a whole.

Centralisation of some contractual functions may help reduce the transaction costs associated with PbR, including auditing of patient-level data and HRG allocations to reduce opportunities for gaming, and setting clear rules of engagement in order to minimise the costs of contractual disputes.

Those interviewed agreed that the PbR system was preferable to previous contracting arrangements, because PbR had sharpened incentives and introduced greater clarity into the contracting process. Interviewees indicated that PbR had led to improvements in the process of care delivery, by enabling resources to be shifted across settings and by highlighting where service improvements might be made. It will be important to demonstrate the benefits of PbR formally in the future.

Keywords: Transaction costs, HRGs, Casemix funding