Medicare prospective payment without separate urban and rural rates

Health Care Financing Review, Winter, 1992 by Sheila M. O'Dougherty, Philip G. Cotterill, Steven Phillips, Elizabeth Richter, Nancy De Lew, Barbara Wynn, Thomas Ault

In scope and method, this study is similar to the 1987 USDHHS (1987) Report to Congress that examined the appropriateness of the separate urbanrural rates. The report noted that the PPS adjustments for teaching, DSH, and RRC hospitals are all accommodations to the fact that separate urban and rural rates do not account for high-cost hospitals within the urban and rural groups. The report did not recommend eliminating the separate standard rates but did point out that there is a strong correlation between intensity of care, hospital size, and teaching activity and that all of the PPS adjustments would need to be re-evaluated under a single-rate system.

The analyses described in this article apply only to Medicare payments that cover hospitals' inpatient operating costs. In October 1991, Medicare began paying for its share of allowable capital costs under a new capital PPS based on a per discharge average amount. Once this capital PPS is fully phased in (current law specifies a 10-year period), HCFA believes that payments for operating and capital costs should be based on a single standard rate adjusted by one set of payment adjustments. Discussions of payment adjustments appropriate to combined operating and capital costs appear in the Federal Register (1991) and in Cotterill (1992).

Overview of this study

In this article, we assess the need for payment adjustments in a PPS without separate urban and rural rates. We concern ourselves here with the distribution of payments among the various groups of urban and rural hospitals and do not address whether Medicare's overall level of payments to all hospitals is too high or too low. Other articles in this issue of the Review are more relevant to the question of the aggregate level of payments (Sheingold and Richter, 1992; Peden, 1992; Bradley and Kominski, 1992).

The chief criterion used to evaluate the appropriateness of the PPS payment distribution is that payment-to-cost ratios should be similar across hospital groups. Using the most recent available cost data at the time of the analysis, simulations of payment-to-cost ratios are compared for FY 1991 rules, FY 1995 rules, and a simpler single-rate system that eliminates some special provisions of FY 1995 rules. These comparisons serve to illustrate the effects of eliminating the separate urban-rural rates and to identify hospital groups where further payment adjustments may be desirable. The central finding is that, compared with FY 1991 rules, a single-rate system redistributes payments from urban to rural hospitals, especially small rural hospitals (Table 1, columns 2 and 4). The payment-to-cost ratio of rural hospitals is too high, and the ratio of hospitals in large urban areas is too low. Among urban hospitals, major teaching hospitals and teaching hospitals that also qualify as DSH hospitals maintain their shares of payments better than any other groups.

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To improve the balance between the payment-to-cost ratios of rural and urban hospitals, we first examined the case-level adjustments for differences in hospitals' case-mix severity. DRG refinements to improve case-mix measures of severity and modifications of outlier payment policy were evaluated. An analysis of wage-index refinements was also conducted, which is described in a separate article in this issue of the Review (De Lew, 1992). Our simulations incorporate the results of that analysis.