Reform Update: Hospitals slash labor costs to make up for lost Medicare revenue

Hospitals spend less on operations—largely by squeezing labor costs—to make up for lost revenue when Medicare cuts hospital prices, according to a study published in the journal Health Services Research.

The study found that hospitals eliminate 1.7 full-time jobs for every $100,000 drop in Medicare revenue. Nurses accounted for one-third of the reduced workforce. The study did not look at any impact on quality of care.

The results suggest that hospitals have the flexibility to respond as Medicare continues to squeeze hospital prices under the Patient Protection and Affordable Care Act, said co-author Chapin White, a senior researcher with the Center for Studying Health System Change and former principal analyst for the Congressional Budget Office.

“When Medicare cuts prices, it looks like hospitals figure out how to operate in a lower-cost way,” he said in an interview.

Many hospitals are moving aggressively to tighten spending on labor and supplies and to streamline care in response to recent and anticipated reductions in rates from public and private payers.

Under the ACA, Medicare will pay hospitals 1.1% less a year over a decade, starting in 2011, than it would have paid without the law, the study said.

That's $321 less per patient after 10 years, using a definition that accounts for patients who were admitted and those treated as outpatients, according to the paper. That takes into account the likelihood that private payers will cut prices as Medicare does.

The paper found that hospitals were mostly able to protect their operating margins as Medicare lowered prices between 1996 and 2009.

During that period, Medicare rate cuts—principally a result of the Balanced Budget Act of 1997—reduced hospital revenue by 2.5%. That amounted to $250 for each hospital patient.

Hospitals did not see revenue from other payers increase as Medicare prices declined. In fact, total patient revenue dropped $1.55 for every $1 drop in Medicare revenue, the study said. The results suggest that when Medicare cuts prices, so do other payers, White said. In research published this year in the journal Health Affairs, White reported that private insurance rates dropped 3% to 8% when Medicare prices declined 10%.

Hospitals offset $1.40 in lost revenue by spending less to operate. Most of those spending cuts—60%—came from labor costs.

White and co-author Vivian Yaling Wu, an assistant professor at the University of Southern California who specializes in health economics and finance, Los Angeles, estimated that the ACA's $321 per-patient reduction in hospital revenue over 10 years would require $290 per patient drop in operating costs and $30 per patient loss in operating margin.

The study did not include hospitals in Maryland, where the state sets prices for all payers. Small and rural hospitals that have been federally designated as “critical access” hospitals also were excluded.

Patients in a significant number of markets across the nation were treated within accountable care organizations as of late last year, two studies found.

Dartmouth University researchers found an ACO in one out of four communities, which they defined as any of more than 3,400 hospital-service areas. Their areas are home to half the U.S. population, according to the study, which was published by the journal Health Services Research. Nearly one out of 10 communities had two or more ACOs. ACOs were more likely in areas that did better on measures of quality performance, the study said.

Separately, research published in Health Affairs found markets with greater consolidation by hospitals and doctors were more likely to see ACOs develop.

In a new accountable-care arrangement, North Shore-LIJ has won New York state approval to take financial risk for serving 170,000 commercial enrollees covered by New York insurer EmblemHealth.

The Great Neck, N.Y.-based North Shore-LIJ health system will earn a share of savings if the cost of care totals less than the budgeted amount, said Howard Gold, the health system's executive vice president of managed care and business development. But North Shore-LIJ must pay back EmblemHealth if spending on medical care goes over budget.

Gold said the health system will be the “preferred provider” for the 170,000 EmblemHealth customers in Long Island, Staten Island, Queens and Manhattan. Patients with North Shore-LIJ primary-care doctors will be referred within the system, he said, but patients will not have a financial incentive to stay within the system for treatment. “We're trying to create a referral pattern,” he said.

EmblemHealth declined to comment.

Follow Melanie Evans on Twitter: @MHmevans