No. 34: Will paying the piper change the tune?

Sutherland JM, Barer ML, Evans RG, Crump RT. Will paying the piper change the tune? Healthcare Policy. 2011;6(4): 14-21.


Global hospital budgets have been the norm in Canada for decades because they offer predictability and can be controlled by governments. In many other health-care systems around the world, however, variants of activity-based funding (ABF) play some role.

The rationale for ABF — Payment-by-Results in the UK, or Prospective Payment System in the US— is that it increases throughput and efficiency by paying a pre-determined fee for each case treated, according to its complexity and duration. In essence, it is fee-for-service applied to hospitals.In ABF, the services that patients receive in hospital for a particular illness are classified into clinical or case-mix groups that use similar levels of hospital resources. Some costs, such as the basic infrastructure and operation of hospitals, may still be paid by yearly global budgets; this varies by health-care system.

Methods and Limitations

The authors examine the advantages and disadvantages of ABF and its history in Canada. They refer to existing research in a narrative style, though they do not offer a systematic review. Some remarks are speculative, and may not reflect other valid perspectives. The paper is valuable because it provides a learned perspective, from respected economists and policy analysts, on an emerging Canadian policy issue.


In pure economic terms, the appeal of ABF is intuitive. We want to pay for only the services we use and reward organizations that use money well. In theory, ABF provides incentive for appropriate use of resources, and the ability to target funds for identified priority areas.

Sutherland et al, however, point out the difficulty of determining how much to pay for a given episode of inpatient care. The Canadian Institute for Health Information (CIHI) has classified more than 500 case mix groupings, but the costs associated with these must be locally determined, and Canadian hospitals are not yet equipped to capture these data. Developing accurate fee schedules for ABF involves such minutiae as tracking the number of medical supplies used for each patient, right down to counting latex gloves and bedpans, which will be expensive and disruptive. Getting the pricing structure right is not easy. Underfunding complex patients will promote “cherry picking” of simple cases. Another common consequence, seen with the use of diagnosis-related group (DRG) funding in U.S. hospitals, is enhancing the reported complexity of cases, or “up-coding,” a form of fraud. Paying too little or too much can distort hospital practice.

In recent years, some provinces — BC, Alberta, and Ontario —have taken tentative steps toward implementing some activity-based hospital funding. Implementation is cautious because, according to the authors, provinces lack the costing systems to gather data and the management systems needed for widespread roll-out of ABF.

Since physicians make decisions about admission and treatment, especially costly procedures, they have an incentive to refer patients for ABF-reimbursed procedure, driving up utilization, and hence cost. The risk is that we end up with the system “chasing its own tail” if reimbursement rates per case are lower, but the number of cases seen increases.

The authors conclude that there appears to be no clear conclusion about the effects of ABF, other than the certainty that hospitals will figure out how to maximize their gains by migrating activity to areas of highest margins.


An area of concern not directly addressed in this paper is the potential for ABF to promote commercialization of care. Once patient encounters and procedures are costed and bundled into saleable units, for-profit entities can be invited to bid for access to patients, and the incentive for cherry-picking in the for-profit sector is high. This was the experience when surgery was outsourced to for-profit facilities in England’s National Health Service (NHS). Insofar as it lays the groundwork for increased private for-profit delivery of publicly funded services, ABF should be approached with caution. 

Canadian Doctors for Medicare supports carefully controlled experiments with ABF to learn whether this approach might be useful, but only if it does not undermine equitable access, cost, and quality in the public system. CDM recommends a set of principles for approaching ABF that draw from international experience. See our ABF position paper for a full exploration of these principles

Please check your e-mail for a link to activate your account.