“Monitoring for Waste: Evidence from Medicare Audits”, 2023-09-28 ():
This article examines the trade-offs of monitoring for wasteful public spending. By penalizing unnecessary spending, monitoring improves the quality of public expenditure and incentivizes firms to invest in compliance technology.
I study a large Medicare program that monitored for unnecessary health care spending and consider its effect on government savings, provider behavior, and patient health.
Every dollar Medicare spent on monitoring generated $24–$29 in government savings. The majority of savings stem from the deterrence of future care, rather than reclaimed payments from prior care. I do not find evidence that the health of the marginal patient is harmed, indicating that monitoring primarily deters low-value care.
Monitoring does increase provider administrative costs, but these costs are mostly incurred up-front and include investments in technology to assess the medical necessity of care.
…The central challenge in identifying the causal effect of monitoring is that RAC audits are endogenous. RACs are private firms that are paid a contingency fee based on the payments they correct. Naturally, they target their audits at claims that are most likely to have an error. I address this endogeneity by leveraging two identification strategies: one that compares hospitals subject to differentially aggressive RACs, and another that compares patient cohorts who face exogenously different audit likelihoods.
…I study this question in the context of Medicare’s largest monitoring program, the Recovery Audit Contractor (RAC) program. Through the program, private auditing firms (RACs) conduct manual reviews of individual Medicare claims (audits) to identify and reclaim payments for unnecessary care. I focus on RAC auditing for unnecessary hospital stays. At the program’s peak, 4% of all hospital admissions—Medicare’s largest expenditure category—were audited, and 1% of all Medicare inpatient revenue was reclaimed through the RAC program.2
The rich data in this context offer a unique lens for examining the effects of monitoring for waste. To estimate the savings from both the detection and deterrence effects of monitoring, I combine novel administrative data on RAC audits with Medicare claims data on hospital stays. To assess whether these savings stemmed from reductions in unnecessary care, I look to patient health outcomes for evidence of harm. In particular, I use emergency department (ED) discharge data that allow me to track patients’ outcomes over time, even if they are denied a hospital stay. Then to characterize the effort hospitals put in to comply with RAC audits, I draw on measures of administrative costs and technology adoption from annual hospital cost reports and surveys.
To motivate the empirical analysis, I consider a model of hospital behavior and Medicare audits to understand how monitoring affects admissions and technology adoption. Hospitals assess whether patients need to be admitted by observing a noisy signal of each patient’s benefit from admission. They set an admission threshold and admit patients whose signals are above the threshold. Thus the threshold determines how many patients the hospital expects to admit. Medicare reimburses hospitals for admissions and conducts audits to uncover and penalize admissions with low true benefit. In setting the admission threshold, hospitals trade off the changes in patient benefit, which they value inherently because they are partially altruistic, with changes in reimbursement, treatment costs, and expected audit penalties. Prior to setting their threshold, hospitals can purchase technology that improves their ability to assess patient need by reducing the noise in their patient benefit signal. Adopting technology is costly but increases hospitals’ payoff from admissions. Hospitals adopt only if the gains to doing so are greater than the fixed adoption cost. The model illustrates how auditing can shape hospital behavior both directly, by lowering the return to the marginal admission, but also indirectly, by increasing the return to investments in diagnostic ability. As a result, increasing the audit rate can change both the quantity and quality of hospital admissions.
I examine the effects of monitoring on hospital behavior and patient outcomes in the data and arrive at 3 core empirical findings. First, RAC audits reduce Medicare spending on admissions, with a very high return—every dollar that Medicare spends on monitoring hospitals recovers $24-$29. 90% of these savings stem from the deterrence of future spending, rather than the recovery of prior spending. Second, monitoring primarily deters low-value admissions. Hospitals are less likely to admit patients with higher audit risk, but these patients were no more likely to return to the hospital due to a missed diagnosis. Third, RAC audits lead hospitals to invest in technology to assess whether admitting a patient is medically necessary. Most of the administrative costs hospitals incur can be attributed to such up-front costs rather than ongoing hassle costs. Taken together, the results show that monitoring providers reduces unnecessary care, and one way it does so is by incentivizing providers to adopt technology to improve their diagnostic ability.