	A Hospital’s Labor Cost Adjustment Is Based On Average Wages Paid in a Geographic Area

Medicare’s prospective payment system (PPS) provides incentives for  hospitals to operate efficiently by paying them a predetermined, fixed  amount for each inpatient hospital stay, regardless of the actual costs  incurred in providing the care. Labor Cost Adjustment Does Not Adequately Account for Wage Differences Within Certain Areas

The variation in hospital wages within some Medicare geographic areas –  MSAs or the non-metropolitan areas in a state—is systematic across  different parts of these areas. While wages paid by hospitals are expected  to vary within a labor market, such systematic variation suggests that  some Medicare geographic areas include multiple labor markets within  which hospitals pay different average wages. Because the labor cost adjustment does not take this kind of  systematic variation into account, the adjustment sometimes does not  appropriately reflect the average wages that hospitals pay. Certain Hospitals Can Be Reclassified Without Meeting Wage Criterion

While reclassification is designed to increase payments to hospitals paying  wages significantly above the average for their area, certain provisions  allow some hospitals that pay lower wages to reclassify. Physician Fees Are Adjusted for Cost-of- Living, Practice Expense and Malpractice Premium Differences

Medicare’s physician fee schedule, which specifies the amount that  Medicare will pay for each physician service, includes an adjustment to  help ensure that the fees paid in a geographic area appropriately reflect  the cost of living in that area and the costs associated with the operation  of a practice. Medicare’s geographic adjustments for physician fees are based on  indexes that are designed to reflect cost differences among the 92 areas. To ensure that PPS rewards  hospitals because they are efficient, rather than because they operate in  favorable circumstances, payment adjustments are made to account for  cost differences across hospitals that are beyond any individual hospital’s  control. Geographic reclassification provides relief to some hospitals that pay  wages that are higher than the average in their area. Their labor  cost adjustment, however, is not necessarily the cause of these problems.
Why GAO Did This Study

This testimony discusses Medicare program payment adjustments to hospitals and physicians that account for geographic differences in costs.

What GAO Found

Because Medicare's hospital and physician payment systems are based on national rates, these geographic cost adjustments are essential to account for costs beyond providers' control and to ensure that beneficiaries have adequate access to services. If these adjustments are not adequate, this could affect providers' financial stability and their ability or willingness to continue serving Medicare patients. Medicare's payments to hospitals vary with the average wages paid in a hospital's labor market. Yet, some hospitals believe that the labor cost adjustment applied does not reflect the average wage in their labor market area. Medicare's labor cost adjustment does not adequately account for geographic differences in hospital wages in some areas because a single adjustment is applied to all hospitals in an area, even though it may encompass multiple labor markets or different types of communities within which hospitals pay significantly different average wages. Geographic reclassification addresses some inequities in Medicare's labor cost adjustments by allowing some hospitals that pay wages enough above the average in their area to receive higher labor cost adjustments. However, some hospitals can reclassify even though they pay wages that are comparable to the average in their area. To help ensure that beneficiaries in all parts of the country have access to services, Medicare adjusts its physician fee schedule on the basis of indexes designed to reflect cost differences among 92 geographic areas. The adjustment is designed to help ensure that the fees paid appropriately reflect the cost of living and operating a practice in that area.