The effect of rural hospital closures on efficiency

Well-functioning health care markets will reward high-quality, efficient hospitals at the expense of low quality, inefficient hospitals. Hospital closures in such markets would be a signal of a low-performing hospital that does not offer patients or insurers sufficient value to remain solvent. However, the characteristics of rural markets may make it difficult for even an efficient hospital to survive. Rural hospitals often have inordinately high shares of Medicare, Medicaid and uninsured patients that can hamper financial performance. The FFS prices paid by Medicare and Medicaid for hospital services are generally set by fiat rather than by the market. Thus, for a sizable group of patients, these prices do not necessarily adjust to supply and demand conditions. Although the prices paid by private health plans (along with Medicare and Medicaid managed care plans) are shaped by market forces, consideration of pricing alone may not result in hospital closures that are socially optimal. It is possible that the social benefit of access to an individual hospitals outweighs any cost savings from its closure. However, given the expense required to subsidize a hospital’s operations it is critically important to distinguish hospitals with poor financial performance is due to external market and regulatory factors from hospitals with poor financial performance due to poor quality or inefficient management.

In this paper we examine hospital closures in states that did and did not expand Medicaid under the affordable care act. We test the hypothesis that hospitals that close in expansion states are less efficient and bring less value to patients than hospitals in non-expansion states that are subject to lower average reimbursement than their expansion state counterparts. Our research has shown that closures are more likely in states that did not expand and in market areas with high pre-2014 uninsurance rates. The current paper follows Capps, Dranove, and Lindrooth (JHE, 2010) to estimate the cost efficiency and consumer welfare supplied by hospitals that eventually closed and the incumbent hospitals in the local markets to assess whether the closures were related to a shake-out in an otherwise well-functioning market with an excess supply of beds or due to artificially low average reimbursement rates caused by high uninsurance rates or Medicaid prices that were set by fiat. Preliminary results reveal that access to hospitals that closed in both types of states were highly valued by uninsured patients and patients seeking routine care. However, survival of public (i.e. county-owned) safety net hospitals in expansion states is enhanced due to a reduction in uncompensated care and the existence of other local non-safety net hospitals in the market to absorb newly insured Medicaid patients. Absent the expansion, continued treatment of uninsured patients would have likely led to closure. Interestingly, when local competitors are not sufficiently valued by Medicaid patients (i.e. offer sufficient quality or amenities), the incremental improvement in survival probability of safety net hospitals in expansion states is small.