Searching for the Best Yardstick: Cost of Quality Improvements in the U.S. Hospital Industry

The Hospital Value-Based Purchasing (VBP) Program is Medicare’s implementation of yardstick incentives applied to hospitals in the U.S. Under the VBP Program, 2% of all Medicare payments to hospitals, estimated to be US$1.9B in fiscal year 2021, are withheld and redistributed based on their relative performance in the quality of delivered care. We develop a dynamic equilibrium model in which hospitals are engaged in a repeated competition under yardstick incentives. Using structural estimation methods, we recover key parameters that govern hospitals’ decisions to invest in quality improvement, including the financial and non-financial costs and uncertain outcomes of investment. By dynamically solving for hospitals’ individually optimal investment policies, we estimate the trajectory of quality improvements for each hospital, including its investment decisions and quality levels throughout the implementation of the VBP Program. Our counterfactual analyses explore the benefits, on the one hand, of modifying the overall size of the yardstick incentives and, on the other hand, of implementing a more focused program tailored to hospital type. We find that increasing the size of the incentives from 2% to 4% would have resulted in an additional quality investment of US$1.2B from 2011 to 2018, leading to a 3.3% reduction in the average rate of central line-associated bloodstream infections (CLABSI). Applying yardstick incentives to the tailored hospital peer groups, even without changing the size of the incentives, can lead to an average reduction of 1.4% in the rate of CLABSI among groups of hospitals associated with the highest costs of quality investment.