Markets and the NHSME Guidelines: costs and prices in the internal market

This paper traces the development of costing and pricing guidance as it relates to the operation of the NHS internal market (Sections 1 and 2). Such guidance has developed at least partly in response to the information deficiencies which undermine the Government’s somewhat mechanistic application of the competition-efficiency paradigm to the public sector. The recent paper in this Discussion Paper series (Dawson, 1994) makes a valuable contribution to the debate by pointing out some of the cost classification problems and inherent dangers of average cost pricing rules. This paper endorses such observations, in particular the problems associated with average cost pricing, but develops a different stance with respect to the guidance and, in particular, the issue of openness in pricing (Section 3). Essentially the general aim of the national guidance on costing and pricing is supported in this paper, while recognising that it is a means to an end, not an end in itself. The guidance is attempting to ensure a degree of consistency in costing methodologies, hence ironing out artificial differences across providers. This paper argues that some degree of consistency is desirable and in particular that openness in pricing information is an essential feature if purchasers are to make more informed decisions. What is required is supplementary information on qualitative aspects of service in order that price/quality trade-offs can begin to be made by purchasers. Ex ante openness in pricing may be viewed as a necessary, but not sufficient, condition to facilitate the operation of the NHS internal market. The health care market is different from other markets and purchasers need a “guiding hand” if they are to make more informed decisions: the national guidance can be interpreted as the guiding hand or a check on market forces. Underlying the guidance is a real concern that in particular sectors of the market, significant degrees of monopoly power will exist. The extent to which market structure may be influencing the price (and quality) of service offered by providers is largely an empirical question, and raises the issue of how markets should be classified. Section 4 discusses two possible methods, one focusing upon indices of concentration and the other describing different types of demand elasticity: specifically, price elasticity of demand, price cross-elasticity of demand and conjectural price flexibility. The latter method requires further development in the context of the internal market and potential information difficulties. The price cross-elasticity of demand is of particular value in addressing the issue of the degree of substitutability across primary/community and secondary care services. The concept of conjectural price flexibility is essential in identifying the crucial role of expectations in oligopolistic market structures (e.g. two or three large teaching hospitals dominating the provision of a range of services). The paper concludes by supporting the case for openness in pricing but at the same time arguing for less stringent pricing rules. The danger with the current “managed market” is that the system may lumber towards a situation of bilateral monopoly in which price and service specification are influenced primarily by the negotiating skill and bargaining power of purchaser and provider Chief Executives, with the resultant contract prices bearing little relation to efficient resource allocation. Encouraging the development of genuinely seamless primary/community care services, with larger numbers of potential providers, is one means of increasing the degree of competition and exerting a positive influence on patient choice.