Getting Health Reform

Right

By

Marc J. Roberts
William Hsiao
Peter Berman
Michael R. Reich

Oxford University Press

(October 2002)
 Chapter 1
Setting the Scene

1. Introduction

Throughout the world, governments are engaged in health sector reform (Mills,
Bennett, and Russell 2001; OECD 1996; Berman 1995). The transitional economies of Eastern
Europe are full of new social insurance schemes. Nations in South America are experimenting
with ways to extend health insurance coverage to both the rural and urban poor. In Africa,
experiments with fiscal decentralization have produced additional revenues for hospitals, but
also additional inequality between rich and poor regions. To improve efficiency, many nations
have also experimented with both new payment systems and new ways to organize health care
delivery.

Too often, however, conflicting political calculations, economic implications, and

ethical concerns have led to a confused national debate: How should we deal with doctors’
demands for more money? What strategies exist to reduce costs for medical care while
expanding social insurance to cover the poor? Should we expand the system of publicly
provided health centers, or move more to private practice family physicians? Should we ask
patients to pay more out of pocket, or make more use of general tax revenues? Is the answer
more new technology or less? More doctors or fewer medical schools? Building new hospitals
or spending more on anti-smoking campaigns?

This book is intended to help health reformers develop the skills they need to answer
these questions. It introduces a set of concepts that can facilitate systematic and critical
thinking about health sector reform. Our experience in many countries is that careful analysis
is both possible and potentially very useful, as we hope to demonstrate in the pages that
follow.

Our discussion draws on a range of disciplines. For an understanding of how money is

raised and spent, we make extensive use of economic analysis. For insight into how
individuals and organizations react to those incentives, we draw on sociology, psychology, and
organizational theory. For guidance on how to get policies adopted and implemented in the
real world of government decision-making, we rely on political analysis. In addition, for help
with thinking about how to define problems, we devote significant attention to moral
philosophy. Our criteria for the use of theory have been pragmatic: Which conceptual tools
and ways of thinking can help people succeed at the real work of health sector reform?

Simply reading a book about how to do health sector reform cannot prepare someone
adequately for the work at hand. On the contrary, much of what is required resembles a skill or
a craft, like cooking a meal, kicking a football, sailing a small boat, or playing the trumpet.
Such skills are best developed through supervised practice. The materials presented here,
therefore, need to be supplemented by active discussion of case examples and personal
experiences. Applying these concepts to specific cases will show how the ideas are helpful for
solving particular problems and also reveal their limits. Such explorations are the best way to
develop the intuition and judgment that are needed for successful action in a particular context.

The goal of this book is to develop a more reasoned and effective approach to
improving the performance of health care systems. The ideas and methods are based on our
own engagement with health reform in many parts of the world, in countries with different
types of problems and with different attempts at solutions, not all of which have been
successful. We have taught this approach to hundreds of practitioners around the world, from
Malaysia, Kazakhstan and China, to Hungary, Lebanon and Russia, to Mexico, Chile and
Washington, DC. In developing these materials over the course of several years, we have
challenged each other to clarify ideas and to make general arguments relevant to actual
practice. The result is a book addressed primarily to practitioners—people concerned with
making health reform happen—although we hope that researchers will also find it stimulating
and provocative.

Our approach to health reform is based on looking at the health care system as a means
to an end. In order to know whether the health care system is working well or badly, and to
identify promising reforms, it is crucial to keep this perspective in mind. Our method focuses
on the need to identify goals explicitly, diagnose causes of poor performance in a systematic
way, and devise reforms that will produce real changes in performance. We will argue
repeatedly that reform must be strategic, based on honest means-ends analyses of what is
likely to happen in a particular national context. Reforms need to be judged not on reformers’
intentions, but by the changes they actually produce.

Advocates of particular health sector reform ideas do not always offer arguments that
meet this standard. Instead, they sometimes urge adoption of their favorite idea: be it
decentralization or family medicine, primary care or private insurance—without critical
analysis or reflection (Sen and Koivusalo 1998; Hearst and Blas 2001). Too often, reform
advocates do not identify the performance problems they want to improve, or how the reform
they propose will lead to that improvement.

We know from experience that health sector reform is a difficult process (Berman
1995; Wilsford 1995). As we discuss below (Chapter 4) existing institutions and interest
groups often have both the reasons and the resources to vigorously oppose change. As a result,
it often takes some sort of political or economic shock to begin the health sector reform
process: a budget crisis, a change in the government coalition, a public scandal, a strike by
providers or some combination of these and other similar events. This means that major
changes in a country's health sector are infrequent. Hence, reformers have to be prepared to
energetically seize the opportunity for major change when the time arises.

We are not so naïve, however, as to believe that a crisis always produces unity about
what needs to be done. Differences in values, interests, political philosophy and institutional
responsibility will all make themselves felt. The Ministry of Finance is not likely to agree with
the Ministry of Health. The doctors will not necessarily see eye to eye with the hospital
administrators; nor will local government leaders agree with pharmaceutical company
executives. For this reason we stress the importance of being clear about underlying values—
and the ways in which these values lead to different goals and different reform priorities. Only
by clarifying goals and values is it possible to devise a policy that has hope of achieving the
changes that reformers desire.

Experience has also taught us that, because of its complexity, the behavior of a health
care system is not easy to control. Change payment schemes, and doctors and hospitals are
likely to modify their behavior to defend their incomes (Gilman 2000; Dowling 1977). Impose
regulations on hospitals, and reports very likely will be adjusted to show compliance. Create
new payroll taxes, and some businesses will seek to avoid them (Ron, Abel-Smith, and
Tamburi 1990). Furthermore, the casual relationships in the system are complex. Change
incentives to hospitals to foster efficiency, but not the authority of hospital managers, and the
new scheme may produce little change. Institute competitive bidding in situations where there
are few competitors, and the hoped-for decline in prices and costs may not occur.

These characteristics of the health system—its complexity, resistance to change and the
diversity of perspectives within it—give health sector reform an episodic and cyclical
character. When some internal or external shock does focus national attention on health sector
reform, a specific feature of the system is often identified as critical. And this then becomes a
target for major reform efforts. But the initial reform steps often lead to further unanticipated
problems. And additional rounds of reform (often less dramatic) can be expected. As a result,
the initial changes are adapted, perfected, and modified (or even disassembled) by subsequent
actions. We discuss the health reform cycle in more detail in Chapter 2.

Moreover, because we focus on consequences, we will insist throughout this book that
matters of practicality and implementation be kept in mind. While international experience is a
valuable source of ideas and guidance, we urge the reader to remember that policies that have
worked well in other countries always need to be evaluated in your particular context. Every
nation is different and simple imitation is seldom advisable. Reformers have many questions to
ask themselves. How good are our data systems? How respected are our courts? How energetic
are our administrators? As we noted above, policy needs to be developed in a realistic and self-
 critical manner. Such skepticism and self-examination can help develop plans that have a
reasonable prospect of success in a reformer's own national context.

Based on this understanding of how reform occurs, our approach to the health sector
reform process brings together six important elements:

• A description of the policy cycle and an identification of the key tasks a

reformer should be prepared to tackle at each stage of the process (Chapter 2).

• A guide to ethical theory to help think through the moral bases for the
policy goals and priorities that help define the reform agenda (Chapter 3).

• An introduction to systematic political analysis, because politics matters

at each step of the health reform cycle. Political analysis should be done early and often
throughout the policy cycle (Chapter 4).

• A set of core health system performance goals and intermediate

performance characteristics, which can serve as guides for evaluating performance. We link
these goals to ethical theory (Chapters 5 and 6).

• A systematic approach to health system diagnosis that can be taught and

practiced effectively. It is based on the idea of working backwards from identified
performance problems to their causes and the causes of causes, using a technique we call a
diagnostic tree (Chapter 7).

• A framework of five health system “control knobs” that summarizes the

options available to reformers (payment, financing, organization, regulation, and behavior) for
influencing health system performance. These categories provide the focus for both the
diagnostic process and for developing policies to achieve better performance (Chapters 8 to
12).

By combining these concepts, ideas and techniques, practitioners have a better chance
of producing workable reforms that will achieve their designers’ objectives.

However ambitious, this book does not cover everything about health sector reform. It
does not provide an exhaustive discussion of a large number of detailed policy options. There
simply is insufficient space for us to cover so much material. Nor does it present a single set of
preferred solutions, because countries are too varied for one approach to be universally
applicable. Instead, we provide you, the reader, with new ways of talking and thinking about
the performance problems you confront in your health system, so that your own analysis of
your situation, and the decisions you make to deal with it, can be more effective.
 In our view, the fact that the problems and the solutions for health sector reform vary
across nations is almost too obvious to need repeating. Yet many ignore this vital point.
Countries differ widely in their levels of economic development, social conditions, political
values, disease patterns, and institutional arrangements. Nations range in per capita income
from several hundred dollars per year to twenty thousand and more. In some countries, half the
children born alive die before the age of five; in others, child death is an unusually rare event.
There are many countries where physicians are as rare as one per 10 or 20 thousand
population, and not a few where there may be one per several hundred (WHO 2000, 79).

Other differences in national conditions are equally striking. In some countries, the
civil service is reliable and energetic; in others, it is corrupt and ineffective (Hodess, Banfield,
and Wolfe 2001). Some countries are blessed with mineral or agricultural resources; others
struggle with difficult climate or poor soils (Sachs 1999; Bloom and Sachs 1998). Some suffer
from endemic infectious diseases or the AIDS epidemic; others struggle with increasing
chronic disease; and many countries confront both infectious and non-communicable diseases.
Some countries have relatively stable political conditions with good governance; others have
experienced years of political terror and instability. These factors affect both how the problems
of health sector reform are defined, and the kinds of solutions that are most likely to work.

In addition, countries seek different goals within their health care systems. Countries
have serious and legitimate differences over whether they seek to provide equal care to rich
and poor, urban and rural, productive and unproductive. They differ over which health
conditions they seek to address as high priorities: the burden of maternal and infant mortality,
for example, versus chronic conditions such as cardiovascular disease in working adults.
Countries also differ in their views about how forcefully citizens can be pushed to change their
personal habits or their culture, when these support unhealthy behaviors. In short, not only do
problems vary from country to country, but so do values, goals, and ethics (Hollander 2002).
We believe, therefore, that developing a plan for health reform requires a direct engagement
with philosophy and social values.

Finally, nations differ in their political systems. Some are elected democracies, others
are one-party systems, while others are ruled by hereditary monarchs. Among the democracies,
some constitutions centralize power, while others decentralize it. Some electoral systems
encourage fringe parties, while others discourage them. Some political systems encourage the
activities of non-governmental organizations, while others suppress any groups that might
challenge the dominant power structure. In addition, different groups within a country vary in
power and position, depending on their leadership and history. These differences in political
structures, political practices, and political freedom affect the processes of health reform,
including how problems and solutions are defined, and the kinds of policies that are politically
feasible.

The analysis of health reform that we offer is resolutely contextual—both problems

and solutions depend on the particular situation. Our goal is to illuminate that dependence by
 presenting conceptual tools for analyzing problems and solutions within specific contexts. At
the same time, we also recognize that common patterns in health reform exist: certain large
forces operate, to varying degrees, in all countries. We briefly review these forces below. But
first, we need to make one other preliminary point.

No sharp line distinguishes what is and what is not part of the health care system, nor is
it worth much time and energy debating over the system’s boundary. We argue below that a
pragmatic analysis must focus on the consequences of this system for the well-being of
citizens. The analytical net must be cast wide enough to include all forces and factors that
reformers might want to influence in seeking to improve the lives of their fellow citizens.

Bearing this caveat in mind we use the terms “the health sector” and “the health care
system” in this book to include the following:

• All those who deliver health care—public or private, Western or

traditional, licensed or unlicensed, including doctors, nurses, hospitals, clinics, pharmacies,
village health workers, and traditional healers.

• The money flows that finance such care—official or unofficial, through

intermediaries or directly out of patients’ pockets.

• The activities of those who provide the specialized inputs into the health
care process⎯including medical and nursing schools, as well as drug and device
manufacturers.

• The financial intermediaries, planners, and regulators who control, fund,

and influence those who provide care⎯encompassing ministries of health, finance and
planning, social and private insurance institutions, and regulatory bodies.

• The activities of organizations that deliver preventive services⎯such as

immunization, family planning, infectious disease control, and education on nutrition,
smoking, and substance abuse. These may be public or private, local, national, or international.

We take a similar pragmatic view of what we mean by “reform.” For us, reform
involves a significant purposive effort to improve the performance of the health care system.
Reforms differ along at least two dimensions: (1) the number of different aspects of the health
care system that are changed, and (2) how radically the individual changes depart from past
practice. But as we will stress repeatedly (especially when discussing particular options in the
book’s second half) successful reform often involves introducing a set of inter-dependent and
mutually supporting interventions—especially if a major departure from past practice is made
in one piece of the system.
2. The Changing Global Context of Health Sector Reform

When we began working on this book several years ago, health sector reform was a
major concern in international health policy debates. Such reform was promoted as a way to
solve the problems of the health systems of countries in widely diverging circumstances. As
we have developed our ideas, the broader policy environment of international development has
shifted to place even greater emphasis on health—both as a central goal of development and as
an instrument to enhance other welfare outcomes (Commission on Macroeconomics and
Health 2001). From a philosophical perspective, Amartya Sen has argued that health is an
essential element of the human capabilities needed for development (Sen 1999). From a
broader economic perspective, population health has been causally linked as an input to
economic growth at the national level (Bloom and Canning 2000). In addition, poor health has
been connected to household poverty, by studies showing that acute episodes of avoidable
illness are a major cause of households falling into poverty and distress (Liu, Hsiao, and Rao
2003). In sum, a consensus has emerged that health care is important both to improved health
status and to general development goals.

For several reasons, the performance of the health care system is becoming
increasingly important for achieving health and development goals. Historically, public health
scientists have attributed the major gains in population health to improvements in general
living standards, such as better nutrition, sanitation, housing, and the healthier behaviors
accompanying education (Preston 1975). While improvements in living standards are still
important determinants of health, there is recent evidence that health care accounts for a
significant share of health improvements in poor countries (WHO 1999) and that delivering
the right package of basic health care services can achieve dramatic reductions in avoidable
mortality and morbidity (World Bank 1993; Gwatkin, Wilcox and Wray 1980). These causal
connections suggest that health sector reform has a crucial role to play in health and
development.

Over the past decade, however, the record of health sector reform in middle and low-
income countries has been decidedly mixed. Realizing the promised achievements has often
been elusive. This is due in part to poorly designed and hastily implemented reforms, often
launched in response to economic and political changes outside the health sector. Because the
health care system is so complicated and resistant to change, and because systematic and
systemic analysis was often lacking, these reform efforts have not always produced the hoped-
for benefits. Moreover, the difficulties of implementation were not fully appreciated.

China’s experience in this regard is instructive. Profound economic changes in the

1980s led to the dismantling of the existing collective financing mechanism for rural primary
care (Hsiao and Liu 1996). These same changes also undermined the economic base of many
state-owned enterprises that financed health care for urban workers. Before China’s drastic
economic reforms, the country was one of the world’s great health success stories, in terms of
health status versus GDP per capita. In response to recent problems in health care, China has
initiated a series of patchy reform efforts, but as of yet these have had little impact on the
problems in its existing health care system, as we discuss at various points in the book.

In 2003, as this book goes to press, international development policy debates are now
focused on achieving the Millennium Development Goals (MDGs)—specific targets for
poverty reduction, including a number of priority health outcomes such as controlling
infectious diseases and managing childhood illnesses (IMF et al. 2000). With prompting from
international agencies, countries are developing Poverty Reduction Strategy Papers (PRSPs) as
comprehensive guides to development investments, including for the health sector (World
Bank 2001). In addition, the Global Fund to Fight AIDS, Tuberculosis, and Malaria has been
established to mobilize new financial resources for these three diseases. However, because
these new campaigns focus on poverty reduction and disease control, the language of health
sector reform and the perspective of health systems analysis have received less attention—a
development that we believe is unfortunate.

While the policy debate has evolved, the underlying problems remain. Addressing the
urgent health problems that now are the focus of international concern will generally require
effective health care systems of the sort that do not yet exist in many countries. For example,
the prevention and treatment of HIV/AIDS or the integrated management of care for sick and
malnourished children will require health care systems that can provide accessible, high-
quality services, especially to the poor and disadvantaged. It is broadly agreed that the health
sector in many developing countries cannot meet these challenges today without substantial
reform. Even huge increases in funding will not suffice, unless and until nations have in place
the institutions and infrastructure to use such funds effectively.

In short, the subject matter of this book remains both timely and urgent. Poor health is
increasingly recognized as both a cause and an outcome of poverty and a key element in
poverty alleviation efforts. Many countries have stumbled in reforming their health sectors,
often because of poorly conceived and executed strategies. Our book offers conceptual
guidance and practical instruction that we believe can improve both the process and the
consequences of health sector reform, and make important contributions to poverty reduction
and disease control.

3. The Forces Driving Health Reform

Four broad forces are driving health reform in countries around the world. The first is
rising costs in health care. In nearly every country, the costs of medical care are forcing
governments to rethink their policies and approaches to the health system. In addition, there
are rising expectations, as citizens demand more, both from government in general and from
the health care system in particular. These rising expectations are the second major driving
force behind health reform in many countries.

Rising costs and higher expectations are occurring at a time in history when
governments confront limits on the capacity to pay the costs of health care. These have arisen
both for developing countries that have faced political instability and economic turmoil, and
countries that have experienced many years of relative peace and prosperity. These limits
represent the third driving force at play.

The current worldwide reform debate is also influenced by a fourth driving force:
growing skepticism about conventional approaches to the health sector. This skepticism takes
many guises: calls for new organizational forms, dismay at poor governance and ineffective
bureaucratic performance, investigations into corruption and inefficiency, and the questioning
of old dogmas. For a reformer, this questioning provides both a challenge and an opportunity:
a challenge because more is being demanded and more options must be analyzed, and an
opportunity because there is more openness to change and innovation.

The variations in national circumstances we noted above mean that the way in which
these forces work themselves out varies significantly from case to case. The world’s poorest
countries are especially vulnerable to external shocks, both economic and political. Their
dependence on international financial institutions and markets means that significant health
system changes may be requested or imposed as a condition of external assistance. In addition,
the HIV/AIDS pandemic is placing immense strains on some of the world's nations with the
least resources to meet that challenge (World Bank 1997).

Other lower-income nations are very concerned with the maldistribution of limited
resources in the face of pressing health needs. In these nations, service levels and health status
may vary greatly between the emerging urban middle class and the rural poor. In addition, the
public sector is often perceived as providing inferior service, and many citizens—even among
the poor—pay for services out of pocket. In still other middle- and low-income nations health
sector reform has been initiated as part of an orderly and intentional process of change.
Citizens’ demands for financial protection from high health care costs have led governments to
seek financing strategies that will be sustainable as development proceeds.

Regardless of how the drama unfolds, the struggle by governments to resolve the
conflict between what they are willing to spend and what they or their citizens want is often
the central health sector reform dilemma. (We provide a more extensive analysis of how to
think about such cost-performance dilemmas in Chapter 5.) While recognizing that important
variations occur, it is still useful to review certain worldwide patterns that provide a broad
context for many national reform efforts.
2.1. Force #1: Rising Costs

Around the world, health care costs are being pushed upward by changing
demographics, evolving disease patterns and new technology, as well as by rising expectations
(discussed next). This pattern is best documented in the world’s wealthier countries, where
health spending has risen from an average of 5 % of national income in 1970 to 8.1 % in 1997,
a 60 % increase, with far from commensurate improvements in longevity (Huber 1999). A
richer, older, more secular and knowledgeable population wants more medical care, and there
is ever more in the way of new drugs and devices on which to spend money. The rise of
chronic disease exacerbates the cost problem in several ways, influencing technology
development and utilization, and troubling insurance markets.

A major force driving costs upward, especially in relatively more developed countries,
is the aging of the population. For example, the percentage of the population aged 65 years and
older is expected to increase from 6% to 18% in Asia between 2000 and 2050, and from 5.5%
to 18% in Latin America over the same period (Casterline 2001). Birth rates have declined in
many nations due to various causes, including increases in women’s education and status,
increased availability of contraception and abortion, and higher child survival rates. In
addition, urbanization and economic prosperity have changed views about desired family size
(Casterline 2001).

However, even some poorer countries now confront a dual burden of disease (WHO
1999; Murray and Lopez 1996). In these nations, birth rates remain high, the proportion of the
population that is young is still growing, and infectious disease is still a problem. At the same
time, a long history of population growth, combined with falling infant mortality rates, means
that the total number of older people is also often increasing. As a result, such nations have to
cope with everything from childhood diarrheal disease to rising coronary artery disease rates.

To some extent, the increase in chronic disease is due to the success of the health care
system: more citizens now live long enough to develop chronic disease. If more people died
sooner per capita health care costs would be lower. This is because as we age, our arteries
harden, our joints grow stiff, our livers and kidneys work less efficiently, our hearts get tired,
and our minds become cloudy. These changes create added demands on the health care system.
Such “failures of success” are reflected in the rising levels of disability in most industrialized
and many middle-income countries. For example, WHO estimates that, mainly due to
population aging, the share of the total burden of disease accounted for by psychiatric and
neurological conditions will increase from 10% to 15% between 1990 and 2020 (Murray and
Lopez 1996). Ironically, countries with successful population stabilization policies and health
care systems move along this path further and faster. Indeed, the success of health care
systems in lowering childhood mortality also increases the demand for services from that age
group.
 Life expectancy at birth has increased from 50.2 years in 1960 (UNDP 1997, 167), to
an estimated 66.7 years in the period 1995-2000 (UNDP 2000, 189) and is still rising in much
of the world. Declining mortality rates are due to many factors. Economic growth leads to
improved nutrition and housing, and lower physical stress and strain. (At the same time,
economic growth also produces environmental pollution and dietary changes that can have
deleterious health consequences.) Public health measures also contribute, especially clean
water, better sewage disposal, immunization, and infectious disease control. But whatever the
cause, one consequence of lowered mortality is an increase in the number of people who need
medical care.

Recent research has shown that the effect of aging on health-care-cost increases is
more complex than some previously believed (ref). Especially in high-income countries with
extensive and expensive hospital systems, much of the high cost of care among the oldest age
groups is associated with terminal illnesses. So when life expectancy goes up, and those
illnesses occur later in life, health-care costs in some old-but-not-the-oldest age groups can
actually fall, because of a decline in the frequency of fatal illnesses in those cohorts. Still,
especially in low- and middle-income countries, where life expectancy and the incidence of
chronic disease are increasing rapidly, aging is a significant factor. It also seriously
complicates the problem of health sector finance, especially in payroll-tax systems. The
percentage of the population who pay such taxes will often go down as aging produces more
living retirees.

Other epidemiological developments are also driving health reform, as rising costs
confront limited resources. The most notable example is AIDS, which threatens to overwhelm
the health care system, and many other social institutions, in the most seriously affected
countries. AIDS is now the leading cause of death in severely affected countries and brings
with it a major accompanying burden of ill health, disability, and family tragedy (UNAIDS
2001). In Eastern Europe, increases in alcoholism and suicide have produced serious systemic
problems: in Russia and several republics of the former Soviet Union, male life expectancy
actually fell five to ten years in the post-Soviet period (McKee and Shkolnikov 2001;
Shkolnikov, McKee, and Leon 2001). Despite successes against smallpox and polio, other
infectious diseases (from tuberculosis to dengue fever) are on the increase in various parts of
the world. Such factors are of grave concern to health reformers.

The sellers of health care goods and services also contribute to rising costs by working
hard to take advantage of market opportunities. It is a paradox that many poor countries have
large, private fee-for-service health sectors—a pattern of organization that tends to produce
significantly higher expenditures (Bennett, McPake, and Mills 1997; Hanson and Berman
1998). The pharmaceutical companies also respond to the market and now have compounds
for every organ system—drugs that will regrow your hair, cure your depression, lower your
cholesterol and blood pressure, combat your ulcers, and improve your sexual functioning. In
fact, the middle class in industrialized nations is at risk of becoming a pharmacological layer
cake, and efforts to market these compounds worldwide go forward every day. In poor
countries, even traditional medicine is now becoming commodified and patented by
companies in the West, with modern packaging, marketing, and prices.

New technology is a particularly important force driving up health care costs—

especially in high-income nations. The largest gains from innovation, economically and
professionally, come from developing high-priced solutions to previously unsolved problems
for an audience that can pay. Viagra, for instance, sells for $10 per pill in the U.S. Nor is there
much scientific prestige associated with developing small, cost-saving changes to existing
technology. Solve a previously unsolved problem, however, and even if the therapy costs
$50,000 per case, you might get nominated for the Nobel prize—or at least receive a
professorship at a famous university. Technological progress can, for example, lower the unit
cost of a routine test or provide a cheap drug for a condition now treated with expensive
surgery. But even this may not always reduce total costs, if the new product unleashes a large
unmet demand (Roberts and Clyde 1993). For example, drugs for anti-retroviral therapy,
which cost $15,000 or more per patient annually in higher income countries may now be
available for $350 in low-income countries. But few expect that this drastic reduction in drug
prices in Africa will reduce total spending on those drugs.

The increasing prevalence of chronic disease also disrupts the functioning of health
insurance markets. Insurance exists to cover unpredictable risks. But in a world of chronic
disease, many of next year’s health care costs are predictable: those who will be sick in the
future are often those who are already sick today. This creates perverse incentives on both
sides of the health insurance market. Sellers of insurance try not to sell to sick people, or do so
only at a very high price. Hence, the sick, who most need coverage, will often remain
uncovered. Conversely, those who know they are healthy will have every incentive not to
purchase insurance, because it is not a good buy for them, leaving only the sick in the
insurance scheme and decreasing the amount of “risk pooling” in the system (Phelps 1997).

2.2. Force #2: Rising Expectations

The rising expectations of the health care system derive from three sources: economic,
social, and political. When we compare spending across countries, health care demand rises as
quickly and in some cases more quickly than income. Recent studies have shown that health
care spending, as a percentage of national income, has historically been under-estimated in
poor countries (ref). The substantial private, out-of-pocket expenditures that are common in
such systems have generally not been effectively counted in the official statistics. In the last
several years, in contrast, household survey data have given us a more realistic (and much
higher) estimate of such spending (ref.]. The result is a lower estimate of the effect of national
income increases on national health spending than was formerly accepted. However, even if
health care spending only rises in proportion to income, the absolute amount of additional
money that nations are under pressure to mobilize for health care, as incomes increase, is
substantial. Moreover, the share of such spending that goes through the public sector also
often rises, putting additional pressure on government finances.

Paradoxically, recent worldwide prosperity is one cause of the problems that many
governments confront within the health sector. As nations grow economically, their citizens
want to spend more on health. These rising expenditures represent the use of more, and more
costly, services for both care and cure. In some regions of the world, like East Asia, which
until recently had seen years of steady growth, the rise in expectations has been considerable.

Global social developments are reinforcing these demands. Films, television, and the
Internet have given the citizens of many countries an image of life in the world’s high-income
nations. Such exposure has contributed to a rising materialism and loss of traditional values.
As travel becomes less expensive, more individuals in the developing world are exposed to
friends or family members who have returned from working or traveling in Europe or North
America. Increasingly, people around the world accept that it is desirable to stay young and
healthy as long as possible, to be as happy as possible, and to consume as much as possible.
And the health systems in many countries are under increasing pressure to deliver on these
goals.

Rising expectations affect not only the overall level of demand for health care, but also
its composition. Patients not only want care, but the latest and best care, the fanciest
technology, and the newest drugs. Knowing what is available elsewhere, they become
skeptical (perhaps rightly) of the quality of care in their own local health centers or smaller
hospitals. Consequently, they overwhelm regional centers and academic facilities. In many
low-income nations, there is a growing urban middle class that increasingly inhabits a global
world of information, expectations, and consumption. They pressure governments to provide
expensive, high-technology care, from CAT scanners to organ transplants, and to spend a
larger share of the national health care budget on a few elite institutions (Barnum and Kutzin
1993).

Political developments have reinforced these pressures. As nations have become

increasingly democratic, it has become more difficult for political leaders to resist citizens’
demands. When citizens are the subjects of a highly organized state, they are more likely to
accept whatever health care their government finds it expedient to provide. The active, self-
seeking citizens of an open political order are less likely to be satisfied with such
arrangements. Conversely, political leaders in a competitive system are more likely to use the
health system to create tangible benefits for individual voters and organized interest groups,
and hence to see health sector reform as an opportunity as well as a problem.

2.3. Force #3: Limited Capacity to Pay

 Recent changes in the world economic order have created both problems and
opportunities for many nations. But for many governments, the overall consequence has been a
limit on the funds available for health care. Because of both their poverty and limited ability to
generate domestic funds, few low-income countries are able to mobilize more than 1-2% of
GDP for health, excluding international aid contributions (Commission on Macroeconomics
and Health 2001). Lower transportation and communication costs have made it possible for
nations to offer goods in other markets with unprecedented ease. Everything from cell phones
and faxes to jet aircraft, laptop computers and the Internet now make genuinely global
capitalism possible. Local sporting goods stores on five continents today sell Danish footballs
(Umbro) made in Pakistan, Italian football shoes (Diadora) made in Bangladesh, and British
shorts and shirts (Union Jack) produced in Guatemala.

At the same time, the sophistication of the economies in poor countries increases
steadily. Countries that used to make inexpensive radios now assemble advanced computers.
Factories that once produced textiles now make the chips for those same computers. Brazil
sells jet aircraft in the U.S., and U.S. computer companies open programming offices in India.
News on all the world’s stock markets can now be seen around the globe on the nightly
business roundup from CNN.

The pace of change has been so fast that only older readers will remember that in the
1960s, transoceanic telephone calls were prohibitively expensive and had to be booked days in
advance. Business travelers today can check e-mail and phone messages from a hotel room
anywhere from Iguasu, Argentina to Chengdu, China, just as they can chat with colleagues
around the world on a cell phone while driving down a highway in almost any country.

Worldwide, the second half of the twentieth century passed by much better than the
first half. There were some locally very destructive wars and significant regional economic
collapses, but nothing to match the two world wars and the world-wide Great Depression of
the century’s first fifty years. This relative peace and prosperity has given many individuals
and corporations the opportunity and the funds to invest abroad. At the same time, national
governments find their fiscal and monetary policy increasingly constrained by international
capital flows and financial institutions. The international banks will not buy your
government’s bonds if you try to pay for social and health services by running too large a
deficit. Nor will they invest in private sector projects if they fear fiscal instability, interest rate
fluctuations, or swings in currency values. And loans from the IMF or the World Bank require
a country to reduce its deficits, control public sector spending, and repay on time (Weil et al.
1990).

The emerging world economy has produced real economic growth in many countries.
And this would seem to mean more funds available for health care. But often costs and
demand in the health sector have grown even faster. And worldwide, real growth is extremely
uneven. Until the mid-1990s, some Asian countries routinely achieved economic growth rates
greater than 5% annually, while many African countries experienced negative or marginally
positive growth (Commission on Macroeconomics and Health 2001). Moreover, the current
international economic order holds many dangers, especially for less advanced economies. A
collapse in commodity prices can create serious fiscal problems for many governments.
International economic linkages mean that economic difficulties in one country spread rapidly
to others. When coffee prices fall, deficits in Kenya and Ethiopia skyrocket. If Brazil devalues
its currency, then Argentinean exports to third countries suffer because Brazilian goods are
now cheaper. If the property market collapses in Kuala Lumpur, then Malaysia imports less,
and its industries cut their prices to try to export more—actions that can cause serious
economic problems for Malaysia’s neighbors. If one currency falls, international speculative
pressure shifts to another.

The combination of international competition and economic instability has produced

various kinds of health care crises. To begin with, international competition makes businesses
more cost conscious, in order to maintain export markets and prevent import competition. No
one in the private sector wants to pay higher payroll taxes for health or social welfare
purposes. At the same time, citizens complain that they cannot afford to pay for increasing
health care costs out of their own pockets. They also resist tax increases and higher co-
payments. If these go up, how are they going to be able to afford the rising standard of living
to which they aspire?

Governments find their fiscal capacities strained and limited. First, for most low-
income nations, their ability to raise funds domestically is very limited. Low-income countries
raise only about 20% of (a much lower) GDP in taxes, compared with 42% in high-income
countries (Schieber and Maeda 1997). With public resistance to higher taxes, how can
governments pay more for health care? Citizens also want better roads, housing, and
education. Infrastructure investments are needed to support economic development.
Meanwhile, multinational corporations demand tax concessions from national governments
and threaten to relocate if these are not forthcoming. And domestic firms claim the need for
protection against international competitors.

These economic processes intersect with political pressures. Both the tax base and tax
rate determine a nation’s fiscal capacity, and these are determined by legislators and finance
ministries. Here again, we see signs of change. As individualism gains in many countries,
social solidarity has declined as a political force. Mobility and migration (intra- and
internationally) weaken social bonds. Nations become more culturally heterogeneous, and the
rich feel less obligated to the poor.

At the same time, providers inside the health care system struggle to preserve their
incomes and protect their interests. In Eastern Europe, the large health care delivery systems
created under communism have been difficult to maintain, as governments work to restart
economic growth and regain international competitiveness (Goldstein et al. 1996; Healy and
McKee 2001). As governments try to control expenditures and prevent inflation, they are
tempted to hold down health care spending by limiting compensation to doctors, nurses, and
other health personnel. These groups, in turn, work desperately to increase their falling
incomes.

In other countries, politicians have made election promises they cannot keep with
regard to various social programs, including pension funds. As those programs either go
bankrupt or devour extra tax revenues, all other spending (including health) comes under
pressure. In response, health sector advocates often seek to remove health care financing from
the general budget (e.g., by creating new social insurance programs) in order to give it
protected status.

These political developments and economic constraints occur in the context of major
social and intellectual changes inside and outside the health system. These broad changes
represent the fourth force that is driving health reform.

2.4. Force #4: Skepticism of Conventional Ideas

The global turn to the market has brought a trend toward diminished social
solidarity and a parallel turn against government action in many countries. Often, the critique
of government is grounded in hard experience. In Eastern Europe and the former Soviet Union,
the old model of centrally planned, state-owned enterprise has been widely discredited (even
as older citizens remember the security it provided with nostalgia and regret). In many low-
income countries bad governance, poor policies, and outright corruption have produced a
squandering of limited resources.

Since the 1980s, enthusiastic advocates of an anti-government message have worked

aggressively to promote their views around the world. Private foundations, consultants,
entrepreneurs, government officials, and experts from international agencies have all
participated. In the health sector, political leaders have found themselves faced with the
argument that the pro-market approach is the solution to all their problems (Griffin 1989).

These pro-market ideas have also found acceptance because the public sector
has often performed poorly. In many countries, crumbling facilities, unhelpful staff, and low
quality service are all-too-frequently characteristic of the public health care delivery system.
This has spurred interest in “reinventing government,” as well as new forms of corporatization
and privatization throughout the world (Osborne and Gaebler 1992; Saltman and von Otter
1995).

This pattern extends well beyond the health sector. Poorly run government
bureaucracies and inefficient state-owned companies have proliferated in part because of the
political advantages they can offer. It is tempting for governments to use the public sector to
provide patronage rather than service, and to stress employment rather than output, in order to
 build up a political base. Workers are identifiable, easy to organize, and often grateful to
political leaders for their employment; customers, on the other hand, are harder to identify and
organize, and are likely to have less at stake. These factors lead to overstaffed, poorly
managed, high-cost agencies.

But with countries increasingly short of money, there is rising criticism of such
arrangements, both within the health sector and more generally. To break the politics-to-
employment link, many institutional reforms have been attempted, ranging from the creation
of quasi-autonomous public boards that supervise government activities, to outright
privatization. These ideas pervade the debates over health reform throughout the world today.

But new arrangements will not necessarily perform better than current practice. As we
argue throughout this book, the devil is in the details—especially when it comes to how
organizations are managed and governed (see especially Chapter 10). To produce effective
reform requires careful analysis, not simple slogans.

This trend against government includes a growing enthusiasm for the use of
competitive markets to allocate resources. Competitive markets involve two key components:
allowing consumers to choose, and making sure they have multiple options. In fact,
privatization alone is neither necessary nor sufficient to create such competition. You can have
private monopolies and competing public sector providers, but the two ideas are not often
linked in practice.

As we explain below, we believe that the applicability of the market model varies with
specific circumstances. Is a given market large enough to support a reasonable number of
efficient, independent competitors? Do customers know enough, or can they be given enough
information, to choose intelligently? Will the savings that result from the competitive
pressures on organizations to be more efficient be greater than the resources used up through
higher transaction costs (i.e., the costs of arranging all the buying and selling)? These are
empirical questions that a health reformer should answer before accepting the pro-market
intellectual currents. Furthermore, the market-based model has important ethical
implications—as we discuss throughout this book.

4. Summary

Let us summarize the main points of this introductory chapter:

• Economic, social, and political forces, both inside and outside the health
care system, are causing widespread pressures to spend more on health care.
• New technology (including new drugs), as well as changes in population
structure and disease patterns, are continuing to push up per capita health care costs.

• The evolving international economic system often limits the capacity of

governments and the private sector to meet these higher costs, especially in poor countries,
because of short-term crises and longer-term competitive pressures.

• Broad shifts in intellectual beliefs about the state and the market have
led to widespread promotion of market competition and privatization as solutions for all
economic problems, including policies for the health sector.

Many countries today face a gap between what they can pay for and what they would
like to provide in the health sector. Expectations continue to rise as economies improve,
countries become more democratic, and media-based images diffuse around the globe. In
almost all countries, health care costs are increasing, due to changing demographics, evolving
disease patterns, and new technology. The implications of these changes are fought out in an
increasingly diverse, open, and egalitarian set of political and social processes, in countries
with severe budget deficits and limited economic resources for health.

At the same time, there is a global move toward new ideas for health reform, combined
with an emerging recognition that getting health reform right is a complex social phenomenon
indeed. However complex, we believe that the ideas in this book can help analysts and
decision-makers understand and manage the swirling processes of health reform. We begin our
analysis, in the next chapter, with the health reform cycle.
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 Chapter 2
The Health Reform Cycle

1. Introduction

In Chapter 1 we introduced the idea that health sector reform can be viewed as a cycle.
Now we want to analyze that process in more detail. In idealized form, the process of policy
change moves through a cycle of six stages—problems are defined, a causal diagnosis is made,
plans are developed, a political decision is made on reform initiatives, those reforms are then
implemented, and their consequences are evaluated. The cycle then begins again, as new
problems arise that must be addressed by policymakers. (Figure 2.1)

Of course, in the real world, reform rarely takes place in such a simple fashion.
Instead, reform efforts may begin in different places and skip stages, or several stages may
occur at the same time. For example, health reformers might begin with a diagnosis,
declaring, “The cause of all our problems is that public clinics and hospitals do not have
enough resources to provide good service.” Or reform advocates might start with their favorite
solution—”What our country needs is a new national social insurance scheme.” Yet however
the reform process unfolds, the policy cycle offers a useful way of analyzing that experience
and of reminding practitioners about the tasks they need to address as part of the reform
process.

We have designed Figure 2.1 to highlight some major themes of this book. In
particular, the “ethics” and “politics” components remind us that decision-makers confront
ethical and political issues throughout the reform cycle. Questions like “What are the right
priorities?” and “How can political pressures be managed?” pervade efforts at health sector
reform. Our approach calls for an explicit examination of the ethical bases of health policies
and rejects the notion that the values of all health systems are, or should be, the same. Because
we believe that all policy positions (including our own) involve ethical dimensions, this book
seeks to make our own values and goals explicit. Readers can then determine how useful our
perspective is to them. We also reject the view that the health sector reform process is
exclusively technical. Instead, we call for direct and extensive consideration of political factors
at all stages of the reform process.

[INSERT FIGURE 2.1 HERE]

Figure 2.1: The Policy Cycle

 While we identify six stages in Figure 2.1, this book focuses most on the first four:
problem definition, diagnosis, policy development, and political decision. This chapter,
however, presents an overview of all six stages, and shows how these relate to our approach.
The first four stages are then examined in more detail in subsequent chapters—with each of
the “control knobs” that are critical to diagnosis and policy development getting a separate
chapter in Part II of the book. Moreover, while we do not have a chapter on implementation,
we have provided practical guidance on that point in each control knob chapter, based on
experience from around the world. In our view, purely theoretical discussions of health reform
options are not of much value. To move health reform forward, reformers must realistically
consider the difficulties of implementing a policy idea in their particular national context. And
we try to help them do that throughout the book.

Finally, the cyclical nature of Figure 2.1 emphasizes a point already made in Chapter 1.
The problems of a health care system are seldom, if ever, resolved once and for all. As
countries evolve, their health care systems have to respond to new challenges. Moreover,
successful reform often raises popular expectations, and thereby raises demands for further
reform. But the process of reform is also imperfect. Reformers often encounter unintended
consequences or discover defects in their plans that were not apparent initially. For these
reasons, the cycle of reform typically occurs again and again. Let us now look at each step of
the health reform cycle in more detail and at the critical tasks each requires.

2. The Policy Cycle

2.1. Step #1: Problem Definition

The most overlooked yet one of the most important steps in health sector reform
involves defining the problem. Health care systems give rise to hundreds of statistics related
to their performance. But which is an appropriate focus for public attention? When is
performance “problematic” and thus an appropriate target for reform? As we discussed in
Chapter 1, some sort of shock or crisis often initiates the reform process. But even then,
competing interests typically have different views about how to define the problem and what
constitutes an appropriate solution.

Consider the following hypothetical example. Imagine a middle-income country

suffering from a region-wide economic downturn. The Ministry of Finance argues that the
health sector is consuming too much of the government’s limited budget, while the medical
association argues that “the problem” is that quality of health care is suffering because
physicians’ salaries are not keeping up with inflation. Meanwhile, the managers of the social
insurance fund claim that “the problem” is the failure of the government to pay its share of the
premiums for retirees, while the association of hospital directors argues that the failure to
provide capital for new technology “is the real problem.” The group that succeeds in having
its problem definition accepted as the basis for discussion about reform will have a great effect
on the solutions pursued and the policies adopted.

In thinking about problem definition we can ask two kinds of questions. The first kind
is normative or prescriptive: What makes for a good problem definition? What makes one
area of poor performance a more appropriate priority than another? Answering this question
involves ethics and philosophy. We introduce this topic briefly below, and then provide a
more detailed discussion of the ethical aspects of health sector reform in Chapters 3.

The second kind of question is empirical or descriptive: What social processes shape
how problems are perceived? What factors determine the problem definition that reformers
confront? We discuss how problem definition happens and how to manage the political
dimensions of health sector reform in Chapter 4.

As stated previously, our normative approach to problem definition is based on the

view that the health sector should be seen as a means not an end, that problems should be
defined in terms of outcomes. As explained in the next chapter, different ethical theories offer
different perspectives on which outcomes matter most. Nonetheless, in Chapter 5 we will
argue for a particular set of performance goals that we believe reflect the major ethical
perspectives that are relevant to health sector reform. One such concern is the health status of
the population: How long do people live, what disabilities do they have, and how do these vary
across various population groups? A second set of outcomes is the degree of satisfaction that
health care produces among the citizens of a society. A third set of outcomes involves
financial risk protection: the capacity of a health care system to protect individuals against the
serious financial burden that disease can product. We will explain and defend these
suggestions in detail below.

The focus on consequences we urge can be difficult for health reformers to adopt.
Advocates with strong commitments to a particular policy often begin the reform process with
their favorite solution. As the saying goes, “To a man with a hammer, everything looks like a
nail.” They advocate the adoption of competitive health insurance funds, or more family
medicine or autonomous hospitals, without explaining how that policy would improve the
performance of the health system. Moreover, many in government are not used to being
performance-oriented. They focus instead on spending budgets, meeting production targets or
following rules. For them, problems are defined in terms of the failure to fulfill particular
norms or rules, not in terms of the consequences of what is done or not done (Barzelay and
Armajani 1992).
 From our experience around the world, we understand that old habits of mind die hard.
As the historian of science T.S. Kuhn explained, basic framing assumptions, which he called
“paradigms,” generally shape our thinking about a particular problem (Kuhn 1962). Our
emphasis on explicit means-ends analysis and critical strategic thinking represents something
of a “paradigm shift”—a new way of thinking about health sector reform. We are convinced of
the value of this focus on consequences, however awkward it may seem at first. This
perspective forces reformers to identify goals and link proposed reforms to those goals. As a
result, reformers are more likely to be explicit and self-critical about their goals in ways that
increase the chances of achieving their objectives, whatever they may be.

This perspective helps clarify the role of data in defining problems and setting
priorities. Some health sector planners seem to argue that all one needs to identify problems
are good data. However, as a descriptive matter, this is not how the world operates. Many
reforms move ahead without good data. Many well-documented problems are ignored in
reform programs. For example, the financial hardships suffered by Chinese peasants who get
seriously ill are well known, but this has not been enough to mobilize that nation’s
policymakers (Liu et al. 1996).

Moreover, from a normative point of view, data alone cannot completely define
problems and priorities for health reform. Any policy decision must rely, implicitly or
explicitly, on both science and ethics. For example, in most countries women live longer than
men (UNDP 2000). Whether this statistic represents an unfairness that public policy should
seek to correct cannot be settled by data alone.

Yet data do have a vital role to play. Information alone cannot reconcile conflicting
positions based on genuine value differences, but scientific understanding can help define
options and clarify consequences. Data can help move the debate to a more honest and
consensual understanding of the choices available. For that reason, we believe that experts
have a particular responsibility for helping the political process understand what is at stake in
health reform. Otherwise, myth, ideology, and group interests will dominate and drive the
debate.

One important use of data in the process of problem definition is through a process
called benchmarking, a term we borrow from the quality management literature (Deming
1982; Juran and Gyrna 1980). In an industrial context, managers use benchmarking when they
look at the costs, defect rates, or productivity of competitive businesses to determine the levels
of performance they can reasonably aspire to achieve. In health sector reform, benchmarking
means looking at countries similar to one’s own in income and spending levels, whose health
system performance is particularly effective. Thus, reformers in Thailand might wonder why
Sri Lanka has longer life expectancy while spending less on health care, and use that fact to
focus their own problem definition. Similarly, Latin American countries could look at health
statistics from Cuba or Costa Rica for setting their own objectives (PAHO 2001). Despite the
differences among countries, international benchmarks can serve as a useful starting point for a
 discussion of performance problems. (There are other forms of benchmarking as well, and we
discuss these more extensively at the end of Chapter 6.)

2.2. Step #2: Diagnosing the Causes of Health Sector Problems

Just as a physician proceeds from symptoms to causes, a health sector reformer also
has to undertake a diagnostic journey (see Chapter 7). After defining problems based on
health system outcomes, the next task is to work backwards to identify the determinants of
unsatisfactory results. Physicians explore anatomy and physiology. Health sector reformers
have to examine the causes of problems by exploring what we call the five control knobs of the
health sector.

This is not a simple task. One prominent Japanese quality improvement expert argues
that the diagnostic process requires someone to “Ask why five times,” to look for causes
behind, beyond, and beneath the obvious (Ishikawa 1988). The challenge is to dig deeper and
deeper in order to understand why the system behaves as it does.

For example, researchers interested in explaining the problem of higher than expected
costs of health care in urban areas in China discovered that there was unusually high use of
certain pharmaceuticals (World Bank 1997). Going on a diagnostic journey revealed the
following:

• In response to budget pressures, the Chinese government had

substantially decreased payments to hospitals.

• The hospitals were then forced to rely either on payments from the
insurance funds that covered government and industrial workers, or on patient payments.

• The fee schedule for insurance reimbursement made high-tech imaging

and dispensing the newest pharmaceuticals particularly profitable.

• Based on traditional Chinese herbal medicine practice, the hospitals

directly sold to patients the pharmaceuticals their doctors prescribed. They also provided much
of the country’s outpatient care.

• To influence their physicians, hospitals had begun compensating them

based on the profits to the hospital that the physicians’ prescriptions produced.

As a result, prescription rates for the most profitable pharmaceuticals rose dramatically
(Dai 1993; Gao 1996). Understanding this process does not by itself determine the
“treatment” to prescribe for this “illness”—one could change hospital funding, the insurance
system, the price list, physician compensation schemes, or drug regulations. But diagnosing
the causes of the problem is a necessary step toward devising an effective response.

2.2.1. The Five Control Knobs

To facilitate the diagnostic and policy development processes of health sector reform,
we refer throughout this book to five “control knobs.” These five categories cover the
mechanisms and processes that reformers can adjust to improve system performance. Not
every important cause is part of one of the control knobs, because it may not be changeable by
health sector reform (Figure 2.2). We briefly introduce the five control knobs below, and
examine them in detail in Part II of the book.

[INSERT FIGURE 2.2 HERE]

Figure 2.2: The Five Control Knobs for Health Sector Reform

What is a health system “control knob”? We use the term as a

metaphor. Think of changing the performance of some complex system in
ways that are intended to produce a specific result. Consider, for
example, the pilots of a large aircraft adjusting different controls to
achieve the desired altitude, speed, and fuel economy to reach a
destination safely and quickly. Or consider the operators in the control
room of a steel mill, adjusting the controls on different steps in the
production process: the temperature of the blast furnaces, and the mix of
raw materials being processed. In each case, system managers select
the settings that determine how the system operates and what the system
produces.

In similar ways, we conceive of a health system control knob as something that can be
adjusted by government action. Furthermore, adjustments or changes in the control knob must
be significant causal determinants of health system performance. In other words, our control
knobs describe discrete areas of health system structure and function that matter significantly
for health system performance—and are subject to change as part of health reform. Not
everything that matters for health system performance is a control knob; something that cannot
be changed as part of health reform cannot be a control knob. And not everything that health
reform can change is a control knob; only those factors that significantly determine health
system performance can be a control knob.
 This idea of a health system control knob with settings that can be adjusted to bring
about changes in health system performance distinguishes our approach from a simple
description of health systems. For example, in the World Health Report of 2000, WHO
describes health systems in terms of “…what they do—how they carry out certain functions—
in order to achieve anything” (WHO, 2000, p. 24, emphasis in original). This approach is
useful for describing how different health systems are organized and for comparing those
descriptions of health systems. Our approach, by contrast, focuses on developing theory and
evidence-based approaches to changing health systems in order to improve their performance.
Our choice of five critical categories for health system reform—the five control knobs—
reflects our considered judgment about the most important factors that determine a health
system’s outcomes and that can be used deliberately to change those outcomes.

Our categories are necessarily somewhat arbitrary. Other ways of talking about health
systems are possible, as we discuss in the Introduction to Part II of the book. But we firmly
believe the five-fold framework we have developed is a useful tool to sort through the possible
causes of performance problems and to explore the available options in devising solutions to
these problems. Here is a list of the control knobs we have identified, with a brief description
of each.

Financing refers to all mechanisms for raising the money that pays for activities in the health
sector. These mechanisms include taxes, insurance premiums, and direct payments by patients.
The design of the institutions that collect the money (e.g., insurance companies, social
insurance funds) is also part of this control knob, as is the allocation of resources to different
priorities (Chapter 8).

Payment refers to the methods for transferring money to health care providers (doctors,
hospitals, and public health workers), such as fees, capitation, and budgets. These methods in
turn create incentives, which influence how those providers behave. Money paid directly by
patients is also included in this control knob (Chapter 9).

Organization refers to mechanisms reformers use to affect the mix of providers in health care
markets, their structure, roles and functions, and how these providers operate internally. These
mechanisms include measures affecting competition, decentralization, and direct control of
providers making up government service delivery. It includes who does what and who
competes with whom, as well as the managerial aspects of how providers work internally, such
as how managers are chosen and how employees are rewarded (Chapter 10).

Regulation refers to the use of coercive efforts by the state to alter the behavior of actors in
the health system, including providers, insurance companies, and patients. We note that just
because a regulation is on the books does not mean it is implemented and enforced. We
consider what reformers must bear in mind to ensure that regulation works as intended
(Chapter 11).
Behavior includes efforts to influence what individuals do in relation to health and health care,
including both patients and providers. This control knob includes everything from mass media
campaigns on smoking, to changes in sexual behavior for HIV prevention, to using the
medical society to influence physician behavior, to persuading citizens to accept restrictions on
choice of provider (Chapter 12).

The “settings” on these control knobs explain many aspects of health system
performance. Financing determines what resources are available. Payment determines on what
terms those resources are available to providers. Organization determines the kinds of provider
organizations that exist and their internal structures, which in turn shapes how these
organizations perform. Regulation imposes constraints on those behaviors. Finally, efforts to
change behavior influence how individuals respond to health sector organizations, which in
turn shapes the opportunities that organizations confront.

But the control knobs do not explain everything. Other cultural and structural factors
also influence the outcomes of the health sector. For example, understanding why a country’s
regulatory agencies do not function effectively might require us to understand a nation’s
political institutions and cultural traditions—including its social capital (Putnam 1993)—
factors that are not easily changed by health reformers.

Forces in other sectors also affect the health status of a population, as shown in WHO’s
work on intersectoral action for health (WHO 1986). Health status, for instance, is strongly
influenced by the educational system, especially the education of girls and women. Research
shows that an educated mother in South India is more likely to recognize a child’s sickness
and to take action within the family and in health clinics (Caldwell, Reddy, and Caldwell
1983). Development policies for agriculture and industry also affect health status through
multiple pathways, both positive and negative, including pesticide exposure, income
generation, food availability, and nutritional effects (Weil et al. 1990). Water resource
development projects influence the health of populations through environmental changes that
affect the habitats of vectors for tropical diseases. The impact of new dams on the spread of
schistosomiasis, for example, is well recognized through international experience in Egypt,
Sudan, Tanzania, Zimbabwe, and other countries (WHO 1986, 115). Macroeconomic policy
also has multiple effects on health status in developing countries, as shown by the debate over
structural adjustment policies in the 1980s (Bell and Reich 1988).

We agree with those who argue that a comprehensive approach to health improvement
requires intersectoral cooperation and coordination. However, we have had to draw the line
somewhere, and so have chosen not to consider, in this book, the role of factors outside the
health sector. However, understanding the role of such factors can help health reformers
understand the problems they confront. Engineers designing automobiles cannot change
gravity, but they have to work with its effects in mind. We will return to this issue at the
beginning of Part II, where we introduce the control knobs and consider what they omit as well
as what they include.
2.3. Step #3: Policy Development

Once the causes of a problem have been diagnosed, the next question is what to do.
What is the right therapy for the problem? What is an appropriate policy to address the causes?
The process of policy development is more difficult than it might seem. In this section, we
first consider why new policy ideas are difficult to develop and where such ideas come from.
We also want to explain why it is important to look forward in the policy cycle to matters of
politics, implementation, and evaluation when designing policy. Finally, we consider how the
process of option development influences what happens at later stages of the policy cycle.

2.3.1. New Ideas

Human thinking is heavily ruled by assumption and habit. We have already mentioned
how dominant “paradigms” shape how questions are posed, what kind of evidence is
acceptable, and what kinds of answers are viewed as legitimate. Professions typically educate
their members in a particular paradigm and reinforce these ways of thinking through practice
and experience (Goode 1969). Economists, for example, tend to view everything in terms of
prices and markets, just as public health specialists largely focus on epidemiology and
prevention. When powerful organizations adopt and promote a particular paradigm within a
certain field, change is even more difficult. For example, the World Health Organization
promoted the concept of Primary Health Care for several decades, which significantly
decreased the attention given to alternative policy approaches (Tarimo and Webster 1997;
WHO 1978).

Where then can reformers look for new ideas? International learning is one helpful
approach. For example, if your country wants to develop urban health clinics, it would be
sensible to examine the experience with such clinics in other countries and the lessons learned
from their failures and successes. Of course, because economic circumstances and political
institutions vary, ideas from other nations need to be adapted for local conditions. But since
the volume of policy experimentation around the world has been substantial in recent years,
international experience is a useful place for reformers to start their work.

Policy innovations outside the health sector are another source of new ideas. In
Bangladesh, for example, the non-governmental development agency BRAC (the Bangladesh
Rural Advancement Committee) has implemented a program for micro-finance, which
provides loans to small groups who want to initiate income-generating activities. The moneys
are provided at the community level through a revolving loan fund, which is managed by a
village organization of mostly women members (BRAC 2000). This idea of a community-
managed revolving fund is now being considered as an approach for community financing of
health insurance, as explored in Chapter 8. Similarly, in our discussion of social marketing in
Chapter 12, we review how ideas developed in a commercial context have health sector
applications.

A third source of ideas is theory. We have already expressed our skepticism about
arguments not rooted in real life examples. Yet theory can be a useful source of provocation
and inspiration, as long as implementation issues are adequately considered. For example, the
arguments for so-called “quasi-markets” and “purchaser-provider separation” have their roots
in economic theory (Enthoven 1988).

2.3.2. Looking Forward

To develop an effective plan for health sector reform, reformers have to think ahead to
political decisions and implementation—and design policy with those tasks in mind (as we
discuss more fully in Chapter 7 on diagnosis).

The first kind of forward thinking involves politics (see Chapter 4). Sensible reformers
begin to think about the political acceptability of their policies as they are developing them.
Why devise an ideal plan that has little chance of being adopted?

Similar considerations apply to implementation. We have noted how countries vary in

administrative capacity and in the attitudes that citizens have toward government. For
example, Hungary began paying hospitals a fixed fee for each type of admission. To raise
their reimbursement, however, many hospitals reported nearly all baby deliveries as
“complicated ” (Evetovits, 2002). A country where providers are likely to game the system,
therefore, must anticipate those responses in policy design. Similarly, some clinics in
Thailand only establish medical records for seriously ill patients, as one of us observed during
a site visit. Given manpower shortages, this may be a sensible use of their limited resources,
but it means that certain kinds of regulatory options, which would require more extensive data,
are not available to health reformers.

Another implementation issue is whether to proceed immediately to full-scale

nationwide implementation or take a more limited demonstration project approach. We have
noted that reform often occurs in the context of a crisis, which creates a window of opportunity
for change. In such situations, it is tempting to move directly to a bold initiative, while public
attention is focused on the problem and supporting forces are mobilized. On the other hand, an
experimental or demonstration project approach allows for learning. Why not try out a new
idea in a few cities or regions first, to reveal difficulties in implementation and flaws in the
plan’s logic, before it is adopted nationwide?

Viewing policy innovation as an experiment allows reformers to evaluate competing

proposals. For example, in recent health insurance reform efforts in China, first two, and then
twenty municipalities were involved in various experimental programs, before the national
scheme was finalized (Yip and Hsiao 2001). On the other hand, experimental programs can
attract energy and enthusiasm that lead to a degree of success that is hard to emulate when a
program is “scaled up” for system-wide adoption. And in some cases, the demonstration
project is never scaled up, so that the project ends as a limited experiment with little impact on
the broader health system.

2.3.4. The Design Process

The task of designing reform plans is as much political as analytical. This refers to both
the content of the reform ideas and the process of developing the ideas. This design process
can be a key step in mobilizing support for reform. Thus, the process of policy development
should produce a plan that is both technically sound and politically feasible.

A classic example of how not to do policy design in this regard is the failed health
reform in the United States under President Bill Clinton (Skocpol 1996). Technical experts
developed the plan behind closed doors, with limited consultation with either the major
interest groups or political leaders in Congress. As a result, even groups that stood to benefit
from the reforms, such as hospitals that would have received additional revenue from
previously uninsured patients, were slow to support the scheme and never did so
enthusiastically. Similarly, legislative leaders who were excluded from the process never felt
responsible for the plan. As a result, none of the committees in Congress (all controlled by
Democrats) ever produced draft legislation that embodied the main ideas of the Clinton plan.

Involving groups with diverse perspectives in policy development can serve both
political and technical ends, as we discuss in Chapter 7. Giving potential supporters a role in
the process can help transform them into actual supporters. The process can also provide a
testing ground for new ideas, and help protect experts from becoming prisoners of their own
enthusiasm. Involving those who actually work in the system can result in substantive changes
that improve the chances of effective implementation. Of course, too much “participation” can
limit reformers’ ability to get what they want and need from the process. Reformers therefore
need to oversee the day-to-day operation of the reform group, designing the terms of reference
for members and staff of the task force or committee that is created to do detailed policy
development. Carefully managing the policy design process requires a good deal of skill and
experience and may be key to reform success in the long run.

2.4. Step #4: Political Decision

As shown in Figure 2.1, each stage in the policy cycle is affected by politics, including
problem definition, policy development, and implementation. The adoption of a reform
proposal, however, provides a focus for political decision-making, often by the executive and
legislative branches of government. As Chapter 4 examines the politics of health reform in
greater detail, we will only address these processes briefly in this section.

Health reform typically confronts difficult political challenges. Organized interest

groups with a large stake in the current system (e.g., physicians, hospital owners, and the
pharmaceutical industry) are likely to oppose reform. On the other hand, the intended
beneficiaries of health reform (e.g., sick patients, the poor, and the underserved) are often less
powerful and less well organized. Some potential beneficiaries within the health system (e.g.,
new family doctors yet to be trained) may not exist, and so cannot play an effective role. As
always in the pull and tug of political decision-making, the future tends to be underrepresented
relative to the past (Banfield and Wilson 1972).

Getting health sector reform adopted is not just a matter of political commitment and
risk-taking (political will); it is also a matter of effective political strategy and coalition
building (political skill). Like other skills, political skills can be analyzed and understood,
taught and learned—and for health reformers, political skills are essential. Whether a proposed
reform is adopted will depend on the skill, commitment, and resources of its proponents (and
opponents) and on the political strategies they employ.

There is nothing dishonorable in being politically astute in the service of health sector
reform. Politics is how governments do their work and how societies make decisions. In
democratic states electoral and legislative politics may be key. In one-party systems,
bureaucratic politics plays a comparable role. Decisions are made through struggles within the
state apparatus, as agencies and factions fight for control. Someone who truly cares about
results in health reform thus must learn to think politically and act strategically, no matter what
kind of system within which they operate.

A key political task in all situations is building a strong support coalition. As we

discuss in Chapter 4 this means identifying groups and individuals with enough collective
political power to get the proposed policy accepted. The political strategist for health reform
needs to map the power and position of key groups, and to devise strategies that will produce
the required support. These strategies also must take into account the country’s institutional
and political structure. In addition, politics doesn’t end once a plan is adopted, but continues
to play a significant role in whether a reform is conscientiously implemented—which brings us
to the next stage in the cycle.

2.5. Step #5: Implementation

The American political scientist Aaron Wildavsky argued that good ideas are not worth
much if they cannot be implemented (Pressman and Wildavsky 1973). Many allegedly good
health reform ideas have failed because, in practice, they were not good ideas—exactly
because they could not be implemented.

Health sector reform always requires organizations and individuals to behave

differently. Without such changes, nothing new would be accomplished. Yet change is almost
always resisted. One reason is psychological. New procedures and structures are strange and
unfamiliar. For many, the mere fact of newness creates anxiety and resistance. The old adage,
“Better the devil you know than the devil you don’t,” embodies this idea. Resistance to change
also arises because change can bring costs to specific groups and individuals. New procedures
and arrangements take time and effort to learn. Existing hierarchies can be upset. Those who
benefited from the old system can lose greatly. Moreover, those most successful under the old
system have the most to lose; hence, the currently powerful are often the most opposed to
reform.

Another force that inhibits change is the difficulty we all have in giving up familiar
ways of thinking. Ingrained patterns of thought and behavior, which have evolved slowly and
served well in the past, can have a strong hold over us. Moreover, established patterns of
interaction are often strongly supported by a network of mutual expectations (influenced by
culture, class, position, and gender, for example). If a doctor wants to treat a nurse differently,
or a patient wants to relate to a doctor differently, they can encounter all sorts of pressures to
conform to expected behavior. To most of us, these assumptions—like many features of our
culture—are invisible. Yet implementation of health reform can depend on changing some of
these same cultural patterns, a process that can be very difficult.

Overcoming the resistance to change requires sophisticated leadership. Yet such

leadership is often in short supply. Health sector reformers (including ministers of health or
finance) are often physicians, politicians, or economists. Few have had experience as the chief
executive of a large organization, and they rarely fully grasp the importance of management
skills. Senior academic physicians can be particularly deficient in this regard, given the
hierarchical nature of academic medicine in many countries. They often do not realize that
giving instructions is not sufficient; that reforming a health system differs from performing
surgery in an operating room. Implementing health reform involves many basic organizational
tasks: developing an implementation plan, assembling a team to carry out the plan and
assigning tasks to them, devising and coordinating schedules, and motivating and giving
feedback to those involved. Given that ministers often serve less than one year, and frequently
less than two, it is not surprising that inadequate attention is paid to implementation. But when
that occurs, results are likely to be commensurably disappointing.

To bring about real change, health sector reform efforts must be continuously and
closely monitored, so that problems can be identified and corrective measures instituted. An
appropriate reporting system is therefore key to successful policy implementation. But many
problems can arise in collecting the relevant information. The incentives for providers to
misrepresent, even lie, can be substantial. The data that are easily available may not exactly
measure the performance that reformers care about—and that can lead to incentives that distort
behavior. Thus, a key task for reformers is to design a monitoring system that balances costs
against data quality, and ease of operation against resistance to fraud. Such a system is key to
effective implementation, and also to the evaluation of health reform.

2.6. Step #6: Evaluation

Experienced evaluators know that successful evaluation has to begin well before a new
program is implemented. Determining the effects of a new policy in a changing world is
inherently difficult. The question often arises of whether what happens is the result of the
reform or would have occurred anyway. Since data gathering consumes scarce administrative
and organizational resources, a series of strategic decisions must be made if the evaluation
process is to be both effective and sustainable.

The simplest evaluation approach is a before-and-after comparison. This involves

examining how outcomes change over time as reforms are implemented. But this approach
does not allow evaluators to detect the role played by other events or circumstances. For
example, improvements in health status could be due to a surge in economic growth, rather
than the introduction of a new financing or physician payment scheme.

The classic solution to this problem is to establish a “control group,” a population not
subject to a new program or policy, but which is studied in the same way as the experimental
group. This allows a “difference in differences” approach, which compares the before-and-
after differences between the experimental and control groups. This approach works best in
conjunction with a demonstration project strategy, since a nationwide reform leaves no room
for a control group for comparison purposes (Smith and Morrow 1996; Rossi, Freeman, and
Lipsey 1998).

When no control group is available, an evaluator has several fallback options. Perhaps
different regions of the country vary in the extent to which potentially confounding variables
influence outcomes. Alternatively, a similar neighboring country could provide something of a
baseline. These issues need to be thought through carefully in designing the evaluation
process. But even the simplest before-and-after comparison for a new policy cannot be made
unless there are good “before” data. Health reformers, therefore, need to collect baseline data
well before a new policy or program is instituted.

While we cannot explore the many relevant issues to evaluation in health sector reform
in this book, reformers should keep in mind a few key lessons about the role of data in
evidence-based evaluation. First, data collection is not free, and better data typically cost more
to collect. A good scheme for evaluation must balance cost against usefulness. Second, the
cost of data collection typically falls on the people doing the reporting. If the costs to them of
providing good data are too high, they will provide poor data. For example, a study of
maternity ward data in a district in northern Ghana found multiple problems with data quality,
so that much of the information collected was of “questionable accuracy” (Allotey and
Reidpath 2000). Midwives reported that record-keeping was time consuming for them, the
figures were not analyzed beyond the annual report, and the effort therefore seemed of little
value. The authors concluded that exhorting the midwives to do a better job at data collection
was unlikely to succeed, since the information had neither negative nor positive consequences
for the nurses involved. In short, the nurses had no reason to take the time and effort to obtain
better information.

Third, it is possible to collect too much data. Over-collection can produce “data
cemeteries,” in which piles of “dead” data accumulate, too massive for anyone to analyze. A
key question for any manager to ask of a proposed data collection effort is, “How will I use
these data once I have them?” Data that are not linked to actual decisions are likely to be
buried in an early grave by those too busy to look at them.

One strategy for getting reliable information is to use data that organizations collect for
their own purposes. Such data are more likely to be collected and recorded accurately since
managers need them to run the organization. In some countries, payroll data, personnel
records, or hospital discharge records may be relatively accurate. When such records exist,
reports to government agencies are potentially auditable against the underlying sources, and
this process can increase reporting accuracy.

In sum, evaluation has to be an early concern for health reformers. It cannot wait until
after a new program has been implemented. Baseline data have to be collected before
implementation, and administrative systems have to be designed with evaluation in mind.
Unintended consequences are frequent in health sector reform. To make a difference, health
reformers must take evaluation seriously, so that such consequences can be detected and
addressed. Ironically, reformers will know that evaluation has been done well when the data
collected reveal new problems that start the policy cycle all over again.

3. Summary

This chapter has provided an introduction to the policy cycle for health sector reform.
In subsequent chapters, we will explore selected aspects of the cycle in greater detail with
attention to five main themes:

Step #1: Problem Definition:

 Health systems are social responses to social problems. Problem definition and health
reform priorities are always based on value choices. We believe these choices should be
explicitly stated and examined. Our approach to these choices includes a guide to ethical
theory, which we address in Chapter 3.

For sound policy development, problems should be defined in terms of health system
performance objectives. Although health reformers often hold multiple objectives, we believe
that a short list of core health system objectives—those which in our experience are the most
relevant to health reform—can be identified. We present these objectives in Chapter 5, and
link them to the ideas of ethical theory presented in Chapter 3.

Step #2: Diagnosis:

In order to identify potential solutions to improve performance, the assessment of

health system performance requires a diagnosis of the causes of poor performance. We have
designed a method of diagnosis that is systematic, can be taught, and can be practiced. We
elaborate this approach to health system diagnosis in Chapter 7.

Step #3: Policy Development

Health systems are complex, with many steps that link broad policy strategies with
final outcomes. We propose a conceptual framework of five “control knobs” that include the
causal factors that meet two essential criteria: they are significant determinants of health
system performance, and they can be manipulated through policy reform and effective
implementation. In Chapters 8 through 12, we provide detailed discussion of these
mechanisms and processes. For each control knob, we provide practical guidance on the
design and implementation of interventions and on the expected impact of different reform
strategies.

Step #4: Political Decision

In health reform, politics matters throughout the policy cycle, and we have integrated
our concern with politics in each chapter of this book. As presented in Chapter 4, we believe
that systematic political analysis and the use of that analysis to develop political strategies are
essential for effective reform. The placement of political analysis in this book reflects our view
that it should be done early and often throughout the policy cycle.

These five elements—the importance of ethical theory, explicitly identified health

system performance objectives, a systematic approach to health system diagnosis, use of the
health system control knobs, and political analysis—are the core of what is new and useful in
this book. These points are developed in detail in subsequent chapters, where we provide the
substance of our approach for getting health reform right.
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 Chapter 3
Judging Health Sector Performance:
Ethical Theory

1. Introduction

Arguments about what society ought to do always involve ethics. This is so even when
someone asserts that the claim they are making is purely technical and does not involve values.
Economists, for example, often argue that they are not concerned with ethics, only with
economic efficiency. Public health experts often take similar positions, asserting that they do
not do ethics, they only protect the public’s health. But how do we know that efficiency or
health is the goal that society should try to achieve? Suppose that efficiency conflicts with
fairness, or that efforts to improve health lead to restrictions on individual liberty? Why value
health or efficiency over these other objectives?

This book is based on our deep conviction that judging health sector performance
requires ethical analysis. In this chapter, we introduce three major ethical perspectives as a
basis for making such judgments: utilitarianism, liberalism, and communitarianism. Our
purpose throughout is not to explore moral philosophy for its own sake, but rather to use it as a
tool for making decisions about health sector reform. Understanding the larger ethical
perspectives that lie behind debates on health reform can help policy analysts and
policymakers do their jobs more effectively. They can better explain and defend their own
positions, and can better understand and respond to the positions of others.

The first doctrine we discuss, utilitarianism, says that we should judge a policy by its
consequences. Utilitarianism evaluates consequences by examining the effects of a decision on
the sum total of individual well-being in a society. This perspective motivates many health
reform efforts around the world.

The second doctrine, liberalism, focuses on rights and opportunities, on where people
start, not on where they end up. This view also has an important role in health sector reform
debates. The frequent claim that citizens have rights to health care—or even to health itself—
reflects liberal concerns.

The third perspective, communitarianism, states that what matters is the kind of society
that public policy helps create and the kind of individuals who live in it. In this view,
communities have an obligation to raise their members to share the community’s notions of
virtue and good behavior. Communitarianism can conflict with both consequence-based and
rights-based thinking, since inculcating virtue can involve actions that do not maximize well-
being or that constrain individual liberty.

In this chapter, we discuss these three ethical theories and explore their implications for
health sector reform. We also explore some of the variations in points of view within each of
these broad approaches. In Chapters 5 and 6, we will describe how these theories relate to
various criteria used to judge health reform and discuss how ethical analysis can help a
reformer think about setting priorities in the reform process.

2. Ethical Theory #1: Utilitarianism

The most widespread approach to the problem of making ethical judgments about the
performance of the health sector is based on consequences. This approach generally assumes
that “the end justifies the means.” It says we should judge a policy by asking how it affects the
individuals in a society and pick the option that most improves the sum total of their well-
being. To be helpful in making decisions about health reform, several more specific questions
need to be answered. Whose well-being counts, and for how much? Also, how can well-being
be measured in a practical way for the purpose of health reform? There are two major
intellectual traditions about how to answer these questions: subjective utilitarianism and
objective utilitarianism. Both approaches seek to use resources efficiently to produce the most
“good”—but there are important differences in their methods and implications.

2.1. Subjective Utilitarianism

The first position derives from the work of the nineteenth-century English philosopher, Jeremy
Bentham, who believed that individuals could best judge for themselves what makes them
happy. He argued that people experience different levels of utility in various situations,
depending on their particular tastes and preferences. By “utility” he meant the internal
feelings of happiness people had, and his doctrine came to be known as utilitarianism. He
proposed that the rightness of an action is determined by the “hedonic calculus” of adding up
the pleasure and pain it produces. The right action is the one that produces “the greatest
happiness of the greatest number” (Bentham 1789). According to this approach, the way to
evaluate the performance of the health care system is to determine how happy it makes
everyone, and add those measurements up to reveal the utility that the system produces.

Bentham argued that all tastes are equally valid. This viewpoint decentralizes
evaluation, since all individuals judge their own happiness for themselves. We call Bentham’s
position subjective utilitarianism. In certain ways, this is a very non-hierarchical concept. It
posits that all individuals matter and matter equally. Judging a policy requires us to add up
everyone’s utility level for each policy option and then choose the policy that leads to the most
happiness or utility.

Economists take this analytical framework one step further. They advocate the use of
cost-benefit analysis to determine which action produces the greatest total utility. This
involves finding out how much all potential beneficiaries of a policy or program would be
willing to pay for its benefits. If the estimated benefits are greater than the costs, then the
policy would advance the greatest good for the greatest number and should be adopted. This
analysis thus evaluates both costs and benefits in monetary terms (Mishan 1988, Culyer and
Newhouse 2000).

Economists compare benefits with costs because the costs of a program actually
represent the benefits we give up elsewhere in the economy in order to implement the
program. These foregone benefits are called opportunity costs. Economists argue that in a
competitive economy, the price for an input—like labor or equipment—will be set by the
value of the outputs that the input can produce. A worker can earn $10 an hour, if the worker,
by working an additional hour, can produce goods that can be sold for $10. If a program costs
$100,000, then its inputs could have produced goods worth $100,000 elsewhere in the
economy. Thus, cost-benefit analysis is really benefit-benefit analysis. Subjective utilitarians
tell us to do those activities where the benefits we gain are greater than the benefits we give
up.

Evaluating proposed health reforms by using formal cost-benefit analysis is not easy.
One reason is the difficulty in determining what people would be willing to pay for services.
Often, we cannot use what they do pay as a guideline, since they may not pay anything (e.g.,
for free services in a public clinic). If we use surveys to assess willingness to pay, will people
answer questionnaires honestly? Do they even know what they would pay for a hypothetical
benefit?

Nevertheless, subjective utilitarianism has been very influential in debates about health
reform. Policymakers are often urged (especially by economists) to use markets to allocate
health care. The basic idea behind subjective utilitarians’ enthusiasm for markets is that when
markets work well, consumers only buy those goods and services for which their willingness
to pay exceeds the costs of production. Such recommendations are based on economic models
in which consumers have complete knowledge and markets are perfectly competitive. This
kind of market system has desirable properties from a subjective utilitarian perspective. In
particular, it leads to a “Pareto Optimal” situation, in which there are no unexploited gains left
in the economy. In this situation, the only way to increase one person’s utility is to decrease
someone else’s. Such a set of markets is then efficient in a specific sense in its allocation of
resources. It produces as much utility as possible, assuming that the relative position of all
citizens is considered acceptable (Graaf 1967).
 Unfortunately, most real health-care markets are far from satisfying the preconditions
for perfect competition and hence far from Pareto Optimal (Arrow 1963). First, patients
typically rely on doctors to tell them what care they should receive. This makes it possible for
doctors, as the patients’ “agents,” to influence care decisions in ways that suit the doctors’
interests. For example, doctors paid fee-for-service have every reason to encourage
unnecessary or inappropriate care (which is called “supplier-induced demand”) (Folland et al.
2001, Feldstein 1993). Buyers also have great difficulty in judging the clinical quality of the
services they receive. They cannot tell if the chemical composition of the drugs they buy is as
advertised or if the surgeon has performed the operation skillfully. Add in strong elements of
monopoly power and we can see that health-care markets are often characterized by what
economists call “market failure.” For these reasons, as we discuss in Chapter 11, health-care
markets are often heavily regulated to counteract these deficiencies.

The enthusiasm for markets in health care also ignores important equity issues. In a
market, each person’s consumption is based on the individual’s income. This means that the
poor get less, often very much less than the rich. Indeed, the poorest of the poor often cannot
even afford basic services. As a result, those concerned with maintaining equitable access (a
concern we share) have to think carefully about how and where to use markets, and how to
counteract their adverse effects where they are employed. Nonetheless, market-based
arguments have gained substantial political influence in recent years, providing an avenue for
subjective utilitarian thinking to enter the health reform debate.

Another way to highlight the equity issues raised by a subjective utilitarian viewpoint
is to see that this approach can easily lead to the conclusion that we should not provide costly
services to the poor, since they would be unable to pay for them. Such services would not pass
the test of willing-to-pay for benefits in excess of costs that subjective utilitarians would
impose. A subjective utilitarian might argue in response that if we want to make the poor as
well off as possible, we should give them money and let them spend it as they choose. If other
things are more valuable to the poor than health care, that should be their choice.

This line of reasoning reflects the view of subjective utilitarians that health is not a
special good, but is just one more commodity that citizens buy or not, as they choose. Since
only each person really knows what will make them happy, their choices should be respected.
The optimism of this view about individual choice seems unwarranted to many critics,
however. They are not prepared to base social policy entirely on individuals wants and
decisions. Instead, they are attracted to the objective utilitarian approach as an alternative
(Dworkin 1993).

2.2. Objective Utilitarianism

What if you believe that health reform ought to be judged by its consequences, but doubt that
individuals make good choices about actions that affect their health? For example, should
governments act to promote markets that provide cigarette smokers with what they want? If
patients want dangerous or ineffective medicines, or want to patronize unqualified doctors,
should government allow people to make these choices?

Reformers who want to promote individual well-being, but are skeptical of the
reliability and validity of individual choices, argue for basing decisions on individual well-
being defined in objective terms by a group of experts. These experts develop an index that
embodies the “rationally knowable” components of well-being, and that index is then used to
evaluate everyone’s circumstances. This position is known as objective utilitarianism (Griffin
1986).

Objective utilitarianism has a long history in public health. In the 19th century,
Florence Nightingale showed that it was less costly for the British Army to care for the
wounded than to let them die and then train new recruits. There were various attempts to
construct health status indices both before and after World War II. Objective utilitarian
approaches have also been widely employed in clinical research, where measures of “quality
of life” have been developed to evaluate the results of alternative treatments (McDowell and
Newell 1987). It is also the philosophical position behind the analysis of disease burdens
through such measures as DALYs (Disability-Adjusted Life Years) or QALYs (Quality-
Adjusted Life Years), as conducted by the World Bank (1993) and the WHO (2000). This
approach tells us to pick policies with the “biggest bang for the buck,” with “bang” measured
in health gains. Notably this approach does not translate health gains into monetary terms—
unlike cost-benefit analysis.

In the broader world of policy analysis, objective utilitarianism provides the basis for
cost-effectiveness analysis. This approach has been widely used beyond the health sector,
under various labels. During World War II, British mathematicians used such methods to
calculate the best way to conduct military operations (e.g., searching for a flyer downed in the
English Channel) giving rise to the term operations research. In the 1950s, similar techniques
were applied at the Rand Corporation in the U.S. to evaluate the comparative efficiency of
different weapons systems, in what came to be called systems analysis (Quade and Miser
1985).

Objective utilitarians centralize what Bentham sought to decentralize. Using a single

index to measure well-being disregards individual variations in preferences. One individual
may want to avoid physical disability or chronic pain, even if this means a shorter life span;
another may seek the longest possible life, whatever suffering that life entails. Such variations
have no place in an objective utilitarian calculation.

The practical measurement of health gains confronts many technical problems. One
critical question is how to combine extensions in the length of life with improvements in the
quality of life. The QALYs and DALYs methods use a similar (and controversial) solution.
Health status is described on a scale from zero (for death) to one (for perfect health). Experts
assign each disease or disability state a particular quality-of-life score somewhere on this scale.
A year of life in good health counts as one unit of gain. A year while suffering some disability
counts as a fraction of this, say seven-tenths of a unit. The value of life extension is then
counted as the quality of life of the person saved, multiplied by the number of years provided.
An improvement in quality is measured by the fractional gain in quality times the number of
years it persists. Thus, adding 5 years of life to a person at 0.8 quality level is calculated to
produce 4 QALYs, since (5 X 0.8) = 4 QALYs. A major problem with this approach is that
many people seem to value the saving of life more than the alleviation of disability, which
raises fundamental questions about the method’s assumptions and calculations.

One example of this approach was the Oregon Health Plan in the United States. In
1994, that state conducted a study to rank all medical treatments covered by the Medicaid
program (an insurance plan for low-income individuals) in terms of QALYs produced per
dollar spent, and then proposed to restrict coverage to only the most cost-effective
interventions (Bodenheimer 1997). The plan was later drastically modified, because of public
dissatisfaction with the results of the analysis, because it seemed to them to under-value life-
saving interventions (Hardon 1991).

A health status index inevitably embodies value judgments about the relative
desirability of different kinds of health gains. For example, how serious is mental disability
compared to physical disability? Are years of life lost at different ages to be counted equally or
unequally? The DALY index, for example, values years of life in middle age more highly than
years lost by younger or older citizens (Murray 1994). This differential assessment reflects a
particular productivity-oriented perspective that could be inconsistent with social values in a
society where, for example, the old are viewed as a source of special wisdom. Users of this
approach must contend, therefore, with the objection that not all societies or individuals value
health outcomes in the same way (Anand and Hanson 1997). In practice, advocates of this
approach have convened panels of experts and used consensus-building methods to select a
single set of weights for evaluating health gains and losses for specific ill-health conditions
(Murray 1994).

Objective utilitarian health reformers also can proceed without using a comprehensive
measure of health gain. For example, many health ministries use measures like the infant
mortality rate (IMR) to identify high-priority target areas, or analyze policies in terms of the
expected number of lives saved by a proposed policy intervention. These more limited indexes
require less data and analysis than comprehensive scales like DALYs. Their disadvantage is
that, because they are not comprehensive, they can give a distorted picture of the situation. For
example, the development of a neonatal intensive care unit in a local hospital can have the
effect of increasing the area’s observed IMR, as sick newborns live long enough to be counted
as neonatal deaths rather than as stillbirths. Thus, any partial index ought to be employed
carefully.
 A number of practical problems also arise in interpreting any health statistics. In some
countries, for example, differences in the reported IMR reflect variations in local customs
about when babies are considered truly “born” or differences in bureaucratic competence in
collecting data from remote villages, rather than variations in actual mortality rates.

Another practical difficulty is the assessment of causation. To use consequence-based

analysis, one must evaluate the results of past policies and predict the impact of future policies.
Making reliable predictions is often complicated. Suppose a country is considering a shift from
a “vertical” immunization program to a system in which immunization is integrated in the
primary care system. For an objective utilitarian, the expected cost savings of this change need
to be balanced against an estimate of the health consequences that might result from a decline
in immunization coverage. Estimating the impacts on immunization coverage requires an
assessment of how the new program will be implemented. How will the changes affect the
follow-up of missing cases, the preservation of the cold chain to keep vaccines effective, and
the tendency to use expired vaccines? And then, how will those changes combine over time to
affect health status? These predictions are not easy to make, and yet an objective utilitarian
must undertake this kind of analysis for each proposed policy change.

2.3. Some Utilitarian Complications: Uncertainty and Time

Two technical problems with utilitarian analysis deserve brief additional consideration:
uncertainty and time. The consequences of health reform are always uncertain to some extent,
and some will not occur until quite a few years in the future (Weinstein and Stason 1977;
Wenz 1986).

For subjective utilitarians, valuing uncertain gains is straightforward, at least in theory.

Uncertain benefits and costs are evaluated by asking the affected persons how much the
uncertainty changes the value of the gains or costs to them. Uncertainty is incorporated
directly into each person’s willingness to pay.

This approach, however, introduces a complex set of assumptions and implications. In

particular, it requires us to assume that people know not only whether they prefer outcome A
to outcome B, but also how much more they value one over the other. Whether individuals
have consistent and stable evaluations of such outcomes has been a subject of substantial
debate and empirical research. These evaluations become especially important when the gain
in impact depends on a change in probability, such as a change in the probability of death from
a particular disease.

The problem of benefits that occur in the future raises similar issues. Here the debate
focuses on what is called the discount rate. In financial markets, the relative value of returns
this year versus returns next year is expressed by the interest rate. For example, a rate of 7%
implies that next year, a borrower has to give a lender 1.07 times what was borrowed today. In
such markets, dollars next year are worth less than dollars this year. This process is repeated
for gains that occur further in the future. The procedure for computing the decrease in value of
future gains is called discounting, and the interest rate used in the calculations is called the
discount rate. This rate allows analysts to compute the present value of future benefits, so that
they can be compared to current costs in the same monetary terms (Parsonage and Neuburger
1992, Folland et al. 2001, Olsen 1993).

When evaluating health reform, should future health benefits be discounted, and if so,
at what rate? Some analysts argue that, as a matter of social policy, future gains should be
valued the same as current ones, since discounting effectively discriminates against the future.
Others believe that if we don’t use discounting, we then encounter what is called the
“investment paradox,” as the following example illustrates. Suppose we take $100,000 from
current health spending and put it in the bank. Since science is always advancing, and we can
earn interest on the investment over time, the $100,000 will produce more health gain in 10
years than today. Thus, without discounting, we would defer far too much spending to the
future.

The discount rate can have a major impact on the relative attractiveness of policies that
produce short-run versus long-run gains. At a 7% discount rate, gains 10 years from now are
worth half of what they are today—and gains 40 years from now are worth less than 6% of
their current value. Lower discount rates give greater relative value to future benefits (long-run
gains), and will be more favorable to projects that promise long-run gains over those that
promise more short-run gains (Keeler and Cretin 1983).

There are two major arguments on how to set the discount rate. One school of thought
argues for market-based interest rates. This school proposes using rates similar to those in a
nation’s financial markets or the rates of return earned by private sector entrepreneurs. They
argue that market discount rates reflect the actual opportunities open to investors—and hence,
the opportunity cost of withdrawing resources from the private sector and spending them in the
public sector (Marglin 1967).

Other analysts believe that private capital markets do not function well and that society
should make an independent judgment about the value of gains that occur at different times.
They argue for using a social discount rate based on this separate valuation (which represents
more of an objective utilitarian position). Whether a market rate or social rate is used in
analysis can have a major impact on priority setting, since some policies (e.g., Hepatitis B
vaccination) produce benefits quite far in the future. These policies look much less attractive
(compared to, say, the immediate gains from flu vaccinations) when a high discount rate is
used.
 A final problem for health reformers who consider the utilitarian approach is the
ruthlessness implicit in the position’s commitment to producing the largest gain for the
available resources—regardless of the fairness or equity of the result. Negative consequences
for particular individuals or specific groups are acceptable, as long as the total results are
beneficial in the aggregate. Utilitarian policymakers can disregard patients who are too
expensive to save, and can sacrifice the few for the sake of the many. Following utilitarian
logic, passengers who are starving on a lifeboat, can kill and eat a few of their fellows,
provided the gains exceed the losses. Many health reformers—including ourselves—find this
lack of focus on equity a serious objection; an intuition that leads to a different approach for
deciding on priorities for health reform.

3. Ethical Theory #2: Liberalism

In the language of philosophy, utilitarians are willing to treat some individuals as

means and others as ends—to sacrifice some for the sake of others. But to many reformers,
this attitude does not take the interests of those being sacrificed seriously enough. Don’t those
individuals have rights and aren’t they entitled to as much respect as those we wind up
healing? If we are going to take such ideas seriously, how can we ground them
philosophically, and what would they imply for health sector reform?

The most influential philosopher associated with conceptions of individual respect and
autonomy is the eighteenth century German philosopher Immanuel Kant. According to Kant,
all human beings have the capacity for moral action (Kant 1788), the power to know what is
morally correct, and to decide whether to follow the dictates of morality. Modern Kantians
argue that since human beings have the capacity to develop and implement their own decisions
about how to live—what philosophers call “life plans”—they have the right to do so. Because
these rights derive from each person’s status as a human being, they are seen as universal, and
all political systems are obliged to honor them (O’Neill 1989). This view, based on mutual
respect, directly opposes utilitarianism’s willingness to treat some people as a means. The
philosophical descendents of Kant’s approach, now called liberals, have developed arguments
about how states should operate and how policies should be determined (Rawls 1971).

The critical concept for liberals is rights—claims that all individuals can make on each
other by virtue of their humanity. The rights implied by the principle of mutual respect are
interpreted by liberals in two different ways. Libertarians believe that only negative rights
deserve protection (Nozick 1974). These rights guarantee individual freedom, so that people
can do what they want without state infringement on personal choice. Extended to the political
realm, this formulation leads to fundamental political and civil rights, like freedom of speech,
assembly, and political participation. Libertarians want the state to have only the limited role
of protecting individual property rights and personal liberty. They typically oppose restrictions
on drug use, limits on abortion, or even the licensing of physicians, since these actions restrict
individual freedom of choice.
 In contrast, egalitarian liberals argue that the right to choose is meaningless without
adequate resources. They argue that genuinely respecting others as moral actors requires us to
provide them with the preconditions that make meaningful choice possible. Therefore,
everyone has a positive right to the minimum level of services and resources needed to assure
fair equality of opportunity (Daniels 1985). Someone who is starving, homeless, uneducated
and ill does not have much opportunity for meaningful choice. The question is, what does the
principle of mutual respect require that the state provide in order to ensure positive rights? In
particular, is there is a right to health care or to health itself? This question has important
implications for health sector reformers.

Positive-rights arguments generally lead to a redistributive perspective that favors

people who are worst off from a lifetime perspective. That is, the health care system should
place priority on averting premature death and disability versus extending the life of the aged,
who have already had the chance to develop and implement their life plans. John Rawls (1971)
called this perspective “justice as fairness.”

Egalitarian liberals disagree among themselves over exactly how positive rights should
be addressed in the health care system. Some assert that the best way to respect everyone’s
moral capacity is to distribute income fairly, and let individuals buy the health care (or health
insurance) they want (Dworkin 1993). For these liberals, health is no different from other
goods and services that people are free to purchase, like food and clothes. They believe there
are no special rights to health or health care.

Other egalitarian liberals believe that society has a special obligation with regard to
health (Daniels 1985). But here again there is division. Some think that the key is providing a
minimum level of health care for all, while others think that the critical issue is individuals’
actual health status. In other words, if citizens have health rights, should we judge whether
those rights are satisfied by the availability of clinics or by citizens’ average life expectancy?
The latter view holds that if society is to provide everyone with a certain range of
opportunities, access to care is not enough. This positive-rights perspective makes government
responsible for a minimum quantity and quality of life for all, and to provide the health care
needed to guarantee that minimum.

The disagreement over whether government should be responsible for a level of health
status or for access to health care has important implications for the relationship between the
state and the individual. Much ill health today depends on each individual’s own behavior.
Smoking, diet, substance abuse, exercise and risk-taking of various kinds all have significant
health consequences. To say that government is responsible for everyone’s health means that
society is responsible for influencing individual choices about such matters.

On the other hand, if society is only responsible for providing services, and not for
whether people use them, then individuals have much greater responsibility for their own
health. Health status then becomes a result of individual choice, not an inherent right. This
perspective is consistent with Amartya Sen’s argument that society should be responsible for
creating opportunities (which he calls “capabilities”) among which citizens can choose, not for
the choices that individuals make (Sen 1999).

Asserting a right to health still leaves many questions unanswered. If individuals have
a right to a minimum health status, what should the minimum level be? Are there limits to
society’s obligation to very ill people, who require high-cost services to improve their health
status even a little? After all, society’s resources are limited, and the money to provide for such
care comes from other citizens, in ways that effectively diminish their opportunities.
Moreover, what care should people receive if their ill health results from their own behavior?
In practice, any society committed to egalitarian goals in the process of health sector reform,
will have to find politically and economically viable answers to these questions. And those
answers will depend, in part, on the nation’s fiscal situation.

3.1. Liberalism and Health Care Financing

In deciding how much to spend on health (or health care), a critical issue for liberals is
the legitimacy of taxation. For libertarians, the negative right to be left alone includes a right to
enjoy one’s own property. For them, therefore, taxation is theft. They might consent to limited
taxes to provide minimal state services like defense and police, but taxation that seeks to
redistribute resources is fundamentally not legitimate, because it treats one person (the
taxpayer) as the means to another’s end (the benefit recipient).

Egalitarian liberals, on the other hand, approve of redistributive taxation in part

because they believe that much of the existing distribution of wealth in society has arisen in
ways that do not deserve to be respected. Aristocrats acquired wealth through force and
conquest. Fortunes were made through monopoly or fraud. Some individuals earn high
incomes due to superior education or family contacts because they were lucky enough to be
born into privileged social groups. Such gains are the result of the social lottery since,
according to liberal egalitarians, the people who enjoy such advantages did nothing to deserve
them (Rawls 1971, Rawls 1999). The gains they produced can be legitimately taxed to help
the poor. Property rights are not violated by taxing away these various illegitimate gains,
because the gains themselves were not properly obtained.

Even differences in rewards due to differences in innate talent are not legitimate, since
no one deserves their own biological advantages. The gains from such advantages are not the
result of individual effort. Income differences due to this natural lottery, like those due to the
social lottery, can be claimed by the state for redistributive purposes.

In the context of health reform, as we discuss in Chapters 5 and 7, egalitarian liberals

argue that it is best to finance health care services with redistributive taxes. Thus,
comprehensive income taxes are better than payroll taxes, especially since the latter exclude
investment income. To egalitarian liberals, income from investments is generally non-effort
dependent and, hence, is an appropriate source of funds to finance redistribution.

Many egalitarian liberals—including the authors—view the U.S. health system as

particularly objectionable on equity grounds compared to that of other industrialized countries.
The U.S. finances most health care through private, premium-based insurance schemes in
which costs are the same for all, regardless of income. As a result, consumption of health care
in the U.S., like the consumption of expensive consumer goods, such as sailboats, reflects an
individual’s ability to pay: rich people own large boats, middle-class people own modest boats,
and poor people swim. The same is true when it comes to health care. Most of the uninsured in
the U.S. belong to low-income families.

Any claim about the “unfairness” of the distribution of health or health care in a society
is likely, at its root, to be based on egalitarian liberal ethics. For example, in most poor
countries, health spending in rural areas is well below that in urban areas, and life expectancy
is shorter in rural zones. Should this problem be a focus for health reform? The answer will
depend on the values of the person responding to the question. An egalitarian liberal would
probably make it a high priority to correct this inequality. They would advocate raising the
bottom end of the distribution to ensure that everyone has some minimum level of opportunity.
On the other hand, an objective utilitarian whose goal is maximizing health status would want
to know the cost-effectiveness of different interventions in rural versus urban areas, and would
make a decision based on where the greatest impact could be achieved. (We return to attitudes
toward equity, from different philosophical perspectives, in more detail in Chapter 5.)

Despite deep differences, there are some basic similarities between liberalism and
utilitarianism. Both doctrines are universal; they seek to develop a single moral standard for all
human societies. In addition, they focus on the individual—on individual well-being and
individual rights. Both perspectives have therefore been criticized for ignoring the social
nature of human life (Sandel 1982). Critics of liberalism argue that important community
values are ignored by its individualistic vision. Utilitarianism is faulted for implying that you
cannot favor your own family, friends or fellow citizens over strangers, if helping strangers
would yield more utility (Williams 1973). Similarly, utilitarian approaches to improve health
status can conflict with a society’s views about moral conduct. Consider, for example, the
controversies in the U.S. over distributing clean needles to drug users or contraceptives to high
school students (Moss 2000). These criticisms derive from ethical perspectives that are not
based on well-being or rights, but focus instead on inculcating virtue and fostering community,
which leads to the next category of arguments.
4. Ethical Theory #3: Communitarianism

The third major approach to ethical theory we want to review argues that what matters
in judging public policy is the kind of society and kind of person that state action seeks to
create. This perspective focuses on the nature of the community and is called
communitarianism. This theory argues that the character of a community depends on the
character of the individuals who comprise it. The state, therefore, should ensure that
individuals develop good character and help produce a good society.

Just as we examined two kinds of utilitarians (objective and subjective) and two kinds
of liberals (libertarian and egalitarian), we distinguish two kinds of communitarians. The first
are universal communitarians, who believe there is a single universal model for the good
individual and the good society. There are many examples, both secular and religious. The
world’s proselytizing, monotheistic religions (Islam and Christianity) are forms of universal
communitarianism; so, too, is the position of ecological activists who want to transform man’s
relationship to nature; and that of some in the feminist movement, who want to create a society
with a different relationship between men and women. The same can be said of revolutionary
Maoists. As these examples show, the substantive moral positions contained under this
heading are quite varied—much more so than the differences within either the utilitarian or
liberal camps.

A communitarian viewpoint of particular relevance to health sector reformers in East

Asia is the doctrine known as Confucianism. This perspective, articulated through the writings
of Confucius (551-479 B.C.) and his followers, prescribes how people should behave, both as
individuals and as collectivities, through the “five relationships.” Human interaction begins in
the family and extends out to the state, providing a distinct Confucian continuity between these
two realms of collectivity. The core literature of Confucianism, known collectively as the Four
Books, provides a universal view of humanity, based on internal reflection on one’s duties and
rights, and on understanding one’s human interactions within specific collectivities (Bloom
1996).
The Confucian arguments about duty and responsibility and about fulfilling social roles
resemble the arguments offered in the Greek philosopher Plato’s famous work, The Republic,
but with important differences. Plato viewed the family as a particularistic distraction from the
social obligations of citizenship. Confucius, on the other hand, considered the family as the
basic model of human interaction, for ruler and subject and for public and private matters
(Bloom 1996, 134). Confucian ethics continue to influence individual and social values in
many countries. For example, the willingness of the government of Singapore to use the power
of the state to preserve order and instill individual virtue expresses just this perspective (Bell
1997, Wong 1996, Kuah 1990).
 The second kind of communitarianism historically was heavily influenced by
anthropology and the work of early 20th century pioneers in that field, like Boas and Mead
(Boas 1932, Mead 1964). This perspective recognizes the wide variety of cultural practices in
the world and the extent to which individuals are embedded in those cultures. This form of
relativist communitarianism emphasizes that each community should decide its own norms
and mode of social organization. These communitarians see morality as inherently contextual,
lacking a universal place outside of society to judge particular cultural traditions.

Certain practices, like female genital cutting, pose the question of the acceptability of
local community norms in an acute manner (Obermeyer 1999) . Some relativist
communitarians support this practice, arguing that it should be respected by outsiders, because
it has deep meaning for people who belong to the culture, and constitutes an integral part of
their life. Objective utilitarians oppose this practice on the grounds that it injures the health of
women. Liberals consider the practice objectionable, because it is imposed on girls early in
their lives and limits their long-term life opportunities.

Those who believe that each community defines its own norms, must decide on the
boundaries of each community, and on who speaks for the community. Many ethnic and
religious minorities have asserted the right to depart from the norms of the larger community
and the right to create their own communities. How should such disagreements be decided?
Can Catholic majorities in Latin American countries legitimately impose their views about
divorce and abortion on all citizens, based on their interpretation of community values? What
rights do religious minorities have in Israel, India, or Iran, if their practices offend the
majority? Suppose people of the same sex want to marry or adopt children in a country where
the majority considers it immoral? Until twenty years ago, women in Switzerland could not
vote, and the Swiss defended this limitation as their traditional practice. Who decides whether
a community is legitimate and how much coercion a community can use in promoting its
values and assuring compliance? These are critical questions if relativist communitarianism is
to guide decisions about health sector reform.

Communitarian arguments arise in health reform in many ways. For some in public
health, living a healthy lifestyle is a matter of virtue, not just a way to improve health status.
For example, some public health advocates view tobacco or intravenous drug use as ethically
objectionable forms of self-destructive behavior, not just as unhealthy. Advocates of these
views are not persuaded by the fact that some individuals prefer the pleasures of tobacco or
reject the joys of exercising—despite the health consequences. These choices would be
acceptable to a subjective utilitarian (the smoker is seeking happiness) or to a liberal (the
smoker has rights), but are opposed by public health communitarians (as not following the
right kind of life).

Communitarians may also have strong views about particular health care services. In
many countries, religious conservatives oppose the availability of abortion or family planning
services on communitarian grounds. In some countries (e.g., Japan), the practice of defining
death by the end of heart action limits the number of organs available for transplant (Kimura
1998). Should public health professionals, arguing on objective utilitarian grounds, seek to
change such community norms? Some countries (e.g., Austria) presume that those who die are
organ donors unless the family actively opposes it, a practice that has obvious health-status
gains but also poses some ethical problems (Kennedy et al. 1998, Veatch and Pitt 1995).
Should other countries follow suit, even if doing so runs counter to local tradition? Questions
around traditional medical practices raise similar issues. If a sincere believer visits a religious
healer who seeks to expel evil spirits to treat a medical problem, should the healer be required
to follow guidelines for medical practitioners, as stipulated by law? In offering these examples,
we seek to illustrate how using community norms to define the agenda for health reform often
raises conflicts with other values. Because these issues are so important, we believe they
deserve special attention in the process of setting priorities for health sector reform, and we
discuss them again in Chapter 5.

This chapter has emphasized the normative dimensions of health reform, asking how a
society should decide what to accomplish in health reform. Ethical analysis can help reformers
with this process, by highlighting what is assumed and implied in various communitarian
positions, and their relationship to consequence-based and rights-based perspectives.

5. The Problem of Justification

Confronted with these three basic ethical positions, a reformer might well ask which
one is correct? What arguments are available to select one ethical view over another? Such
questions about justification fall into the realm of meta-ethics, or questions about the nature of
ethics itself.

Various approaches exist when it comes to the problem of justifying an ethical

position. Religious faith is one such approach. Another is the view that human beings have a
special faculty for perceiving morality, so that moral truth is revealed to us by our emotions or
intuition. A third view holds that logic or reason can dictate the content of morality (Harman
1977). The most widely accepted modern argument is moral realism (Putnam 1990). This is
the position that the content of morality can be learned from our experience, when that is
properly understood and processed. Moral realists believe that moral truth exists and can be
discovered, and that moral facts can be learned by understanding human nature, analyzing
human needs, and assessing the requirements of social life.

Other contemporary thinkers, in the postmodern school, argue that ethics is not
justifiable in any foundational way (Lyotard 1984). Instead, postmodernists argue, ethics is
created, like art or poetry. Criteria for judging moral arguments are based on rules internal to
the enterprise, like the stylistic norms that govern an artistic tradition. But those rules cannot
be derived from more fundamental principles. They do not and cannot have a deeper
justification. The words that human beings use to describe concepts like justice, well-being, or
tradition are just that—words—symbols to express ideas invented by people, just as Gothic
architecture and country music were invented by people (Johnson 1993).

A postmodern health reformer must still grapple with the problems of making moral
decisions. If there is no fundamental justification, then are all moral views and all courses of
action equally compelling? Richard Rorty (1989), a prominent American postmodernist,
argues that moral judgments are possible, even though they cannot be justified in a
foundational manner. We have no choice, he says, but to act on our own view of the good, and
to seek to persuade others to accept our perspective. For example, Rorty still seeks to promote
the movement for human rights, even though he cannot prove that this moral position is
correct by reference to a higher law or basic principle. Instead, Rorty (1993) urges a modern
version of the doctrine of pragmatism, argued by John Dewey (1929). Rorty proposes the
acceptance of moral views that work to make the world a better place, as best we know how.
Rorty’s personal choice is a form of egalitarian liberalism, and he seeks broader acceptance of
this moral perspective via poetic or prophetic means, since he recognizes that rational
argument alone will not suffice.

6. Developing an Ethical Position

We have presented these ethical theories as if they were mutually exclusive—as many
philosophers have done before us. But such a purist approach is not consistent with how many
health reformers see their task and do their work. To assist the process of health reform, we
believe that the various theories are better viewed as embodying complementary rather than
competitive insights. Taking this possibility seriously helps explain why many individuals find
it more appealing to take a mixed position, drawing on more than one of the ethical
perspectives we have presented above.

How can a serious reformer develop an ethical position that is appropriate for public
policy yet compatible with their personal values? One approach is to work both forward and
backward—that is, one can start with an appealing theory and explore its implications for
practice. One can also do the reverse: begin with intuitions about desirable practice and work
back to the theoretical stance that would support the policy position. When theoretical
presumptions and policy intuitions conflict, as they often do, the task then is to adjust either or
both. In this way, both specific intuitions and more general theoretical ideas can be
successively modified in pursuit of the internal consistency that philosophers call reflective
equilibrium (Rawls 1971).
 This iterative process can reveal the limits of a particular theoretical position. For
example, an individual committed to an objective utilitarian view of health maximization may
find that she would constrain the level of coercion employed to reach that goal. Perhaps those
constraints are rooted in the intuitive appeal to her of liberal ideas of mutual respect. After
some self reflection, and the consideration of various cases, she might reach a mixed position
that could be called “rights-constrained utilitarianism.”

Our attitude toward mixed ethical positions is based on our view of ethical theory more
generally. We are acutely aware of the simplified terms in which ethical issues are normally
discussed in public policy debates. The words used in most health sector reform debates—
words like rights or well-being or community or health itself—map imperfectly to the complex
texture of actual problems. Like pictures of the same landscape painted by painters with
sharply different styles, different ethical theories capture distinct perspectives on any one
scene, calling our attention to different features and patterns. Each rendition can contribute to a
fuller appreciation of the overall terrain, depending in part on the viewer’s willingness to
assimilate each perspective.

We do believe, however, that health reformers should seek consistency and coherence
in their own ethical views. That is, we should strive to do more than just picking and choosing
from various theories as whim moves us, in what could be styled “buffet ethics.” If that is all
we do, then ethical theory becomes window dressing, a fancy rationale for a previously chosen
position, without any analytical force.

Coherence and explicitness are important for several reasons. First, they make one’s
views more explainable, which is critical for public debate about the priorities within health-
reform proposals. Coherence and explicitness create the potential for agreement and
disagreement, allowing others to understand what is at stake and to modify or defend their
ethical positions more effectively than an ad hoc haze of disconnected arguments would allow.
And explicitness contributes to transparency and accountability. It is far more difficult for
reformers to be held accountable for the values behind their policy recommendations if they
cannot articulate those values clearly (Roberts and Reich 2002, Gutmann and Thompson
1996).

Advocates of a mixed ethical view, therefore, should be prepared to provide a coherent

rationale for their particular choices. Take our earlier example of someone who believes that
the pursuit of utility is to be limited by certain rights. This person should be able to explain
why the boundary between these two principles is drawn where it is, and defend to other
people why they should accept this particular mix of utilitarian goals and rights concerns.

It is also important to recognize that the development of an ethical stance for health
reform is an ongoing process and not a once-and-for-all activity. The complexity of health
system problems and the limits of ethical analysis categories help ensure that the process will
 continue. As reformers move around the cycle of health sector reform, as presented in Chapter
2, they should seek to learn and grow ethically as well as scientifically and politically.

7. Summary and Discussion

Each ethical theory we have considered in this chapter has its characteristic questions
which reflect unresolved issues:

• For utilitarians, how should well-being be measured?

• For liberals, which rights do people have?

• For communitarians, what are the boundaries and values of the good
community?

Each ethical theory provides important insights that can guide the decisions that must
be taken in health reform. Utilitarians focus on consequences—where people end up; liberals
focus on rights and opportunities—where people start; and communitarians focus on the kinds
of individuals and communities that we seek to create.

The four authors of this book take an ethical point of view that has certain egalitarian
commitments at its core. We believe that nations should make it a priority to improve the
opportunities available to the least well off among their citizens. This implies making a
concerted effort to improving the health, economic and social status of those individuals. This
commitment requires governments to insure both financial risk protection and effective access
to basic health care services for the most disadvantaged groups of their population. We also
believe, however, that achieving such goals has to be done in ways that take into account cost
effectiveness and efficiency concerns. With limited resources, no nation, especially a poor
nation, can afford to ignore the imperative of reaching its objectives at the lowest possible
cost.

We do not believe, however, that all reformers need share our point of view. On the
contrary, we have reviewed a variety of ethical theories exactly because we accept a degree of
pluralism in moral visions. Not everyone will or should view these issues in the same way. In
practice, local culture and politics will assure variation. And it is the responsibility of
reformers in each society to take such variations into account as they formulate their national
policies.

Indeed, everyone involved in health reform must decide for themselves what their
personal values are and how far they are willing to go to advance those values. This process
raises difficult questions when political institutions and power structures produce answers that
conflict with personal values. If the parliament, or the prime minister, or the minister of health
is promoting a policy you disagree with, how far can you legitimately go to discuss, protest, or
undermine such decisions? The answer may depend on the quality of the process that produced
the decision. The more accountable, open and democratic the process, the more worthy the
answer is of respect, even from dissenters (Applbaum 2000).

The answer may also depend on how important the issue seems to the reformer.
Disagreements that involve fundamental principles may seem worth taking further than those
that turn on narrow technical issues. Still, reformers cannot avoid the responsibility that comes
with their expertise and their authority. Political leaders often do not know what they want.
Legislatures can produce ambiguous or contradictory policies. The political process is a human
institution—one that must be understood and managed if health sector reform is to be
undertaken successfully.

Given the centrality of politics to health reform efforts, we now turn to understanding
those processes, and how they can be influenced. In subsequent chapters, we return to the
problems of setting reform priorities in a context where both ethics and politics play critical
roles.
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 Chapter 4
Political Analysis and Political Strategies

1. Introduction

Health sector reform, like all policy reform, is a profoundly political process. As we
stressed in Chapter 2, astute policy developers begin political analysis early in the policy
cycle; they do not delay political analysis until after the policy has been developed. Waiting to
assess the political implications of a policy can lead to proposals that are not likely to be
adopted. The technical work of policy development and the political work of feasibility
assessment need to occur at the same time. Political analysis and political strategies are
required at each stage in the policy cycle, and are not confined to the box of ‘political decision’
as shown in Figure 2.1.

Advocates of health reform in developing countries have not always recognized the
political challenges they confront or developed the political strategies they need. One example
of limited political analysis of major health reforms is the World Development Report of 1993
(World Bank 1993). This report provided seven chapters on what countries should do to
improve the efficiency of investments in health in poor countries, but only five paragraphs on
the process of health sector reform (Reich 1997). Furthermore, the report provided few
concrete or specific ideas about how to manage what it called the “continuous and complex
struggle” of health sector reform; it simply observed that “Broad reforms in the health sector
are possible when there is sufficient political will and when changes to the health sector are
designed and implemented by capable planners and managers” (World Bank 1993, 15). The
World Health Report of 2000, on the topic of health system performance, gave greater
attention to the role of politics, including a paragraph on the importance of mobilizing
stakeholders (WHO 2000, 134). But this report subsumed politics within the broader function
of “stewardship,” meaning government’s responsibility for social welfare and concern about
trust and legitimacy (p. 119). The WHO report gave very limited attention to political analysis
or political strategies, which we consider essential components of efforts to improve health
system performance.

How then should health reformers develop and implement political strategies in order
to improve the chances that their plan will be adopted and implemented? Our approach
emphasizes the importance of systematic and continuous political analysis. This chapter
proceeds as follows. We first examine how the agenda is set for public policy in general and
for health sector reform in particular. Next, we discuss how to manage this process of agenda-
setting, through the use of stakeholder analysis. This is a systematic way of analyzing the
relevant groups and individuals inside and outside government who might influence the
process of policy choice. We then present four basic political strategies for improving the
chances that a policy reform will be adopted, concluding with lessons from negotiation theory
about how to build a winning political coalition. Finally, we discuss some of the ethical
dimensions of political strategizing, including the personal decisions faced by health
reformers.

2. Agenda-Setting for Health Reform

What determines the health reform agenda in a given country? A naïve response might
be, “Public attention focuses on areas where the performance of the health care system is
unsatisfactory.” But the problems defined by policymakers as issues for public attention may
not be those aspects that experts identify as unsatisfactory or as high priority—a pattern we
discussed in Chapter 2. For example, in Ghana, the disease burden of cervical cancer greatly
exceeds that of breast cancer, but policy attention has focused more on breast cancer than on
cervical cancer because of various social and political processes (Reichenbach 1999). As this
example suggests, the “facts” do not simply speak for themselves in setting priorities for health
sector reform. More broadly, the issues selected for public policy attention do not necessarily
correspond to the choices one would make based on ethical analysis or an assessment of core
performance goals (as discussed in Chapters 3 and 5).

In practice, health sector problems get defined as public issues through larger social
and political processes (Reich 1995). Issues come and go in political life as a matter of public
attention, in what has been called the issue-attention cycle (Downs 1972). Let us consider
some of the important factors that determine public attention to issues in the agenda-setting
process.

The mass media play an important role in shaping this cycle of issues for public debate,
in both developed and developing countries. The media can transform private troubles into
public issues, create awareness among the public and political elites, and draw the boundaries
and symbols of public debate. The issue cycle is shaped in part by economic incentives.
Newspapers, magazines, radio, and television stations depend on revenues from circulation,
either from direct sales or advertising. Readers, listeners and viewers consume the news in part
as entertainment. As stories become worn out and boring over time, the media have an
incentive to find new, interesting topics to attract viewers and readers. The interest of the
media in specific issues can also be driven by their ownership or their relationship to specific
political parties, and can be limited by the state’s lack of tolerance for public criticism and its
respect for basic freedoms (such as freedom of the press).

The availability of proposed solutions also affects the definition of an issue. As we

noted in Chapter 2, the definition of a “problem” can be driven by the availability of a
“solution.” This is usually an active process, and depends on the existence of a committed
individual or organization working to promote the solution. For example, international
agencies have played a key role in focusing attention on specific solutions that fit with their
missions and in setting the policy agenda within countries (Reich 1995). In the 1970s and
1980s, for instance, UNICEF made major efforts to promote GOBI (Growth monitoring, Oral
rehydration, Breast-feeding, and Immunization) as its solution to high infant mortality rates
(UNICEF 1985). International agencies use various means to promote their policy solutions,
including powerful incentives for different stakeholders, in order to influence agenda-setting in
the broader political system—through loans and gifts, through conditionality, and through
diplomatic pressure. In these situations, international agencies become policy entrepreneurs—
actors who seek to promote a particular issue and a particular solution (Kingdon 1995).

Policy entrepreneurs exist within the national context as well. Consider, for example,
the efforts of a group of Japanese women parliamentarians who successfully focused
legislative action on child pornography (Strom 1999), or efforts by physicians in Eastern
Europe who are trying to define their own falling incomes as a problem for health reform
(Bossert and Wlodarczyk 2000). The ability of a group to focus political and social attention
on a particular aspect of the health system depends on many factors, as we discuss below,
including their own resources, features of the broader environment, and political timing. The
advocates of health reform, both at the national and international levels, often function as
policy entrepreneurs. In this role, they need to understand the policy cycle (presented in
Chapter 2) and how they can most effectively influence the policy agenda to support reform at
each stage in the cycle.

A crisis can provide an opportunity to place an issue on the policy agenda (Rochefort
and Cobb 1994). The crisis can be a natural disaster, such as an earthquake, which can
highlight problems in the health system that need attention, or it can be a human-caused
disaster, such as an economic crisis, which can focus attention on costly imported
pharmaceuticals, and provide the impetus for introducing an essential-drugs policy. In some
cases, policy entrepreneurs seek for years to introduce a particular policy reform, and achieve
success only when the right combination of crisis and political circumstances come together,
as occurred with pharmaceutical policy reform in Bangladesh in 1983 when a military dictator
took power (Reich 1994b).

Political cycles and timing also affect which issues get on a country’s policy agenda
(Heclo 1974). By focusing attention on specific issues, different groups and individuals fight
for political advantage, especially during elections, seeking recognition for their concerns on
the policy agenda. Once an issue has become salient, one policy suggestion tends to generate
alternative proposals, as competing groups claim ownership for the issue in ways that will
work to each group’s advantage. Once an issue is placed on the policy agenda, it tends to push
other issues off; a country is usually able to consider only a limited number of major social
problems for policy reform at a time. Policy entrepreneurs not only must make their definition
of the problem more attractive than alternative ones, but they have to make it more attractive
than competing issues. Political timing therefore is critical, since the window of opportunity
for policy change is often limited and subject to unanticipated events (Kingdon 1995). Policy
entrepreneurs need to develop an understanding of when the window of opportunity is open,
how long it is likely to remain open, and how to squeeze their policy changes through the
window quickly—before it slams shut again.

Changes in the policy agenda can also occur when new actors enter the political
system. A new minister of health, for example, commonly seeks to define a new policy agenda
shortly after entering office. Such proposals are often intended not only to solve social
problems, but also to create a political legacy for posterity and to demonstrate that the minister
deserves to stay in office and receive rewards when the term is over—while recognizing that
the time as minister is likely to be short, averaging six months to a year in many developing
countries. How the minister defines the policy agenda will be shaped by broader political
incentives and the perceived costs and benefits of specific policies, including the views held by
the head of state. This process of agenda-setting by a minister of health is illustrated by the
decision in Egypt to design a new policy for health insurance of school-aged children in 1983
(Nandakumar et al. 2000). In Colombia, the Minister of Health worked with Senators, and
developed alliances with key legislators, in order to assure passage of his law for health reform
(González-Rossetti and Ramírez 2000). This example shows how a policy entrepreneur needs
to consider the political circumstances of the specific policy arena, in developing a strategy for
agenda-setting.

Policy entrepreneurs also act on the basis of their beliefs about what would make the
system better—beliefs and values that are often shaped by personal experiences and by a sense
of moral leadership (Coles 2000). Advocates of better care for the mentally ill may have a
mentally ill family member, and therefore have personal experience with poor service and the
impacts on the family. A politician who has experienced a personal loss from a traffic accident
may respond by pushing for legislation requiring seat belts, to enhance safety. Ideology and
professional training can also influence the issues that a policy entrepreneur selects. For
example, public health professionals generally believe in the value of prevention, and these
beliefs influence their selection and definition of problems to address.

Sudden changes in government can provide an opportunity for health sector reform,
including, for example, when a military dictator comes to power in a coup. But even
authoritarian rulers must design political strategies for dealing with powerful interest groups
and opposition to new policies. In Bangladesh, the new military government in 1983 quickly
introduced and implemented a new pharmaceutical policy at the start of its term, but was
unable to push through a new health policy seven years later because of persistent opposition
from the physicians association (Reich 1994b). In Chile, the Pinochet regime overcame
substantial opposition to its health reform from medical and public health groups in 1979, but
the reforms still required 5-10 years for implementation because of resistance both inside and
outside the military government (Jimenez de la Jara and Bossert 1999).

The general culture of a society also influences the agenda-setting process, by making
some topics easy to raise in public and blocking other topics as taboo (Douglas and Wildavsky
1982). These values and beliefs tend to be specific to a particular country’s culture and
traditions (or to a community within the country), for a particular moment in time. For
example, in some countries, it is taboo to discuss higher infant mortality rates for female
children as a problem, or the existence of a free market for kidneys being sold to rich
foreigners. In this it is important to remember that cultural beliefs are not static but change
over time, so that topics once considered out of bounds for public debate can become defined
as problems and as public issues. For instance, female genital cutting was considered taboo for
public discussion in many countries, until after the International Conference on Population and
Development in Cairo in 1994, which opened the issue up for debate in Egypt and throughout
the world (Seif El Dawla 1999). This case shows how once-taboo topics can become public
issues for health reform debate, with wide-ranging political and cultural consequences.
Understanding the role of cultural values in the definition and selection of topics for public
consideration can help health reformers plan which problems to address and how, as we
discuss below.

Of course, agenda-setting processes can be unpredictable. A determined, skilled, and

powerful leader can make the unthinkable become thinkable. A crisis can focus attention and
alter political calculations about a problem, creating an unanticipated window of opportunity
for policy change. Political scientist John Kingdon (1995) has argued that the best chances for
successful policy change occur when three streams of events come together: 1) the objective
situation—the problem stream, 2) the availability of a possible solution—the policy stream,
and 3) the flow of political events—the political stream. When these three streams converge,
according to Kingdon’s theory of agenda-setting, some policy response is likely to result—
although the response may not resolve the problem.

Health reformers therefore require the capacity to assess and manage the flow of
political events (skills in which they are rarely trained) as well as the capacity to analyze the
objective situation and design possible solutions (skills in which they usually do receive
training). Health reformers need to understand how agendas for public policy are set, and how
they can modify the agenda-setting processes for health reform. In short, health reformers do
not have to accept the problem definition generated by the agenda-setting processes in their
country. Health reformers can use ethical theory (presented in Chapter 3) and the core
performance goals (described in Chapter 5) to define the problems they think should be
addressed. They then must use political processes to expand public acceptance of these
problem definitions, in order to shape the policy agenda.
 Health reformers thus must be centrally concerned with the political feasibility of a
given policy proposal. Can the policy proposal be adopted, and can it be implemented? But the
concept of feasibility is not a dichotomous, yes/no variable: feasibility involves probabilities
that can vary from zero to one. The likelihood of getting a policy adopted depends on the
situation, skill, and commitment of its advocates (and its opponents). What political resources
does each group have at their disposal and how much is each prepared to commit to this
particular battle? How clever and effective are they at such diverse tasks as assessing the
political consequences of technical proposals, making emotional public appeals, and
negotiating private deals with key political actors? Are they able to persuade individuals and
organizations to commit their limited political resources and capital for this particular reform
effort? Leadership here is critical. Talented political leaders, like talented generals, can win
battles and campaigns that would overwhelm those less able or less energetic (Heifetz 1994).
So, asking if a policy is feasible is, in part, asking a question about the advocates of reform,
especially their creativity, commitment, and skills—and about their opponents. Passing health
care reform often means overcoming or deflecting powerful interests that will vigorously
defend their positions.

Health reform advocates often organize a “change team” to manage the processes of
policy design and adoption (González-Rossetti and Bossert 2000). These teams are responsible
for working with diverse groups—both inside and outside of government—to manage the
complexities of promoting policy change. They must devise an acceptable definition of the
problem and a feasible proposal for the solution. The change team requires not only technical
capacity for policy design but also political capacity for policy mobilization of relevant groups
and individuals. The location of the change team varies, depending on the institutional set-up
and the location of the reform advocates. In a presidential system, the change team can be
located as an advisory group to the president’s office; the team can also be located as a
congressional commission to draft new legislation or an ad hoc committee to advise the
minister of health. As has been found with economic policy reform (Waterbury 1992), the
composition, location, incentives, and power of the change team can make a critical difference
in the chances for successful health sector reform.

An analysis of change teams in three Latin American cases of health reform (Chile,
Colombia, and Mexico) found several common traits: ideological cohesiveness, high technical
skills, work in isolation, and the use of policy networks (González-Rossetti and Bossert 2000,
50). The teams in these countries worked with several ministries and agencies, especially the
Ministry of Finance, the Ministry of Planning, the Office of the President, and sometimes the
military. While composed of technical people, who could formulate a new policy, they also
needed to engage in bureaucratic battle with government agencies, manage the pressures from
interest groups, navigate the legislative process of producing a new law, and initiate
implementation of the reform. The creation of a change team thus represented a significant
political strategy in itself in these three cases. But the teams also constructed additional
political strategies to address these challenges of the health reform process—and sometimes
 required support from the highest political levels to achieve change, as occurred in Colombia
and Chile.

Constructing health reform so that it is politically feasible thus requires political skills,
political analysis, and political strategies—rather than some vague notion of “political will,” as
was called for by the World Bank in its 1993 World Development Report. Players involved in
health reform make their own calculations of the likely political costs and benefits of reform,
and take positions and spend resources accordingly. Advocates of health reform need to
understand these calculations from each player’s perspective, and then construct strategies that
will influence these calculations and tip the probabilities in favor of reform. This process
requires the collection and analysis of political data, including subjective judgments about how
different players are likely to respond to different reform proposals. It therefore requires a
good understanding of the politics of health sector reform.

3. Politics of Health Sector Reform

We believe that four factors are of particular importance and can provide practical
guidance in efforts to manage the politics of health sector reform—especially how political
processes affect the origins of health reform as an issue, the content of reform policies, and the
implementation of adopted programs. The four factors are:

• Players: the set of individuals and groups who are involved in the
reform process, or who might enter the debate over the policy’s fate;

• Power: the relative power of each player in the political game (based on
the political resources available to each player);

• Position: the position taken by each player, including whether the player
supports or opposes the policy, and the intensity of commitment for or against the policy for
each player (i.e., the proportion of resources that the player is willing to expend on promoting
or resisting the policy);

• Perception: the public perception of the policy, including the definition

of the problem and the solution, and the material and symbolic consequences for particular
players.

These four factors—players, power, position, and perception—can be influenced

through the political strategies adopted by health reformers. A central purpose of this chapter
is to provide basic guidance on how to design effective political strategies.

Of course, the political feasibility of a proposed policy is affected by other factors

beyond these four. Changing the content of a policy can affect the distribution of political
 costs and benefits among players, and thereby alter the calculus of political feasibility. In
addition, the strategies adopted by key players can alter the behavior of other players: one
player can make decisions that alter the power and position of other players; sometimes those
decisions change the rules of the game itself. At the same time, some factors are difficult or
impossible for health reformers to modify or manipulate, including deep-rooted cultural
beliefs, the structure of political institutions, the incentives presented by international agencies,
and the occurrence of natural or economic disasters.

What would be an appropriate metaphor for policymaking and for thinking about
political feasibility? First, policymaking is not like a game of checkers, where all players are
equal, and can only move in predetermined ways. It is more like a game of chess, with
different moves for different players, and where pawns can become kings if they reach the
other side. But there is a major difference: in policymaking, the rules of the game are not
stable, and can change (imperceptibly sometimes and suddenly at others) as the game
proceeds. A policy’s feasibility can be determined by the rules and who controls them; and no
player is assured that the rules will continue unchanged.

In addition, the politics of health sector reform has certain systematic characteristics
that make it a difficult process—perhaps even more so than other kinds of policy reform.
These include:

• Technical complexity/difficulty: Fixing the health sector is not easy.

Many parts and pieces are interrelated, and many consequences (both intended and
unintended) occur. Designing a comprehensive health reform is a complex technical process,
as health reformers turn the five control knobs in various directions. Reformers often seek to
improve many parts of the system at the same time, making both the details and the overall
impact of the program difficult for nonexperts to grasp. These technical challenges create
political challenges through the impacts on players and the potential for public confusion.

• Concentrated costs on well-organized groups: Health sector reform

efforts commonly place concentrated new costs on well-mobilized, powerful groups, such as
physicians (often well-organized in a national medical association), or the pharmaceutical
industry (often well-organized in an industry association). This problem of concentrated costs
can create significant political obstacles to reform, if the high-power groups become mobilized
to oppose the reform in order to protect their interests.

• Dispersed benefits on non-organized groups: Health sector reform often

seeks to make new benefits available to previously disadvantaged groups; for example, the
poor, or rural residents. Such groups often are not well organized or politically well connected.
In addition, these changes may only result in modest benefits for each individual. Dispersed
benefits among low-power groups make it more difficult to mobilize significant political
support for reform.
 The combination of concentrated costs on well-organized groups and dispersed
benefits on non-organized groups constitutes what Mancur Olson (1965) called a collective
action dilemma. Overcoming the politics of this collective action dilemma is a major challenge
for health reformers. Together, the three characteristics of health sector reform described
above create considerable political challenges. However, they also allow common approaches
to the politics of health reform, especially in the conduct of stakeholder analysis and the design
of political strategies.

4. Political Analysis
A basic building block in designing political strategies for reform is to perform a
stakeholder analysis (Reich 1996). This consists of three stages. First, identify the relevant
groups and individuals. Second, assess their political resources and their roles in the political
structure, to determine their relative power for the policy question at hand. Third, evaluate
their current position on the proposed policy (including the intensity of their commitment) and
their underlying interests. This analysis can be presented visually, as shown in Figure 4.1 for
the case of health reform in the Dominican Republic (Glassman et al. 1999). Once the
stakeholder analysis is completed, with a clear understanding of the relevant groups and their
power and positions, a health reformer can proceed to the next stage—designing political
strategies to enhance the chances that the reform will be adopted. These analytical tasks of
conducting a stakeholder analysis and designing political strategies can be assisted by a
computer software program, PolicyMaker (Reich and Cooper 1996), which has been widely
used for training policy analysts how to think strategically about politics.

[INSERT FIGURE 4.1 HERE]

FIGURE 4.1: POSITION MAP FOR MAJOR PLAYERS IN HEALTH REFORM IN
THE DOMINICAN REPUBLIC HEALTH 1995

Obtaining reliable information for the stakeholder analysis—about the policy position
and power of different players—can be quite difficult. Sophisticated political players may
purposefully mislead others about their position, in order to gain advantages in the
negotiations over critical policy issues—and sometimes they play on both sides of the debate.
Similarly, stakeholders may have an interest in masking or exaggerating their power, to gain
added influence in negotiations. Even if you can assess a player’s power with some accuracy,
it can be difficult to know how much effort they will exert on a given issue. Public statements
may reveal the public positions of key players, but these positions may not represent the actual
positions that players ultimately take when pressed for a decision. The most important task for
analysts is to determine the core position and power of stakeholders—what they are not
 willing to give up, and the amount of resources they can mobilize to assure their goals are met.
Finding out this information requires multiple sources and careful judgment about specific
players—questions usefully considered by a team of analysts with differing perspectives.

Stakeholder analysis combines two distinct modes of analysis. One is interest group
analysis (Lindblom 1965). This consists of understanding those social groups that are seeking
to press the government in a particular direction, including private business and non-
governmental organizations. The second mode of analysis examines bureaucratic politics, and
is focused on the competition among agencies and individuals within government (Downs
1967). The stakeholders relevant to health sector reform include both kinds of players: those
outside government and those inside government. For health sector reform in developing
countries, one also needs to consider the activities of international agencies, such as the World
Bank, UNICEF or the World Health Organization.

Health sector reform typically involves the following kinds of interest groups:

• Producer groups: doctors, dentists, nurses, pharmacists, other health

sector employees and their unions, domestic and international pharmaceutical companies, and
equipment manufacturers;

• Consumer groups: disease-based organizations, local and regional

consumer groups, women’s organizations, unions representing insured workers, retirees, and
military groups;

• Economic groups: businesses with health insurance schemes, industries

affected by health policies (e.g., tobacco farmers, drug sellers), and workers who gain or lose
jobs;

• Ideological groups: political parties, reform organizations, single-issue

advocates (e.g., environmentalists, anti-abortion activists);

• Health development groups: multilateral development banks, bilateral

aid agencies, international health organizations, non-governmental development organizations.

This list of interest groups is illustrative. Health reformers need to adapt the list to the
specific political circumstances for the policy at hand, and focus attention on the most critical
groups and individuals. Deciding on the list of interest group players for analysis requires
judgment about the groups most likely to be mobilized or those that could be mobilized to
affect the balance of power in the policy debate.

Similarly, when examining bureaucratic groups, a political analyst must decide which
actors to consider and where to draw the lines. Is the ministry of health a single player, or are
 different parts, such as the minister and his immediate staff, best thought of as separate
groups? There is no one correct answer to such questions. Carrying out a good political
analysis is an art as well as a science. The goal is to identify the important players who can act
independently and can control significant political resources. But considering too many
separate players makes the analysis unwieldy and frustrating.

In addition to the ministry of health (MOH), the following government actors often
play important roles in health sector reform debates and decisions:

• Ministry of Finance: especially if the reform involves changes in the

financing of health services or changes in the MOH’s budget;

• Social Security Institute: particularly if the reform proposal involves

changes in the provision of health care and a reorganization of government health facilities;

• Economic and/or Planning Ministries: very likely if the reform proposal

involves calculations about overall economic growth or decisions about debt forgiveness;

• Local and/or Regional Governments: expected if the reform proposal

involves decentralization;

• Ministry of Education: for school health policies or for policies that

affect medical schools;

• Ministry of Agriculture, Trade, and Industry: for policies on alcohol,

tobacco, pharmaceuticals, or medical equipment.

In compiling the list of stakeholders, the analyst needs to consider the implications of
the proposed policy for each player: Who cares about the policy? Who is likely to act—or
could be convinced to act? Who has the potential to influence the outcome? Who is likely to
be affected by the reform’s consequences, in positive and negative ways?

The analyst also must consider critical political actors: individuals or groups who have
special power over the policy in question. In some cases, a powerful individual may have veto
power over the adoption of a policy reform; in many cases, a particular group can determine
whether a policy is implemented at all. Leaders deserve particular attention. The prime
minister or president, specific senators or governors, heads of important parliamentary factions
and political parties: all may well matter. Media outlets also should be examined, especially
those organizations strongly identified with particular points of view, parties, or factions. The
editors or managers of media organizations often have their own political agendas, and these
actors need to be considered in the political analysis of health sector reform.
4.1. Sources of Power and Influence

Once you have identified a list of players (the groups and individuals who are relevant
to the policy proposal), the next step is to estimate the power and influence of each player.
This requires an assessment of the following for each player:

• The player’s political resources and place in the political system, which
determine the potential capacity to influence policy decisions;

• The player’s interests, position, and commitment, which will influence

how the player’s resources—and how much of those resources—will be used in the policy
debate.

[INSERT TABLE 4.1 HERE]

TABLE 4.1: SOURCES OF POLITICAL POWER

Political resources come in two forms: tangible and intangible (see Table 4.1).
Tangible resources include money, organization, people, votes, equipment and offices, all of
which affect a group’s ability to influence the policy process. Money can provide political
contributions and purchase other resources such as expertise, media access, and organizational
support. People can distribute literature, participate in rallies and demonstrations, and help
with lobbying government officials on particular policy issues. Votes can matter, depending on
whether a decision is to be made through an electoral process, in a legislature or committee or
a popular election. The underlying level of organization also affects a group’s influence.
Groups with existing infrastructure (offices, staff, electricity, telephone services, fax machines,
and computers) have a substantial advantage in the policy process. These groups have already
paid the transaction costs of organizing themselves and can utilize that investment to influence
the issue at hand. A new group, on the other hand, first has to pay the costs of becoming
organized: it has to recruit members, arrange a staff, develop materials, and construct systems.
These costs reinforce the anti-change bias and inertia of political systems, because new groups
(which could arise with a new policy) are not yet organized to express and defend their
interests.

The second set of political resources is intangible. These resources include information
on the policy and the problem, as well as relevant substantive expertise, which allow the group
to develop a position. Two important intangible resources are the group’s visibility and
legitimacy. Groups whose members have access to key decision makers, whether from
personal contacts or past favors, do better than those without connections to powerholders.
Health reformers also require the political skills to manage the lobbying process. Knowing
where to go, to whom to talk, and how to get the press interested—all enhance a group’s
policy impact.

This analysis of political resources helps explain why particular groups play the roles
they do in shaping health sector reform. Physicians tend to be influential because they are
usually well organized, wealthy, skillful, expert, and seen as legitimate by other players;
moreover, every top decision maker has a personal physician. Consequently, the medical
association is often well positioned to place its issues on the political agenda for consideration
and to influence policies in the health sector, especially on matters that directly affect their
interests, such as provider payment (Marmor and Thomas 1972). International pharmaceutical
companies often have significant influence because of their financial resources and political
connections, but they also tend to have limited grassroots organization and limited social
legitimacy, which can constrain their power on particular issues. Groups that are not well
organized (such as the rural poor) confront major obstacles before they can begin to defend
their interests in an effective way. In short, political power and political resources are not
equally distributed in society—and that distribution affects the politics of health reform. The
result is often some form of the collective action dilemma mentioned above, which leads to
fundamental political obstacles to reform.

The value of different kinds of political resources depends partly on the nature of the
political system. The degree of democracy in a country, as expressed in freedom of speech and
freedom of association, can constrain group activities in fundamental ways. These factors
shape the distribution of power in society and the kinds of participation that occur in the policy
process. In many developing countries, interest groups are not well organized, and policy elites
in government dominate the processes for decision-making, because of structural and
ideological reasons (Grindle and Thomas 1991). Still, for health policy, the physicians
association, trade unions, and the pharmaceutical manufacturers association often exert
significant influence on policies that affect their interests. Moreover, the role of non-
governmental organizations in policy debates is growing both within developing countries and
at international levels, for all kinds of economic and social policy reforms (Matthews 1997).
For these reasons, it is important to consider how the existing health system distributes both
economic and political benefits to certain interest groups, and restricts benefits to other groups
(Reich 1994a).

As part of their political analysis of the policy debate, health reformers are well advised
to conduct an inventory of political resources held by different players. Differentiating tangible
from intangible resources is useful because players build their strategies based on their
resources. This means that players weak in material resources (for example, with limited
money and equipment) will often rely on political strategies that depend on intangible
resources (for example, protest actions or challenges to legitimacy). You should know your
own political resources, and build your strategies accordingly. Even if you lack material
resources, you can still design political strategies that may give you substantial leverage in a
policy debate, by wisely using symbols that connect to broad social values. On the other hand,
powerful political actors can use symbolic strategies to prevent the serious consideration of a
new policy issue, by linking their position on a policy to deeply held cultural worldviews in
ways that control the policy agenda (Cobb and Ross 1997).

Elements of political structure also influence the leverage of different social groups.
For example, in some developed country political systems, media-based electoral and policy
campaigns are essential, which increases the influence of those with money, as money is vital
for television advertising in public debates. In countries without competitive elections, or
where the state controls radio and television broadcasting, money is less important for
purchasing air time to promote a particular policy position. However, in a corrupt political
system, money often is important for purchasing access to decision makers or for purchasing a
specific policy decision. In parliamentary systems, proportional representation can force
political leaders to give more attention to minorities than occurs in legislatures with winner-
take-all single member constituencies. On the other hand, single-member constituency systems
give an advantage to geographically concentrated groups that might control swing seats. But
those systems also create obstacles to the influence of dispersed groups of committed believers
(who have more impact under proportional representation).

A group’s role in the existing pattern of political competition can affect the group’s
influence. An important distinction is between swing and base groups. A swing group is one
that might vote for either party in an election, or a legislative bloc that might be for or against
the government. A base group, in contrast, is a firm member of a party’s core support.

For many interest groups, the strategic question is how to convince the ruling coalition
to pay attention to the group’s views. In some cases, an interest group may seek to keep its
loyalty uncertain, in order to induce competing parties to bid for the group’s support. For
example, powerful health care interests may decide to contribute heavily to both political
parties. Political leaders, on the other hand, seek to expand their political support by relying on
the loyal support of their base groups, while trying to attract the conditional loyalty of swing
groups. Reaching out too far to attract support from a swing group, however, can threaten the
ongoing support of a base group, and persuade a politician to pull back. One example is the
efforts of Prime Minister Atal Behari Vajpayee of India, in March 2002, to placate Hindu
nationalists who are the base of his Bharatiya Janata Party over the issue of building a Hindu
temple on the site of a former mosque in Ayodhya, while simultaneously trying to appeal to
swing groups that include secular allies for his government and Muslim voters (Duggin 2002).

Interest groups thus use their role in the political system as a resource for seeking
concessions from politicians in either the ruling coalition or the opposition at particular times.
During elections, groups may be able to obtain concessions or promises on policies that may
be difficult to elicit under normal circumstances. Elections can therefore provide opportunities
for relatively powerless groups to expand their influence on health policy issues, such as the
distribution of health facilities or access to health services. Furthermore, an ongoing political
struggle within a country, or an economic crisis, can change the distribution of power and
 present opportunities for interest groups and bureaucratic actors to shape policy decisions in
the health sector.

4.2 Position and Commitment

Knowing a group’s political resources does not enable one to predict whether or how
those resources will be used. Stakeholder analysis therefore needs to assess how each group
views the policy issue, and what its position is.

A first step is to assess the group’s interests. These may not be clear, even to the group
itself, nor does a group necessarily pursue its own interests. But in many cases, interests do
shape policy positions. For example, knowing that physicians’ incomes will decrease under a
proposed payment plan strongly suggests that the medical association is likely to oppose the
plan. Anticipated economic consequences of a policy often determine political positions on
that policy.

It is also important to examine the positions that the players have taken publicly. Do
the positions correspond with their interests as you understand them? If not, how can the
discrepancy be explained? Is it because some groups are confused, because they are
proceeding tactically, or because they know something that you do not? Differences can also
arise between public positions and private positions, between what a group says it will do and
what a group will actually do. In some cases, political ideology is a good predictor of a
player’s position on health sector reform. For example, the Pinochet regime in Chile adopted
major changes in health policy that were consistent with its market-oriented approach to public
policy (Jimenez de la Jara and Bossert 1995). In other cases, ideology may not be a good
predictor of position, since political action often involves both interests and willingness to
bargain and compromise as well as values. For example, in Costa Rica the trade unions and the
communists were willing to support some efforts to privatize social security, in order to
introduce competition and make the bureaucracy more interested in efficiency and quality.
[cite]

As part of this analysis, we also need to describe the intensity of each group’s current
position on an issue. How much of their available resources is the group willing to use to
promote its position? For example, how much time is the group’s leader spending on the
issue? Is the group expending a significant portion of its financial resources on the issue? Is
this an issue that the group is totally committed to fight for, as part of its mission, or is the
commitment tepid, less resource intensive, more of “just going through the motions”?

Developing effective political strategies requires an understanding of why the key

groups are taking their positions. Here are two hypothetical examples. First, suppose the
ministry of finance is opposing an increase in the tobacco tax that is intended to support rural
health care. Is that a result of a general bureaucratic reflex, or because the minister has a
different, specific use for the money in mind? If the latter, then how important is that
alternative to the minister? A minister acting out of a general desire to protect his turf poses a
different political problem than someone strongly committed to an alternative program. In a
second example, suppose the medical association is vigorously opposing the new fee schedule
in the national health insurance plan. Is that because most of its members genuinely understand
and oppose the new system, or is a small group of high-income specialists driving that
position? If the latter, then the association’s leaders might be willing to make a symbolic
protest to satisfy an internal constituency, and they might accept a deal if most association
members could be protected from adverse effects. On the other hand, if the association’s
president is driving the opposition to the policy, it may be difficult to change the official
position as long as that individual remains in charge, or unless the individual has a specific
request that can be met.

The intensity of group mobilization thus depends in part on how the policy is expected
to affect the group’s interests and how those likely consequences are perceived. Decisions that
are widely perceived as affecting members of a well-organized group (especially those with a
small number of highly committed members) often result in high mobilization. For example, a
government policy to restrict imports of high-cost medicines through an essential-drugs policy
would probably result in strong opposition from multinational pharmaceutical companies and
their industry association. On the other hand, decisions that are perceived as having marginal
impacts on the members of poorly organized groups may not result in much mobilization. For
example, a policy to increase user fees for patients at rural clinics may not result in protests by
patients from rural areas.

The positions of the major political parties can be critical to health sector reform.
Because parties are coalitions, bargaining is a core part of the process of developing programs
and positions. If a party has already embraced health sector reform as a priority issue for its
agenda, then much of the work for reform advocates has already been accomplished. Using
parties to help manage the political issue of health reform is always an option to be considered
in the development of political strategies, the topic that we discuss next.

5. Political Strategies for Reform

How can a health reformer develop political strategies that will help forge a winning
coalition? We noted above that the political feasibility of health sector reform (and policy
reform more generally) is shaped by the position of the players, the power of each player, the
number of players mobilized, and the perception of the problem and the solution. Reform
advocates need political strategies to manage each of these factors, in order to increase the
probability that their reform plan will be adopted and implemented. Below we consider four
sets of political strategies for reform.
 5.1. Position Strategies: Bargain to Change the Position of Players

The first set of political strategies involves bargaining within the existing distribution
of power, to change the position of players. This can involve deals, promises, trades, and
threats.

One bargaining approach is to offer to change a specific element of the policy’s

substance as an incentive to move specific actors more in favor, to switch sides, or to be less
opposed. Perhaps the minister of finance will agree not to oppose the proposal for higher
cigarette taxes for rural health care, if only part of the revenue is used for health care and the
rest is left for other government purposes (possibly including the minister’s personal projects).
Or, in another example, suppose that a country proposes changing from per-day to per-
admission payments for hospitals. Perhaps the owners of private hospitals will not oppose the
new payment system if, for the first three years, there is a hold-harmless rule that guarantees
that no institution will lose revenue for that time period.

A second kind of bargaining is inter-issue exchanges, in which an opponent agrees to

cooperate on one issue in return for some concession on a different issue. Such “logrolling” is
normal in many political contexts. If the medical association accepts the new fee schedule,
perhaps the ministry will agree to accept new limits on the number of doctors who can practice
in crowded (i.e., desirable) areas. Or suppose that provincial governments ask the central
government to take on responsibility for financially troubled provincial hospitals—in return,
they might offer to accept a different formula for dividing the national tax revenue so that
more goes to the central government. While the trades in these examples are on related issues,
that does not have to be the case: maybe the unions will accept an increase in payroll taxes to
support the health insurance scheme, if the government promises some other efforts to increase
overall employment.

Bargains can involve threats as well as promises: doctors may threaten a strike if their
salaries are not raised; consumers can threaten demonstrations if their health benefits are
reduced; pharmaceutical companies can threaten to close their plants if the country implements
a price-control scheme. Sometimes, the threat is to stop cooperating. For instance, small
business owners might say they will refuse to report earnings and will stop paying taxes on
those earnings for the new health insurance scheme, unless their overall contribution ceiling is
lowered.

Constructing an effective bargain to change the positions of key players requires

intelligence, skill, and trial-and-error experimentation. Skills in negotiation and conflict
resolution are particularly important for these strategies. Finding out what it takes to change a
player’s position may require an actual offer or threat. The bargain could involve modifying
 the policy’s content; in that case, the health reformer should determine how the change
influences the policy’s expected effectiveness. A compromise that produces a supportive
coalition but undermines the reform’s overall goals could create a reform that is politically
feasible but technically ineffective or even counterproductive. For someone who cares about
consequences (such as our core performance goals), that kind of compromise would not be a
good deal.

5.2. Power Strategies: Distribute Power Resources to Strengthen Friends

and Weaken Enemies

The second set of political strategies is designed to change the distribution of power
among key players. Since a group’s impact on the policy process depends partly on its
resources, reform advocates can adopt strategies to enhance the tangible and intangible
political resources of supporters and decrease those resources of opponents. Here are some
examples:

• Give or lend money, staff, or facilities to groups that support the reform;

• Provide information and education to supporters in order to increase

their expertise;

• Give allies expanded access to lobby key decision makers;

• Provide allies with media time and attention in order to enhance their
legitimacy; focus attention on their expertise, impartiality, national loyalty, and other positive
social values.

A tough political strategist can also do the same—in reverse—to opponents:

• Decrease opponents’ resources by inducing people not to contribute and

not to work for them; do this by attacking the group’s legitimacy, honesty, or motives;

• Refuse to cooperate with opponents, for example, by not providing

information; keep them uninformed and out of the loop;

• Reduce opponents’ access to key decision makers;

• Urge the media not to cover opponents; characterize them as inexpert,

self-serving, disloyal, etc.
 These power strategies may not be effective, or ethical, in all cases. The list above
illustrates some examples of the kinds of power-oriented moves that a strategist might
consider, rather than an inclusive list of what should always be done. Deciding on which
power strategies to select requires an assessment of the players involved in health reform (both
for and against), the kinds of power resources available to health reform advocates, and
judgments about the likely impact of different power strategies on specific players.

5.3. Player Strategies: Change the Number of Players, by Creating New

Friends and Discouraging Foes

Reform advocates can also consider political strategies that try to change the set of
friends and foes. These strategies seek to mobilize players who are not yet organized and
demobilize players who are already organized. It means changing the balance of mobilized
players, by recruiting political actors to the health reform cause, and away from the side of the
opponents. The number and balance of political actors engaged in a policy debate represents a
key factor of political feasibility (Schattschneider 1960).

Mobilizing groups requires convincing people that they should pay the non-trivial costs
of getting involved in an issue they have so far ignored, or the substantial costs of organizing a
new group. Sometimes, mobilizing a previously uninvolved group may simply require
bringing the issue to the group’s attention—once the group knows what is going on, it may
decide to take a position. If the nation’s medical students have not begun to protest a proposed
tuition increase, it may be because they have not yet heard of the proposal. Informing the
student group (or its leaders) about the proposal and its consequences may be sufficient to
mobilize students as a support group. However, competing factions within a group may have
different views on the group’s interests and values, and on the policy’s consequences, and
therefore may take different positions on the policy, making it difficult to mobilize the group.

Mobilizing the unorganized is more complicated, because it often requires substantial

resources (time and money) to create an organization that can then join the policy debate. For
instance, workers may be concerned about the consequences of a new competitive private
health insurance scheme, but if they are not already organized as a union it may be difficult for
them to develop a collective view of the proposed policy (and its potential impacts on
premiums and co-payments) and difficult for them to take action as a group to protect their
interests.

Nor is demobilizing a group that has taken a public position easy, for reasons of face
and interests. In some cases, a group may shift its position, after a discussion of its key
interests in which there may be a chance to explain to the group that its stake in the issue is
different from what they thought it was, and that other issues should be of more concern to
them.
 Health reformers should also consider the potential to mobilize or discourage political
leaders. For political leaders, the argument is often a mixture of self-interest and public-
interest considerations. Show them how supporting you (or opposing you) will work to their
political advantage (or disadvantage), and why this is a good (or a bad) issue for them to get
involved in.

Merit-based arguments about the public interest can sometimes be as powerful as

arguments based on political interests. Here is a generic example: “Senator, I know your
constituents want you to do this, but they are being short-sighted. This policy will adversely
affect the nation in the following ways....... So, perhaps you need to make a speech or two
against this subject for the sake of the people in your district, but at the same time you don’t
need to actively work against us on this policy.”

On the negative side, it is important to consider how to divide or undermine coalitions

that are opposing you. Suppose that the medical association has decided to oppose a new
insurance scheme because it will seek to constrain reimbursement for high-cost procedures,
which would negatively affect the income of some physicians. It may be possible to convince
doctors who provide primary care to switch sides and support the plan, and thereby divide the
medical association, if primary care doctors can be persuaded to see their interests in a
different light.

A final way to change the number and balance of mobilized players is to change the
arena of decision-making. Moving the policy decision from the executive branch to the
legislature, for example, can allow advocates to mobilize new groups of politicians, or to
bypass certain political obstacles to reform. This occurred in Colombia, as mentioned above,
when the Minister of Health was unable to place health reform on the agenda in the executive
branch, because the President’s priority was pension reform. So he moved the debate to the
legislature, which made health reform a condition for action on pension reform (González-
Rossetti and Ramírez 2000). Shifting the policy arena, however, can also have unanticipated
consequences. For example, when 40 pharmaceutical companies challenged a South African
medicines law in court, seeking to protect their patent rights for AIDS medicines, activists
mobilized non-governmental groups around the world in opposition to the court case and to
U.S. government efforts to change the law (Bond 1999). The companies eventually retracted
the case, and the U.S. government changed its position on the policy. In this instance, the
companies miscalculated not in terms of legal argument but in terms of how political
mobilization and public opinion would prevent them from resolving the issue in a purely legal
arena.

Political strategies can thus be used to alter the number of mobilized players and
thereby influence the political feasibility of health reform. New players can enter the policy
debate and take controlling positions, and current players can leave, change their positions,
become inactive, or wait on the sidelines. Advocates of health sector reform need to consider
of these possibilities, and select strategies that change the balance of mobilized players in
directions favorable to their agenda.

5.4. Perception Strategies: Change the Perception of the Problem and the
Solution

So far, we have discussed political strategy with a focus on stakeholders: the players,
their power, and their positions. In many contexts, this approach may be the most useful and
pragmatic. For example, in a one-party political system, most of the relevant political
competition will be among well-organized interest groups and established bureaucratic actors,
occurring within limited processes of consultation. In such situations, direct appeals to the
public may not produce much influence on political decision makers. But in other political
systems, particularly those that are open and competitive, a public appeal through the media
and to specific targeted groups can change the general perception of an issue. This approach
can be an effective political strategy for influencing bureaucratic and political leaders, as well
as mass audiences. Even in relatively closed political systems, reframing an issue can change
the positions and power of key players and thereby affect the political feasibility of reform.

Political strategies directed at perceptions seek to change how people think and talk
about a policy problem, how the issue is defined and framed, and which values are at stake
(Majone 1989). The perception of an issue is also affected by how it is connected (or not) to
important national symbols or values: Is this reform going to advance the nation’s identity in
some fundamental way? This connection can influence the priority given to the issue on the
country’s policy agenda.

Perception strategies relate to how the human mind works. Human beings often have
trouble grasping complicated situations and seek ways to make sense of a confusing reality
(Simon 1957). This is especially true in situations where reality is complex, outcomes are
uncertain, and conflicting goals are involved—all of which apply to health sector reform. In
such cases, health reformers need to manage public perceptions, because these change how
problems are defined and which solutions are deemed acceptable. At the center of the political
debate is a contest over the meaning of images and words, the symbols for policy reform
(Edelman 1977). How is the problem characterized, how are the choices described, and how is
the issue framed?

Consider the following example. A country is proposing to introduce private health

insurance, which would allow citizens to take their contributions out of the monopoly national
insurance scheme. Opponents characterize this proposal as “privatization,” a disastrous decline
in national solidarity and a loss of protection, since coverage under the new insurance scheme
would be decreased for the first time in a generation. On the other side, supporters characterize
the change as an increase in choice for individual subscribers and a challenge to the ineffective
state bureaucracy. Depending on which problem definition becomes widely accepted, the
public and key players will view the reform effort in starkly different terms. In short,
reframing an issue can change political circumstances in important ways, with significant
consequences for the mobilized players, their power, and their positions, and for the feasibility
of reform.

How does one alter public perception of an issue? There are various possibilities. One
can argue facts and values, reframe the issue, or seek to define key symbols associated with the
issue. An advocate could, for example, argue that an opponent’s problem definition is based on
poor data, that the problem is unimportant compared to other national priorities, that the
problem is not fixable at a feasible cost, or that the problem should be a matter of private not
public responsibility. Identifying some citizens as undeserving victims of greedy social forces
can also be an effective way of reframing the public debate and altering the political balance.
Another technique is to invoke important national symbols (such as a respected political figure
or a popular singer), in order to connect the proposed policy to broadly accepted social values.
Political mobilization is about emotion as well as data, and values can be used to oppose as
well as promote health sector reform.

Strategies based on eliciting core social values can also be used, as illustrated by the
debate over the Clinton health reform in the United States in the early 1990s. Opponents to the
Clinton reform developed a series of television commercials around Harry and Louise, a
fictional middle-class married couple, who presented the Clinton plan as threatening their
lives. Sponsored by the health insurance industry, these commercials raised deep fears that the
Clinton plan would limit the freedom of choice for existing health insurance and would
produce a “government-run” health system (Johnson and Broder 1996, 16). This campaign
connected to deeply felt social values in the American middle-class, including anti-government
sentiments, and fears of an eroding standard of living.

In contrast, the proponents of the Clinton health reform failed in the arena of public
perceptions. The reform proposal was so complicated that it defied simple explanation (Starr
1995). For instance, the proposal included new institutions for managed competition that were
first called “health insurance purchasing cooperatives” or HIPCs—an idea that few people
could understand, pronounce, or remember. They were renamed “health alliances,” which
sounded more friendly but still remained obscure to most people. Overall, reform proponents
failed to find effective symbols, to explain how the plan would work, what the policy would
accomplish, or how it would promote core social values. As one key technocrat later reflected,
“Many people couldn’t understand what we were proposing. There were too many parts, too
many new ideas, even for many policy experts to keep straight” (Starr 1995, 25).

Health reformers, trained in technical skills, are often uneasy about designing political
strategies for shaping public perceptions, and are often not prepared to implement them. But
these perception strategies are an essential part of the overall political strategies for promoting
health sector reform. And if the supporters of reform neglect the domain of perception
strategies, they are likely to face those strategies wielded by their opponents.

6. Negotiation and Political Strategies

Many political strategies involve a process of negotiation. In recent years, systematic

research on such processes has identified methods for conducting negotiations successfully.
Here we briefly review those lessons about negotiation that are relevant to health sector
reform.

The first point is that negotiations are often successful when the issue is constructed in
win-win terms rather than win-lose terms. A key challenge in negotiation is to seek value-
creating solutions, such that enough participants are willing to support the deal, producing
win-win outcomes (Fisher and Ury 1981, 73). The contrasting approach of “I win, you lose”
represents a value-dividing negotiation, which sharpens differences and makes agreement
more difficult. In our discussion of bargaining strategies above, we gave several examples of
arrangements in which advocates improved the status quo and potential opponents also gained.
For example, if the reform plan created new revenue sources, then potential gains could be
divided to enhance the potential of a win-win situation. In Egypt, a new government health
insurance plan for school children was financed largely by a new tax on cigarettes, which
made the proposal acceptable to key politicians in parliament who were concerned about the
equity impacts of premium payments on poor rural families with many children (Nandakumar
et al. 2000). Of course, finding new revenue sources is not always possible, and a winning
coalition does not have to include everyone. On the other hand, formulating the issue in win-
lose terms can push potential supporters into a position of active opposition.

A second lesson about negotiation, in looking for a win-win agreement, is to respond

to the real interests of other parties, not to the positions they happen to take (Fisher and Ury
1981, 41). After all, a position may well be a stance designed to produce advantage in the
negotiations. The hospitals in a country may say they will never accept budget responsibility,
but their opposition to this idea may depend on their lack of authority to manage their own
costs—for example, with regard to hiring and firing. If a negotiator knows that the
combination of expanded autonomy and budget responsibility would be in the interests of
hospitals, then offering the hospitals that deal may bring them into the support coalition.

A third lesson is that some value-dividing conflicts may be inevitable. For example, no
matter how one reframes the issue, physicians may want to be paid more, while the ministry of
health wants to pay them less (because of pressure from the ministry of finance). In such
situations, one approach is to substitute specific substantive confrontation with principle-based
negotiation, in which parties try to agree in advance to a set of principles that they will use to
settle disagreements before they deal with the problems in detail (Fisher and Ury 1981, 84).
For example, they might agree on how much of the national budget should go for health or
what the payroll tax ought to be, and then decide on what fraction should go toward salaries,
before they talk about specific items in the fee schedule. This approach can soften the sharp
edge of confrontation and opposition in a constructive manner, since once an agreement on
general principles has been reached, some of the details may follow accordingly.

A fourth guiding principle is for negotiators to cast the emotional tone and energy in a
positive instead of a negative direction—or at least seek to establish a neutral and professional
environment. Negotiation is a human process, filled with emotion as well as logic. Negotiators,
therefore, need to manage the emotional dimensions as well as the logical content, for success
(Fisher and Ury 1981, 19).

The tone of negotiations is important because reform rarely is a one-time event.

Instead, reform usually is an ongoing process, a series of connected conversations, as policies
are designed, adopted, implemented and modified over time. Moves in one round of
bargaining have consequences for subsequent rounds, and can be understood as plays in a long
series of games. In this series of negotiations, successful agreements make possible future
successful agreements, and the converse is also true. A critical dimension is trust among the
players. For example, different industries in different countries show large variations in the
climate of labor relations. Some employers and unions are always in conflict with each other,
while others resolve problems in a cooperative manner: through repeated negotiations, they
have become engaged in mutually reinforcing cycles of trust or distrust over time. The same
can happen between nations. When political commentators discuss momentum in the Middle
East peace process, they are talking about rising or falling relationships of trust. Similarly,
health sector reformers need to consider the role of trust in making it easier or harder to
achieve their goals.

Conducting negotiations also requires an understanding of yourself and others. You

cannot make proposals focused on other person’s interests, unless you know what those
interests are; you cannot know what deals you can offer without undermining your own core
goals, unless you first understand your own objectives; you cannot identify which groups
might constitute a winning coalition, unless you have made a systematic analysis of all
possible supporters and opponents, and their positions and power. You need to understand that
initial offers on both sides often represent maximal positions. And you should clearly define
your own bottom line, the Best Alternative To A Negotiated Agreement (BATNA) (Fisher and
Ury 1981, 104). The better off any player is without an agreement (the higher their BATNA),
the less they need the agreement—and the more they can insist on their interests. Knowing
your BATNA—and those of the other parties—is thus essential in knowing how hard to push
for your view, and hence risk ending the negotiations altogether.is

The analysis for negotiation requires a serious investment of time and energy. As we
said above, health sector reform is a profoundly political process. The choice is not whether to
negotiate, but rather how to conduct the negotiations. The better prepared a health reformer is
to negotiate in terms of intelligence, skills, and stamina, the greater the chances of success in
the policy process.

7. Political Strategies and Ethics

We believe that the politics of health reform should not be approached solely as an
instrumental or Machiavellian problem. Health reformers need to consider the ethical
dimensions of their political strategies, as well as how to get the policies they want. Values
shape the substantive content of health reform, as we have emphasized in prior chapters. But
values also shape the processes for promoting the adoption of the health reform plan. How
then can a health reformer assess the ethics of the political process for reform?

This chapter’s discussion has so far been based on the premise that health reformers
can be, and should be, and almost inevitably will be, active participants in the political process
that society uses to decide on government policy. This premise implies that the classic public
administration view of the role of government officials—that politicians make policy and
bureaucrats implement policy—does not capture the choices that officials must make in
deciding how to conduct themselves.

More realistically, we recognize that reformers will have various kinds of goals, and
that these goals will not always coincide. People almost always have personal goals for career
advancement, financial security, power, and influence. They also generally have broad goals
for making society a better place. The ethical perspectives we discussed in Chapter 3 reflect
these concerns. Between these, people are likely to have goals related to intermediate
organizations and groups—as a result of loyalty to a political party, their colleagues in the
ministry, and to a professional group, for example.

The easy decisions are when the goals all line up. If the nation, the ministry, the
medical profession, and a reformer personally will all benefit from a policy, then it is easy to
pursue reform aggressively. But what happens when the goals do not line up? Suppose health
reform will help the country, but could destroy a reformer’s career (or family) if the reformer
is committed to fully supporting it? Or suppose the reformer believes that the nation would be
better off if many of the functions of the reformer’s current agency were privatized or taken
over by others? This could be a serious blow not only to the individual reformer, but also to
many friends and colleagues.

Moreover, once a reform plan is formulated and a set of political strategies designed,
advocates might well want to consider the costs and benefits of committing themselves to the
necessary efforts. This involves asking, “How likely is it that the effort will succeed? And are
the gains of achieving this reform worth the costs in time, effort, money, emotion, loyalty, and
conflict that such an effort would entail?” Making these decisions involves difficult soul-
searching, just as evaluating the costs and benefits is fraught with uncertainties and
intangibles. To be effective, health reformers, like other leaders who seek to produce policy
change, need the capacity to be both introspective and outward-reaching, to connect their
personal challenges with broader social transformation (Heifetz 1994).

Another aspect of the ethics of reform processes derives from our own ethical views
about the importance of fostering transparency and public deliberation as obligations for
technical experts (Landy et al. 1990). Within the political process, the critical role for public
deliberation derives from our belief that there are no easy answers in health reform. The
various available analytical and political paradigms typically provide only a limited
perspective on health systems. As a result, both problems and solutions tend to be artificially
constrained, so that important problems are ignored and alternative solutions are not given
serious consideration. In these situations, public deliberation can help identify uncertainties in
facts and values, can contribute to a social process of determining and grappling with what
matters to a specific community, and can lead to innovative public policy design and
democratic decisions.

Technical experts thus have ethical obligations in their consideration of political

strategies. First, experts should be aware of the problems inherent to the reform process,
particularly with regard to the potential for experts to conceal uncertainties of fact and
disagreements over value. Second, experts should be self-reflective about their own values and
how their personal ethics shape recommendations for choices about public policy (as we have
tried to be, in this book). Third, we believe that experts have an ethical obligation to encourage
public transparency in helping societies confront policy decisions that involve uncertain facts
and difficult value choices. We do not have evidence to prove that public transparency about
these issues results in “better” social choices about health sector reform, but we do believe that
this approach promotes a respect for individuals while building a tolerant yet supportive
democratic community (Gutmann and Thompson 1996).

Experts and officials also face serious ethical choices in the implementation process,
particularly when they do not fully agree with the decisions made or policies chosen. There is
always a choice about how hard to struggle to make the best of a policy one believes is
technically flawed or ethically misguided. The question is, how far can officials go to use
available discretion in implementation to move the policy in directions they believe
appropriate—but not intended by policymakers? Here we believe an important distinction
must be made between issues of fact and of value.

For matters of value, a critical question is the degree of legitimacy of the process that
formulated the policy initially. Applbaum (2000) has argued—and we agree—that the more
such processes meet the procedural requirements of democratic representation, the more an
administrator should feel bound by the philosophical commitments embodied in the policy.
This is not an all-or-nothing judgment, however, but rather a matter of setting variable and
imprecise limits on the extent to which officials can deploy their own values in resolving
ambiguities or conflicts in legislative or policy language in implementation.

On the other hand, technical experts can and should exercise their expertise and their
discretion to improve the functioning of a reform effort. Critical to their responsibilities,
however, is again to foster transparency and their own accountability about their decisions.
The role of “speaking truth to power” (Wildavsky 1979) and telling the parliament or the
minister that their policies will not achieve their intended results is seldom easy. But we
believe that conscientious reformers can be expected to play this role throughout the reform
cycle.

These challenges make health sector reform more than just a

technical process—it is a testing ground for social values and personal
commitments. In constructing a plan for change, health reformers have to
confront basic issues of principle, identity, and interest. Health sector
reform can be as complex on a personal level as on a technical level. As
advocates embark on the health reform voyage, they need to understand
how political challenges and ethical dilemmas intersect with technical
issues, and how to address those intersections at both the public and
personal levels.
on map for major players in health reform in the Dominican Republic in 1995

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ces of political power

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Votes Symbols

Equipment Legitimacy

Offices Skills
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 Chapter 5
Goals for Evaluating Health Systems

1. Introduction

How can we go from the philosophical discussion of Chapter 3 to judgments about the
performance of a health care system? Adherents of different ethical theories may well endorse
different criteria for evaluating that performance—or differ as to the importance of achieving
various performance goals. Does that mean that all we can say about such judgments is, “It
depends?”

While all performance judgments are value-relative, we believe that, as a practical

matter, health sector reformers will generally find it useful to focus on a limited number of
performance goals to define problems and to evaluate solutions. In this chapter, we propose
such a set of goals, namely: 1) the health status of the population, 2) the satisfaction citizens
derive from the system, and 3) the degree to which citizens are protected from the financial
risks associated with ill health. We will discuss how these goals can be measured, and how a
nation’s performance can be evaluated. We also explore how the connections between the
health sector and the rest of the society influence performance judgments. In particular, we
will argue that 1) cost considerations and 2) social values and political processes both do and
should play a role in setting the agenda for health sector reform.

In what follows we first discuss how to choose performance goals. Next we explain
and defend the particular goals we have proposed. Then we explore the fiscal and political
connections between the health sector and the larger social and economic arena. We reserve
for the next chapter discussion of what we call “intermediate performance characteristics”—
like efficiency and quality—that help to determine performance on the ultimate goals we
discuss here. Throughout, we assume that a particular person (such as the reader) is thinking
about health sector reform, and our advice is directed at the decisions and choices that such an
individual has to make.

Our proposal is, of course, influenced by our personal judgments, experience, and
values. Picking performance criteria is not a mechanical process. Since we cannot escape the
force of our own ethical concerns, we try to acknowledge these as we proceed, so that those
with different views can still use our framework to pose evaluative questions clearly and
explicitly.
2. Choosing and Using Performance Goals

To pick performance goals sensibly, an analyst has to know the purpose for which
these are intended. For example, the WHO’s recent World Health Report ranked all countries’
health care systems on a single scale. This required constructing a small number of numerical
performance measures for each country that could then be combined via a simple formula. Our
task is different. We want to identify performance problems for priority attention within the
process of health sector reform. This makes numerical scores less useful, and detailed
descriptive data more useful, for our purposes.

To reiterate a point made in Chapter 2, performance measures should reflect the

results, consequences or outcomes of the health sector. This insistence on starting with
outcomes is one of the distinctive features of our approach. A reformer can then go on a
“diagnostic journey” (see Chapter 7) to determine the causes of that inadequate performance,
and then devise sensible reform strategies to improve that performance. (The same set of
criteria can also be used to evaluate policies, once they are implemented.)

In using the term problem to mean performance problem, we realize that we are calling
for a far-from-universal usage. Physicians, for example, often use the word problem to mean
cause—as when they tell a patient, “Unfortunately your problem is that you have cancer.”
Many health sector reformers also do not formulate their analysis in the way we recommend.
When asked, “What is the problem is your country?” they answer in terms of some feature of
the system: “We don’t have enough primary care” or even in terms of some proposed reform,
“We need to introduce social insurance.” In contrast, we argue that such statements are
actually about potential causes of, or potential remedies for, performance problems. They are
not descriptions of a performance problem itself. We can only know if a nation’s physician
workforce needs changing or its healthcare financing needs to be re-organized if these features
of the system are leading to unacceptable results.

This leads to our next question—namely, how can a country’s performance be judged
in relation to the various goals we have identified? In particular, what parameters or aspects of
the distribution of health status, satisfaction, or risk protection should reformers be interested
in? Again we propose to make such decisions based on the goal of guiding health sector
reform. In that context a country’s overall average performance on one or two simple summary
statistics (e.g., life expectancy) is chiefly useful in the early stages of a health sector reform
effort. For example, a nation’s poor performance compared to its neighbors, or relative to its
own past performance, can help mobilize public support for reform. Similarly, inter-group
comparisons can galvanize attention to equity issues.

For these purposes, there is little reason to distinguish among various alternative
statistical measures (mean, median, and mode). The differences among them involve specific
technical issues that are largely irrelevant to the tasks of focusing political attention or
marshalling public support. The same is even more true of measures of variation in outcome
within the population. While the “average” has some intuitive meaning to many, few have an
intuitive grasp of measures of variation like the standard deviation, the inter-quartile range or
the Gini coefficient (Wagstaff and Van Doorslaer 1993). Hence we do not spend much time in
what follows discussing such statistical alternatives.

It is also the case that the equity of outcomes is often of major interest to reformers
(and to international donors). We thus suggest that reformers think in terms of a three-by-two
matrix: three performance goals and two ethical tests to apply to each. However, from a
reformer’s point of view relatively detailed information about the distribution of outcomes—
across regional, income or ethnic groups—will generally be most relevant, rather than some
statistical measurement. To guide efforts to improve equity, those who are doing badly (e.g.,
those in relatively poor health) need to be identified.

Different nations not only value equity differently, they define it differently. In some
countries any difference in service between rich and poor is seen as a problem (e.g., Denmark)
(Andersen 1984). Other countries focus on improving the situation of the worst off, while
allowing the top to get more (e.g., Australia) (White 1995). Countries also might be more
concerned with equity when it comes to some performance goals than others. For example, a
nation might be more eager to produce equity in health outcomes than in citizen satisfaction.

To choose a particular set of performance goals is to choose a particular focus for

public debate about health sector reform. How should such decisions be made? Our first
proposed criterion is political relevance. As we have worked with governments around the
world, certain issues have surfaced again and again. Since, as we discussed in Chapter 4, we
believe in both the importance and legitimacy of politics in the reform process, in our view any
performance goals should reflect and embody these major political and social concerns. For
such concerns have driven (and are driving) health sector reform around the world. Reformers
should be able to recognize and express both their own, and other’s, major concerns within and
through the framework we offer.

Second, performance goals should reflect the main alternative philosophical

perspectives on the health system, as we described in Chapter 3. Unless utilitarians, liberals
and communitarians find their views represented, the framework will not be useful to them.
Taken together, the set of measures should capture the critical ethical issues at stake in the
reform process. Disagreements on those issues should be expressible in terms of different
views about the definition of the goals and about the priority of the various ethical tests to be
applied.

Our third basis for choosing goals is causal dependence. We want performance
measures that are significantly affected by health policy choices. For example, while the health
sector does influence the overall level of citizens’ happiness, such well-being also depends on
a wide variety of factors outside health care. On the other hand, satisfaction with the health
sector itself largely depends on what happens inside the sector. Hence the second, narrower
aspect of satisfaction meets the test of causal dependence while overall levels of happiness do
not.

As we will see, putting performance measures into usable form requires many
additional decisions about definition, measurement, etc. These decisions too will necessarily
reflect some particular values and priorities. An honest discussion of these details is thus likely
to reveal and provoke further ethical debate—and not everyone will be equally pleased with
the ultimate formulation.

3. Health Sector Performance Goals

3.1. Health Status

The health status of the population is the first of our performance goals. As the subject
of much public debate as well as policy making, it surely meets the test of political relevance.
It also meets the test of philosophical relevance. It embodies the central concern of objective
utilitarians—for whom health status is a key component of well-being. It is also a critical
aspect of opportunity for many egalitarian liberals. In addition, the health status of the
population also meets the test of causal dependence. While other factors (e.g., income and
education) affect health status, the operation of the health sector does have a significant impact
on health itself.

As noted in Table 5.1, constructing a health status index requires many decisions
(Arnesen and Nord 1999; Anand and Hanson 1997). Different nations are likely to approach
and make these differently. For example, not all countries will count years of life lost at
different ages in the same way, nor place the same relative value on current versus future
benefits (i.e., use the same discount rate). We believe, however, that all reformers need to
begin by focusing on the health status of the population regardless of how they choose to
measure that in detail.

Insert Table 5.1 here:

Table 5.1 Decisions Required to Construct A Health Status Index

In deciding which health status problems should be given priority, a country may want
to pay special attention to those diseases that are causing the greatest harm. If a country is
losing many of its citizens to alcoholism, or to a rise in tuberculosis, or to neo-natal tetanus,
then controlling those conditions might well be a focus of reform efforts. Countries where
sophisticated measures of disease burden like QALYs or DALYs are not available, can begin
by targeting those conditions where prevalence is high versus other comparable countries or
compared to their own past performance. (The question of whether a country can do anything
about such problems is also relevant to its priority setting, as we discuss below.)

Reformers who are concerned about the equity of the distribution of health status need
information about the variation of health outcomes across the population. For example, are
certain regions, ethnic groups or socio-economic strata doing worse on life expectancy or
maternal mortality than others (e.g., tribal peoples in India or the island provinces in
Malaysia)? In effect, this process uses the country’s own average performance as a benchmark
for identifying performance problems that need attention. (We elaborate on the various forms
of benchmarking below when we discuss priority setting in general.)

Once disparities have been identified, nations then have to decide how important it is to correct

them. How important is it to improve the lot of those with the worst health status, compared to

improving the experience of citizens more toward the middle of the distribution? For example,

in China the rural poor have noticeably worse health status (Ministry of Health, PRC 1999).

But they are often seen as less important politically and economically than urban workers.

How should such attitudes affect health sector policy making? Similarly, what importance

should countries place in helping their disadvantaged ethnic minorities like the Roma in

Central Europe (Ringold 2000; Puportka and Zadori 1998) or the tribal peoples in India (Peters

et al. 2002), who often have life expectancies 5 years (or more) below the national average and

infant and maternal mortality rates that are twice the national average (WHO 1996)? Answers

to such questions inevitably will be shaped by each nation’s values and political process.

As egalitarian liberals we think there are strong ethical arguments for paying special
attention to the health status of those whose health status is particularly poor. And sometimes
extending basic services to the under-served is an efficient way to improve overall (average)
health status. Primary care can be very cost-effective. Indeed, some countries with noticeably
unequal levels of service across geographic areas (e.g., Turkey) have lower average health
status than similar countries (e.g., Chile) with more equal health spending (WHO 1996). This
is because of what economists call “diminishing returns.” At the margin, the gains from
spending more on those who have the most are often less than the gains that could be realized
by spending more on those who have the least.

On the other hand, these arguments will not always be true, or if true will not always be
compelling. Groups with the poorest health status can be especially difficult to serve. They
may live in remote areas or struggle with a variety of social and economic handicaps. In Nepal,
for example, there are villages that are several days’ walk from the nearest health post.
Moreover, not every country’s leadership shares our particular values. And various political
considerations—from pleasing national elites to placating politically powerful urban
workers—can produce pressures to spend even more on care for those who are already well
served.

But our views about health equity are not what matters. Reformers need to clarify their
commitments on these issues, in order to know what problems to focus on and what reforms to
advocate. Is it acceptable for the rich to buy better care for themselves, as long as the poor
have access to some minimum? Does “fairness” require the state to pay for the poor to have
access to the same expensive, life-saving technology that the rich do, even if that technology is
not a cost-effective way to produce health status gains? And just how important is it to help the
worst off, even if doing so is expensive? In poor countries, where resources by definition are
very limited, these can be especially difficult questions. Nevertheless, reformers must seek
answers to them to decide how to react to the distribution of health status in their country.

3.2. Citizen Satisfaction

Our second core performance criterion is the degree to which citizens are satisfied with
the services provided by the health sector. Philosophically, such a goal is in keeping with the
subjective utilitarian view favored by economists. Politically, the system’s inability to provide
what citizens want is often a significant driver of reform. Moreover, this goal allows us to
capture various features of the health system, apart from its impact on health status. For
example, how accessible and service-oriented is the care process? By using satisfaction as a
core criterion we take account of how citizens themselves evaluate and respond to their care.

Here our approach again departs from the recent WHO formulation, which considers
only “legitimate” satisfactions (Murray and Frenk 1999). Our reasons for rejecting that
approach are both philosophical and practical. Philosophically, satisfaction is a subjective
utilitarian concern. Within that framework, there is no basis for assessing someone else’s
satisfactions according to our view of their “legitimacy.” Furthermore, citizens’ satisfaction
with the healthcare system is likely to depend interactively on various features of that system.
For example, many are more willing to tolerate poor service when the care they receive is
clinically excellent. In such cases we cannot divide up “satisfaction” and then attribute parts of
that total to various distinct bits and pieces of the consumer’s experience.

Countries may face tradeoffs between increasing satisfaction, as we have defined it,
and achieving other goals. For example, patients might get satisfaction from inappropriate
care—like unneeded injections. Responding to such desires can lead a nation to have both
lower health status and higher costs than it otherwise would. And those with poor health habits
might argue that no effort should be made to change their behavior since those habits increase
their own satisfaction. The decision to suppress or avoid such conflicts (by removing what
some reformer believes are ‘illegitimate’ satisfactions before making tradeoff decisions) seems
to us an awkward and obscurantist approach. Instead, if reformers in a particular country
decide for various reasons not to respond to certain citizen desires, political accountability
requires them to say so explicitly and argue openly for their choices.

Measuring satisfaction—however defined—is not easy. The economist’s solution is to

try to determine individuals’ willingness to pay for various kinds of benefits (Weinstein et al.
1996). For example, to put a value on human life, individuals have been asked hypothetical
questions about their willingness to take specified risks in return for various payments (so-
called “contingent valuation” studies) (Hammitt 2000). These studies have revealed systematic
inconsistencies between the behavior that decision theory says is rational and typical patterns
of choice. For example, ill persons may rate their quality of life as higher than when they were
well (Rosser et al. 1992).

An alternative approach to determining satisfaction is to use some sort of customer

survey—asking people what they do and don’t like about their health care (Cleary 1999). Such
surveys do not yield monetary values that are directly comparable to cost estimates. But they
can provide valuable guidance to reformers, particularly if they elicit information about
specific services or features of the system. Such studies do face certain technical problems
(like the tendency of respondents, especially low status respondents, to answer “yes” to
questions). But extensive work has been done in both Europe and the U.S. to develop and
validate reliable survey instruments (Coutler and Cleary 2001).

Judging a nation’s performance with regard to satisfaction also involves equity

considerations. Are gains in satisfaction to the happy and the unhappy equally important? Here
again there are likely to be differences among those adherents to different philosophies.
Subjective utilitarians, whose thinking is rooted in economics, will generally argue that total
satisfaction—and not its distribution—matters. For egalitarian liberals, a situation in which
some are much more satisfied with how they are treated than others would violate notions of
equal respect. They would be particularly interested in improving the lot of those groups in the
population that are especially unsatisfied.

In summary, we believe that improving citizen satisfaction with the health system
should be an important performance goal, despite the need to resolve various methodological
and philosophical issues to make these judgments. Citizen satisfaction is heavily influenced by
the system, widely discussed, philosophically grounded, and politically relevant. The relevant
metric, we have argued, should be all reactions of citizens, regardless of whether experts like
these reactions or not. Of course, when this goal conflicts with other goals, or when citizens’
reactions are ethically problematic, those issues will have to be addressed directly by health
reformers who are trying to make priority judgments or evaluate national performance.

3.3. Financial Risk Protection

Financial risk protection is a major goal of much health sector policymaking and
frequently a focus of the politics of health reform. It is also greatly influenced by how the
sector is financed. In addition, preventing financial impoverishment—and its associated loss of
opportunity—is philosophically important to egalitarian liberals. For them, ensuring everyone
a minimum level of economic opportunity is as important as the prevention of early disability
or death. In short, there are compelling reasons for including financial risk protection as a
central performance goal.

Providing financial risk protection, however, does not allow the population to avoid all
the costs of health care. In fact, that cannot be done. Foreign aid aside, all health care costs in a
country are ultimately paid for by its citizens—directly or indirectly. It is simply not possible
to protect those in the middle of a country’s income distribution against the costs of routine
medical care. If they don’t pay those costs directly, they will do so indirectly via various taxes.
What is relevant for achieving risk protection is helping people avoid the large and
unpredictable costs of a serious illness—that is, to provide a risk-spreading or insurance
function, where revenues from citizens are pooled and used to pay for care for those who do
get seriously ill.

Measuring the extent of financial risk is complicated by the fact that the significance of
a given risk depends on both the size of the risk and the economic status (income and assets)
of the person incurring the risk. The closer someone is to the poverty level, the smaller the
expense that will put them below that line. Hence the more they need financial risk protection.

An additional complication is that financial risk can also affect health status. The
seriously ill may not receive adequate care if the financial burden on them contributes to a
decision not to seek care. Their injury from a lack of risk protection, therefore, may show up as
diminished health status and not as a financial loss.

How can the extent of financial risk protection be described? The simplest data—on
the extent of insurance coverage, for instance—are only partially informative, since some
nations (e.g., India, Egypt, and many in Eastern Europe) don’t provide health insurance.
Instead, they rely on providing free (or nearly free) health care in government facilities. Such
systems provide some risk protection, depending on the accessibility and quality of the
services and the costs that patients have to bear (including medicines, supplies and any under-
the-table payments). When consumers don’t fully trust the public sector, however, they may
feel compelled to purchase private care when illness occurs, with potentially serious
implications for their financial situation (Berman 1998; Nandakumar, Chawla, and Khan
2000).

Insurance coverage, moreover, is not a “yes-or-no” variable. Those with only limited
insurance may still face significant financial risks when serious illness occurs. (For utilitarians,
it is also possible for some citizens to have “too much” insurance in ways that can encourage
the cost-ineffective use of care (Gilied 2001).)

We propose to judge the extent of risk protection by the probability (before the fact) or
the frequency (after the fact) that individuals will be impoverished by illness or prevented from
obtaining adequate treatment by their lack of income. A financing system does well on this
criterion when such events are unlikely at the individual level and hence rare in the population.
This measure combines both the size of the risk and the individual’s economic condition. From
an equity perspective, variations in this probability across population groups are of critical
relevance for deciding on priorities for expanding risk protection. Indeed, it is exactly such
risks that have lead many middle-income countries in recent years (from Colombia to Taiwan)
(Colombia Health Sector Reform Project 1996; Hsiao ref) to institute or expand social
insurance systems.

The measure we have proposed does not take account of the public’s satisfaction with
the available level of risk protection. Instead, those reactions will be captured through
consideration of citizens’ overall satisfaction with the health system. Similarly, the effects of a
lack of risk protection on health status are reflected in the distribution of health status.

Determining levels of financial risk, defined in this way, requires household survey
data on health care utilization and expenditures. Such studies can be expensive and difficult,
especially in poor countries. But a reformer interested in making a careful assessment of
national performance on this goal must be prepared to support such research.

4. Health Sector Performance in Relationship to the General

Social and Economic System

In order to complete our analysis of health sector performance, we have to take account
of the fact that health policy both influences and is influenced by the more general social and
economic system. Governments do many things in the domestic policy arena apart from
health: let’s call these activities the “social and economic policy system.” Figure 5.1 depicts
the relationships between that system and the health sector. The resulting picture is rather
complicated. All the variables in each system potentially affect all the variables in the other, as
Figure 5.1 indicates. In particular, policy decisions act both directly to influence health and
non-health performance goals, and indirectly through their impact on various intermediate
performance characteristics like efficiency or access which we discuss in the next chapter. In
addition, all these variables are themselves influenced by a variety of more general factors,
which we have simply labeled “politics, culture, history, and institutions” in Figure 5.1.

[INSERT FIGURE 5.1 HERE]

These interactions flow in both directions. For example, tobacco taxes imposed to
lower smoking could adversely affect economic growth in tobacco growing regions.
Conversely, general social and economic policy developments (for example, a government’s
commitment to regionalization) can lead to changes in the health sector. Simply put, health
sector policy cannot be evaluated in isolation.

To take account of these connections between the health sector and the rest of the
society, two major contextual factors need to inform health sector policymaking. One is the
cost of the system, since that affects the burden the health sector imposes on society and how
much money the society has to pursue other goals. The other involves the relationship of
reform to community norms and cultural practices in the society, and the ways in which these
are expressed through the political process.

4.1 The Role of Cost in Problem Definition

In Chapter 1 we suggested that the worldwide context for health sector reform
frequently involves a clash within a country between rising costs and rising expectations, on
the one hand, and limited capacity to pay, on the other. Indeed, it is often not the level of cost,
but sudden changes in cost—or even changes in the rate of increase of cost—which attracts
political attention. The result of such attention however is some form of perceived cost-
performance dilemma.

International data show that the same level of health spending yields strikingly
different results in different countries. Some nations get good results with much lower levels
of spending than others. Hence spending more money (while it can be helpful) may not be
either necessary or sufficient to improve health sector performance. For example, the existing
management system and organizational structure in a country might be such that better
performance could be gotten out of existing resources. It might even be the case that added
 funds would be largely wasted, so that the capacity to absorb additional revenue first has to be
increased, if more money is to produce better outcomes.

Cost represents one major connection between the health sector and the rest of the
social and economic policy system. In the short run, the amount available for health may be a
residual—determined by the country’s economy and by other government programs and
expenditures. The availability of public funds may be a constraint reformers have to respond
to. However, from a longer-run point of view, financing arrangements are not fixed. Reformers
can develop schemes for mobilizing new resources either in general (e.g., new social insurance
schemes) or for targeted purposes (e.g., user fees in rural hospitals). But again, any money
spent on health is money that is not available for other purposes. Such tradeoffs are at the heart
of any nation’s cost-performance dilemma.

[INSERT FIGURE 5.2 HERE]

Such cost-performance dilemmas can take various forms. Most health systems are not
fully efficient; hence, they are in the situation represented by point A in Figure 5.2 as
illustrated by the arrows in the diagram, where more performance is possible from current
spending. Such nations then face five choices about how to change the relationship between
cost and performance:

1) Accept somewhat reduced performance in order to significantly reduce cost

2) Save as much as possible without reducing outcomes
3) Improved efficiency to both lower cost and raise performance
4) Maximize performance for the current budget
5) Improve performance to such an extent that more money is required

Consider some specific examples. Countries like Armenia or Tajikistan, in the

aftermath of war or civil disorder, may find it necessary to focus on cost reduction, as shown
by (1) or (2) (Feachem, Henscher, and Rose 1999). On the other hand, countries like Brazil or
Russia, which are growing, may be primarily concerned with improving performance—even if
cost rises somewhat, as shown by (4) or (5) (Wines and Zuger 2000).

In addition, Figure 5.2 illustrates the choices open to a nation that is fully efficient (i.e.,
at point B)—a case we believe is uncommon. In that situation, cost and performance have to
go up and down together (changes (6) and (7) in the diagram).

In the real world, moreover, changes like (8) sometimes occur. Then cost increases
without any improved performance—for example, when there are political pressures to
increase patronage employment. Even moves like (9)—when costs go up and performance
goes down—are known to occur. Anecdotal evidence suggests that new regulatory controls in
recent years have done just that in the U.S. Medicare system.

Different players in the health reform debate often differ about the nature of the cost-
performance dilemma facing their country. Ministries of finance often argue that the nation is
a point A and a change like 3—more performance and lower cost—is required. The ministry
of health in contrast tends to argue that the system is at B and that move 6—more spending for
more health—is the only appropriate response. Admitting that the country is at A can be
difficult for the health ministry precisely because it reflects on how poorly it is carrying out its
responsibilities.

Different aspects of cost tend to become the focus of attention in different contexts.
Governments often look only at their own budget costs. On the other hand, even in poor
countries, a substantial part of health expenditures comes directly from patients. Hence looking
solely at government spending is not sufficient if we are interested in the total burden that the
health sector places on the society. Indeed, a comprehensive assessment would include non-
money costs, like the time and effort expended by patients and family members, for that is part
of the overall economic burden (the opportunity cost) of the health sector. In fact, even
detailed studies of National Health Accounts do not capture such non-money costs (Sauerborn
et al. 1995; Popkin and Doan 1990).

How can a country know whether the cost of its health sector is appropriate? One
approach is to compare the gain from spending more outside the health sector with the gain
from spending more inside. Subjective utilitarians would say that the measuring rod for
comparing such gains should be changes in consumer satisfaction. In contrast, objective
utilitarians have to formulate an index to measure gains from both health and non-health sector
activities. Then, they must ask whether the increases in health, which would come from
spending more on health, were worth more or less than the loss that would result from
spending less on some other goal (e.g., environmental protection or education).

Whichever method is used, the broader the scope of the analysis, the more difficult it
becomes to compare gains and losses. It is difficult enough to decide how to trade physical
pain and suffering against the cognitive distortions of mental illness in order to evaluate
shifting budget resources from trauma care to mental health. But it is even more difficult to
decide how to trade either of these against the gains from expanded primary education, or from
increased protection for endangered species.

In practice, societies answer such questions incrementally, by changing spending levels

and financing arrangements step-by-step, in search of a reasonable balance. Such decisions are
especially difficult when a country is unable to finance a health care system that will achieve
its health status goals. Unfortunately, this is the situation today in many low- and middle-
income countries. Here again we believe that responsible reformers need to take the lead in
telling citizens the truth about the choices they face and in shaping effective social responses.
Not all problems can be solved in a world where resources and knowledge are always limited.

4.2 Analyzing the Distribution of Costs

From the point of view of setting health sector reform priorities, not only the level of
costs—but also their distribution is of major significance. Such distributive issues are often a
focus of intense political concern. However, such issues are often misunderstood and in fact
they are far more obscure than is commonly supposed. Still, this is yet another area in which
each nation has to make its own ethical judgments—in this case, about how “pro-poor” it
wants its health care financing system to be.

The first difficulty in accounting for the financing burden of the health sector is that the
person who pays a tax may not ultimately bear the burden of it. For example, an employer’s
social insurance contribution is likely to result in some combination of lower wages to
employees, lower profits to owners and higher prices to customers. Determining how the
burden of a particular tax is “shifted” will generally require sophisticated statistical research
(Gruber 1997; Gruber 1994). On the other hand, the politics of health sector finance often
ignore these complexities as interest groups focus on imposing the responsibility for direct
payment on each other.

There are additional complications. Increases in government health spending are

sometimes financed by cuts in other government programs. The new activities in effect are
paid for by those who lose benefits from curtailed programs. Furthermore, in many countries
some or all health expenditures come from general government funds, which rely on many
different sources of revenue. But then how can we know which programs are smaller than they
would be, or which taxes higher than they would be, because of health expenditures (Rosen
2001)?

In practice it is often easier to answer such question if we are interested in the marginal
effect of adjustments in spending—rather than the distribution of the total burden of health
spending. It is seldom possible to answer the question, “What would all prices, incomes and
tax burdens be like in the economy if the government did away with all health spending?” For
health system reformers, however, the more tractable marginal question is often more relevant.
It is, after all, the incremental effects of any change in the financing system that are likely to
provoke an especially strong political response. Moreover, some cost burdens are not that
obscure or difficult to analyze—notably the distribution of out-of-pocket costs. And such
spending is the proximate cause of financial risk—and of the need for risk protection. On the
other hand, technically simplistic, but politically powerful, discussions of the fairness of the
entire financing scheme do regularly occur.
 In evaluating the distribution of costs, economists tend to focus on what happens to
various income groups—a concept they call “vertical equity” (Pechman 1985). For complex
historical reasons the critical reference point for such an analysis is a tax that takes the same
percentage of income from the poor as the rich. Such a tax is called “proportional.” A tax
which falls more heavily on the rich (i.e., one that takes a higher proportion of their income) is
called “progressive.” One that takes a higher percentage of income from the poor is called
“regressive.”

User fees and insurance premiums are obviously quite regressive. They take the same
amount of money from rich and poor, resulting in a much greater burden, in percentage terms,
on the poor. (Do note, however, the rich can pay higher taxes than the poor under a regressive
system—if such taxes are a lower proportion of their income.) Social insurance schemes,
financed by payroll taxes, are slightly regressive. Earned income (as opposed to investment
income) is a greater percentage of all income at lower income levels. Hence a tax on earned
income takes a higher percentage of total income from those at lower income levels. In
addition, many nations have an upper limit on the total payroll taxes paid by an individual.
This limit significantly increases the system’s regressivity. Sales or value-added taxes are also
modestly regressive (depending on what, if any, goods are exempt from taxation), since
consumption is a higher percentage of income at lower income levels. Only taxes on luxury
goods or comprehensive income taxes—where the marginal rates increase—are progressive.
On the other hand, even moderately regressive schemes for financing the health sector can be
redistributive—if the rich pay more than the cost of the services they receive and the poor less.

To take account of such possibilities, we urge reformers, when evaluating the

distribution of health care costs, to simultaneously take account of the distribution of benefits.
For example, in countries with poorly functioning public finance systems, locally collected
(and retained) revenues may be the only reliable way to finance increased services in rural
areas. When based on user fees, the financing of such schemes is quite regressive. But that is
only half the story—improved service being the other half. Egalitarian liberal concerns (that no
one be pushed below some minimum level of economic opportunity) can be addressed by
exempting the poorest of the poor from such fees.

Economists also analyze financial burden in terms of “horizontal equity.” This concept
says that people at the same economic level should be treated the same. In the health reform
context, the largest issues in this regard tend to be regional. If a country shifts the financing of
health care to local or regional levels, poorer areas need to pay higher taxes to provide the
same level of service as richer areas. This is why some schemes for fiscal decentralization
(e.g., in Chile) also include some inter-regional equalization fund. Similarly, since the cost of
providing services to scattered rural communities is typically higher, local financing means
that rural areas must either pay more or get less. Economists argue such inter-regional
variations violate the principle of horizontal equity. Certain other taxes—on cigarettes or
alcohol, for example—can also raise horizontal equity issues. They not only burden selected
consumers, but also can have a disproportionate impact on farmers, workers, and businessmen
who are part of the taxed industries.

4.3 The Cultural Context and the Political Process

The second major connection between health sector reform and the larger political and
social system lies in the values and the politics of the specific community. Again, like matters
of cost, these external forces can be constraints in the short run and modifiable in the longer
run. Such interactions are likely to arise in three different contexts: 1) in the definition of the
performance goals and the relative importance assigned to them—which in turn leads to
reform priorities, 2) in the reform strategies a nation chooses, and 3) in the detailed design of
specific policies.

When it comes to defining and prioritizing goals, we have noted above that many
apparently technical issues—like how to measure health status—involve value choices.
Moreover, as we discussed in Chapter 4, the process of setting reform priorities is always
political, involving the pull and tug of issue entrepreneurs, cultural taboos, and economic and
political interest groups.

For those with an economics or mathematics background, the following formulation

may help. Performance measurements can be viewed as the axes of a diagram defining a
“health sector performance space.” But to actually make judgments among alternative
outcomes also requires an “objective function” that ranks or compares various outcomes in
that space (Edwards and Newman 1986). In practice that ranking emerges from each country’s
political system—as influenced by reformers, advocates and political leaders, each acting on
their own combination of ethical principles and personal interests. Hence views about equity,
about risk, about the importance of objective health versus subjective satisfaction, all these
will, and should, be played out in the process of setting objectives and assigning reform
priorities.

The second way culture and politics enter the reform process is through the broad
strategies that countries consider in the policy design process. Is government trusted or not?
Are private markets applicable to health care? Can we tax the rich at high levels? Do programs
have to be uniform everywhere in the country? Can we trust local governments even—or
especially—if these come under the control of ethnic minorities or political opponents?

Broad cultural and political attitudes are likely to be deeply embedded in political
discourse and decision making—in ways that even thoughtful activists may not realize. They
reflect broad “strategies” or “standard operating procedures” that have evolved over time in
the nation’s political system and are not easily modified. Of course, a sufficiently large crisis
can lead to assumptions being questioned or old rules revised. But the energy and effort
required to do so may be substantial. Hence, such constraints on what policy is considered will
do a great deal to shape the health sector reform debate. For example, privatizing the formerly
public ambulatory care system was easy to do in Slovakia, but is not even on the agenda in Sri
Lanka—reflecting their different histories and cultural attitudes.

The third connection between culture and politics and health sector reform arises
because societies have numerous customs and taboos that directly influence the health sector.
The list of potentially relevant cultural norms is far too long to present inclusively, but here are
some examples. First, there are beliefs related to issues of life and death, including abortion,
resuscitation, and physician assisted suicide. Second, there are customs related to the use of
various substances, from tobacco and alcohol to caffeine and cocaine. Third are norms about
sexuality, from prohibitions of homosexual or premarital sex, to views on prostitution and
contraception. Many societies also have views about how the body itself (alive or dead) should
be treated, which shape the acceptability of practices ranging from transfusion to male
circumcision. In Buddhist nations, for example, where the predominant definition of death is
“heart death” not “brain death,” there is a real shortage of organs for transplantation (Lock
1995).

Broader social dynamics also affect health status—ranging from intra-familial patterns
of food distribution (e.g., adult males eat first) to gender-based variations in medical care
utilization. Social norms about the role of western biomedicine also impact the system in
many countries. The list goes on and on: the role of traditional birth attendants, whether men
and women can be treated by doctors of the opposite sex, the willingness of patients to talk
openly to doctors. In evaluating any proposed policy, reformers need to consider the extent to
which it would violate such norms, and what that means for political feasibility and
implementability. Hard work can sometimes get controversial policies adopted politically, and
creative social marketing efforts (as we discuss in Chapter 12 below) can change attitudes.
Cultural constraints are therefore somewhat elastic, but they always exist and always need to
be considered.

How far reformers will go to respect local customs is likely to depend on their
particular ethical perspective. For relative communitarians, local customs and values will be
central to defining any country’s health policy. For liberals, individuals should be free to make
choices dictated by custom, if they truly want to. But it is the individual choice, not the
community norm, that is worthy of respect. Hence community norms that restrict freedom or
opportunity (e.g., the Taliban’s opposition to girls’ education) can be opposed by egalitarian
liberals. For subjective utilitarians, if observing custom increases someone’s utility, then that
individual should be free to do so. But again, unlike communitarians, and like liberals, for
subjective utilitarians custom is a means, not an end in itself. Objective utilitarians are likely to
 be even more goal directed—respecting local custom only in-so-far-as doing so increases
health status (e.g., by facilitating increased patient compliance).

One set of “customs” we need to call special attention to are current western views
about patient choice and informed consent. These call for patients to make all crucial treatment
decisions, and to do so on the basis of complete disclosure by the doctor of the patient’s
diagnosis and the consequences of different ways of proceeding. Advocates for the universal
applicability of such norms argue that treating patients in this way respects their fundamental
human rights. Relative communitarians, in contrast, see these norms as a particular cultural
practice, and believe they should be followed only in those countries where they are widely
accepted. In many East Asian societies, for example, elderly patients are seldom told of a fatal
diagnosis, nor would it occur to these patients, their doctors, or their families to have those
patients make all the critical decisions about their care.

While nations will have to make their own decision on this (and all other) ethical
issues, one possible compromise is to respect patient choice either where that is the custom in
the society, or where a particular patient—contrary to local custom—wants to exercise such
choice. Where neither of these conditions is met, and both the society and individual are
comfortable with other ways of proceeding, we believe that reformers should not substitute
their own judgments or standards for the ones that appeal to the patients and doctors working
in a particular national system.

5. Summary

In this chapter we have presented the case for judging a health sector’s performance in
terms of three performance goals—health status, citizen satisfaction, and risk protection.
Furthermore, we have argued that two kinds of tests or judgments need to be applied to
evaluate a nation’s achievements in each of these areas—both a country’s average
performance and how that country does on equity grounds. In so far as recent international
concern with poverty alleviation and meeting basic needs is shared by a country, the equity
issue will be of increased importance. We have also argued that in making equity judgments,
relatively detailed data on the distribution of outcomes by region, income, and ethnicity are
likely to be of critical importance.

We have also explored the connection between the health sector—and judgments about
its performance—and the larger social and economic system. We have focused on two such
connections: the cost of the health sector, and the influence of social and political processes on
health sector reform. We have contended that any judgment about performance should be
reached taking these two kinds of connections into account. As we have stressed repeatedly,
cost (and cost increases) often provokes reform. Culture and politics shape problem definition,
priority setting and the kinds of options that a nation can realistically consider.
 We noted previously that this focus on ultimate performance does reflect a “paradigm
shift” in the way health sector reform is discussed. Historically such conversations have not
focused on such variables, but instead on structural features of the system or on variables like
“efficiency” or “quality” or “access.” We believe that such terms are best understood as
referring to what we call “intermediate performance characteristics.” Such features of the
system help determine the level of performance on system goals, but are not themselves
ultimate objectives. Because these “intermediate” variables are both widely discussed and can
play a helpful role in the diagnostic process, we will next explore their meaning and role in
some detail.
Figure 5.1.
 CHAPTER 5

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 Chapter 6
Assessing Health System Performance

1. Introduction

Experience teaches us that when a health sector reformer seeks to understand the
causes of unsatisfactory outcomes, certain characteristics of the system often play an important
role. These characteristics are not, in themselves, either the root causes of performance
difficulties or the manifestations of those difficulties at the level of ultimate outcomes. We
refer to these factors as intermediary performance characteristics, because they are critical
links in the chains that connect root causes to ultimate performance goals. In the next chapter,
we will discuss in some detail the idea of a “diagnostic journey,” a concept we introduced in
Chapter 2. Such a journey begins with the identification of a specific performance problem,
and then moves to explore the causes of those problems, through several successive steps. This
process leads a health sector reformer to examine performance deficiencies through three key
characteristics—efficiency, access, and quality—which are the focus of this chapter (Berwick,
Godfrey, and Roessner 1991).

For example, suppose a country identifies poor health status in rural areas as a critical
priority to be addressed through health sector reform. In exploring why that situation has
developed, it might turn out that rural residents lacked access to services, or that the services
that were available were of poor clinical quality. However, these discoveries would not be the
end of the story. A would-be reformer would then have to ask why services are either
unavailable or clinically inadequate. Nevertheless, identifying problematic intermediate
performance characteristics—in this case, inadequate access and quality—can be a helpful step
in the diagnostic process, as this finding can become a useful focus for further analysis.

As mentioned in the last chapter, these intermediary performance characteristics have

been subject to a good deal of discussion in the literature over the years. Poor performance on
such dimensions is frequently—and we believe mistakenly—characterized either as “the
problem” or “the cause” of other problems in the health sector. Our view is that these
formulations are not correct. Instead, the variables we are about to discuss are relatively broad
performance characteristics that are causally intermediate between root causes and ultimate
performance goals.

How then should one identify selected performance characteristics for special attention
in the diagnostic process? Since any list we compile is there to serve as a “checklist,” we want
 to identify characteristics that are important causes relative to our performance goals. Second,
we want characteristics that are likely to be salient in the political and policy debate. If other
observers, critics, and interested parties are likely to focus on a particular performance
characteristic, health sector reformers should give that factor special attention in their
diagnostic work. Third, the intermediate performance characteristics we highlight should also
be influenced by health sector reform choices. If they are to play an effective “transmission”
role between policy and outcome, they have to be both responsive and influential.

Applying these criteria, we have identified three widely discussed intermediate

performance characteristics that we believe should be singled out for special attention:
efficiency, access, and quality. All of these terms have a confusing variety of meanings and
uses. We will therefore have to do a good deal of conceptual clarification, if we are to offer
readers a framework they can use with any precision.

After we review each of these terms, we will turn to the question we call “strategic
problem definition.” How can a reformer use information on both the ultimate performance
goals identified by the previous chapter, and on the intermediary performance characteristics
discussed in this one, as a basis for setting priorities for health sector reform?

2. Efficiency

Perhaps no term in the economics and policy literature has been subject to more
different usages and definitions than “efficiency.” The core idea that ties all these uses
together is that of achieving as much of one’s objectives as possible, given that resources are
limited. Since this seems so obviously desirable, “efficiency” has acquired substantial
rhetorical value as an apparently uncontroversial objective. This may explain the eagerness of
various parties to attach its legitimacy to their own conceptual framework. Here are some
selected examples of the many ways the term is used.

• Economists call an economy “efficient” if it produces a particular

kind of result that would appeal to subjective utilitarians; that is, no one person can be made
happier unless another person is made less happy. As noted in Chapter 3, such a situation is
called “Pareto Optimal” (Reinhardt 2001).

• Industrial engineers call a plant “efficient” if it operates with

minimum cost per unit of output (Carr and Howse 1964).

• Business executives characterize the use of scarce investment

dollars as “efficient” when it produces a maximum rate of return. This language sometimes
also shows up in ministries of finance at budget time when comparing spending on different
sectors (Bierman and Smidt 1993).
 How then shall we define efficiency? In the context of health sector reform, two key
ideas are relevant: how services are produced and what services are produced. The system as
a whole is “efficient” when the right services are produced—given one’s goals—and produced
in the right way. This leads us to two specific notions of efficiency.

The first of these is technical efficiency. This refers to situations in which a good or a
service is produced at minimum cost. An alternative but equivalent formulation is that we get
the maximum output given our level of spending. For example, is cost-per-day in the hospital
as low as possible, or are as many patients as possible being treated for the available budget?
Included in this notion, therefore, are questions about whether we have the right mix of
personnel, equipment, supplies and facilities. In sum, since technical efficiency refers to how
we produce something, it is primarily the responsibility of health-care system managers.

In health care, there are thousands of different kinds of services. When each is
produced at minimum cost, economists describe the result as being on the “production
possibility frontier.” This means that the only way to get more of one output is to produce less
of another.

A second notion of efficiency is allocative efficiency, which refers to whether a nation

is producing the right collection of outputs to achieve its overall goals. In other words, is it at
the right point on the production possibility frontier? As noted above, economists generally
use allocative efficiency to mean the set of outputs that maximizes customer satisfaction.
Similarly, health planners are talking about allocative efficiency when they ask whether a
particular set of services maximizes health status gains (a notion they sometimes call
“effectiveness”) (Crystal and Brewster 1966). Improving allocative efficiency is thus the
implicit question that confronts anyone who is trying to change the mix of outputs (e.g., less
cosmetic surgery and more primary care) that the health system produces.

Consider the following example. Countries that were part of the former Soviet Union—
like Belarus—are being urged by WHO to make significant investments in national measles
vaccination as part of WHO’s campaign to eliminate the disease. Yet compared to other uses
of funds within the immunization arena (e.g., hepatitis B or flu), it is not obvious that measles
control will achieve the maximum health status gain from the available funds. From a narrow
national perspective, the prevalence of the condition is low, the gains from immunization low,
and the costs substantial. Deciding whether to spend limited funds on such as program is
quintessentially a matter of allocative efficiency.

Since our overall framework recognizes at least three potentially conflicting ultimate
performance goals, evaluating allocative efficiency from our perspective is inevitably
complex. Someone first has to describe how they propose to conceptualize and judge each goal
(including equity aspects), and then specify the tradeoffs they are willing to make among
various objectives. Only then can reformers know whether they have achieved as much of their
goals as possible.

Furthermore, the right output mix may often be a matter of degree. Many medical
services exhibit what economists call “diminishing marginal returns.” That is, treating those
patients who are most appropriate and respond best to a specific kind of cure—even with quite
expensive care—can be quite cost-effective. However, as the same treatment is extended to
fewer appropriate cases, the cost effectiveness of care will often diminish, as costs per case
increase and case-by-case benefits decline. Hence, the relevant issue is often not “dialysis-
yes-or-no” or “cardiac bypass-yes-or-no,” but how much dialysis or cardiac bypass the system
should provide, and to which patients (Weinstein and Stasson 1977).

Since improving technical and allocative efficiency allows a health care system to do
better with existing resources, countries in a cost-performance squeeze often seek to improve
efficiency through health sector reform. Politically, however, it can often be more difficult to
improve allocative efficiency than technical efficiency. Lowering the cost of producing outputs
to raise technical efficiency is not easy. Workers often resist change and improving service
delivery can require a great deal of effort. Nevertheless, doing so is a relatively
straightforward managerial task. In contrast, improving allocative efficiency means altering
what is produced, and this is likely to impose very high costs on those involved in the
production and consumption of the outputs being reduced. Shifting resources (people and
money) from some activities to others—from high tech services to primary care, for
example—is often vigorously resisted.

Given our definitions, what are we to make of the frequent and confusing claim that
efficiency and equity are necessarily, or at least often, in conflict? This view is based on using
the term “efficiency” very narrowly, to mean maximizing average health status. In that
context, serving those in rural areas can be characterized as “inefficient,” because more
DALYs or QALYs could be produced for the same money if it were not spent with an eye to
equity. But there is every reason not to restrict the definition of “efficiency” so narrowly. In
our framework, the “efficiency” of the system (both allocative and technical) is determined by
whether or not it reaches society’s goals at minimum cost. Thus one could sensibly ask
whether a nation’s health system is efficient in reaching its equity goals. Does it, for instance,
provide health status gains in rural areas at minimum cost? In our usage, then, there is no
reason to set up efficiency and equity in opposition. Properly understood, increased efficiency
can actually advance equity—by making it less costly to reach our equity objectives
(Reinhardt 2001).

In sum, both kinds of efficiency refer to the relationship of inputs to desired results.
Technical efficiency means producing outputs in the “right way,” at minimum cost, while
allocative efficiency means producing the “right outputs,” to maximize the achievement of our
goals. Unless a health care system is both technically and allocatively efficient, it will not
achieve as much as it might. This is why efficiency is an appropriate entry on the list of
intermediary performance characteristics. Inefficiency may well be a cause of poor
performance. Furthermore, changing the incentives or organization of the system is likely to
have an impact on efficiency, at least if that is done properly. We expect that many diagnostic
journeys will lead from poor outcomes back through poor efficiency to a look at the still
deeper sources of that inefficiency as a way of clarifying the roots of a nation’s failure to
achieve its performance goals.

3. Access

In discussions of health sector reform, access is often a major concern. A lack of

access is often introduced as a cause of poor health status in rural areas or of low levels of
satisfaction among the poor. Yet to fully understand this concept’s role as an intermediate
performance characteristic, we again have to disentangle the various ways in which the term is
used.

First, access sometimes simply refers to whether services are offered in a specific area.
Here, the question is physical availability, which can be measured by the distribution of
available inputs (beds, doctors, or nurses) compared to the population. A second notion, one
that more closely reflects the intuitive meaning of the term, is effective availability; that is,
how easy is it for citizens to get care? Differences between physical availability and effective
availability can arise because various barriers (e.g., cost, travel time, poor service) may keep
people from using facilities that are physically available.

However, it is not easy to collect enough data on prices, service levels, waiting times
and cultural acceptability in order to evaluate effective availability directly. As a result, the
term “access” is often employed to refer to utilization. Per capita measures of hospital
admissions or outpatient visits are computed for various population groups, and those with low
use are said to lack access. In fact, utilization is only partially a reflection of effective
availability, as patients may choose not to use services, even if they are available. However, if
we ignore the possibility that low use might reflect patient choice, and instead argue that low
use always means that there are barriers to care, effective availability vanishes as an
independent concept, since it is no longer measurable separately from utilization.

At first glance, access, defined as effective availability, is an obvious intermediate

performance characteristic: it influences both health status and consumer satisfaction.
Furthermore, effective availability is clearly influenced by what services are offered at what
locations and at what prices, and the financing, payment and organization of the system will
affect what is offered and on what terms. This variable therefore meets the test of being both a
consequence of policy and a cause of performance.
 However, some argue for thinking of effective availability as an ultimate performance
goal—as an end not a means. Some egalitarians (like Amartya Sen) suggest that government is
obligated to make services available, and then let citizens use these or not, as they choose (Sen
1999). In this view, the effective availability of health care would be an ultimate performance
goal, not health itself. Similarly, some communitarians focus on the distribution of health
services as a matter of fairness to various local communities. And changes in the physical
availability of health services (i.e., do we open or close a local hospital) are in fact often a
focus of intense political controversy. Indeed, in developed countries, highly contested
changes in physical availability will often have little observable impact on health status,
because service levels are likely to remain high in any case (Kolata 2002).

On balance, we believe that access fits better as an intermediate performance

characteristic, rather than as an ultimate performance goal. Effective availability does
influence health and satisfaction. In addition, controversies over physical availability can be
seen in terms of effects on customer satisfaction, which is a gain within our framework. (For
example, having services available might generate what economists call “option demand”—
the value to citizens of having something available, even if it is not used) (Pazner 1974).

We recognize that there are cases where leaders or interest groups argue for physical
availability even absent health or satisfaction gains. Sometimes such situations reflect
community norms, which (as discussed at the end of the last chapter) can act as constraints on
the process of health sector reform. In other cases, the desire to preserve or expand health
services may not be driven by any expected health or satisfaction benefits. Instead, it may be a
matter of producing patronage or status gains. And while such concerns may represent an
important political reality, they do not have to be incorporated into our performance goals.

Viewing access (i.e., effective availability) as a tool for improving health status and
satisfaction has considerable implications. It means, for example, that we should view with
skepticism arguments that every city ought to have certain services—because such a situation
is “fair”—if such facilities are not part of a cost-effective plan to produce the desired
distribution of satisfaction and health status. Furthermore, if services are valuable only if they
produce outcomes, then the reverse is also true. The lack of services is most significant when
outcomes are unsatisfactory. We realize that actual debates over health reform are rarely
conducted precisely in this way. But we believe that particularly in countries with limited
resources, seeing access as a means to reach a country’s goals with regard to the desired
distribution of health and satisfaction places a useful argumentative burden on those who
would contend otherwise. We believe that this way of thinking promotes greater analytical
rigor in conversations about priorities for health sector reform.

4. Quality
 Quality is our third proposed intermediate performance characteristic. It is valuable not
for itself, but for its role in achieving a nation’s ultimate performance goals. Poor quality, like
poor access, is often invoked as an explanation for performance failures. Like efficiency,
“quality” appears to be something everyone should be in favor of. Since advocates are always
trying to appropriate the concept, the term is used in many different ways. Thus, “quality” is
sometimes defined from the patient’s point of view and sometimes from the perspective of the
doctor. It is sometimes applied to the treatment of a particular case, or to the care provided by
a particular hospital, or to a national system as a whole. Hence, as before, our first task is
conceptual clarification.

The simplest way to think about “quality” is at a disaggregated level, that is, as a
characteristic of the treatment of a particular patient in a given encounter. More inclusive
judgments (of hospitals or national systems) reflect aggregations (averages) of such encounter-
level experience. But even at the encounter level, the term “quality” refers to several different
phenomena (see Table 6.1). In what follows, we try to identify various measurable quality
aspects by abstracting from who is doing the judging. But we want to stress that different
individuals (e.g., different doctors, patients, politicians) may place different importance on
different quality dimensions.

INSERT Table 6.1 here

Table 6.1 Meanings for the Term “Quality” in Health Care

Our experience reveals three major uses of the term “quality”—two of which have sub-
components. First, as the table indicates, “quality” can be used to mean simply the quantity of
care provided to a patient, as in: “My aunt got the highest quality care. They did everything for
her.” Americans who praise our system for its high “quality” often are using the term in this
way.

The second basic meaning of “quality,” which health professionals typically use, refers
to clinical quality. This involves both the skill of caregivers (e.g., the surgeon’s technique)
and the correctness of diagnostic and treatment decisions. It also depends on whether the right
inputs (e.g., drugs, equipment) are available to carry out appropriate care. Clinical quality also
depends on the system of production that combines these inputs into actual delivered services
(Berwick, Godfrrey, and Roessner 1991).

The third broad usage, which is most often invoked by patients who find it difficult to
judge clinical quality, involves service quality (Cunningham 1991). The subcategories here are
themselves multi-dimensional. Hotel services include food, cleanliness, and the nature of
hospital and waiting rooms. Convenience includes travel time, waiting time, opening hours,
and the time necessary to get an appointment. The interpersonal dimension involves whether
providers are polite and emotionally supportive, and whether patients are given appropriate
information and treated with respect. There are complex issues about the role of patients in the
care process—issues that we discussed at the end of the last chapter and to which we will
return here shortly.

Measuring quality generally requires detailed data. Service quality in particular can be
measured in a variety of ways. For instance, administrative systems may be able to generate
data on parameters like waiting times and delays in getting an appointment. Special purpose
quality monitoring systems can also be created. For example, in one state in India, hospitals
are now subject to periodic (unannounced) quality inspections. An outside contractor
undertakes these inspections and forwards the results to a central office at the state level (.
Patient reports can also be useful in identifying service quality lapses, including deficiencies in
the area of interpersonal relationships.

Clinical quality assessment is an activity that has generated an enormous literature in

recent years. Comparing clinical care (as recorded in patient records, for example) with expert
opinion is one way to determine whether appropriate treatment has been given, as long as
those records are themselves accurate. However, it is expensive and time-consuming to make
such an assessment. Quality can also be measured indirectly by outcome data like infection
rates, operative mortality, and so on. Understanding how production systems can produce
variations in clinical and service quality—which is the focus of the whole Total Quality
Management approach—requires even more detailed studies.

The difficulty of collecting and interpreting sophisticated quality data helps explain
why many countries rely heavily on regulating inputs (e.g., educational requirements) rather
than monitoring and evaluating processes or outcomes in the quality arena (we discuss this
point further in the regulation chapter). Indeed, looking at inputs (does the health center have
needed drugs and equipment, is a doctor available) is often the only—albeit highly
imperfect—way for patients to assess clinical quality.

Not just the average, but also the distribution of quality (that is, who is subject to poor
quality) is often important to the connection between quality and system performance. For
example, suppose a country is concerned with patients bypassing local health posts to seek
treatment at regional or national centers. Deciding what to do about such a situation requires
an analysis of both clinical and service quality—as well as the quantity of services available—
at the local level. If quality at the periphery is poor, then it will be more difficult to prevent
“bypassing.” Furthermore, allowing such poor quality to persist is also likely to raise equity
issues, since it will often particularly disadvantage the poor, who cannot afford the time or
expense of traveling further afield for care. Consider, for example, the situation in Sri Lanka
where overuse of hospitals in the largest cities is viewed as a major problem by the ministry of
health. The problem is compounded by the fact that under Sri Lankan law, citizens have a right
to insist on admission to a hospital. It is also also true that doctors are assigned to health posts
based on their performance and that the best performing physicians generally avoid the most
rural areas. Hence dealing with this situation will almost certainly require efforts to improve
clinical quality in the periphery.

Deciding whether the quality produced by a health care system is appropriate involves
complex judgments. Just as a car has various quality dimensions (e.g., fuel economy,
acceleration, passenger capacity), so too does any health care service. Having more of one
quality (e.g., luggage capacity or patient choice) might lead to less of another quality (e.g.,
road handling or correct clinical decision-making). Increased quality, in cars or care, might
also not be worth the cost, depending on the values of the person making the judgment.
Indeed, there are actually three judgments that must be made (Rosen 1974).

The first question a reformer has to ask about health care quality involves a special
kind of technical efficiency. Is each service being produced in a way that results in the highest
possible quality given the costs being incurred? For a given costm, a service that produces less
than the maximum attainable quality is technically inefficient in the production of quality.

To see this, consider diagram 1 of Figure 6.1, which depicts the “quality possibility
frontier” for a particular health care service. To make drawing this diagram possible, we have
assumed that “clinical” and “service” quality are each a single magnitude, though, in fact the
“frontier” really exists in a space of many dimensions. For a specified level of spending per
unit of service, any medical care system can only produce a limited level of clinical or service
quality. We have drawn the diagram to imply that if either service or clinical quality is too
low, the other aspect of quality suffers; but that is not necessary to the argument. What is key
is that to be technically efficient in the production of quality, a service has to be organized in
such a way that its output is on the frontier—not at some point like “Q.”

[INSERT FIGURE 6.1 HERE]

For managers to know whether we are on or at least near the frontier will require some
form of benchmarking. For example, we could compare any given operation with those in
other countries (or in different regions of our own country) to find facilities that had similar
cost levels. Then we could evaluate relative waiting times or the cleanliness of facilities or
patient reports about their care in order to evaluate service quality. On the clinical side, we
could look at input availability (were there drugs, was the x-ray machine working) or output
indicators (wound infections, intra-operative death rate). For reformers, the question is, Are
we getting all the quality we can, given the budget? This formulation is obviously important
for deciding on a reform program. It makes a big difference whether poor quality performance
is the result of poor management or because of a low budget, or both.

There is a second quality question. Even if a service is operating on the quality

possibility frontier, are the producers offering an appropriate mix of qualities? This is similar
to the question of what kind of car to design. If we have a construction budget for a new clinic,
should we spend more on a more comfortable waiting room and less on a new x-ray machine,
or vice versa? In terms of the frontier, should we be at X or Y, or somewhere in between?
(Given the way we have drawn the frontier, there is no reason to be at Z since it is possible to
do better on both dimensions.)

There is yet a third quality issue. As shown in Diagram 2, a series of quality

possibility frontiers is available for any given service, each based on a different budget level (I,
II, and III in the diagram). The third task then is evaluating the level of spending for each
service, which in turn determines just what quality levels can be produced for that service.
This is the quantity aspect of quality that we identified initially. The issue is, What level of
resources should we devote to each service?

How would different reformers, with different philosophical views, judge the
performance of the healthcare system with regard to quality? Objective utilitarians, interested
in health maximization, would want to produce the maximum clinical quality for any given
budget (i.e., to be on the quality possibility frontier at a point like X in Diagram 1). They
would look at how services were managed, to see if there was any way to increase the health
status gain from operations. They would then evaluate budget levels based on marginal cost
effectiveness analysis, to see if money was being spent on different services in a way designed
to produce the biggest health status gain.

Notice, however, that the way we have drawn the frontiers implies that objective
utilitarians would make a mistake in assuming that they can always increase clinical quality by
decreasing service quality beyond some point. Beyond some point, lowering service levels
discourages utilization, lowers patient compliance, and impedes communication, all of which
can lead to less satisfactory clinical results. In fact, some real systems (especially public
clinics in poor countries) may well be in this paradoxical situation.

Subjective utilitarians, interested in maximizing customer satisfaction, face a slightly

different evaluation process. Since patients care about many different aspects of both clinical
and service quality, subjective utilitarians have to decide whether the quality mix and spending
level for each service represents an optimal response to the varied individual preferences of its
customers. The obvious difficulty of such a task helps explain why so many subjective
utilitarians favor using markets in health care (and everywhere else). Markets allow everyone
to choose (and pay for) the set of services, and the mix and level of qualities, that they prefer.
Of course this assumes that customers (i.e., patients) can judge quality levels, which is
doubtful when it comes to clinical quality. Hence, even some subjective utilitarians would
regulate markets for quality purposes—as we will discuss in Chapter 11.

For practical reformers, getting more of both service and clinical quality, through better
management, is likely to be the first reform priority. This is especially the case where budgets
are constrained—which almost always is the case. However, when health status and
satisfaction outcomes are low and the health services are already well managed, the question
of whether or not to increase spending—and hence quality—is likely to be relevant. (This
implies wanting a move like #5 or #6 in the last chapter.) Similarly, if a well-managed system
is producing good health but poor satisfaction (or visa versa), the question of reorganizing to
change the quality mix is also one a reformer may need to address.

In summary, quality is an important intermediate performance characteristic, affecting

both health status and customer satisfaction. We have identified three important but distinct
quality issues. First, is quality (on various dimensions) as high as possible given the budget?
Second, does the system produce the right mix of qualities given the budget level for each
service? Third is the question of quantity. Are budget levels set to produce appropriate levels
of quality for each service? In a sense, reallocating budgets across services to improve quality
levels is a task very much like changing the mix of outputs to improve allocative efficiency.

The quality characteristics of the system are influenced by numerous policy decisions.
The day-to-day responsibility for getting to the quality possibility frontier, as well as for
determining the mix of qualities, rests with the managers of health care services. Many
features of the system’s organization—including how managers are chosen and rewarded—
will influence their performance in this regard. The financing and payment systems and
regulatory regimes will determine the incentives managers confront. Hence, these too
influence the quality performance of the system. Nonetheless, one point is clear. Judging
system quality is not simply a matter of “more is better.” Resources are always limited, both
for the country and for the health sector. Even for a system that is efficient in producing
quality, the question remains how much quality—and along what dimensions—will maximize
society’s ability to achieve its overall goals.

5. Developing a Strategic Performance Problem Focus

Throughout the last two chapters we have attempted not only to elevate our particular
vision of the good society into a universally applicable statement of the goals of the health
sector, but also to present a framework for defining problems that various reformers can use
and adapt to their particular circumstances. That framework involves three performance goals,
three intermediate performance characteristics, and two ethical tests (average and distribution).
It also explicitly considers the roles that cost and culture should play in the analysis, since they
represent important connections between the health sector and the larger social and economic
system. The complexity of this analytical structure reflects the reality that defining problems
and evaluating alternative solutions in the arena of health sector reform is a difficult and
complex task. Ignoring that complexity achieves a false simplicity, one that trades rhetoric for
relevance, slogans for sophistication.
 Having said all that, we would like to offer some advice to would-be reformers about
what performance problems to focus on, advice that draws together the various threads of this
and the previous chapter. The essence of our advice is this—Think strategically! Choosing a
problem definition is the first step in the long process of health sector reform, and it should be
done with an eye on the larger implications of that decision.

As discussed in Chapter 1, the process of reform is often provoked by events outside a

reformer’s control. The economy goes down, expectations and/or health costs go up, political
change occurs, and so forth. What we are urging is that reformers make an effort to take some
initiative and influence the problem definition that comes to dominate both political debate and
the policy development process.

In thinking strategically about what problem definition to advance, reformers should

realize that most individuals have multiple goals. First, there are goals for the society itself—
that is the kind of thinking involved in the philosophical analysis we have already discussed.
Many participants in the reform process will also care about the consequences for themselves
and their friends, for their political party or their professional group, for their hospital or their
ministry, and so on. These various consequences depend not only on what problems are
chosen but also on the policies that are selected and the results those policies are likely to
produce. Short-run political gains may come from simply trying to solve a problem, but long-
run improvements in outcomes, and credit for producing such improvements, depend on what
reform actually accomplishes.

To clarify their priorities, we suggest that reformers ask themselves three questions as a
way of synthesizing the ethical, political and substantive considerations at play in selecting a
focus for health sector reform.

• What improvements in health sector performance are most important ethically?

• What areas of poor performance can one reasonably hope to do something
about?
• What will be the political consequences of taking on this issue?

Paying special attention to the first question involves giving priority to values. The
second question requires consideration of whether there are any promising policies or
programs available for dealing with ethically important issues, and whether such measures are
likely to be politically feasible and implementable in one’s own country. For only then can a
reformer decide if focusing on a particular problem will produce useful results. The cost of
such initiatives, compared to the available funds, is a key part of such an analysis. The third
question suggests considering political consequences. In a sense politics and feasibility can be
viewed as “screens” or “constraints” on a value-based approach. Thus, our advice can be
summarized as follows: Start with what you want to accomplish and then see if there is a
technically feasible and politically acceptable way to make that happen.
 As Figure 5.1 illustrates, the control knobs are not the only forces that determine the
performance of the health sector. Instead, non-manipulable factors may be at the heart of a
particular performance problem. It will also not always be easy to know whether an effective,
feasible and implementable policy option exists without doing extensive research into a
particular problem area. Our advice is that you consider the question of feasibility, as best you
can, before you go too far down the road to reform.

We are well aware that the answers to these questions may not all point in the same
direction. Leaders sometimes focus on problems where it is unlikely they will be able to
accomplish much because such a focus satisfies political concerns. The U.S. “War on Drugs”
comes to mind in that regard. We are not saying such symbolic actions are always wrong or
inappropriate. Rather, our point is that reformers need to be aware of what is really at stake
before choosing a goal for which success appears quite unlikely.

These questions also remind us that the process of strategic problem definition has to
be “agent relative.” That is, the political consequences of a given decision are likely to be
different for different actors. The minister of finance may well have a different view from the
minister of health about the most important goals of health sector reform, and the two may not
be held equally responsible if, for example, the new social insurance fund becomes insolvent.
Similarly, focussing on the poor health status of the rural poor is more likely to be politically
advantageous to parties trying to attract the support of small farmers, and less helpful to parties
whose political situation precludes developing a significant rural constituency. In fact, there is
no way to pick a problem definition from an abstract point of view—from what philosophers
call the “view from nowhere.” Instead, choosing a particular problem definition has to be seen
as a response to a particular individual’s or group’s circumstances.

When reformers decide on a problem definition, they often have a question of scope to
consider. Some might choose to focus quite narrowly on one or two specific performance
parameters (like high infant and maternal mortality rates in poor rural areas). Such a problem
definition is likely to lead to a relatively targeted set of reforms; the development of new
reimbursement mechanisms or selective investment in certain facilities or training programs,
for instance. On the other hand, broader problem definitions are likely to lead to a broader and
more complicated reform agenda. Concern about widespread simultaneous failures of risk
protection, popular dissatisfaction with the health care system and high costs could lead
reformers to a much more ambitious reform program. The country might decide to create a
new social insurance fund, new payment schemes for doctors and hospitals, and new forms of
hospital organization—all at once. In making decisions about the scope of problems to tackle,
reformers are well advised to think carefully about the administrative and political feasibility
of more or less ambitious agendas.
 As a practical matter, one way for reformers to proceed is through “benchmarking,”
that is, comparing national performance with various standards to see where performance is
both inadequate and potentially improvable. This process can take many forms.

• Ethical benchmarking comparing performance to general ethical norms

• Internal benchmarking comparing performance across groups or regions within
the country
• Historical benchmarking comparing performance to a nation’s own prior
performance
• External benchmarking comparing performance with that of other,
similarly situated countries

The first two kinds of comparisons address the issue of ethical importance. If a
country’s performance is very unsatisfactory in light of accepted norms, this suggests an issue
that should be addressed. Large internal variations also immediately raise ethical concerns,
especially for countries where equity is a priority. The last three forms of comparison (internal,
historical and external benchmarking) can help address the issue of feasibility. If we once did
better, or if other countries like us do better, or if we do better in some places—all these
suggest that improvement is possible.

In that context, we need to note that policy needs to be judged not just on its
effectiveness, but on its cost-effectiveness. As we argued in an earlier chapter, cost is always a
part of the problem definition, either implicitly or explicitly. Unfortunately, in a world of
limited resources, some very important problems may not be solvable for cost reasons—as the
problem of AIDS in southern Africa tragically reminds us. (Of course, cost is far from the only
obstacle in that situation.)

In the process of choosing priorities, adherents of different ethical theories will tend to
emphasize different concerns. Objective utilitarians will focus on the cost-effective
improvement of overall health status, while subjective utilitarians’ main concern will be
customer satisfaction. Egalitarian liberals, who want to get everyone up to some minimum
level of opportunity, will tend to focus on the health and economic status of the worst off in a
society. Thus, in addition to health, financial risk protection for the poor will also matter
greatly to them. Objective utilitarians will see certain community norms as obstacles to
rational resource allocation—even as relative communitarians defend them. Not everyone will
agree on the relative importance of clinical versus service quality; nor will they all put the
same priority on giving patients a choice within the care process. But that is exactly why
deciding on which performance problems to make priorities is a choice—one that has to be
made both thoughtfully and prudently.

In summary, then, problem definition—picking performance areas for priority

attention—is a critical strategic decision for health reformers. It affects how attention is
focused, what interventions are tried, and ultimately how the reformers themselves will be
judged. It is a choice to allocate scarce political and social resources in one way and not in
another. Such choices will have repercussions on many levels—from the individuals and
organizations involved up through to the society as a whole—and they need to be made in a
self-transparent and forward-looking way. How else can a reformer establish the best possible
base for the difficult work of actually getting reform to happen—which is, after all, the point
of the entire process.
Table 6.1 Meanings for the term “quality” in health care

Quantity Clinical quality Service quality

Human Inputs: skill, Hotel Services: food,

decision making
cleanliness

Convenience: Travel
Non Human Inputs
and waiting times

Interpersonal Relations:
Production System

Care, politeness, respect

References:
Berwick, Donald M., A. Blanton Godfrey, and Jane Roessner. 1991. Curing Health Care: New
Strategies for Quality Improvement. San Francisco, CA: Jossey-Bass.

Bierman, Harold, and Seymour Smidt. 1993. The Capital Budgeting Decision; Economic
Analysis of Investment Projects. 8th Edition. New York, NY: Macmillan.

Carr, Charles R., and Charles W. Howe. 1964. Quantitative Decision Procedures in
Management and Economics, Deterministic Theory and Applications. New York, NY:
McGraw-Hill.

Crystal, R.A., and A.W. Brewster. 1966. “Cost Benefit and Cost Effectiveness Analyses in the
Health Field: An Introduction.” Inquiry 3(4): 3-13.

Cunningham, Lynne. 1991. The Quality Connection in Health Care: Integrating Patient
Satisfaction and Risk Management. San Francisco, CA: Jossey-Bass.

Kolata, Gina. 2002. “Research Suggests More Health Care May Not Be Better.” The New York
Times 21 July.

Pazner, Elisha A. 1974. “Optimal Pricing and Income Distribution.” In Richard E. Caves and
Marc J. Roberts, eds., Regulating the Product: Quality and Variety. Cambridge, MA:
Ballinger.

Reinhardt, Uwe E. 2001. “Can Efficiency in Health Care Be Left to the Market?” Journal of
Health Politics, Policy and Law 26(5): 967-992.

Rosen, Sherwin. 1974. “Hedonic Prices and Implicit Markets: Product Differentiation in Pure
Competition.” Journal of Political Economy 82(Jan/Feb): 34-55.

Sen, Amartya. 1999. Development as Freedom. New York, NY: Knopf.

Weinstein, Milton C., and William B. Stasson. 1977. “Foundations of Cost-Effectiveness

Analysis for Health and Medical Practices.” New England Journal of Medicine 296:716-721.
 Chapter 7
From Diagnosis to Health Sector Reform

1. Introduction

Once health sector reformers have decided which performance problems to focus on—
that is, once they have decided on their strategic priorities—they have to go on to the next
stages of the policy cycle. This means, first of all, figuring out the causes of the poor
performance they are concerned with. This is the process we call “diagnosis.” Then they have
to decide what to do about the situation—the process we call “policy development.” In this
chapter we will discuss those activities and offer advice about how to carry them out, so as to
produce more effective health sector reform.

With respect to diagnosis, the fundamental strategy is, “Work backwards.” Keep
asking “why” until you have discovered the causes of the poor performance you want to
improve. The goal of this process, called a “diagnostic journey,” is to construct a “diagnostic
tree”—an analytical device we describe in detail below—that links aspects of poor
performance to those causal factors that might be changed or modified by policy interventions.
The subsequent task, policy development, involves crafting a set of policies and programs that
will alter the causes (or their impact) and thus improve health sector performance.

In carrying out these tasks we urge readers to pay attention to some simple guidelines.
The first of these is, “Process matters.” How various health reform tasks are carried out can
have a major effect on what actually happens. For example, whether or not critical actors and
interest groups feel they have been consulted will influence their attitudes toward any reform
plan. And that in turn can influence both the politics of getting reform measures adopted and
how effectively the chosen policy is implemented.

Our second guideline is, “Imitate but adapt.” Because new ideas are hard to invent,
imitating proven approaches has much to recommend it. On the other hand, because local
conditions vary, successful imitation involves adapting and adjusting ideas from elsewhere to
local circumstances.

Our third guideline is, “Use evidence.” In recent years, there has been a large
movement in medical practice away from clinical practice based on received wisdom to
“evidence-based medicine,” in which decisions follow from careful study of the relevant
scientific literature. Advocates of this approach argue that doctors often develop patterns of
practice that are not scientifically justified. For example, some physicians routinely remove
tonsils or perform hysterectomies when there is no real reason to do so. The same can be said
of some health sector reformers, who routinely urge their favorite remedy—e.g. “privatization”
or “decentralization”—without first determining the performance problems in a particular
country and without a careful analysis of whether their favorite intervention will improve that
performance. To counter such uncritical enthusiasm, we urge “evidence-based reform,”
whereby policies are based on careful analysis of problems, causes and likely effects.

Consider the following example. Suppose a newly independent Eastern Europe

country identifies declining male life expectancy (due to cardiac problems and rising suicide
rates) as a priority performance problem. Suppose too, that some reformers urge that country
to develop competitive private health insurance in order to help improve the performance of
the health care system. Such a move would not make sense unless advocates could explain
how and why these new financing arrangements would have a positive impact on male life
expectancy (in fact we doubt such a link exists).

In carrying out diagnosis and policy development, we urge reformers to utilize the
framework we outlined in Chapter 2, namely the five “control knobs.” Each control knob
focuses on certain features of the system and the strategies that governments can use in each
arena to improve health sector performance. For example, governments can change what taxes
are used to finance health care; or how physicians are paid; or how it organizes and manages
hospitals. In Part II of this volume, we review each of these sets of policy options in some
detail and discuss the likely consequences of different approaches.

The control knob framework can also be a helpful organizing device at the diagnostic
stage. For at that stage the task is not just to identify causes but to identify causes that can be
changed by government action. The control knobs thus provide a menu or shopping list—a set
of possible endpoints to the diagnostic journey that can in turn be the basis for potentially
effective government action.

Let us put this point another way. Identifying potentially effective changes in one or
more control knobs is the end of the diagnostic task and the beginning of the policy
development task. Analysts first work backward to causes. Next, they have to look to policies
to change those causes, and then work forward from causes to forecasts of improved health
sector performance as a result of various policy changes.

In this chapter we begin by working through an extended example of a

diagnostic tree and discuss how to link diagnosis to the control knobs. Before offering a “one-
problem” analysis, however, we discuss the circumstances under which reformers are likely to
conclude that a more ambitious, multifaceted effort—i.e., major health sector reform—is really
needed.
 In the second half of the chapter, we shift our focus to policy development. We first
discuss some process concerns and then explore some screening criteria by which to judge
alternative proposals. Finally, we discuss how to find and use evidence in both phases of the
process, and conclude with a few final cautions and observations.

2. The Genesis of Major Health Sector Reform Efforts

So far we have been discussing the process of health system diagnosis and policy
development as if it focused on one specific performance problem at a time. Such an approach
is likely to provoke piecemeal, programmatic initiatives; a new maternal health program, for
example, or an expanded effort at childhood immunization. But as we have noted before,
countries often confront a number of inter-linked performance problems. The diagnosis for
each specific problem may well reveal that certain common features of the health care system
are important causal factors. To deal effectively with these multiple problems, multiple
interventions may be required. This kind of analysis, then, is one path that can lead a country
to major health sector reform efforts.

In this connection, we have to return again to the key role of cost, as described in
Chapter 5. A nation unhappy at its health sector’s performance—and yet facing cost
constraints—will often be forced into a complex and multi-part analysis as it seeks to explicate
the causes of its difficulties. Many different causes are likely to emerge, including technical
inefficiency (due to poor incentives produced by the payment system and poor management
due to faulty organization), allocative inefficiency (due to poor resource allocation from the
financing system), poor quality, and limited access. And program-by-program fixes will not be
possible, precisely because there is not enough money to pay for a whole series of
uncoordinated new initiatives. Again, a multi-part reform, in which major changes are made to
several control knobs, in an effort to fundamentally alter the system, is likely to be the answer
(Colombia Health Sector Reform Project 1996).

There is also a matter of coherence here. Multiple programmatic efforts run the risk of
being uncoordinated and even inconsistent. Someone may urge decentralization of primary
care to the provincial level, even as someone else urges carrying out a centralized national
vaccination program. Dealing with such conflicts in an integrated way may require a
coordinated look at and a plan for the revision of the system as a whole.

There is also the issue of the limited political and technical resources typically
available to reformers. Tackling a large number of performance problems in isolation from
each other can place far too great a demand on those resources. Focusing instead on certain
common and more fundamental problems can, potentially, be a cost-effective use of limited
reformist energies—assuming, of course, that such changes are possible.

Finally, an integrated and extensive reform effort may have political value, in that it
often appears more dramatic and attention-getting than a series of narrow programmatic
initiatives. By promising more to the population, broad reform can seem like an effective
political strategy—especially when the population is dissatisfied with the current system
(Edelman 1984).

Consider the following example. Suppose a country is concerned about both an

apparent excess of maternal deaths and the low overall life expectancy among the rural poor.
The diagnosis seeking the causes of these problems is likely to produce similar results. Poor
service quality and lack of utilization will appear again and again. Since the same budget-
based public system provides care in all these arenas, an appropriate response to such a
situation could be a multi-pronged attack, using several control knobs to improve service and
increase utilization in the rural areas. This could lead to a complex program of health system
reform, designed to improve performance without raising costs. For example, substantial
authority could be decentralized to local communities, who would also be allowed to set up
local insurance schemes (community financing) to generate some added funds. These
communities could also be allowed to contract with NGOs or private practitioners on either a
capitated or incentive basis to operate local health centers—to get better results from the
available resources.

Such a scheme, involving a number of significant changes, would involve substantial

risks and demands, but it would also be dramatic enough to have the possibility of rallying
significant political support. It also offers the hope that one set of reforms would deal with
many issues at once, in an integrated and consistent fashion.

Here is another example. Suppose a nation is concerned about differences in health

status and risk protection between those who work in the formal sector (government and large
employers) and those who are self-employed or who work in the informal sector. The
diagnostic journey for each of these problems is likely to reveal that only those in the formal
sector are covered by social insurance, while other segments of the workforce largely pay for
care out-of-pocket. Such a nation might well decide to establish a new unified social insurance
system. This would both increase access to care among workers in the informal sector and give
them the risk protection they now lack. It might also join this with efforts to institute selective
contracting by the new insurance fund, together with reform of the hospitals themselves to
give them more autonomy and their managers more authority. Such a multifaceted reform
should be based on a series of specific diagnostic journeys. But the need for an interlinked
portfolio of changes arises because of the complex intersecting set of causes that must be dealt
with. And, as always, calculations of political feasibility and administrative implementability,
as we discuss later in this chapter, should influence a reformer’s decision to proceed in this
way.
 It is possible that this kind of analysis is implicit in the arguments of those reformers
who advocate substantial policy changes without linking their proposals to any particular
expected performance gains. In our experience, however, that is not typically the case: the
failure to offer any systematic diagnostic analysis is more likely to reflect badly designed or
poorly thought through reform ideas. In fact, a complex reform program designed to improve
performance on multiple dimensions requires more, not less, analysis than simpler and more
modest reform alternatives, and the potentially complementary and conflicting consequences
of complex reform programs need to be explicitly analyzed.

3. Developing a Health System Diagnostic Tree

Before presenting a specific example of how to do a diagnosis, we need to calibrate our

expectations about what such a process is likely to find. Given the complexity of the health
sector, it will seldom be the case that A is caused by B and only B, and that B is caused by C
and only C. Instead:

• There are likely to be several stages or series of causes

• Each effect may well be produced by more than one cause
• Each cause is likely to have multiple effects
• Causes and effects may interact and reinforce each other in various ways
• Not every cause will be manipulable by public policy
• Change may well require acting on more than one cause at a time—i.e.,
changing more than one control knob.

With these cautions in mind, let’s look at a specific example of a diagnostic journey.
To do this, we will use an analytical tool we call a health system diagnostic tree, which is
similar to, but different from, two other kinds of tree diagrams the reader may be familiar with.
One kind is a decision tree, which is used for analyzing decisions under uncertain
circumstances. At each branching point in a decision tree, one of a set of mutually exclusive
events occurs (either by chance or by the choice of the decision-maker) (Behn and Vaupel
1982). In a health system diagnostic tree, however, an analyst represents various possible
causes for a particular situation at each branching point, and it may well be the case that
several of the causes are in fact operating at the same time. Unlike the decision tree, there is no
presumption that paths are mutually exclusive.

The health sector diagnostic tree is also different from the kind of tree diagram implicit
in the diagnostic process in clinical medicine. While these trees also involve causality,
normally at each branch, only one out of a set of alternative causes is to be selected. The
patient has either this disease or that one (Tierney, McPhee, and Papadakis 2001). In health
sector diagnosis, more than one cause (i.e., more than one “disease”) is generally operating at
the same time.

Consider the following example. Suppose the government of a country decides that,
compared to other similar countries, it has a noticeably higher rate of maternal mortality,
especially among the rural poor. Suppose further that on both political and philosophical
grounds the government decides to make improving this rate a priority. We will work through
this example, to see how the diagnostic process operates.

INSERT Figure 7.1.

Starting To Work Back* Along the Causal Chain

The first step is to consider broad categories of causes. Figure 7.1 lists three possible
causes that often contribute to such health problems in developing countries: inadequate health
care, high-risk behavior, and poor socioeconomic conditions. As part of health sector reform, a
country will not be able to address causes outside the health care system. Nevertheless, these
should be still considered in the analysis, to keep a realistic view of the role that health sector
reform can play in solving the problem (WHO 1986).

One way to determine which links are significant is to look at one’s own situation
compared to similar countries that do better. A possible causal factor that operates similarly in
both nations is not likely to account for differences in their performance. For example, if
known behavioral risk factors (e.g., hard physical labor, smoking) are similar in our nation to
those in countries that do better, than these causes are not likely to account for our high
maternal mortality. A second line of analysis is to take advantage of any variations in outcome
within a country, for example, by region or socioeconomic group. We can then look to see
whether there are any variations in potential causal variables that are parallel to variations in
outcomes. Such an association does not prove that there is a causal connection, but it should
make one suspicious enough to explore the matter further (Rossi and Freeman 1998).

Suppose other countries with similar socioeconomic conditions and behavior patterns
do achieve better levels of maternal mortality. This implies a need to focus on health services
as a potentially critical factor. The next question, as illustrated by Figure 7.2, is what aspects
of the nation’s health services are “inadequate.” This second stage shows how a causal
analysis reaches back through successive causes of poor performance (and causes of these
causes). The health system diagnostic tree is just a way to keep track of, and map out, the
causal chains involved.

INSERT Figure 7.2. here

The Next Step Back Along the Chain
 The first step in sorting out the relative contribution of the two causes described in
Figure 7.2 is to look at utilization. What care do citizens receive? If, for example, antenatal
care visits per capita and the rate of hospital deliveries are similar to those of better performing
nations, quantity of care is not likely to be the problem. Lower utilization rates, in contrast,
suggest a quantity issue. Similarly, the death rate among patients who are admitted to a
hospital (again versus international benchmarks) could provide information on clinical quality.
Since maternal death rates among the rural poor are of special concern, it would be important
to compare the quality and quantity of care for that population versus the rest of the country. In
addition, as we noted initially, at each juncture in the tree, the options are not mutually
exclusive. There could well be both quantity and quality problems, to varying degrees, in
different regions of the country.

As analysts move back through the causal tree, they should seek to identify factors that
can be altered through new policy initiatives. For example, suppose data suggest that poor
clinical quality of care—especially in rural areas—contributes to maternal deaths. This implies
a deeper look is in order at possible causes of that poor clinical quality, as illustrated in Figure
7.3. The first two branches of that diagram are straightforward. First, is there a problem with
the providers? As discussed in Chapter 6, evaluating skill and decisionmaking will generally
involve a look at clinical records, and investigating the care given in a sample of maternal
death cases would be one way to proceed (Lockyer and Harrison 1994). If this study does
reveal clinical quality issues—this should provoke still further inquiry. First, were the right
decisions made about how to care for patients? Alternatively, was it the case that while people
tried to act correctly, they could not because they lacked critical inputs, such as personnel,
facilities, equipment, drugs, or other supplies (Berwick, Godfrey, and Roessner 1991)?

Another possibility is that we could discover problems at the systems level—poor

communication, lost records, and so forth. The third branch of Figure 7.3 reflects this last
possibility. As we mentioned in discussing clinical quality, it is often the way in which the
care system is organized that accounts for poor results. As we will see in Chapter 10
(Organization), much of the thrust of the total quality management movement has been aimed
at making changes to such systems (Deming 1982; Juran and Gryna 1980).
INSERT Figure 7.3. here
More Steps Back Along the Chain

Each of these causes gives rise to still further questions. Suppose wrong decisions are
made. Is it because people don’t know better (training) or because they are not trying hard
enough (motivation)? If inputs are limited, is it a matter of overall budget resources or how
purchasing and staffing are carried out? If clinical systems and processes are faulty, is it poor
management within institutions, or the way care is organized across the system, or both? As
we move backwards up the causal chain, we should be mindful of the imperative to base our
work on evidence, not speculation.

Going back still further begins to reveal factors that are subsumed under the control
knobs. If workers are not motivated or clinical systems not well constructed—because of poor
management—why is that? Is it because there are no incentives on the organization to produce
quality, or are there no incentives on managers to do better? Or is it that managers lack the
skill and the authority to do better (Roberts 1975)? Here, we see the expression of the
principles noted initially—causes can have more than one effect, and effects can have more
than one cause. Obviously, each of these endpoints could, in turn, provoke further analysis.
Why, for instance, isn’t training better, or why are doctors not more motivated?

Alternatively, suppose the assessment depicted in Figure 7.2. revealed that an

insufficient quantity of services being used in rural areas is a critical cause of poor
performance. The further study then required is shown in Figure 7.4.

INSERT Figure 7.4. here

Title needed for Figure 7.4

Why might the quantity of care be insufficient? The explanation could lie on either the
supply or the demand side. On the supply side, the most direct explanation might involve
simple physical availability. Are there clinics and hospitals with staff, supplies and the
capacity to deliver more services? If that is the case, then either patients are not using the
services that are there, or there are barriers preventing physical availability from becoming
effective availability (as we defined those concepts when discussing “access” in Chapter 6). If
services are not physically available, asking “why” leads to various possibilities—perhaps the
budget for these activities is too low. Alternatively, if spending levels are comparable to other
regions or other countries with higher utilization, then the lack of services could be due to
either technical inefficiency (i.e., high unit cost leading to lower volume) or allocative
inefficiency (i.e., the wrong mix of services is being produced from the perspective of cost-
effective performance). And if any (or all) of these turn out to be the case, we are coming
closer to the point of identifying causes that might be changed by acting on the various control
knobs.

On the other hand, if services are physically available but unused, the issue is on the
demand side. First, there might be a lack of perceived need—that is, the local culture may
strongly favor non-institutionalized delivery. Alternatively, service “qualities” may make the
service unattractive (Mehrotra and Jarrett 2002); so too might the presence of user fees, either
explicitly to the institution, or in the form of informal payments to providers, or the
requirement on patients to pay for drugs and supplies. This example shows how supply and
demand are not fully separable, because low demand may be due to the nature of the supply.

INSERT Figure 7.5. here

Title needed for Figure 7.5

To see this, let us trace out one further set of causal connections, as in Figure 7.5.
Suppose the system is technically inefficient (high cost). Why might that be the case? Is it
poor management, lack of effort from workers, or failures in the system of production?
Suppose, for example, studies reveal that while clinics theoretically have adequate staff,
doctors actually only work a few hours a day and spend the afternoons in private practice
(Berman and Sakai 1993). Hence, reported caseloads per doctor are low and average costs are
high. To account for this, the diagnostic journey has to go even deeper and look at staff
incentives, organizational culture, systems of accountably (or their absence), how managers
are selected and rewarded and other matters of this sort. This analysis can lead to the ultimate
end of the journey, namely, the identification of features of the situation that are potentially
changeable. Be warned, however, as noted above, that multiple, interacting cases may well be
at work and multiple interacting policies may be required to produce better results.

Notice that as we have done this analysis, quite a number of the intermediary
performance characteristics identified in Chapter 6 have made an appearance: various aspects
of efficiency, access and quality have played a role in all the potentially causal chains. Notice,
too, however, that categories like “technical efficiency” and “clinical quality” do not appear at
the ends of the diagnostic tree branches. Rather, as intermediary characteristics, they appear in
the middle of the journey, and their appearance itself requires further explanation.

As noted, the pathways in these diagrams are not mutually exclusive. Going back to
Figure 7.2, we could have both a quantity and a quality problem—the same causal forces could
be producing both. For instance, hospitals might be paid in a way that does not generate any
incentives for performance, which, in turn, could produce both poor quality clinical care and
technical inefficiency that limits the quantity of care. Moreover, if we view the full tree in all
its branches, we would see that many of the factors that contribute to poor quality are also
potential causes of technical inefficiency. This is because poorly performing organizations are
 typically inefficient in the production of everything: quantitatively as well as qualitatively.
Moreover, one deficiency could be the result of several interacting causes.

As we develop the causal analysis further back along the causal chain, we identify
more and more specific causes that in turn begin to allow us to identify specific remedies. This
process of diagnosis leads us back to the health system control knobs.

4. Linking Diagnosis to the Control Knobs

We have argued all along that the “control knobs” provide a framework for considering
possible interventions to improve health sector performance, once we have embarked on a
diagnostic journey. In effect, they provide a list of options. As a way of illustrating their use,
we now explore the high maternal mortality example one step further.

• Financing: If we do have a quantity of service problem, can we tap new or

additional sources of funding to expand the budget for this service? Alternatively, can we alter
how we spend existing funds to increase allocative efficiency?
• Payment: If we discover we have a problem of motivation, whether at the
level of the organization or the individual provider, can we change how we pay, or the rates we
pay, to improve both the quantity and quality of services?
• Organization: If we are not organized to facilitate economies of scale and
coordination, if patients experience cultural barriers or have preferences for certain types of
providers, what changes could we make in who offers various maternal health services to
overcome these problems? If the issue is technical efficiency and/or clinical or service quality,
can we change how providers are organized at the microlevel in ways that would increase their
performance?
• Regulation: Are there regulatory devices we can deploy to increase the
quality and quantity of services or to increase their utilization?
• Behavior: If there are important causes on the demand side, could we seek
to influence mothers to increase their use of the services that are available?

Notice that to get significant change in the performance of our system with respect to
maternal mortality, we will probably have to take several actions simultaneously. For example,
suppose we reorganize to give managers increased authority to improve efficiency. This is
likely to have much less impact, if done in isolation, than if it is done in conjunction with
payment reform (e.g. incentive contracting) of a sort that gives managers a strong reason to
improve performance. Similarly, raising more money (via financing) to push into a system of
care that performs poorly may have very little impact without complementary changes in
payment and organization.

Similar kinds of interaction effects are likely to operate when it comes to producing
changes in behavior on the demand side of this problem. Suppose we are trying to convince
skeptical patients to increase their utilization of our reorganized maternal health services. That
reorganization has to deliver changes in clinical quality and service “qualities” that will
produce positive experiences for those who utilize the service. Indeed, to truly make a
difference, we may need to raise more money (finance) and deliver it via new incentive
schemes (payment) to restructured providers (organization), even as we seek to convince
patients that the new services are worthy of their patronage (behavior).

The relative importance and relevance, as well as the content, of these interventions
will depend on the specifics of a country’s situation. For example, if services are largely
provided in facilities directly operated by the ministry of health, it will be easier to influence
their internal organization than if they are offered by independent practitioners. In the latter
case, it is likely that incentive payments and/or regulatory constraints will play a larger role.
Similarly, a nation with a public delivery system manned by reasonably well motivated
employees who are hamstrung by restrictive budgetary practices and poor management will
need different organizational changes than one in which staff are cynical and uninvolved.

We also need to recognize that not every health sector reformer will decide on an
ambitious program of multiple major changes. They may lack the authority or the resources,
or political and administrative feasibility considerations may point toward a more modest
effort. If so, we believe that conclusion should emerge as a result of the kind of analyses we
have described.

6. The Process of Policy Development

Before we say more about the substance of health sector reform, we need to say more
about the process. Experience shows that process can matter as much as substance, and indeed
these two are deeply intertwined. In particular, involving interest groups in the process of
policy development serves at least four functions.

First, participation by those affected allows policymakers to hear and take into account
interest groups’ concerns. This can improve both the acceptance and the effectiveness of
reform initiatives. As we discussed in Chapter 4, one way to assemble a support coalition is to
compromise with key constituencies on features of a reform that matter more to them than they
do to reformers. Allowing constituencies to participate in the policy development process is
one way to learn about those concerns and take them into account (Heymann 1987).

Furthermore, being aware of such concerns can improve a policy from the point of
view of successful implementation. For example, compliance with a proposed new regulatory
system might simply not be practical, given hospitals’ existing data systems and administrative
capacity. Learning about such issues in the policy development process can be critically
important in creating a scheme that will function as intended.

Second, participation can increase the acceptance of a plan, because it increases the
psychological and philosophical legitimacy of the process that developed it. Being heard can
“co-opt” participants who then feel that their concerns have been acknowledged even if they
don’t get everything they want (Cobb and Ross 1997). Exclusion, on the other hand, operates
both emotionally and prudentially to generate hostility and suspicion. Furthermore, in
democratic societies, allowing interests to be heard is likely to increase the legitimacy of the
process (and its product), not only among those who do participate, but among everyone else
(Almond and Verba 1963).

Third, participation can serve to educate interest groups about the concerns of, and
pressures exerted on reformers by, other constituencies. For example, the doctors are likely to
learn what the hospitals, unions, and consumers are demanding. This gives reformers both an
excuse and an explanation for why they cannot necessarily respond favorably to any one
interest group’s demands.

Fourth, participation educates the participants about the detailed content of the
proposals that ultimately emerge. If, for example, local governments have been involved in
crafting a health sector decentralization proposal, they are more likely to know what it means
for their own responsibilities. This allows the relevant groups to understand any reform, makes
them better able to predict the consequences to them of it, and prepares them for those
consequences. This in turn is likely to lower their uncertainty and anxiety, and hence decrease
at least some of their resistance to change.

At the same time, it is also true that participation can go too far. There is a great deal of
evidence that the skill and ability of interest groups varies widely when it comes to influencing
policy development (Kweit and Kweit 1987; Kathlene and Martin 1991). Groups with more
resources and expertise tend to have more impact. Thus, the balance of forces in a
participatory process may be quite different from the relative importance reform advocates
place on the concerns of various interest groups.

As we have suggested several times, when it comes to health sector reform, this
imbalance often lends a conservative bias to the process. Organized groups, especially
providers, can overwhelm the inexpert and unorganized. Poor, rural consumers, for example,
seldom have the resources to have an effective voice in reform discussions, especially on more
technical issues. Furthermore, the new institutions or organizational forms that might be
created by reform do not yet exist to advocate for their interests.

In addition, participatory processes can easily degenerate into a demand for unanimity.
This gives entrenched interests a veto that can cripple any hope for real change. It can also lead
to reports or legislative language that are intentionally vague—for the precise purpose of
allowing those with diverse perspectives to agree to the compromise. This outcome only defers
hard choices to the implementation stage, where again well-organized interests can often
prevail (as we discuss in Chapter 11 on Regulation) (Ackerman 1974; Landy, Roberts, and
Thomas 1990). Indeed, powerful interests sometimes strategically support vague language so
as to defer important issues to a less publicly visible administrative process in which they
expect to have more influence.

All of these observations suggest that participation by interest groups raises, not
lowers, the need for leadership by reformers. Reformers can do much to shape any
participatory process by defining its procedures and its membership: they can formulate
questions, set agendas, specify alternatives and analyze implications. They can, and should,
honestly explain the limits of the conversation and specify what options and spheres of action
are, and are not, on the table.

Moreover, those in charge of managing a diagnostic or policy development process

need to understand that large groups of people are seldom capable of serious analytical work.
At the front end, they can “brainstorm” and generate new ideas, and at the back end they can
make selective criticisms of proposals once on the table. But the hard work in the middle, of
going from a “brainstorm” to a developed policy option, together with an analysis of its
implications, is not the work of a large meeting. Instead, it requires organized and disciplined
staff resources. Sophisticated managers know that the background, training, politics and biases
of those doing the staff work can affect the result. This is especially so when data are scarce or
inconclusive, as is often the case in health sector reform (a point we return to shortly). This
only reinforces the need to manage a participatory process—and the associated staff work—in
a disciplined and sophisticated manner.

Finally, we need to say a word about the process of generating policy alternatives.
Much research on human problem-solving and cognition supports the notion that new ideas are
extremely difficult to generate (Barzelay and Armajani 1992). People in general have a
difficult time thinking “outside the box” of their familiar concepts and paradigms. All of this
implies the lesson we announced at the beginning of the chapter: “Imitate but adapt.”

Imitation can take various forms. Ideas from health sector initiatives in other countries
are one obvious source. Another possibility is ideas developed in other policy areas that can be
adapted to the health context. For example, if decentralization has worked well in education,
perhaps these ideas can be applied to health services. If contracting out in the highway
department has improved the quality of work, maybe there are lessons to be learned for
hospital laundries or food services.

General theoretical arguments can also provide a source of new ideas. Perhaps ideas
about competition in economics or tort liability in law can suggest reform initiatives. Here,
however, we need to issue some words of warning. Economists in particular easily become
overly enthusiastic about using markets to solve every problem—based on theoretical models
that don’t always apply to the health sector (Reinhardt 2001). For these and other new ideas, it
is important to observe the “but adapt” part of our guideline.

To summarize this part of our argument, process has an impact on content, politics, and
implementation. Participation is not just a ploy. It is both a learning and a teaching device, and
can improve a policy substantially and have a major impact on its acceptability. But it can also
get out of hand and make the life of a reformer extremely difficult. Thus, the process of policy
development needs to be managed strategically. As with everything else about health sector
reform, foresight, careful analysis and self-critical thinking can make substantial contributions
to the prospects of success or failure.

7. Screening Tests for Policy Interventions

Once plausible policies have been identified, reformers need to do a serious feasibility
and implementation analysis. That analysis has to take account of the likely politics before
and after a program is adopted; of local customs, capacities and institutions; and of the
available financial and human resources. The analysis has to lead to a plausible story about
how the policy interventions will act to produce the desired performance changes. This is not
always easy to do. Our knowledge of the health sector and of the social and economic systems
connected to it is far from exact or complete. We are therefore often unable to fully predict the
impact of all possible reforms on all possible outcomes. There are, however, certain
characteristics of reform proposals that have general predictive value—characteristics we can
look for to test the likely efficacy of a particular proposal. We have alluded to these several
times above and will now describe them more specifically.

7.1. Implementability

We have argued that what matters is what actually happens to system performance
when a policy is implemented. Reformers therefore have to explore whether their country has
the institutional and social prerequisites needed to support a proposed reform. For example,
do the government agencies that will have to carry out the program have the necessary
technical skills and managerial sophistication? Can the existing systems of data collection
produce the information that will be needed? How reliable are the courts and police when it
comes to enforcing proposed regulations? There is also the matter of influence from special
interests. What role will various groups—from tribal leaders, and political parties, to the
medical society—have in the implementation process? Will this influence undermine a
program’s real impact? All these factors will help to determine what a particular policy will
actually accomplish (Pressman and Wildavsky 1973; Davies and Davies 1975).

Social and cultural conditions and norms will also have an impact on implementation.
How deferential to authority is the population? How willing is the government to use coercion
to get its way, and how legitimate will such efforts be in the eyes of the population? Is rule
compliance itself widely valued, or widely flouted and disrespected? Will people lie or tell the
truth when asked to report on their own behavior?

As we stressed in discussing the policy cycle (Chapter 2), wise policy designers
carefully consider such issues in the process of policy development. They don’t propose
payment systems that will tempt the unscrupulous or regulations that require unavailable data
for their monitoring. Wise reformers do not presume that an idea from Denmark can be
replicated in Uganda. They will instead look for schemes that fit the cultural milieu and
organizational capacity of their environment.

7.2. Political Feasibility

Those doing policy development also need to anticipate the process of political
decision-making. In Chapter 4 we discussed the ideas of political analysis and political
strategy, and showed how these affect political feasibility. That chapter emphasized that
feasibility is not a “yes” or “no” judgment. It depends not only on who starts out in favor or
opposed to plan, but on who is prepared to expend what resources, and take what risks, to get a
plan adopted. It also depends on the political skill of a plan’s opponents. Even then, the
outcome is almost always uncertain.

Reformers therefore need to ask themselves how hard they and their allies are prepared
to fight to get a particular scheme adopted. Their real choice may be between a plan that it is
easier to get approved and one that is politically more difficult to adopt, but which promises
more impact. Thus a political cost-benefit calculation, based on the particular situation (e.g.,
political resources, goals, philosophy) of reform advocates, is implicit in the notion of a
“screening test” for political feasibility. As we noted in Chapter 4, the critical tradeoff may
involve personal costs to the reformer versus benefits to the society as a whole.

7.3. Political Controllability

 A final consideration in policy design is whether new arrangements and institutions
will be subject to effective democratic political control. Such control depends on many
features of the situation. First, will the results of the policy be publicly knowable, i.e., are the
consequences measurable and those results transparent? Second, once we know the results of a
policy, are there mechanisms in place to change it in response to information about its
performance? Finally, are those who have the power to make such changes themselves
politically accountable? That is, if citizens are unhappy, do they have channels of political
action available to effectively express their dissatisfaction and through which to push for
further reform?

The general argument for such controllability is based in part on the likely imperfection
of any reform. As we argued in Chapter 2, policy reform occurs in a cycle, and unanticipated
problems are likely to appear. Therefore, if we create new institutions and arrangements that
are difficult to change, our initial efforts can easily become an obstacle to progress in later
rounds of reform (Rawls 1996). Political controllability, we believe, will also generally
produce better outcomes in the long run. Consumers, patients, and citizens who have a
political voice are more likely to demand, and get, better performance from the health system.
Moreover, results aside, as egalitarian liberals, we believe that people ought to be able to shape
those public policies that have a large impact on them.

However, this test is also controversial, and some people within the health sector want
to limit political control over the products of reform. For example, in transitional economies in
Eastern Europe, physicians have often favored the establishment of social insurance funds
isolated from the general budget process (Feldstein 2001). They do not trust their country’s
political institutions, pressed by many competing demands, to produce the funding levels for
health care which they desire.

We realize that political accountability can produce undesirable consequences in

specific cases. For example, transparency can increase the influence of special interest groups,
who use information about what is occurring to exert pressure on the legislative process. Such
arrangements also can make it more difficult for legislators to support proposals they believe
are in the national interest, when those same proposals undermine the parochial interests of
their constituents.

Benevolent dictators or powerful technocrats can produce “good” results, if one

happens to agree with their particular substantive values. But this is a risky long-run strategy.
In addition, the inability to predict the full consequences of one’s policy proposals is a strong
argument against trying to prevent revisions. Thus, we urge that transparent mechanisms for
political accountability be built into institutions as part of health sector reform.
8. Finding and Using Evidence for Diagnosis and Therapy

Evidence-based health policy requires…evidence! Yet many lower and middle-income

countries lack adequate evidence. Ironically, however, even when data and information are
available, they are often not well utilized. We therefore need to be concerned both with the
availability of information as well as its effective use. The recent report of the Global Forum
for Health Research noted that “like other global public goods, global health and global health
research suffer from insufficient investment” (2000).

What kind of knowledge can we use to identify the causes and predict the
consequences of health sector reform? Most desirable are well-designed studies that produce
reliable statistical results linking policy to performance. However, such studies are far less
common in health systems work than clinical medicine. Health care systems are complex and
varied, and there are few cases to study—i.e., relatively few countries. It is difficult, therefore,
to get a large enough sample to deal with the many potentially relevant variables. In addition,
because data are difficult to collect, they are often incomplete or unreliable (Willians 2000).
Furthermore, it is almost impossible to run controlled trials on even a single health care
system—never mind a large number of systems—the way we can study a large numbers of
patients.

Another desirable source of evidence is well-designed studies of demonstration

projects that cover both experimental and non-experimental sites (to serve as control groups)
and report comparative performance data. But these, too, are relatively rare. Comparative
analyses of similar interventions in different countries are more frequent and can be quite
helpful in suggesting possible patterns of causality (Frankel and Doggett 1992). Suppose, for
example, we look at a selection of community financing initiatives, some of which went well
and others badly. We might then be able to develop some ideas about the preconditions for the
success of such interventions. More difficult to use, but still of value (and perhaps most
common, especially for national level changes) are reports about the effects of a policy change
in a country (Collins et al. 1996). It can be hard to disentangle causes of success or failure in
such reports, but they can still be provocative or suggestive.

In addition to studies of various kinds, general theoretical arguments—about the effects

of economic incentives or of political symbols—can also be brought to bear on a particular
case. For example, if we pay doctors more to do X than Y, they often do more X and less Y.
We do however have to be cautious, because theoretical arguments may miss important local
details, such as whether hospitals will report accurately or whether local markets are
competitive. This leads to a third basis for diagnosis and prediction, namely, an analyst’s own
experience and judgment as informed by detailed local knowledge. This can help someone see
why a particular policy or program might not work in a specific country.
 It is beyond the scope of this chapter to provide extensive guidance on the many facets
of health systems research that could support diagnostic journeys for health reform. But to help
get things started, here are some brief suggestions.

In the 1990s, there have been important advances in compiling data on health system
performance. For the lower and middle-income countries, this has included the reports of the
International Commission on Health Research for Development, the World Bank’s 1993 report
Investing in Health, and most recently WHO’s Health Systems: Improving Performance
(2000). The annual publication of the Organization for Economic Cooperation and
Development’s Health Data provides an invaluable source of data on OECD member
countries. The national reports on central and eastern European countries, produced by the
WHO and the European Observatory on Health Care Systems (the “Health Care Systems in
Transition,” or HIT series) are also very helpful. Each of these major reports includes a good
amount of information on health system characteristics and outcomes.

However, the availability and quality of the data in these global references is very
uneven. The response of various nations to the World Bank’s 1993 report and WHO’s 2000
report was quite mixed. Various criticisms revealed that individual country figures were
sometimes extrapolated from regional averages. In addition, national health expenditure
information was sometimes based on significant “data-filling.” Where good local sources are
available but not known to international compilers, they can be a more trusted (and
trustworthy) alternative.

Of the three main performance criteria, evidence on health status is by far the most
developed. Traditional health status measures, like infant and under-five mortality and life
expectancy, have now been augmented with new composite measures of disease burden like
DALYs and DALEs (WHO, 2000). Many countries now collect significant national health
status information using standardized survey instruments such as the Demographic and Health
Surveys (DHS) and the Living Standards Measurement Surveys (LSMS). These can be
supplemented with data from well-done smaller local studies, which may provide additional
details on specific health problems and population groups.

Evidence on financial protection and citizen satisfaction is more limited, especially in

lower and middle-income countries. For example, evidence on the distribution of the financial
burden of health care may be available from national health accounts studies or household
surveys (Makinen et al. 2000). But the concept of protection implies concern with the result of
the financial burden in terms of household financial status. Here there is little general data
available. As noted above, such outcomes depend not only on the health system, but on other
socioeconomic factors. Measurement of customer satisfaction with health systems has been
extensively done in the OECD countries using polling methods, but little evidence on
satisfaction is available from the lower and middle-income countries. The recent effort by
WHO in the report on Health Systems: Improving Performance is worth noting, but this
information is often not detailed enough to be used for diagnostic purposes.
 Individual countries may have some evidence on both financial protection and
customer satisfaction from national surveys and specific studies. We strongly encourage
diagnosticians to assemble and review this information and improve upon it if they can.

When it comes to many intermediate performance characteristics and other factors that
help determine health system performance, the good news is that significant evidence is
available. Some of the key data sources include:

• National health accounts, health care costing studies, and financial

reports of insurers and other payers on financial resources provide data on costs and outputs
that can be used to assess efficacy;

• Household surveys and health information system reports shed light on

access and utilization;

• Quality studies and health information system reports provide

information on the clinical quality of care;

• Government statistics, professional organization statistics, and facility-

based studies provide data on the availability of facilities, manpower, equipment, supplies, as
well as on service volumes;

• International pharmaceutical market data, government and private

market statistics provide information on pharmaceutical availability and use.

We know from experience that there is a lot of relevant information available for health
systems analysis in almost every country. But we also know that this information may not be
easily accessible and that it often needs to be used with caution. Much of what is helpful will
be unpublished, in the form of studies done by government or international agencies, local or
foreign foundations and consulting companies. Hence “data entrepreneurship” may be
required in tracking down the relevant information.

Here are some of the ways reformers can make more efficient use of the available
evidence:

• Know the literature: It is increasingly easy to access up-to-date

information through international publications and the Internet. Take the time to identify the
relevant literature and become familiar with it. It is unlikely that you are the first person to
confront or think about the problem that you are trying to solve.
• Get advice: National and international expertise is often available to
help you sort through the literature and experiences of other countries. The major international
organizations can be helpful as can international networks like the European Observatory or
the Alliance for Health Systems Research. But…caveat emptor (Let the buyer beware). Be
skeptical of advice as well, especially advice that comes from those with something to sell,
like a costly computerized information system.

• Rapid assessment: Many questions do not require a major research

project in order to develop a plausible account. Just because detailed evidence on an important
point isn’t available doesn’t mean there aren’t quick and relatively inexpensive methods to get
plausible estimates. And those estimates may be sufficient for policy purposes.

• Support good research: Despite the last point, there may be real
problems with “quick and dirty” studies and assessments. Sound applied research can provide
more valid and reliable evidence. The bigger the stakes, the more costly it will be to make
mistakes. In our experience, most lower and middle-income countries seriously underinvest in
health systems research. But since such research takes time, planning and resources, a good
deal of foresight and forward thinking is required if you are to have the data you need when
you actually need it.

9. Diagnosis and Policy Development: Some Final Observations

To do a good job of national health system diagnosis, the health system reformer must
be well prepared, curious, careful, and willing to learn from experience. The “science” of
health sector reform is still in an early stage of development. Here are some final points we
urge you to keep in mind.

• Work backwards up the causal chain until you can identify potentially
manipulable variables: The job of health sector diagnosis goes from symptoms to causes, from
unsatisfactory performance on critical goals, to that which is producing these results. This
process is not always obvious. Policies can produce unintended consequences, and they can be
badly managed. Individuals can claim to be doing one thing and in practice be doing
something else. An open and skeptical mind, and a high degree of energy and curiosity are
often required.

• Do not jump to quick conclusions: It is tempting to decide early on what

the problem really is based on ideology or preconceptions. Unfortunately, it is not uncommon
 for a committed true believer to short-circuit the diagnostic process. This can be unfortunate,
since identifying the wrong causes can lead to badly designed policies. This will not only
divert valuable energy and waste a valuable opportunity, but it can also discredit reform
generally.

• Be scientific, not judgmental: Diagnosis can go astray when evaluative

judgments cloud scientific analysis. If institutions or individuals behave in ways we
disapprove of, we are quite likely to decide that they are the problem. In fact, not every bad
actor is important, and bad behavior may be the result of larger forces. Thus, it is important to
remain dispassionate in the diagnostic process. There will be plenty of time (and need) for
passion, once you are trying to mobilize political support for a particular policy. Meanwhile,
clear, self-skeptical analysis is called for.

• Use numbers: We do not believe that everything important to health

sector reformers can be reduced to numbers. Still less do we believe that every country will
have—or can afford—all of the good quality data an analyst might like. And ignoring
problems that cannot be documented in numbers can be very foolish. Disaster planners know
that after earthquakes, the silent zones that they don’t hear from can be the most badly
affected. The same is true for health systems performance. We may get no data at all from the
poorest and worst off areas. Yet, for all of that, data can be very helpful. Data can be a check
on bias and premature judgment. Data can help support a scientific attitude. Whether it is
DALYs or other health status indicators, whether it is National Health Accounts or surveys of
citizens’ attitudes, data can be a great leveler of prejudices. To use information wisely,
reformers have to know where it comes from, and its limitations, omissions, and assumptions.
But that only increases the need for making the requisite investment in such understanding.
CHAPTER 7

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 Chapter 8
Financing

1. Introduction

The first control knob we explore is financing—the mechanisms by which money is

mobilized to fund health-sector activities, and how it is used (i.e., allocation.) How the money,
once raised, is paid out falls under the heading of the payment control knob, which we
consider in the next chapter.

Financing has an extremely important impact on the performance of a health system. It

determines how much money is available, who bears the financial burden, who controls the
funds, how risks are pooled, and whether health-care costs can be controlled. These factors, in
turn, help determine who has access to care, who is protected against impoverishment from
catastrophic medical expenses, and the health status of the population. There is no magic
solution to financing problems. All the money raised through any financing method (except
for foreign contributions) comes, directly or indirectly, from citizens. What each nation has to
decide is what sources to use, and to what extent. These questions are the subject matter of
this chapter.

Our discussion is organized as follows. The next section lays out the key criteria to be
used when a nation considers which combination of financing methods may be best suited to
it. We will argue that the mixture does and should depend greatly on social values and
politics. Then we describe the different methods of financing and discuss their advantages and
disadvantages. Finally, we discuss the financing schemes that seem to be feasible for
countries at different stages of socioeconomic development.

2. Considerations in Choosing a Financing Strategy

Implicitly or explicitly, every nation has to decide on a financing strategy—on what

combination of financing methods to use to fund its health system. Five options are described
in this chapter: general revenue, social insurance, private insurance, direct payments by
patients, and community financing. Most countries use a combination of methods. For
example, the U.K. is widely perceived as a nation that relies on general revenues to finance its
health system. In reality, however, only 76% of its health funds come from general revenues;
12% comes from social insurance contributions, 10% from private insurance, and 2% from
direct out-of-pocket payments (OECD Health Data 2002). India also is viewed as relying
mostly on general revenues to finance health care. In reality, however, only 30% of total
health expenditure comes from general revenues, with 60% from patients out-of-pocket and
10% from other sources (Musgrave et al. 2002).

When nations search for better financing strategies to improve the performance of their
health systems, several essential factors have to be considered.

2.1. Socioeconomic Development

To state the obvious, the same structure in financing and its organizational arrangement
cannot be applied to all nations. What works in the U.K. may not work in Kenya. On the
other hand, do we have to treat every nation differently? Can we group nations into categories
and derive general conclusions for the nations within each group? For several reasons we
believe it is possible to do this based on per capita GDP (Hsiao 2000).

A nation’s ability to mobilize funds is highly correlated with its per capita income.
Income determines households’ capacity to pay for health care and their demand for services.
Other major factors highly correlated with income include the tax base from which a nation
can raise tax revenues; the number of workers employed in the formal sector, which influences
how much can be raised through social insurance; and the number of poor households that
have to be subsidized.

Different methods also place greater or lesser demands on a nation’s infrastructure and
its competence in public and private management. These factors too are highly correlated with
per capita income. Lower income nations, on average, also differ from higher income nations
in having a much higher percentage of economic activity in the shadow economy (unrecorded
legal income and proceeds from illicit activities). Schneider (2002) estimated that the shadow
economies of Mexico, Philippines, Egypt and Thailand are more than fifty percent of their
official GDP. High-income nations such Japan and the U.S. have shadow economies less than
ten percent of their official GDP. This is relevant to financing choices because it is impossible
to collect taxes or social insurance contributions from the income of the shadow economy. For
these reasons, we use per capita GDP as a way to group nations into categories (Hsiao 2000).

Sorting nations by income level helps us analyze the financing methods that are
available to them, the amount of funds that can be raised through various sources, and thus the
potential to pool the financial risks of poor health. Our first category includes all low-income
countries. Here tax funds usually finance 40-60% of total health expenditures, 10-15% is
financed by social insurance (most likely covering civil servants) and 40-50% comes from
patients’ direct out-of-pocket payments. Private insurance is negligible or nonexistent,
because few households can afford to buy private insurance and the necessary administrative
safeguards are not in place to prevent fraudulent insurance claims.
 As a country industrializes and per capita income grows, making it a middle-income
country, social insurance usually expands, because the number of workers in the formal sector
grows. Private insurance begins to emerge but still plays a small role. The major portion of
total national health expenditures is still financed by general tax funds or patients’ direct
payments. These countries are included in our second category. The major difference between
the first and second categories is the relative proportion of total health expenditures financed
from different sources, and the size of the private-insurance and social insurance-funded
services. Such services generally develop once these other sources of funding are available,
and they offer a noticeably higher quality of services than what is available in the directly
operated public-sector facilities.

The third category includes all high-income nations, which (except for the U.S.) have
established a system of financing to assure universal access to health care. Table 8.1 presents
these three stages of health development, with examples of countries in each category, as well
as a summary of the financing and organization of health care typical of each stage.

INSERT TABLE 8.1 HERE

2.2. Fiscal Capacity

A key question for a financing strategy is, can it mobilize enough money to meet the
desired level of expenditures in the health sector? Fiscal capacity is contextual. The results of
any strategy will depend on the economic structure of a society (e.g., are there many workers
in the formal sector), and the government’s administrative capacity. Moreover, the amount of
money that can be raised may well depend not only on the tax base but also on what a country
is willing to give up in terms of other objectives (e.g., in international competitiveness from
higher labor costs or in terms of spending on education) in order to increase health-sector
spending. Thus, it is useful to think of the match or mismatch between a given financing
strategy and a nation’s health sector funding goals. When reformers discuss the
“sustainability” of a nation’s health financing system, they are, in effect, focusing on this
question. Let us take a quick look at each financing method from this perspective.

The capacity of a nation to raise money from general taxation depends on the size of
various tax bases—the volume of economic activity subject to a particular tax. While this
capacity correlates closely with the overall level of economic development, particular factors
may also play a role (e.g., the presence of easy-to-tax resources like oil, or a large role for
hard-to-tax sectors like small farmers).

For social insurance, fiscal capacity depends on the ability to collect contributions from
employers and workers. Smaller firms, however, may not keep appropriate records, and even
at a conceptual level, separating a small farmer or business owner’s earnings (labor income)
from their profits (capital income) is not easy to do. Yet only the labor income is supposed to
be subject to tax. Some countries have resorted to a standardized contribution from the self-
employed to solve this problem. In Hungary, for example, this is based on the income of
someone earning the minimum wage, a rule very favorable to small businessmen.

In general, the more sophisticated a country’s administrative infrastructure, and the

more cooperative its citizens, the further down the business size scale a social insurance
system can reach. But in low to moderate income countries, that is not very far. In such cases,
social insurance can generally be effectively implemented only for workers who are employed
in larger companies (e.g., more than 10 employees) and in the formal sector.

Private insurance has a capacity to mobilize funds from people who can pay and wish
to be insured. Upper-income people may be more willing to buy private insurance, to cover
expanded or higher quality of services for themselves than to pay taxes that benefit others. But
funds mobilized through private health insurance cannot easily provide financing for the poor.
In such a system, those who do not have private insurance—because they cannot afford it—
can end up in desperate straits, without access to health services.

Community financing, especially in poor rural communities, has only a limited

capacity to raise funds for health care. However, resources mobilized in this way can produce
modest but important gains in funding for primary health services and some hospital care.

Finally, direct out-of-pocket payment by patients is common in most low- and middle-
income countries. Recent National Health Accounts (NHA) studies suggest that there may be
substantial willingness and ability to spend on outpatient care, even among relatively poor
people in poor countries—especially when we include informal payments to physicians (and
nurses) and payments for drugs and supplies that clinics do not provide. The NHA studies
show that even in countries with extensive tax-funded public health services, independent
private practitioners provide a high proportion of outpatient care, paid for directly by patients.

In higher income countries, the capacity to use out-of-pocket payments is even larger
because household incomes are larger. In such countries, selected services may not be covered
by insurance (e.g., drugs or dentistry). In other situations, patients may have to pay something,
officially, even for some publicly provided or insured services (user fees or co-payments).
There may also be gaps in what insurance covers in the form of deductibles (at the front end)
or limits (at the back end).

2.3. Implementability

Raising funds requires spending money to create records, establish accounting and
auditing systems, and organize administrative agencies. If there are competitive, private
insurance companies, money also will be spent on marketing, sales, and profits. Thus, an
important question is how much of total spending goes for administrative expenses and profits,
under various financing arrangements.

Private insurance in particular has very high administrative costs. U.S. insurance
companies often spend 25% to 30% of total revenue on expenses other than patient care (sales,
administration, and profit). In addition, doctors and hospitals also have substantially higher
administrative costs in the U.S. than they do in other countries. Studies report that advanced
American hospitals have two full-time administrative employees for each occupied bed, about
10 times as many as comparable German hospitals (Köeck et al 1998).

The right regulations (e.g., specifying uniform claim forms to be used by all insurance
companies) can somewhat reduce these costs. Nevertheless, the burden remains substantial.
Private health insurance markets are very complicated systems. Nations that go the private
insurance route, therefore, must be prepared not only to pay these high transaction costs, but
also to develop substantial capacity to monitor, analyze, and regulate these markets.
Otherwise they are unlikely to achieve various social objectives.

A second key aspect of implementability is a country’s administrative capacity. Does

the nation have the administrative systems and human resources it needs to operate a financing
scheme effectively? These concerns lead countries with weak administrative systems to rely
on those taxes that are easiest to collect (e.g., import duties and value-added taxes), even if
they are not desirable revenue sources on other grounds. For example, consumption taxes are
often easier to collect than income taxes, because there are fewer businesses from which to
collect consumption taxes than there are households from which to collect income taxes, and
businesses tend to have better records than households. Moreover, income from black or gray
sources can be taxed when spent (through consumption taxes), but these sources are not likely
to be reported to income tax collectors. However, both payroll and consumption taxes can be
difficult to administer when there are many small sellers in the informal sector, as is the case in
many poor countries.

Implementability also depends on the social acceptability of a financing scheme. Will

citizens cheat or not? The reach of any system depends greatly on the attitudes of the public
toward government in general, and tax paying in particular. Levels of voluntary compliance
vary enormously both inter- and intra-nationally, and using schemes that the population sees as
legitimate is much more likely to be successful. Many of these issues of enforceability will
arise again in our discussion of regulation in Chapter 11.

One particular example of this issue is that the social contract implicit in many social
insurance schemes can have a major impact on their acceptability and hence on their ability to
raise revenue. Citizens often feel that they are more likely to get services in return for their
contributions when the funds are segregated, and when non-contributors are not part of the
pool. This is partly why Colombia established two separate social insurance funds for the
formal and informal sectors. Whether such arrangements are in a nation’s best interest is a
complex political judgment that requires a case-by-case analysis beyond the scope of our
current discussion.

2.4. Political Accountability

In a democracy, decisions about how to spend money, and about how much to spend,
are a basic expression of government power. From the perspective of democratic political
theory, these choices must be made in a way that allows citizens appropriate control over the
process. Several features of the financing system affect this accountability. Is someone who
has authority over the financing process subject to selection by democratic process? If the
administrator is an appointed technocrat, does a chain of accountability exist to connect the
administrator to someone whose authority is subject to electoral decisions?

The ideal of political accountability, however, is controversial in many nations. Where

distrust of the political process is great, some prefer that health financing decisions be made by
agencies that are insulated from political processes. This tendency is particularly true of
countries where public budgets are under great pressure. Interest groups in those countries
hope that isolating health financing from the general budget process will increase the flow of
resources into the health sector and thereby into their own pockets. This helps explain why
new social insurance schemes have been supported by the medical societies in a wide variety
of nations (for example, both Poland and Colombia).

3. Criteria for Judging Financing Methods

In addition to the four considerations just reviewed, several other key criteria have to
be considered in evaluating a financing method and its associated organizational arrangements.
In particular, these are equity, risk pooling, and economic effects.

Equity: Since financing directly affects the distribution of the cost of health care, one
obvious question is, who bears the financial burden? Since how the funds are used directly
affects the distribution of health care, a second obvious question is, who receives the benefits?
Assessing the distribution of burden and benefit, as we discussed in Chapter 6, has two
different dimensions. Vertical equity refers to the distribution of the burden between the rich
and the poor. Horizontal equity has to do with creating fairness among those at the same
income level, including people living in different regions.

Risk Pooling: Illnesses, and the health care costs associated with them, do not fall
evenly throughout the population. Cancer strikes some people but not others, and diarrhea hits
some children but not others. On the other hand, some groups of people do face higher health
risks. Older people have more sickness and disability than the young, and diabetics need much
more frequent health care than the average person. The uncertainty of illness calls for a
financing strategy where risks can be pooled. However, the task is not so easy when there are
identifiable high- and low-risk groups. Low-risk groups, such as the young and healthy
people, do not want to be pooled with the high-risk groups, because pooling pushes up the cost
for low-risk groups. For example, China found that the joint-venture companies that tend to
employ younger workers strongly resist being pooled under social insurance with workers in
established industries that tend to have older workers.

The ability to pool health risks varies widely among the five methods for mobilizing
funds. General revenues pool risks if they are used for health services accessible to all or to
subsidize the premiums of high-risk groups. Mandatory social insurance can provide
substantial risk pooling, provided coverage is more-or-less universal. Private insurance only
pools health risks within a selected group, such as for the workers of a particular company or
the members of an occupational group. Patients’ out-of-pocket payment, of course, offers no
risk pooling.

Economic Effects: When government compels a firm or individual to pay a tax on a

selected activity such as wages, the firm and individual may alter their decisions about how
much to work and earn. Various options have differential impacts on deterring or encouraging
investment, employment opportunities and labor supply, thereby influencing both the mix and
the level of economic activity in the short and long run.

4. Financing Options

Our typology of financing options is a mixture of the fiscal and organizational aspects
of the money-raising process. It reflects both the economic sources used by alternative
methods, and the organizational arrangements through which financing is carried out. Our
options are best thought of as a set of “ideal methods”—each alternative is a highly stylized
pure case.

In practice, however, most financing systems are not pure. Instead, most nations have
chosen a mix-and-match approach, combining several methods in complex ways that reflect
the trade-offs in objectives that a nation is willing to make, based on its particular national,
political, and economic history. For example, general revenue systems often require patients to
pay user fees, and do not cover certain kinds of medical expenses (e.g., drugs). Likewise, most
private insurance schemes require patients to make substantial direct payments to providers.

Our categories are intended to provide a framework for characterizing and analyzing
actual financing systems. We discuss the five major methods of financing in turn.
4.1. General Revenue

In general revenue financing, many kinds of taxes are used to support the full range of
government activities. The health system, therefore, has to compete for funds with other
government-funded programs and obtains its resources via the regular government budget
process.

A wide variety of taxes is available to governments, including income taxes, corporate

profit taxes, value-added taxes, excise taxes, import duties, and severance taxes on minerals.
Each places burdens on different groups of citizens. The mix of taxes used by a particular
country generally depends on its level of economic development. Low-income countries tend
to rely more on easy-to-collect sources of revenue like import and export fees, and excise
taxes. Other sources (income and value-added taxes) require more extensive data systems and
a higher level of voluntary compliance from citizens.

Broad-based taxes automatically generate more resources for health as the economy
grows over time. On the other hand, collections also rise and fall in the short-run over the
business cycle. Some taxes, such as progressive income taxes and taxes on profits, are more
sensitive than others to both short-run business cycles and long-run growth. Growth moves
people into higher income tax brackets, increasing both marginal and average collections,
while profits also are quite sensitive to the business cycle. In contrast, payroll and sales taxes
change slightly less in percentage terms than the Gross Domestic Product (GDP). When there
are large swings in national income (as in the Asian economic crisis of 1997 or the recent
troubles in Argentina) governments can find themselves hard-pressed to maintain health
spending regardless of which mix of taxes they use, especially since the demands on
government for other types of spending also rise in a recession.

General tax financing offers a high degree of political accountability in democratic

political systems, since the key decisions pass directly through the legislative process. Thus,
the level of funding can be controlled, and decision-makers held accountable for their actions.
On the other hand, implicit tax support through mechanisms like tax concessions (e.g.,
allowing expenditures on health care to lower a person’s income tax liability) is neither
transparent nor controllable. It is difficult to know how much revenue is lost via such
schemes, and difficult to control who benefits from them.

A related tax structure issue, raised by general revenue financing, is the question of the
distribution of the financing burden by levels of government. As we discuss in more detail
below (in Chapter 10 on Organization) nations occasionally devolve responsibility for
operating health-care systems to local and regional governments. This is sometimes done by
fiscally hard-pressed national governments to force the sub-national governments to raise their
own taxes to support the delivery system.
 For example, some years ago Poland tried to get the largest cities to assume operating
responsibility for their local hospitals under the so-called Large Cities Law (Bossert and
Roberts). A majority of cities turned these institutions back to the national government when
they realized what obligations they were incurring. In other countries (e.g., China and India)
the bulk of the health budget comes from state or provincial revenues. As we discuss in the
next section, such arrangements can raise substantial equity issues when (as is typically the
case) there are large inter-regional variations in local fiscal capacity.

4.1.1. Vertical and Horizontal Equity of Alternative Taxes

As we discussed in Chapter 6, the tax burden may not fall only on those who pay taxes.
Instead, governments may curtail other services when they appropriate more money for health.
In this case, the beneficiaries of other services that are now not being provided are the ones
paying for higher health sector costs. The same is true when government subsidizes some
activities through tax concessions. The payers might be those who pay the other taxes raised to
make up for the lost revenue or they might be the potential beneficiaries of other activities that
were curtailed because of money lost to tax concessions.

In addition, those who directly pay a tax may not be those who ultimately bear the
burden. For example, employers generally shift some of the cost of payroll taxes back to
workers in the form of lower salaries. Similarly, property taxes on landlords may be passed on
to renters in the form of more expensive rents. Whether such shifting occurs, and to what
extent, depends on a variety of features of the relevant markets. There is vast economic
literature on such issues (Musgrave and Musgrave 1989; Atkinson and Stiglitz 1980).

Vertical Equity: We have already introduced the distinctions among progressive,

proportional, and regressive taxes (see Chapter 5). In most countries, only comprehensive
income taxes, including taxes on capital income, can be truly progressive, since only such
taxes can take a higher proportion of the income of people at higher income levels. In
contrast, payroll taxes are mildly regressive, because the proportion of total income that comes
from payrolls falls at higher income levels. Such schemes become even more regressive if
there is a limit on any one person’s payroll tax contribution (as is sometimes the case). Taxes
on consumption—sales and value-added taxes—are also moderately regressive, because the
percentage of income that is spent and taxed, as opposed to saved, is lower at higher incomes.
This is why some consumption tax schemes exempt, or tax at a lower rate, commodities on
which the poor spend a higher percentage of their income, like food. For similar reasons, we
often find a higher tax rate on luxury items, where the rich spend more of their income.

To understand the vertical equity of a tax system, we have to look not only at burdens
but also examine the distribution of benefits by income groups. In the final analysis, the
vertical equity of net benefits, that is, the benefits minus burden, will be of special interest
from an equity perspective.

Horizontal Equity: The horizontal equity of tax-based financing varies with the kind of
taxes being utilized. Broad-based national taxes do not raise horizontal equity issues, but
narrower taxes (e.g., on tobacco or alcohol) may do so. Is it really fair to ask drinkers or
smokers to pay more, especially if, as appears to be the case, moderate alcohol consumption
improves health?

In recent years many countries have shifted both control and fiscal responsibility for
health care to the sub-national level. Such schemes can raise serious horizontal equity issues,
since more prosperous areas can finance the same service as poor areas at lower tax rates, or
better services with the same tax rate.

For this reason, nations that have gone the route of fiscal decentralization have often
found it necessary to establish interregional equalization funds. The countries with the longest
standing systems of this type, like the Scandinavian countries and Colombia, now rely heavily
on national taxes to supplement local sources.

Constructing an equalization scheme, however, can be quite complex, since it must do

more than consider need (population, illness, and income). It also has to create incentives to
prevent poor regions from lowering their own tax effort and free riding on the collective
efforts of their neighbors. Decentralizing taxing decisions also runs the risk of creating a race
to the bottom, as regions compete in attracting business by lowering taxes. Richer (and more
politically powerful) regions often object to the creation of an interregional system of
redistribution, precisely because it threatens to eliminate their own advantages.

There are also administrative issues in using smaller areas as a tax base for health
financing. The question of where income is earned or spent (and therefore who gets the tax
proceeds) becomes steadily more complex. This is one reason that local governments often tax
non-moveable assets like land: at least everyone knows in which jurisdiction it is located.

4.1.2. Risk Pooling

The effects of general tax revenue on risk pooling depend on how the government
allocates the tax revenue among different health programs. In low-income countries, the
government’s health budget mostly goes to finance public hospitals and clinics where patients
can receive free or subsidized health care. This approach de facto pools the costs for the
patients who use the public hospitals. However, the better public hospitals are often located in
the large cities, and their services are also often used more intensively by non-poor urban
residents. Under these circumstances, the risks are not pooled for those with more limited
access, like the rural poor.

4.1.3. Economic Effects

The economic effects of using general tax revenue to finance health care will depend
on which specific taxes are employed and their levels. In theory, a high income tax rate should
reduce upper income individuals’ willingness to work. In fact, however, studies tend to find
that for upper-income individuals, labor supply is insensitive to marginal income tax rates
(Feldstein 1995). High labor costs can also decrease a country’s international competitiveness,
and slow the pace of investment and economic growth. As investment capital becomes
increasingly international, the importance of such considerations is liable to increase.

We note here a somewhat obscure issue about taxes—an issue of great concern to some
economists—the concept of excess burden. When taxes are imposed on goods, buyers pay a
higher price than they would otherwise, and sellers gets less. The tax drives a wedge between
what is paid and what is received. As a result, less is bought and sold than otherwise would
occur in a perfectly competitive market with zero tax. From an economic perspective, this loss
of output poses a problem, because customers would have been willing to pay more than the
cost of production of the goods that are no longer produced. Yet, thanks to the tax, they no
longer get the benefit of this gain. And the larger the adjustment in output due to the tax, the
greater the loss will be, as measured by the difference between the willingness-to-pay of
customers and the cost of producing the lost marginal output. This difference is called the
excess burden of a tax (Musgrave and Musgrave 1989).

In response, some economists argue for taxes that lead to the smallest distortion in
outputs. This turns out to imply higher taxes on goods where customers care so much that they
continue to buy nearly the same amount, even as prices rise. Economists call such demand
“inelastic.” Ironically, such goods are also often the ones that people purchase because they are
very important to them—like medical care and basic food. Taxing goods whose demand is
inelastic is thus likely to violate our concern with vertical equity—which does not stop some
economists from advocating such an approach (Myles 1995).

4.1.4. Summary

General tax revenue is a major source of financing for health systems in both rich and
poor countries. International experience shows that as a country becomes more affluent, its tax
base becomes larger, and as the government’s ability to collect taxes increases, a larger share
of the health expenditures is often funded out of general revenues. General revenue financing
is also politically controllable and accountable. This source of financing can be, but does not
have to be, tailored to meet both horizontal and vertical equity concerns. Finally, it has good
long-run growth potential as well as the capacity to pool health risks across a wide population.

On the other hand, the controllability of general revenue can make it unattractive when
the political system is weak and subject to corruption and favoritism. When government
functions badly, there can be problems with public acceptability and hence the collectability of
tax revenue, especially in nations with limited administrative and enforcement capacity or an
especially cynical or tax-avoiding citizenry.

Certain kinds of services (public health and preventive services, or care for the poor)
are often tax-supported, even when other methods dominate a nation’s health-care financing
system (Scheiber and Maeda 1997). This is because taxes can be redistributive, and can be
raised from a broad base. In countries with well-functioning economies and strong
administration, tax financing can generate substantial funds for the health sector. But these
conditions are not met in all countries. This helps explain the widespread interest in our
second financing option: social insurance.

4.2. Social Insurance

Three characteristics distinguish social insurance from private insurance. First, social
insurance is compulsory—everyone in the eligible group must enroll and pay the specified
premium (contribution). This contribution is most often specified as a percent of the wage.
Once someone has paid a minimum number of payments, the person is entitled to the specified
benefits.

Second, most social insurance premiums represent a social compact. By law the
contribution rate and the benefits are not easily adjustable by mere administrative action.
Instead, they are specified in law or in a difficult-to-change regulation. Social insurance thus is
based on an implicit contract between those covered and the system. Citizens agree to pay a
certain amount with the expectation that the funds will be used fairly and effectively to finance
care for those who belong to the system.

Third, while most ministers of finance object to earmarked taxes, social insurance
programs typically do rely on just such revenue. As a result these programs have a particular
advantage. The insurance benefits demanded by the voters come with a clear price tag—they
have to put their money where their mouths are.
 Social insurance schemes do not necessarily cover everyone, and many countries have
multiple systems. Most schemes only cover workers in the formal sector. When a country
decides to provide universal coverage, the government typically must use general tax revenue
to subsidize pensioners, the unemployed, the poor, workers in the informal sector, and even
some small businessmen and farmers.

Social insurance is generally organized in one of two ways. Under the Bismarkian
model, plans are established and managed by various non-profit organizations, divided along
industrial, geographic, or occupational lines. They are often called sickness funds, and have
only a limited capacity to compete for enrollees (Saltman and Figueras 1997). Most social
insurance plans in Europe and Latin America are of this type. This multiple organizational
arrangement allows for some variation in benefit packages, and some—although often quite
limited—choice by customers. But it runs the risk of adverse selection and high
administrative costs. To remedy these shortcomings, several nations, such as Taiwan, have the
program administered by a single parastatal agency outside of the day-to-day control of the
political process (Roemer 1993; Raffel 1984).

The economics literature often describes social insurance financing as indistinguishable

from government tax financing, but social insurance experts vehemently disagree (Ball 2000;
Meyers 1981). Economists view social insurance as a tax-financed program mainly because
the contribution is compulsory. However, this view ignores many major social and
institutional differences that distinguish general tax revenue financed insurance (e.g., Sweden)
from social insurance (e.g., Germany, Japan, and Taiwan). First, contributions (premiums)
paid for social insurance programs are earmarked for those programs and are separated from
general taxes. The social insurance fund generally is required to maintain its solvency, and this
tends to produce greater transparency and accountability in its financial affairs. At the same
time, social insurance is not a right of all citizens but only covers those who are eligible and
have met the minimum contribution requirements, and the benefits they receive are often
related to their contributions. As a result, people perceive that they have paid a premium
contribution in exchange for the right to specified benefits. In other words, the benefits are not
welfare from the government.

4.2.1. Equity of Financial Burdens and Benefits

The equity effects of social insurance schemes depend on their details, which vary
significantly. The vertical equity of payroll taxes depends on how much income of the rich
escapes the tax system because it is from capital, and on whether there are any contribution
limits. Horizontal equity will depend on whether some groups (e.g., small businesses and
farmers) escape paying fair tax burdens due to legislative favoritism or simple evasion.
Horizontal equity will also be diminished if there are many social insurance plans, and some
(because of a more favorable mix of members) can offer cheaper or better care for the same
price. This is likely to be the case because plans with upper-income workers not only have
more revenue, they are also likely to have less sick populations, given the correlation of
economic and health status. Thus in Germany, until inter-sickness fund transfers were
imposed in the 1990’s, payroll tax rates for plans for white-collar workers were below those of
plans for blue-collar workers.

Both economic theory and empirical observation suggest that over the medium-term of
a few years, workers pay for the largest share of health insurance premiums (either directly
through their premiums, or indirectly in the form of lower wages)—even when employers
nominally contribute a significant share. In economic terms, the premium cost is being shifted
backward to the workers. The ability of employers to shift the cost to workers, rather than
having it shifted forward in the form of higher prices, depends on conditions in the labor
market, including how strong any labor unions are.

4.2.2. Risk Pooling

Social insurance only pools the health risks of its enrollees. Since most schemes only
cover the workers in the formal sector, only their health risks are pooled. If the government
wants to limit the risks of those who are not covered, it needs to pursue additional financing
measures, such as using tax revenue, to provide insurance coverage for the poor, elderly, rural
populations, etc.

4.2.3. Economic Effects

Do social insurance costs have an impact on economic growth? If total labor costs are
not significantly affected by premium changes, then the answer should be: not much.
However, real labor markets are full of rigidities and imperfections. In countries with strong
unions and high payroll taxes, the real cost of labor can be raised by higher social insurance
premiums. If some of the cost is shifted forward into higher prices, this could reduce a
nation’s capacity to compete internationally and encourage international companies to expand
production where labor costs are lower. Moreover, high labor costs could discourage
employers from adding workers, even in an expansion, causing an increase in unemployment
over the medium to long run.

4.2.4. Implementability

Implementability is a major attraction of social insurance schemes. In many industrial

economies, large enterprises employ a significant share of the workforce, and even small
businesses have reasonable employment records. Moreover, the social contract structure of
social insurance can increase citizens willingness to pay, because a dedicated fund, with
distinct administration, is more trusted to deliver something of value to members. Citizens
think, “At least those dishonest politicians cannot get their hands on ‘my’ money.”

On the other hand, the hopes for social insurance are not always fulfilled. The social
insurance system can be seen as just another government function and be associated with past
illegitimate regimes. In some post-communist countries, for example, tax evasion is
widespread in the social insurance system (Schneider 2002).

In Hungary, both small and large businesses have tried to evade payroll taxes. The former
claimed they were making only the minimum wage, while large businesses shifted as much
employee compensation as possible from cash, which is taxed, to in-kind support (e.g., cars,
houses), which is not (Preker et al. 2002). In addition, the government has been reluctant to
fund its “share” for pensioners and others. The resulting social insurance system thus lacks
both the fiscal capacity and the popular acceptance its advocates hoped for.

4.3. Private Insurance

Private insurance is distinguished by buyers voluntarily purchasing insurance from

independent, competitive sellers (either for-profit or non-profit) who charge premiums that
reflect the buyer’s risks rather than their ability to pay. Insurance purchases can be made on
either an individual or group basis.

In recent years, there has been increased interest around the world in various forms of
private insurance as a mechanism for health-sector finance, due to two main lines of argument.
The first is that private insurance will mobilize additional resources. Since non-payers do not
get coverage, the problems of tax evasion can be minimized. Advocates of private insurance
also argue that when people can choose a plan and a carrier, they will feel more empowered
and more willing to pay for health care.

A second contention is that those with different attitudes and values, including those at
different income levels, will prefer different health insurance plans. It is claimed that a
competitive market for private insurance will respond by offering a differentiated range of
products, something a publicly controlled social insurance monopoly would have neither the
incentive nor the inclination to do.

Private insurance often increases as an economy grows, because it appeals to the self-
interest of insurance buyers. Employers want to keep their workforce healthy, gain greater
loyalty from the workers, and avoid workers’ pleas for financial assistance when they have
unaffordable medical bills. Employees often want insurance to prepay their health care
expenses, for risk protection, and for the financial advantages of private group insurance that
costs less than comparable social insurance due to economies of scale and risk pooling only
with other healthy workers. For these reasons, in some middle-income countries, there is
substantial pressure from the best-paid workers to opt out of social insurance schemes, and in
the name of free market-competition, to take their premiums and use them to buy private
insurance—as the system in Chile now allows.

The most serious failure of competitive private insurance is the problem of risk
selection. In a world where illness increasingly means chronic disease, health care costs have
become more predictable on a year-to-year basis. Those who are sick this year are likely to be
sick next year. The 5% or 10% of the people in any insurance pool who are the sickest often
account for 60% to 70% of the total cost (Hsiao 2000). These facts create enormous incentives
for competitive insurance companies to sell policies only to healthy people. Or, if they do sell
to the sick, to charge high enough rates to yield a profit, even from poor risks.

The latter practice, of course, creates strong incentives for the sick to lie about their
health to insurance companies. If regulators require companies to sell insurance to all
customers at the same rate, then healthy people are likely not to buy insurance, because it will
be unattractively expensive, as their lower risk of disease will make the coverage not worth it.
This can lead to an underwriting death spiral. As good risks leave an insurance pool, losses
mount, rates have to rise, and even more of the healthy drop out, leaving only the sickest and
most expensive in the pool.

The reverse problem also arises. Insurance companies work to recruit policy holders
who are especially healthy, while seeking to exclude the sick. They may refuse to sell to the
sick, exclude coverage for existing conditions, cancel or refuse to reissue policies to those who
become sick, or charge very high rates. Together these practices are known as risk selection or
cream skimming, and they mean that those who most need insurance may well wind up
uncovered.

4.3.1. Equity of Financial Burdens and Benefits

The equity implications of private insurance are mixed. Premiums that do not vary at
all with income are highly regressive. Indeed, given the inverse relationship between
economic status and health status, risk-based premiums typically lead the poor to pay more.
Even regulated uniform rates that do not vary with income are more regressive than other
funding options. Similarly, from a risk protection viewpoint, competitive private insurance
markets leave a lot to be desired, because those with low incomes cannot afford insurance. In
short, those most at risk financially from serious illness are those least able to afford private
insurance.

From the viewpoint of horizontal equity, the question is, what comparisons do we care
about? Private insurance markets with risk-based premiums imply that those in high-risk
groups pay more. It is a matter of philosophy and policy as to which differences in
circumstance we want to influence individuals’ health care costs.
4.3.2. Risk Pooling

Because private insurance pools risks across smaller groups than social insurance, this
method typically offers less risk pooling than social insurance—and much less then general
revenue financing. In addition, groups with the highest risks and costs (especially the
chronically ill and retirees) are typically excluded. In response, some nations have regulated
private insurance markets either to require uniform rates to all (community rating) or limit the
range of allowable price differences (rating bands). As we discuss in Chapter 11 on
Regulation, however, these approaches require substantial administrative sophistication and a
general attitude of rule-following on the part of insurance companies. They can also be
politically unpopular, since they try to re-impose some of the risk pooling that purchasers of
private insurance, especially in low- and middle-income countries, are trying to avoid.

4.3.3. Economic Effects

One argument for private insurance is the claim that competitive insurance markets
lower health care costs. Insurers eager for customers will cut prices, and to make money, they
will pressure providers to reduce their fees. Providers faced with lower revenues will then
reorganize their work to reduce costs. The collapse of communism, the prestige of market
ideology, the advocacy of well-funded zealots, have all reinforced the trend toward pro-market
perspectives (Rodrik 1997).

The only health care market that provides anything close to a test of this claim is the
United States—which has primarily relied on private employer-purchased, competitive, group
insurance for the last 50 years. In the 1990s, as competition among insurance plans increased,
there was some impact on health care costs, as predicted by economic theory. However,
consumers became very unhappy with the limits on their ability to obtain care from the
managed care plans that came to dominate the market. As a result, insurers have, in recent
years, decreased their efforts to control providers, and costs in the U.S. have begun to increase
at a rate of 10% to 15% per year. Moreover, in part because of the very high transaction costs
of a fragmented private insurance system, the U.S. does have the highest overall health care
costs of any nation in the world—by a substantial margin.

4.3.4. Implementability

In creating a private insurance financing system, nations confront a series of critical

design issues. The first issue is whether contracts will be sold on an individual or group basis.
The U.S. market is heavily based on employer groups. This is done in order to limit the
incentives for, and possibility of, individuals opting into, or out of, various risk pools and
thereby destabilizing the system. Even where groups are small, there has been
experimentation with various kinds of collective purchasing to at least lower transaction costs
(Zelman 1996).

The second design issue is the nature of the insurance entities, especially the choice
between for-profit or not-for-profit. If the companies are not-for-profit, are they state
enterprises, independent NGO-type entities, some kind of union or community-sponsored
cooperative, or some other form?

A third set of choices deals with government’s role. What forms of regulation and
licensing will sellers be subject to? For example, will governments insist on certain levels of
financial reserves, regulate premiums, or set terms for minimum coverage?

A final set of design questions concern the relationship between insurance companies
and health-care providers. Does government exercise any regulatory control over the
relationship between insurers and providers? For example, can providers and insurers be
combined in some sort of arrangement like an American health maintenance organization
(HMO)? Are such options forbidden, required, or optional? Will government regulate how
insurance plans pay providers, as the German government regulates the relationship of the
sickness funds to the regional physicians associations with whom they contract?

More broadly, there is the role of government in shaping the competitive structure of
these markets. How many firms do they allow or encourage? What geographic areas or
population groups can each competitor appeal to, or operate within?

The private insurance option thus does not remove the government from the business
of operating the system of health financing. Rather, it poses a complex set of regulatory and
management issues to government that may be quite new and different from those government
confronted if it previously relied on direct provision and general tax financing.

Unfortunately, governments may not be well equipped to undertake these new

responsibilities. Does government have the capacity for underwriting and financial analysis to
set reasonable reserve requirements? Does it know enough about the dynamics of competitive
insurance markets—a phenomenon that may be new to the country when companies try to
attract the good risks—to create and control such markets effectively? Can it recognize and
regulate cream-skimming behavior? Will it have to control prices and/or the terms on which
policies are sold? Experience with insurance regulation in the U.S. suggests that high levels of
analytical competence and political integrity are required at both the state and federal levels to
perform these tasks successfully.

Under private insurance, the quantity of insurance purchased remains a decentralized

decision in the hands of individual businesses and consumers. The declining rate of private
insurance coverage in the U.S. demonstrates that as premiums rise, many consumers stop
purchasing insurance. There are limits on what government can do about this. Of course,
government can offer subsidies to encourage private insurance purchases, as occurred in Chile
(World Bank 1995). But giving a subsidy amounts to moving away from insurance to tax-
based financing. Controlling insurance rates has its own difficulties. If rates are set too low,
then companies will flee the business, as have many U.S. insurers who no longer offer special
policies to retired citizens (Buchmueller 2000). If rates are set too high, then insurance
becomes unaffordable for many people.

Advocates of private insurance believe it is a solution to the health sector’s financing

problems. The lure of the market and the enormous sums generated by private insurance firms
in the U.S. have created allies of an unlikely group, ranging from ruthless entrepreneurs to
free-market advocates, to cash-starved physicians. But this approach poses substantial
problems in terms of its high administrative costs and poor performance from an equity point
of view. The need for sophisticated regulation represents a major challenge that many
countries considering such schemes cannot realistically meet.

4.4. Out-of-Pocket Payments

A fourth financing method is to have individual patients pay providers directly out of
their own pockets and to have these expenditures not be reimbursable by third parties, such as
insurance plans. User fees are a sub-category of out-of-pocket payments, and refer to
payments when these are made for public-sector-provided services.

Health sector reformers have been interested in such financing approaches for two
reasons. First, especially in low-income countries, user fees are often seen as an
administratively feasible way to raise additional revenue for institutions and activities at the
periphery. The idea is that money collected locally will be spent locally. This, it is believed,
will diminish leakage due to graft, corruption, and overhead expenses, as local collection and
disbursement increase accountability and transparency. It is hoped that such arrangements will
induce patients to be more willing to pay for care, if those payments contribute to better
quality of service in their local facilities.

The second argument, often made by economists, is that giving away health services
for free encourages allocatively inefficient overuse. Their analysis rests on the subjective
utilitarian premise that the purpose of the health-care system should be to maximize customer
satisfaction, as measured by willingness-to-pay (Pauly 1990). When services have zero price,
economists argue, customers will use these services even when the value to them is less than
the cost of the production. As a result, more total customer satisfaction could be provided if
those low-valued services were not produced. Then the resources used to produce those
services could be used elsewhere in the economy to produce something of more value to
customers. User fees, and their analogy for insured patients, namely, co-payments, are viewed
as desirable, because they avoid the worst misallocation by discouraging customers from
consuming those services with the lowest value to them.

Notice that these two arguments are not fully consistent. Those who favor user fees for
revenue-raising purposes want to put prices on highly valued services, arguing that their
utilization will not change much when fees are introduced. Such advocates may also support
the notion of helping those at low income pay for such fees; otherwise, their consumption
might be heavily affected.

Advocates of pricing-for-efficiency, in contrast, want to raise prices for services that

are both expensive to produce and of low value to customers. For them, declines in usage, as a
result of instituting direct payments from patients, are not an objection to their scheme.
Rather, such declines are seen as a sign of the appropriateness of the decision to institute fees
in the first place.

There is another complexity. The possibility of supplier-induced demand means that

some health care services may be consumed that are not of value to purchasers. If doctors
influence patients to consume services that are not medically beneficial, allocative inefficiency
will persist, even with user fees. Indeed, in practice, whether allocative efficiency increases or
decreases when fees are imposed will depend on two offsetting effects. One is the impact of
fees on discouraging patients from purchasing services of low value. The other is any incentive
effects such fees have on providers to cause them to increase inappropriate use. The
magnitude of the latter effect will depend on a variety of factors, including the professional
norms of providers, their training, and the ways in which fee income flows to clinical decision-
makers.

The amount of money currently being raised through direct patient payments in a
country is often difficult to determine. The cost of collecting good data can be substantial,
since sophisticated household health-expenditure surveys may be the only way to do so. It is
also not easy to control since so much of the private market is unregulated and because of the
widespread existence of informal or unofficial payments in state-run systems, where they are
implicitly or explicitly illegal.

Informal payments often arise when budget support for the health care system is
diminished by difficult macroeconomic circumstances and providers are desperate to preserve
their incomes. Local traditions also matter. In some countries, such fees are expected to ensure
good care, not only by doctors, but by nurses as well. They tend to be higher for providers
working in fields seen as the most active or heroic—such as surgery and Ob-Gyn. These
payments go under different names in different countries, including “gratuities,” “under-the-
table payments,” “black money,” and “gray money.” From an economic point of view, these
payments are a form of out-of-pocket financing since they have similar effects on demand and
on the financing burden that legal user fees have.
 Recent studies of National Health Accounts (NHA) (Berman 1997) suggest that there
may be substantial willingness to spend, and ability to spend, on outpatient care, even among
relatively poor people, in many poor countries—especially if informal payments are included.
This finding raises the possibility of creating mixed systems where fees play a non-trivial role
in certain settings.

On the other hand, in general the demand for acute care tends to be less price-sensitive
than the demand for routine and preventive care, and the effect of price on use is higher among
low-income people—as we discuss in the next chapter. This means that fees set to discourage
low-valued uses will also lead customers to curtail use in ways that negatively affect health
status. This suggests the need to find ways to encourage utilization of public health and
prevention services. Unfortunately, in a world of chronic disease, many such encounters are
not distinguishable from ordinary clinical care, since prevention occurs after some disease has
developed. Such activities are called secondary prevention, for example getting someone who
has had a heart attack to quit smoking. And mechanisms to provide subsidies for the poor to
offset inappropriate incentives are not easy to implement.

Direct payments can be a useful supplement to tax funds as a source of institutional

support. But it is doubtful that out-of-pocket payments can serve as the major fiscal basis for
modern inpatient care for anyone but the very rich. Such care is so expensive, and the demand
for it sufficiently infrequent, that countries confront substantial pressure to develop risk-
pooling financing (i.e., some form of insurance), especially once a country has reached a
certain level of political and economic development.

4.4.1. Equity and Risk Protection

From both risk protection and equity perspectives, out-of-pocket payment is the worst
possible system for health financing. Those who are both sick and poor face the risk of either
untreated disease or impoverishment—or some combination thereof. From the viewpoint of
vertical equity, direct payments are highly regressive, especially given the correlation of poor
health and low income. They are even worse than private insurance, which at least offers
some risk-pooling possibility when there is group purchasing or when rates are regulated.

In many countries, practitioners using fee-for-service engage in some forms of price

discrimination, charging the rich more than the poor. While such practices advance equity,
they also help maximize the incomes of providers. By charging the rich more and the poor
less, providers encourage the poor to purchase more total services, and generate more income
for physicians than would otherwise occur. This produces a net gain to any seller who has
excess time available and whose marginal cost of providing additional service is less than the
fees charged to the poor.
 4.4.2. Medical Savings Accounts

One particular method of direct payment, medical savings accounts, has received
special attention in health reform discussions internationally. The prototypical example is
found in Singapore (Hsiao 1995). That scheme involved a conscious strategy to build up
reserves, in anticipation of an increase in the elderly, high-care-using population. The policy
introduced compulsory savings (based on a percentage of wages) deposited into dedicated
individual savings accounts, which can then be used to pay for inpatient services.

Several features of the Singapore policy deserve comment. The system is first and
foremost a savings scheme designed to compel workers to save now for anticipation of large
medical expenses and in later years and hence to shift current income into the future. Until
substantial balances build up in individual accounts and while people are still young,
subscribers are actively discouraged from using their accounts to pay for care. Instead, great
effort is made to encourage them, or their families, to pay for medical expenses out-of-pocket.
Since the available balances to an individual or family are those they have paid in, there is
little risk pooling across the population as a whole.

Second, to make it possible for people to pay out-of-pocket yet afford basic hospital
services, hospitals provide multiple levels of service, from “C” class, multiple-bed wards, to
“A” class single-bed rooms. The lowest class of service is heavily subsidized by tax revenue,
making it available to people with modest incomes (medical services are not supposed to vary,
only amenities). This is intended to deal with the adverse equity aspects of an out-of-pocket
payment scheme. However, Singapore discovered that many were unable to pay for inpatient
services, even on subsidized wards. In 1990, the country therefore revised the savings scheme
by adding a catastrophic insurance plan, in which workers pay the premiums by withdrawals
from their medical savings account (Lim 1998).

Third, Singapore also has a system of case-by-case subsidies, when social workers
determine that neither individuals nor their families can pay what is required, again to deal
with both equity and risk pooling concerns.

This complex scheme has been modified over a decade, evolving to address the equity
problems of direct payment. Singapore’s relatively unique socio-cultural situation is widely
acknowledged to play a major role in the scheme’s functioning. It is a geographically small,
relatively wealthy, largely Chinese society, in which both thrift and family responsibility are
deeply engrained values. The country also has a competent and sophisticated government
fiscal system. It is not clear that such a complex scheme, which relies heavily on particular
cultural norms, can be transferred to other settings—despite all the international attention it has
received.
4.4.3. Implementability

The greatest advantage of out-of-pocket payments is in the realm of implementability.

Because sellers can refuse to serve non-payers, it forces buyers to actually pay. Transactions
occur on the spot, and can use ordinary commercial processes (e.g., checks, cash, credit cards)
that do not generate any added record-keeping burden. From the perspective of government,
this payment system is essentially self-implementing and does not require substantial public
budget resources to operate. However, when user fees are set very high, and sellers cannot
refuse to serve patients (as is the case for American hospitals treating an emergency for
someone who is uninsured), the costs to sellers of collecting the fee after the fact can be
substantial (Creese 1997).

Fees do also create incentives on providers to encourage overuse, which can lead to
substantial countervailing government regulatory efforts. These costs are properly considered
part of the cost of the direct payment scheme. Many quality initiatives (like regulating and
licensing providers), as well as price regulatory activities, have developed to address the
incentive problems of direct payment financing systems. Efforts have also developed to limit
the number of providers and to license institutions in order to constrain potential overuse, as
we discuss in Chapter 12 on Regulation.

4.4.4. Summary

Direct patient payments are easy to administer and a potentially effective source of
revenue. However, they raise serious questions from the perspective of vertical equity and risk
pooling. They can also encourage inappropriate utilization through their incentive effects on
physicians and other providers, even while they discourage inappropriate overuse from the
viewpoint of consumers. Direct payments also lack the capacity to finance universal coverage
of expensive services. However, patient payments clearly have been attractive to many
countries, because of their power to mobilize resources otherwise unavailable to the health
sector.

4.5. Community Financing

In this financing method, communities operate and control the provision of their own
primary care services through locally based pre-payment schemes. Under typical community
financing plans, the financing and delivery of primary care are integrated, but separated from
secondary and tertiary services. Providers are either individuals hired by the community or
non-profit NGOs.
 Many of the world’s low-income countries have despaired of finding ways to finance
and deliver rural health services reliably at the village level. It is often difficult to get
physicians to staff government-operated clinics. The doctors evade or refuse, do not attend
regularly, or provide poor-quality customer service that is culturally insensitive. At the same
time, rural residents often have little confidence in the services and facilities that do exist. As
a result, they make extensive use of traditional healers and folk medicine practitioners for
outpatient care, and when acutely ill, they travel to district or regional hospitals.

In many poor countries, it is also difficult to raise additional revenue from general
taxation. Corruption and inefficiency can be widespread, record-keeping poor, and tax evasion
common. These conditions have contributed to increased interest in recent years in
community financing. The essential idea is to raise and spend money for primary care locally,
at the village level. The theory is that local control will produce transparency and
accountability. This will, in turn, help ensure honest, efficient and culturally competent
services.

The hope is that such financing and administrative arrangements will prove to be
attractive and credible to local people, and increase their willingness to contribute financially.
Advocates of community financing note the non-trivial sums spent by relatively poor local
people on traditional healers, alternative medicine practioners, and private practice western
physicians. They are attracted by the possibility of getting access to those funds to support
basic public health and primary care activities.

A model community-financing scheme involves a combination of local political

accountability, community-operated primary care, and universal pre-payment. The concept is
of a community-based, mini health-maintenance organization with salaried doctors. Secondary
(hospital) care is typically outside the scope of such schemes, because it is too expensive and
requires too large a catchment area to be consistent with effective local control. Universal
(i.e., compulsory) membership is designed to get around free-riding by the well and adverse
selection by the sick. Community resources may also be mobilized in other ways, for example,
by labor to construct buildings.

Many experiments in raising local funds to finance primary health care have
implemented only certain parts of the ideal scheme described above. It is not uncommon for
membership (and payment) to be voluntary; the range of services covered can be quite limited
(e.g., a locally financed, revolving drug fund); and the financing can be heavily fee-for-service
rather than pre-payment, or can come from national tax sources, not local contributions.

Effective rural health services have sometimes been provided by centralized, tax
finance and public services. Sri Lanka, Cuba, and Kerala (in Southern India) all have well-
above average health status relative to their income levels and relatively dense networks of
public providers, even in rural areas. Advocates of community financing respond that such
examples show that exceptional historical, political, and cultural circumstances are required
for success via the centralized state route.

One limit of a local fiscal base is that it can be difficult to sustain in adverse economic
times. A single rural area typically has a less diverse economy than the nation as a whole.
Malaysia, for example, has relied, in succession, on tin, tea, palm oil, petroleum, and high-tech
manufacturing for its growth over the last thirty years. Commodity price cycles that have
seriously injured some parts of the country have been offset by growth elsewhere. An
individual village, however, does not usually have the benefit of this kind of portfolio
diversification.

4.5.1. Equity and Risk Protection

Where community financing is both prepaid and compulsory, it can offer a certain
amount of risk protection. However, unless subsidized by general revenues, community
financing schemes can mobilize only modest resources, since most of the households involved
are low income. Moreover, the omission of secondary care means that community financing
has to be supplemented by other schemes (e.g., tax-supported hospitals) if citizens are to be
protected from the financial risks of serious illness. Non-compulsory schemes, where there is
adverse selection by the sick into the covered pool, offer even less risk protection. Given the
relatively small and geographically concentrated nature of the populations covered by such
systems, they do not have the capacity to do enough risk spreading to provide insurance
against adverse events like localized epidemics or natural disasters.

From a vertical equity view, a critical question is the nature of the pre-payment system.
In particular, does the premium vary with income? Per-capita or per-family fee schemes will
exclude the poorest of the poor, unless there are some exemptions or subsidy mechanisms.
From a national perspective, serious equity issues are raised in forcing relatively poor local
people to pay for their own care while continuing to subsidize health services for the nation’s
elite. On the other hand, if the scheme makes available to poor communities services that
would otherwise not exist, the participants may gain more than they pay.

Horizontal equity here is paradoxical. Areas with more local administrative and
organizational capacity and community leadership do better when it comes to creating and
operating such schemes. In a sense, those with the most complaints will be people living in
areas where such schemes are not created, or where they function badly, and who, therefore,
enjoy less service. In countries with significant variation in local culture and capacity (e.g.,
across ethnic or cultural groups), these differences can be an issue, because community
financing will work much more effectively in some places than in others.
 4.5.2. Implementability

As with any decentralized scheme, implementability will depend on capacity and

leadership at the local level. This implies a need to invest in capacity building at the
periphery. On the other hand, when local people gain confidence in the community-based
scheme, collection of premiums can become easier.

Some local areas may not be able to adopt community financing. Villages can be full
of internal struggles and divisions by clan, family, ethnicity, religion, and economic status. In
these situations, creating a collective community effort may be difficult or impossible. Central
governments thus need to consider the limits of the organizational and technical capacity
available locally when designing such schemes. They may well need to supply the missing
expertise, and provide organizational support either temporarily or permanently, depending on
a realistic assessment of each particular situation.

4.5.3. Summary

The main advantages of community financing are in the credibility and sustainability
that those initiatives can produce, and the modest, but valuable, level of risk protection they
can offer. Some of the biggest gains may not occur in the financing realm, but in the increased
efficiency and responsiveness of services when providers are subject to effective local control.
The relatively good record of tax-financed community-controlled health services for
Aboriginal communities in parts of Australia shows the importance of this aspect of the
scheme.

Once again, however, the specifics of implementation matter. There has to be attention
to building the needed institutional prerequisites—both technical and political. Otherwise,
such initiatives amount to shifting a problem that the central government has not been able to
solve onto the shoulders of less well-off and less well-equipped regional and local authorities.
Attention also has to be paid to those communities that get left behind when widespread
“demonstration project” initiatives are undertaken. Far too often, the successful sites are areas
that are better off—politically and economically—while places with the least capacity and
most need (e.g., tribal areas in India, tea estates in Malaysia) get the least attention.

4.6 Foreign Aid as a Financing Source

Many poor countries rely significantly on foreign aid as a financing source for their
health sectors. As we noted in Chapter 1, such aid often comes with a price—namely the
donors’ commitment to specific objectives. Such commitments are motivated by a
combination of donor concern, donor values, and donor politics. For example, national aid
agencies are responsible to their national legislatures, while WHO executives are responsible
to the World Health Assembly.

In recent years, donors have become less focused on supporting health sector reform
and more on driving specific programmatic objectives with measurable outcomes—
vaccination, disease elimination, and safe childbirth. The extent to which donor preferences
alter or distort national policies depends greatly on a nation’s own fiscal capacity and its
dependence on donor funds. The poorest nations, and societies in post-conflict situations, are
often the most vulnerable in this regard.

We would urge recipient nations to be pro-active in relation to bilateral and multilateral

donors. Our argument about the importance of local conditions implies that local leaders and
experts have much to contribute to any discussion of policy options. The inappropriate
enthusiasm of international experts for “one-size-fits-all” solutions has been often
demonstrated in the past. At the same time, international experience can be a valuable source
of guidance and advice about reform alternatives. Local reformers need to recognize that not
every reference to international experience represents disrespect or intellectual imperialism.
Health sector reform is so complex and difficult that self-critical open-mindedness is an
obligation of all who take the process seriously.

4.7. A Final Comment on Financing Methods

Before we move on, note what is not part of our categories. In particular, we have
tried to separate financing from other aspects of the system. For example, the general revenue
category, in our typology, does not require direct public provision of services—although that is
often the case. Instead, this category includes different methods of service provision:
independent providers (Canada), a mix of private doctors and public hospitals (Sweden), as
well as systems that are largely publicly operated services (U.K.). Similarly, the private
insurance category includes both for-profit and non-profit entities (like American Blue Cross
plans) and insurers that pay providers in all possible combinations of methods. Insurers can
even employ doctors and operate hospitals to provide care directly. For example, the Kaiser
Health Plan, which sells health insurance in the U.S., is both a non-profit and a direct care
provider. Yet we include them under the private insurance alternative. We have constructed
our categories this way to leave issues of payment and organization as decisions under other
control knobs. The breadth of these categories thus illustrates the range of choices on non-
financing matters still available, even after decisions on financing have been reached.

5. Resource Allocation and Rationing

 Once funds are raised, how they will be used and for whom matters greatly in
determining who has access to health care, what types of health care are available and
accessible, and their quality and quantity. These intermediate factors, in turn, influence health
outcomes and financial risk protection, as well as the allocative efficiency of a nation’s health
system and total health care costs. In this section, we discuss resource allocation within the
health sector. In the broader issues of intersectoral resource allocation are too complex to be
treated here and are beyond the scope of what we can consider.

The need to allocate resource arises from a dismal fact: Human wants far exceed the
resources available. Governments, private firms and individual households all have to make
painful choices allocating scarce resources. We have to choose how much to spend for health
care instead of for other meritorious goods; and decisions must be made on how to spend our
money to achieve the best possible results. Governments make these choices at two levels.
First, there is the trade-off between spending in one sector and spending in another. Second,
within a given sector, there is the trade-off between one program and others. For example,
more money for primary care means less for inpatient hospital services (Bitran y Asociados
2000).

However, allocative decisions alone, even when made “correctly,” will not, by
themselves, produce the desired outcomes. Money itself does not produce health care. Funds
have to be transformed into health care through a complex set of production processes. How
that occurs is influenced by the system’s incentive structures, organizational patterns, and
regulatory activities—as we describe in subsequent chapters. Too often, the argument is made
that if resources are allocated appropriately, health outcomes will be improved. For example,
the 1993 World Development Report adopted just this kind of a simple approach to health
improvement. Yet while sensible resource allocation is not sufficient to produce better
outcomes, it can still be very helpful in doing so. But how do we know whether a nation’s
pattern of allocation is sensible? That is the topic for this section.

5.1. Definitions

The apportionment of health resources in many cases is a multi-level process.

Governments first decide how to distribute resources across broad groups or categories of
uses—say, by region or disease type. These funds are then further allocated to institutions or
individuals. The economics literature on resource allocation often talks of resource allocation
as if it is a unitary process. This may be a reasonable treatment when markets allocate goods
and services directly to individuals. However, under national health service systems, funds for
health care are often allocated first by formula to communities, then by other means to
institutions and individuals. Health insurance also uses a two-level approach. The design of
the benefit package is used to allocate funds first to types of services. Then other means are
used to ration services to individuals. In this book, we distinguish how resources are
apportioned to a population group or for selected types of services (such as primary care and
hospital services) and call this resource allocation. We term the distribution of scarce health
care to individuals as rationing (Ubel 2000; Klein 1993).

5.2. Alternative Ways to Do Resource Allocation and Rationing

Even if everyone agrees that health care resources have to be allocated and rationed,
there is little agreement on the criteria that should be used for doing so. Nonetheless, some
nations are more explicit in setting the rules than others. Europeans often debate health care
rationing (Klein 1993; Doyal 1997), while people in the United States almost never do.

On the other hand, conflicting values make it difficult to reach consensus on principles
for rationing health services (Maynard 1996; Barnum and Kutzin 1993). One reason may be
that clear rationing rules literally involve life-or-death decision for identifiable individuals.
Another difficulty in establishing rationing rules is disagreement about whose values should
dominate: patients, doctors, payers, politicians, public health experts, etc.

Many criteria have been used to allocate funds at the population level to communities
or to classes of service. For example, the U.K. and Canada allocate funds to communities
based on income and health status. Other schemes focus on outcomes. For example, the
World Bank argues for the selection of health services in insurance benefit packages based on
their relative cost-effectiveness.

Once funds are allocated to population groups or types of service, health care still has
to be rationed to individuals. No nation can afford to provide enough health care to meet all
possible needs and wants. Instead various methods are available to ration care (i.e., to limit
use). Price is a common measure used for health-care rationing, but it has serious equity
implications. As an alternative, many nations make selected health services free (or nearly
free) and rely on waiting time to ration the limited supply. The U.K. is a good example.
Sufficient preventive and primary care services are produced to meet patients’ wants at zero
price, but certain expensive surgical and laboratory services are not. These services are
rationed by having non-urgent patients wait an extended period of time for care. Other means
are also frequently used to ration limited health services to individual patients by, for example,
making certain services less attractive and thereby discouraging demand. Such methods
include offering no choice of physicians, providing poor amenities at health facilities, offering
care with a lack of professional courtesy or culturally appropriate treatment, or a lack of
physical availability that imposes long travel times on patients.

Different rationing methods typically affect patient groups differently. For example,
price rationing impairs the poor households’ access to health care more than the rich. Poor
service is likely to have similar distributive effects, since upper income people are likely to be
more persistent or gain access through informal payments. Waiting time at a clinic has two
offsetting impacts. High-wage workers lose more pay than low-waged workers. Yet the latter
may be less able to tolerate the resulting income decline.

5.3. The Principles and Politics of Resource Allocation

Many of the ethical perspectives we reviewed in Chapter 3 would suggest that

government give priority to basic health services and prevention programs—especially for
groups with poor health status. These services are often cost effective from an objective
utilitarian point of view, and raising the health care status of the worst off is especially
attractive from an egalitarian liberal perspective. In addition, some subjective utilitarians are
aware of the limits of individual sophistication about health choices. They would favor
prevention education efforts and public funding for vaccination to correct market failures and
improve individual choice.

However, many countries make quite different choices. When left to their own
devices, citizens don’t pay much for preventive care, instead they often exhibit a great
willingness to pay for acute hospital care—especially in the case of life-threatening illnesses.
This can lead to a major difficulty in apportioning public resources between primary care and
hospital services.

What is at stake in such situations are trade-offs between improving health status and
providing risk protection. Allocating resources to pay for primary care is more cost-effective
in improving health status but does not provide financial risk protection. Meanwhile,
allocating resources to pay for inpatient hospital services offers financial risk protection but
is less cost-effective in improving health status. This is a major dilemma for low- and
middle-income countries that lack funds to pay for both.

The World Bank and WHO have urged governments to use cost-effectiveness criteria
to allocate public funds and design social insurance benefit packages. But the public clearly
wants and demands financial risk protection from expensive medical services. Consequently,
most countries have not followed the recommendations from these international organizations.
Instead, when countries discover they lack the public resources to fund both primary care and
hospital services, most decide to continue to pay for hospital services at a level not justified by
cost-effectiveness considerations. Table 8.2 shows the large share of public health budgets
spent for hospital services for selected countries.
The design of health financing policy, like all other policy decisions, is a profoundly political process. The process is affected by strong
stakeholders in the health sector—organized medicine, labor unions, and the insurance and pharmaceutical industries. Each possesses political
resources that—as we discussed in Chapter 4—determine their relative power in shaping health financing policy.
 Political scientists such as Marmor and Barr (1992) and Reich (1994) have long argued
that politics plays the critical role in deciding who pay the costs and who receives the benefits
of health care. Even in poor countries, the economic and political elite often want to support a
few world-class tertiary hospitals utilizing costly equipment (frequently imported) and serving
their needs. It is common for those national and regional centers (which are often also
teaching hospitals) to absorb a large share of the nation’s overall health budget. Furthermore,
the most prestigious institutions often have substantial political connections and influence that
allow them to defend their interests effectively.

INSERT TABLE 8.2 HERE

5.4. Resource Allocation and Equity

In addition to the trade-offs in allocative efficiency between health gains and financial
risk protection, many governments also seek to achieve equity gains through health financing
decisions. Such governments seek to subsidize those who are poor and those who have the
greatest health needs but lack the ability to pay. To achieve these gains, a government can
target its resources to intended beneficiaries through various means. It can target its subsidies
by income group, by the health and socioeconomic status of a community, by class of hospital
ward, and by types of services. Alternatively, a government can directly provide free (or
nearly free) services to poor communities and the most vulnerable population, such as the
disabled and elderly.

As a result of the political pressures discussed above, in pactice many nations are not
allocating their health resources equitably. Even nominally free tax-supported public services,
intended to assure equal access for the poor and low-income households, often lead to
inequitable consequences. In particular tax-financed health services can be disproportionately
utilized by the urban middle and upper classes. This is especially so for costly services like
the more sophisticated forms of hospital care. Incidence analyses indicate that public
expenditures on health do tend to benefit the rich disproportionately in Ghana, Indonesia,
Vietnam and Brazil (see Table 8.3), and studies in India have yielded similar results.

INSERT TABLE 8.3 HERE

This inequitable distribution of public health care resources highlights a fundamental

difficulty facing rational resource allocation in the health sector. Unlike public health
programs, personal health services provide direct and immediate benefits to identifiable
individuals. Those who are ill can be expected to lobby hard for access to services. And those
with higher economic and social status are likely to have the skills, resources and connections
to capture the most valuable benefits for themselves. Their personal trade-offs tend to be very
 different from the statistical calculations of public officials seeking to maximize total health
benefits for the population.

6. Conditional Guidance

Financing policy is complicated, because the multiple objectives typically sought in

health systems require painful trade-offs. Inevitably, then, decisions on financing will depend
on each nation’s social values.

Our review of the financing control knob and the five health financing methods leads
us to three main conclusions. First, there is no perfect financing method. Each option has
pluses and minuses. Some are more equitable or more feasible or sustainable than others in a
particular context. But there will always be trade-offs. Second, the optimal choice for a
country will depend on how the country addresses a set of fact and value issues. How
important are vertical equity and redistributive financing? How much administrative capacity
is there to collective taxes or social insurance contributions? How cynical and free-rider-
inclined are citizens when it comes to community-financing schemes? Third, whatever
combination of methods is chosen, the details and implementation matter. For example, the
horizontal equity of a social insurance system will depend on how small businessmen are
treated. The vertical equity of a system that relies on regional taxes will depend on the kind of
interregional equalization mechanism that is created.

Nations that want to mobilize a significant percentage of GDP for health care must
develop a coherent and rational financing strategy. The appropriate combination depends on
each country’s particular context—including its social values, economic condition, industrial
structure, and administrative abilities. The capacity of each source in a particular context will
depend on many local features of the situation. Still, that does not mean that what everyone is
doing is appropriate. It is possible to do better or worse. It is possible to use international
experience and theoretical insight to make plausible predictions about what is appropriate for
your context. And such judgments are required, if the financing control knob is to be adjusted
most effectively.

6.1. Specific Suggestions

Here are some of specific suggestions, based on our review of international experience
and the relevant political and economic theories:

• Poverty itself imposes a basic financial constraint. Poor households cannot afford to pay for health
care. They have to be subsidized by the government if they are to have access. If equity is to improve, therefore, public spending must be
targeted to the poor—which is not the case now for most low- and middle-income countries.
• For the world’s two billion poor people who live in rural areas,
many goals would be advanced if private out-of-pocket spending were substantially replaced
with prepaid community financing schemes. Such schemes could use the current spending
more efficiently and effectively, improve the quality of health care, and pool some of the risks
to reduce impoverishment due to large medical expenditures.

• User fees have generated additional funds for public facilities in some
countries, and induced customers to be more careful of their utilization of previously free
services. However, many user fees schemes have not produced net additional funds for health
care because of high administrative costs, and when additional funds were produced, they did
not necessarily lead to better services desired by patients. Moreover, many user fee systems
have not succeeded in assuring the poor adequate access to public health services, although
they have often been designed to remedy this potential problem. In short, user fee systems
require careful design and capable administration before they can produce the desired
outcomes.

• To the extent they are affordable, social insurance schemes have the
greatest potential for providing effective risk protection. In low-income countries, such
schemes are likely to be limited to workers in the formal sector. As national income rises,
governments have the capacity to expand such coverage by providing subsidies from general
tax revenues. In high-income countries, compulsory universal systems are likely to be cost
effective.

• Private insurance has high administrative costs and tends to decrease

risk pooling. From an equity perspective, adverse effects are minimized if it functions in a
supplementary role (to social insurance) to cover otherwise uncovered services and to provide
higher levels of service quality. In high-income countries, upper-income individuals are likely
to demand such coverage, because they want better care than public arrangements typically
provide.

• Basic public health and preventive care will generally have to be

tax-supported if a nation wants to have a cost-effective pattern of resource allocation from the
perspective of maximizing health status. Out-of-pocket payment or insurance schemes are
likely to under-provide such services from an allocative efficiency viewpoint.

• These observations in turn lead us to a view about the appropriate

financing strategy for countries at different income levels.

Low-income countries: Social insurance for the formal sector; community financing in rural
areas—with modest subsides from general revenue; public services for the poor, perhaps user
fees for public hospital care, with low-income exemptions, if these can be properly
implemented.
Middle-income countries: A similar overall strategy with more subsidies for expanding the
social insurance system and extending community financing to secondary care. Public
services need to be organized in a way that is accessible to the poor.

High-income countries: Universal social insurance with general tax revenue subsidies for low-
income groups has much to recommend it. Private insurance is likely to play a role for upper
income groups.

6.2. Financing and Equity

Equity has been a continuing theme of our discussion of all financing options. Our
conclusions above about user fees, private insurance and community financing are all driven in
part by our own ethical concerns and commitments. So too was the discussion we offered of
the equity aspects of resource allocation.

From an egalitarian liberal perspective, the key departure point is that a fundamental
level of health is a necessity for human well-being. Our ability to learn, work, achieve our
potential and enjoy life clearly depends in part on our health condition. A just and fair society
then should provide sufficient funds to assure that everyone has access to the health care they
need to relieve suffering and reach a certain level of functioning. Governments should accept
responsibility for mobilizing the necessary funds so that every citizen, rich or poor, has an
appropriate level of health care.

We recognize, of course, that there are other points of view. Objective utilitarians, for
example, do not believe citizens have positive rights to health care, or to anything else. A
country run on objective utilitarian principles could conceivably decide that what really
advanced well-being was maximizing economic growth. Such a government would only
provide funding for those health care services that contribute most to such economic growth.
Equal access to health care and equal health status would not be a priority.

As we discussed in Chapters 3 and 5 (on ethic and performance criteria) each nation
has serious decisions to make about its own equity position. Our point is that it is not possible
to develop a coherent financing and resource allocation strategy without engaging these equity
issues directly. The international community’s recent focus on poverty reduction, as noted in
Chapter 1, does introduce a new set of pressures and opportunities into each nation’s decision
processes. But health sector reform cannot, and should not avoid confronting this issue
explicitly.

6.3. Summary
 In summary, we believe that every nation considering health care reform should
conduct a systematic review of how health care is financed, and prepare a coherent and
realistic financing strategy for public deliberation. The strategy will inevitably use a
combination of financing methods to mobilize funds from different population groups. In our
view, the strategy should take into account the conclusions derivable from previous
international experience that are reviewed above, if the society is to foster equity of access and
cost-effective resource allocation to improve health status.

As we will see in subsequent chapters, important complementary efforts need to be

made in payment, organization, regulation and behavior, if any financing strategy is to
succeed. To put it simply raising more funds alone does not insure they will be well spent, and
there is little point in focusing on fund raising without also paying attention to how the
delivery system functions.

Finally, nations, and their political leaders and technical experts, need to be realistic
about their financial situation. As we stated initially, all resources come from somewhere, all
have an “opportunity cost.” Only honest leadership can help nations face the difficult choices
that the reality of limited resources imposes on us all. Unrealistic promises or unrestrained
pursuit of narrow interest group gains will only sow the seeds of long-run conflict and citizen
disillusion.
Table 8.1. Evolution of health care financing and provision systems at various stages of economic development

Stage I Stage II Stage III

(compartmentalized financing (universal coverage*)

(three-tiered system)
and provision)

Poor Low-Income

(less than
($1,800-$4,800)* ($5,000-$12,000)* (greater than $12,000)*
$1,800)*

National Health Service

General
Public health, prevention (U.K., N.Z.)
Revenue
Public health services Public Health Service
Financed +
(clinics, hospitals) Medisave + Cat.
Donor
(Singapore)

(50-60%) (40-50%) (20-40%)

Social For civil Social Insurance National Health Insurance

(10-20%)
Insurance servants only (Dir/Indirect Provision) (Canada, Australia)

Bismarckian Social
(30-60%) Insurance (Germany,

Japan)

Private Private Insurance

Negligible (5-10%) Managed Care + Medicare
Insurance (15-40%)
(U.S.)
 Private hospitals & clinics

Self-pay Pharmacists Self-pay Self-pay

Indigenous providers

(35-45%) (20-40%) (15-25%) (15-25%)

Mali, Nigeria,

Tanzania, China, Egypt,

Turkey, Chile, Mexico, Argentina,
Kenya, Peru, Ecuador,
Brazil, Lebanon, Venezuela,
Yemen, Philippines,
Thailand, Malaysia
Bangladesh, Indonesia

India

* GDP per capita, 1997 PPP $

** Except U.S. & Hong Kong

Source: Hsiao 2000.

Table 8.2 Share of government budget allocated to hospitals for selected countries

Country Hospital Share

Bangladesh 61%

Burundi 66%

China 61%

Cote D’Ivoire 46%

Ethiopia 49%

Jamaica 72%

Mexico 58%

Philippines 71%

Somalia 70%

Turkey 63%

Zimbabwe 54%

OECD mean 54%

Source: Barnum and Kutzin 1993.

Table 8.3 The incidence of public health spending in selected countries

Share of subsidy (%)

Poorest quintile Richest quintile

Sri Lanka 1979 30 9

Jamaica 1989 30 9

Malaysia 1989 29 11

Brazil 1985 17 42

Egypt 1995 16 24

Kenya 1993 14 24

Vietnam 1992 12 29

Indonesia 1989 12 29

Ghana 1992 11 34

Jamaica 1989 30 9

Malaysia 1989 29 11

Sources: Alailima and Mohideen 1984; Demery et al. 1995; Grosh 1994.
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 Chapter 9
Payment Systems and Their Incentives

1. Introduction

The second of our five control knobs is the payment system. In the chapter on
financing (Chapter 8), we discussed the ways in which money is raised. Now we have to
discuss how that money is paid out. All organizations that mobilize funds for the health sector
(governments, social and private insurance plans, and community financing schemes) have to
decide which organizations to pay, what to pay them for, and how much to pay them. These
decisions create powerful incentives that influence the actions of all organizations and
individuals in the health care system. In this chapter, we look at the incentives that payment
schemes create for both buyers and sellers and how the incentives may be adjusted to further
the goals of health sector reform.

Empirical evidence consistently shows that financial incentives are among the most
important influences over organizational and individual behavior in the health sector (Cutler
and Zeckhauser 2000). Unlike regulation, which relies on the power of the state to coerce
individuals to comply through the stick of threatened punishment, financial incentives rely on
the carrot of monetary reward to induce changes in behavior.

These incentives have many effects on the health care system. They influence both the
quantity and quality of services. Pay more for new technology, and hospitals will rush to
acquire MRI machines. Pay hospitals more for each day a patient stays, and lengths of stay go
up. Pay more for Caesarian sections, and their rate goes up and the rate of normal deliveries
will go down. Put doctors on salary, they see fewer patients. Pay them for each visit, and they
will see more patients. Indeed, as we discuss in Chapter 10 on organization, payment has a
large impact on which kinds of providers exist in the system. It also has a direct impact on the
health system’s cost, since the total expenditure for health care is the price per unit of service
times the volume of service summed for the whole country.

Not only does payment affect the organization of the system, but the reverse is also
true—the organization influences payment options. For example, when financing
organizations (governments or insurance plans) directly own and manage providers (hospitals
and clinics), certain payment methods, like global budgets for hospitals or having doctors on
salary, are clearly relevant. When financing organizations and providers are independent and
deal with each other at arms length, then other payment methods become relevant such as fee-
for-service or capitation.
 Our discussion throughout this chapter recognizes the intensely political nature of
policy decisions about payment—exactly because it has such powerful effects. And the
resulting conflicts tend to be ongoing. Once a payment method has been chosen, the level of
payment has to be decided and adjusted to reflect inflation, changes in production costs,
budget pressures, and other factors. Setting those levels typically becomes a matter of great
contention between buyers and sellers. Providers want payments to be as high as possible—to
increase their income. Payers, on the other hand, want payment levels as low as possible to
keep down their costs.

This chapter on the payment control knob is organized in five sections. In the next
section, we briefly explain how financial incentives have an impact on intermediate and core
performance outcomes. Section 3 discusses the four key factors to be considered when
designing a payment system. In section 4 we describe and analyze the principal payment
methods; and lastly, we present some conditional guidance for reformers about which payment
methods to use.

2. The Impact of Payment on Outcomes

The incentive effects of payment systems depend in part on what economists call moral
hazard, on both the demand and supply sides (Arrow 1963; McGuire and Pauly 1991). For
example, on the demand side, if patients do not have to pay for health services they will
demand a greater quantity of services. The price patients pay also influences where and when
they seek care. Even when there are no alternative providers, high fees can lead patients to
avoid doctors and self-treat minor illnesses.

On the supply side, the payment system elicits complex responses from physicians and
hospitals. Incentives from payment can induce physicians to change the total number of hours
worked and the number of patients treated per hour, where they work (in the public sector, the
private sector or both) and even how they treat a specific patient (e.g., whether they perform
surgery). Payment also affects the behavior of hospitals. Hospitals have been known to alter
lengths of stay, admission rates, and the quantity of services they provide in response to
payment changes.

The impact of payment on the volume of care occurs because physicians can induce
demand for their services. Because their medical knowledge is far superior to that of patients,
physicians can positively or negatively induce demand by advising patients on when to come
back for another visit, what drugs to take, what specialists to see, and what laboratory tests or
surgical treatments to undergo. Providers can use this power to increase their income, improve
their professional standing, reduce their workload, or whatever suits their interests—given the
payment system.
 The changes that payment creates in the behavior of both buyers and sellers have an
impact on both the intermediate and core outcomes we discussed in Chapters 5 and 6. For
example, the price that patients pay influences the volume of services they use. This in turn
affects their health status. This is one reason why poor people in countries where patients have
to pay for care out-of-pocket, often have worse health status—because they cannot afford to
pay for needed care. Alternatively, if care is free, patients may demand drugs or treatments that
are not cost effective. Here, satisfying the patient’s demand reduces technical efficiency in the
production of health outcomes, and raises health care costs. Eventually, the public may also
become less satisfied with the health system because it’s so costly. Thus, there are many links
between payment and health sector performance.

The impact of payment on the quality of care can be equally profound. If quality is
defined as the quantity of care (see Chapter 6), then payment systems, like fee-for-service, will
increase quantity and hence quality. Conversely, paying hospitals a fixed fee per admission
will lead them to discharge patients “quicker and sicker.” Using payment to influence clinical
quality (i.e., skill and judgment) or service quality (amenity, convenience and care) is more
difficult. Medical knowledge is limited in general, and its application to a particular case is
often quite uncertain—since patients vary so much in response to any given treatment. This
makes it difficult to pay for quality based on either decision-making or results—since these are
often both controversial and unpredictable. Moreover, service quality is highly multi-
dimensional. And the relative importance of any given aspect of service, as judged by the
patients themselves, is likely to vary from individual to individual. Thus, despite all the
discussion of linking payment to quality, this practice is still in its infancy.

Different payment rates for different payers can have significant effects on patients’
access to health care. For example, some countries have several insurance plans that pay
different amounts for the same service. Providers then have a reason not to serve patients
insured by plans that pay lower rates. In countries where government-employed physicians
have private practices, they typically charge high prices, which lower-income households
cannot afford. And this too can create profound differences in access—even to public
services—when public doctors give favorable treatment to their private patients.

Access to care will also be heavily influenced by the relative prices paid for different
services. If some activities are more profitable (high prices relative to costs) than others, the
profitable services are much more likely to be available. If capitation rates are set higher
(relative to costs) for some patients than others, the unprofitable patients may find it difficult
to get doctors to accept them as patients—an experience common to the poor women covered
by the Medicaid insurance scheme in the U.S. and minority Roma women in Bulgaria.
Research on the response of German physicians to price changes shows that profitability is not
the only factor determining what they do. Risk to the patient also matters—reflecting the
intersection of economic factors with the physicians’ professional values. But the incentive
effects of relative prices are also clear in this work (Mattke 2001).
In sum, prices and payment levels give crucial signals to both consumers and providers. On the supply
side, payment influences how many providers enter the market and how services will be
produced. On the demand side, patients decide which goods to purchase and how many, based
on the amount they have to pay. Payment is a key mechanism to ration scarce economic
resources—it determines the production, distribution, and consumption of health services, drug
utilization, and the pattern of capital investments. Payments and their incentives thus play a
critical role in determining health system performance.

3. Design Decisions
In designing a payment system, health reformers must keep in mind the powerful
effects of incentives on the behavior of both buyers and sellers. Attention needs to be paid to
both the distribution of financial rewards and the levels of risk bearing. Getting the relative
payment levels right also has to be a matter of continuing concern. In this section, we turn our
attention to the basic decisions that have to be made in designing a payment system.

3.1 Payment Methods

The first question in designing a payment system is what payment method to use. Each
payment method has an associated unit of activity that the method uses, as shown in Table 9.1.
How we choose the unit of activity for payment affects the supply, efficiency, and quality of
health services. For example, when services such as tests, drugs and procedures for a given
disease are bundled together into a single unit of payment (such as per admission or per day),
hospitals have a reason to provide fewer services. This could lower costs, but there also is the
risk that some services might be under-provided.

Eight options for payment method and the associated unit of service are summarized in
Table 9.1. The incentives created by each payment method and their impacts are presented
below in section 4.

[INSERT TABLE 9.1 HERE]

3.2. Payment Rates

Once a payment method has been chosen, the next task is to determine the rate or level
of payment. The effects of a payment scheme on health sector performance are heavily
influenced by how rates are set. High rates can lead to higher costs, incomes and profits. Low
rates can discourage supply or undermine quality. Reflecting the complexity of actual
financing and payment systems, most countries use a mixture of rate-setting approaches. They
 typically choose among five basic techniques: charges, costs, past practice, negotiation and
bidding. In practice, these decisions reflect both technical and political considerations.

The most obvious and technically simple method is to pay providers according to
posted charges, since these are typically easy to observe. Economists argue that if markets are
competitive, these charges will reflect the costs of production. Moreover, competition will
force providers to keep those costs as low as possible. However, since most health care
markets are not particularly competitive and suffer from various market failures, these
arguments are not especially compelling. For this reason, most governments or large social
insurance funds do not base payments on charges. In some cases, however, private insurance
funds do pay charges—perhaps because they lack the technical capacity or economic power to
do otherwise. Moreover, paying charges allows them to reduce conflict with the provider
community.

When payers do pay charges, they have a choice about whether to use each doctor’s or
hospital’s rate or to use a uniform figure for each geographical area. For example, the U.S.
Medicare system began by using the “usual and customary” rate for physician services in each
region. Indeed, payers can even use a rate below the average price in the market—in the hopes
of containing costs. This is how some national payment systems for pharmaceuticals, the so-
called “reference pricing” systems, operate. The most extreme example of these is New
Zealand, which uses the lowest available price for each group of drugs (Woodfield 2001).

An obvious alternative to charges, one designed to help avoid excess provider profits,
is to base payment rates on the costs of each service. Here again, there is a choice between
using each provider’s own costs and some sort of regional or group average.

The two largest objections to cost-based reimbursement are its technical difficulties and its incentive
effects. Doctors and hospitals provide a wide range of services, and the accounting problems
involved in determining the costs of each service are formidable. Ideally, a cost-based system
requires uniform accounting systems in each hospital, as well as uniform rules for classifying
treatment activities, and disease states. Few hospitals in low- or middle-income countries have
such expensive and complex data systems.

From an incentive point of view, cost-based reimbursement is also a problem, since

providers that are less efficient and have higher costs receive more funding. This creates a
strong incentive to increase costs. Cost-based systems often try to limit this possibility by only
paying “reasonable” costs—for example, by using some sort of regional or group average (plus
an allowed degree of variation) as a ceiling.

Since determining costs is so difficult, and to minimize the incentive to increase costs,
nations have sometimes used costs in a base year adjusted annually by an inflation factor.
Indeed, this adjustment can be kept below the rate of general inflation for cost control purposes
(as has been done periodically in Canada and Australia).
 Another way to try to contain costs is to set cost-based rates prospectively—so that
reimbursement does not necessarily cover all incurred costs. This gives the government
greater predictability and reduces provider incentives to be inefficient—especially if the “cost”
being used is some group or regional average. Otherwise, if this year’s costs become the basis
for the next year’s rates, providers know they will recover their costs eventually, albeit with a
one or two year lag.

The third major approach to rate setting is past practice (also typically modified by
some annual adjustment factor). Again, it is relatively simple to use. However, the incentive
and distributive effects depend critically on how the base year rates were set. For example, if
they were based on historic costs, historically inefficient hospitals are rewarded for their poor
past performance. Such an approach is also poorly equipped to respond to changes in cost,
technology, utilization or consumer demand. It is most frequently used in connection with
various budget systems, where current year allocations are derived mechanically from prior
years’ disbursements.

In the three methods discussed so far, the rate-setting process is relatively mechanical.
The next two options, in contrast, are more interactive and process-oriented. They are
especially applicable in the context of a contracting approach to paying for services—as
discussed in Chapter 10. First, some large and sophisticated payers use negotiation to set
rates. These talks may occur with individual providers or, as in the case in Germany and
Japan, between payers and the medical society and other key stakeholders—in which case the
sellers in effect act as a cartel. To avoid that contingency, buyers will often try to deal first
with a low-cost provider to set a rate it can use as a benchmark in later negotiations.

An alternative to negotiation is to use competitive bidding, which is also interactive.

While competitive bidding can theoretically lead to rates that are close to the bidders’ actual
costs, providers often object strongly to this approach because the less efficient among them
would lose. Furthermore, competitive bidding may not produce satisfactory results unless the
process is well designed and appropriate information is given to all potential bidders.
Moreover, when the government manages competitive bidding, politics can intrude as sellers
manipulate the process to their own advantage.

As a result of these difficulties, many nations have tried to find payment systems that
require them to set a smaller number of rates. In particular, many have moved away from the
fee-for-service payment method because of the enormous number of distinct items. For
example, the insurance programs in the United States officially recognize more than 9,000
service items for payment (AMA 1994). In contrast, capitation methods to pay for physician
services and per-admission payments for hospital services require many fewer rates to be set.

The problem of rate setting is made more complicated by the difficulty in finding an
objective basis to resolve the inevitable disagreements. Economists typically argue that the
right level of payment for physicians, for example, is one that would balance supply and
demand. But because health care markets are so imperfect, this theory is difficult to apply in
practice. Consider, for example, the case of countries with physician surpluses—often because
medical education is free. Setting free market rates is likely to produce a decline in
physicians’ incomes that would be quite unacceptable to the provider community.

One option is to have payment rates set by an autonomous agency, insulated from
political influence as much as possible. Yet even then politics will almost always play an
important role. Hence, our advice to health sector reformers is to think about implementation
and politics before you select a plan. Will you have the technical skill and political support to
implement the proposed payment scheme? In the long run, it is difficult to use a politically
controversial method because stakeholders will work to overturn its operation.

4. Payment Methods and Provider Incentives

In this section, we examine the incentive structures that payment systems create for
health care providers and patients. We present each payment method commonly used around
the world and summarize how each method affects the behavior of provider organizations and
health professionals. We examine how each method affects the technical efficiency and quality
of health services and summarize recent empirical evidence on the strength of these incentives.
In the next section, we do the same for the financial incentives that influence patients.

We analyze the incentive structure for the eight payment method presented in Table 9.1
above. In practice, societies rarely use only one single payment method. Instead, two or more
forms are combined and tailored to the particular situation and to the requirements of the
specific health care system.

In this discussion, we must keep in mind how payment systems create and share
different kinds of financial risk among payers and providers. For example, if physicians are
paid on the basis of capitation (a fixed fee for each enrolled patient), they bear the risk if
patients are sicker then anticipated. In contrast, when doctors are paid through fee-for-service,
the payer bears that risk.

4.1. Payment Methods for Physicians and Other Health Professionals

Over the last decade, a growing interest has emerged regarding the role of financial
incentives in health care organizations. Inspired by other industries, health-care managers have
designed financial incentives in order to induce more cost-reducing behavior on the part of
physicians. (These financial incentives, however, often run counter to other professional and
legal constraints.) Recent research on health services and organizational theory has
 highlighted the importance of three factors in the design of such incentives: proximity,
intensity, and interaction (Harshbarger 1999).

Proximity refers to how direct is the link between a physician’s decisions for a patient
and their economic rewards. Capitation, for example, represents a high proximity incentive
structure. Physicians’ incomes are directly linked to their practice of medicine. Intensity
represents the magnitude of the incentives facing the individual physician. For example, the
broader the scope of services included in the capitation rate, the larger the maximum potential
loss or gain for the physician. (Pearson et al. 1998). The last factor, interaction, refers to the
behavioral dynamic among physicians. To what extent do my payments depend on others’
decisions?

4.1.1. Fee-for-Service (FFS)

In this arrangement, the unit of payment consists of individual visits or clinical activities such as
injections, laboratory tests, and x-rays. This payment method gives providers an incentive to
perform more services. This is the only form of payment under which the provider does not
have any incentive to select healthier patients; in fact, the opposite is true. Under FFS, the
provider bears no risk for the cost of treatment. The payer, the insurer or the patient is entirely
at risk for the cost of care. Theoretically, patients and third-party payers have a reason to
question the need for additional services and negotiate lower payments. In reality, however,
patients and third-party payers can seldom negotiate effectively due to the professional power
of physicians.

Studies in African countries have found that shifting from budget payments to FFS
increased the volume of services and their cost by fifty percent (Reference). Comparing
resource utilization under two provider payment methods (FFS and capitation) in Thailand,
Yip et al. (2001) found a significant difference in the average length of stay, drug charges per
admission, and lab costs per case. Under FFS, resource utilization by providers was
consistently greater. A study in the United States (Krawelski et al. 2000) found similar results.
Costs were significantly lower under medical group practices paid by capitation than those
paid by FFS.

Although both theory and evidence point to the cost increasing impact of FFS payment
methods, it is still the most widely used method in developing countries to pay private-sector
hospitals and individual practitioners. This can be explained by the fact that most governments
in developing countries have taken a benign neglect position toward private-sector providers.
Thus, providers establish their own unit and level of payment, and choose FFS, since it is the
easiest, most profitable and most flexible method.
4.1.2. Capitation

Under capitation, the unit of payment is defined on a per-person basis. A payment is

fixed to pay for all services that a person may use during a period of time, such as a month or
year. The most common capitation payment is when a fixed rate is paid to a general
practitioner for each patient registered with him for that month, regardless of the services
required by or rendered to the patient. This payment can vary by the patient’s age, sex, and
health status. Capitation has been used to pay for primary care (capitated to general
practitioners), for specialist services (capitated to multi-specialty clinics), and for inpatient
services (capitated to hospitals). It is also possible to bundle the primary, specialty, and
inpatient services into one capitation rate that is paid to a single entity that takes responsibility
for all services.

Capitation payments transfer most of the financial risk to providers. These risks vary,
according to the specific contract terms and organizational arrangements. For example, many
Colombian insurance plans contract with general practitioners for primary care services and
pay them by capitation. In comparison, social insurance plans in Thailand contract hospitals
for all primary care, specialist and inpatient services, and pay them a capitation rate. The
hospitals then contract with GPs for primary care and pay them a capitation rate. The
incentives under the capitation method vary according to the specific services covered. In the
Thailand example, hospitals have an incentive not only to limit primary care and drugs but
also diagnostic, specialist, and inpatient services in order to be financially solvent or earn a
surplus at the end of the year.

Numerous studies show how incentives under capitation have affected provider
behavior. Iversen et al. (2000) evaluated the impact of capitation on Norwegian GPs’ referral
decisions. They found a 42% increase in the rate of referral from general practitioners to
specialists after Norway introduced a new, experimental payment system in which GPs are
contracted only for primary care and are paid by capitation. Under this arrangement,
Norwegian GPs referred patients more frequently to specialists, reduced the average number of
visits per registered patient, and increased the number of registered patients in their panel. In
another recent study, Bitran (2001) found that in response to rising health care costs,
Argentinean social insurance plans have been moving away from direct provision and towards
the purchasing of health services via capitation. After shifting to capitation in 1997, one
insurance plan experienced a drop in the number of hospitalizations per 100 beneficiaries from
2.83 in 1997 to 2.6 in 1998.

Under capitation, providers may choose to accept only healthy and less complicated
patients, which is known as risk selection. When providers receive a fixed payment for each
registered patient, they tend to select the healthier patients to minimize their exposure to risk
(Frank et al 1998). Newhouse (1996) examined managed care plans in the United States and
concluded that capitation payments encouraged providers to become more efficient in their use
 of resources but that they also created risk-selection problems.

4.1.3. Salary

This unit of payment is based on a time period that employed physicians are at work,
regardless of the number of patients seen, volume of services, or cost of services provided.
Physicians paid by salary bear little financial risk but may alter their decision-making to
minimize the time and effort they expend at work. In developing countries, the employer,
often the government, bears the financial risk and to maximize efficiency may ask each
physician to see a certain number of patients per hour.

A recent study reviewed 23 published papers on salary payments and their effects on
providers’ behavior in developed nations (Gosden et al. 1999 and 2001). The authors found
some tentative evidence that salary payment is associated with lower productivity when
compared with fee-for-service and capitation payment methods. Specifically, they found an
association between salary payments and (l) a reduced number of services per patient; (2) a
reduced volume of patients per physician; (3) longer patient visits; and (4) greater degrees of
preventive care compared to fee-for-service. Other anecdotal evidence indicates that salary
payment does not encourage physicians to be responsive: the lack of financial incentive
dampens their enthusiasm towards satisfying the concerns of patients and fellow physicians
(Harshbarger 1999).

4.1.4. Salary Plus Bonus

Because a straight salary system has so few productivity incentives, many health care
organizations that use salary payment supplement it with bonuses of various kinds. In China,
for example, hospital-based physicians may receive a bonus based on the number of patients
seen or on the revenue they generate for the hospital by their prescribing and test ordering
behavior. In the U.S., health plans that employ physicians have a variety of bonus plans based
on such factors as individual productivity, patient satisfaction, or financial results (for either a
particular practice or the plan as a whole).

Bonus schemes increase the level of administrative costs, and the pay-for-performance
movement in industry and health care certainly has its critics (Colliver 2002, Kohn 1999).
Nonetheless, many provider organizations around the world are adding a bonus component to
salary-based systems.

4.1.5. Summary

Each payment method for physicians and health professionals creates a particular set of
risks and incentives for providers. In Table 9.2 we summarize the payment methods and show
how each method produces a financial reward or risk for the physician and the payer, and the
likely responses of physicians to the different payment methods.

[INSERT TABLE 9.2 HERE]

4.2. Payment Methods for Hospitals and Provider Institutions

4.2.1. Per admission

The first payment method for hospitals and provider institutions uses an admission as
the unit of service. A fixed amount is paid to cover all the services during a particular hospital
stay regardless of the actual services provided. This method transfers a portion of the financial
risk to the provider. Generally, as the number of services bundled together increases, the
financial risk borne by providers increases as well. With this system the incentive for the
hospital is to reduce the length of stay and the amount of care given to each patient. The per-
admission method also gives hospitals an incentive to select patients with less severe illnesses
and to admit as many patients as possible, as long as it can find patients for whom the added
cost to the hospital of caring for those patients is less than the payment fee received for each
patient.

4.2.2. Case-mix adjusted per admission

To remedy some of the shortcomings in per-admission payment, case-mix adjusted

payment separates patients into disease and treatment categories and pays more for those who
cost more to treat. In this way patients who cost more generate more revenue for the hospital.
The diagnostic related grouping (DRG) method has become the most widely used approach for
doing this kind of case-mix adjusted per admission payment.

Under such systems, hospitals have an incentive to shorten lengths of stay, provide less
care and admit more patients. They also have an incentive to focus on those patients within
each class who are relatively healthy, and to look for patients in groups where the rates are
high compared to the costs.

In a recent study evaluating the impact in Italy of DRG-based payment, Louis et al.
(1999) reported a 21.1% decrease in hospital bed days after the introduction of this payment
system. Another study in the United States (Gilman 2000) found evidence that hospitals
selected healthier patients to treat. These findings are consistent with the findings of an earlier
synthesis study on the impacts of DRG-based payment (Ellis and McGuire 1993).

4.2.3. Per-diem

Payment on a per-day basis is commonly used for hospitals. A fixed rate is paid per
day of hospitalization regardless of the actual services given or their costs. This fixed rate per
day gives hospitals incentives to reduce costs and reduce tests and procedures. The hospital
also has an incentive to keep patients in the hospital longer—especially since days of care tend
to be less costly toward the end of a stay. As a result, per-diem payments encourage hospitals
to have a high occupancy rate and expand their bed capacity. Prudent payers find it necessary
to perform utilization reviews to control unnecessarily long hospital stays.

Studies have found strong statistical correlation between per-diem payment and
average length of stay. For example, Rodwin and Okamoto (2000) examined the impact of
per-diem payments introduced by the Japanese authorities and found that the average hospital
length of stay (ALOS) in Japan is three times longer than that in the United States for the same
diagnostic categories. In the case of appendicitis, the ALOS in Japan was 9.8 days while in the
US where hospitals are often paid on a per-case basis the stay was 3 days. Similarly, in
Slovakia, Langenbrunner and Wiley (1999) reported an ALOS of 7.5 days for childbirth under
a nationwide per-diem payment system, versus about two days in the U.S. under the DRG
system.

4.2.4. Line-Item Budget

In this widely used payment method, the unit of payment is an expense category (e.g.
salary, supplies, transportation, drugs) for an organization. The amount budgeted is typically
based on some mix of the facility’s case load, the number of staff, and past budgets. Once the
funding agency (e.g., the ministry of finance) has approved the budget, the provider (e.g.,
hospital or clinic) has little discretion to switch funds across budget categories. This type of
budgeting provides an incentive for hospital directors to over-estimate budgetary needs and
spend the entire budget. Hospitals have little incentive to admit more patients—unless that
indicator plays a major role in the budget process. The result is often a high level of technical
inefficiency, especially when budget categories are very narrow so managers cannot shift
resources to respond to changing conditions.

Langenbrunner and Wiley (1999) studied the impact of line item budget payment
systems in Eastern Europe—systems which are now being abandoned throughout the region.
He concluded that: (1) little incentive existed for facility directors to be cost-conscious and
innovative; (2) facilities tended towards under-providing health services; (3) little attention
 was paid to health outcomes and patient satisfaction; and (4) no real incentive existed to
downsize the level of fixed resources (i.e., staff and facilities).

4.2.5. Global Budget

This payment method sets an all-inclusive operating budget in advance. Often the
organization must meet certain output targets, like a number of bed days or outpatient visits, or
face a penalty. A global budget represents the broadest scope of bundling services. Every
service performed on every patient during one year is aggregated into a single payment (Ashby
and Greene 1993).

Under a global budget system, managers have an incentive to control their expenses while attaining
their production targets, although the potential always exists to distort decisions to reach those
targets (Bishop and Wallack 1996). For example, German hospitals operate on the global
budget payment system with bed days as the production target. Germany, as a result, has
among the longest lengths of stay of all industrialized nations.

Many global budget systems pay a hospital more when it exceeds its production target
and penalize it when it fails to reach that target (Fan et al. 1998). If such payments are based
on average costs, the hospital can increase profits by expanding days since its marginal costs
will be below its average costs. Paying or penalizing the hospital based on its marginal costs
can help solve this problem and that in fact is how the German system of the early 1990s
operated.

In Table 9.3 we summarize the payment methods for hospitals, the incentive structures
created for the payers and the hospitals, and the likely responses of hospitals to the various
payment methods.

[INSERT TABLE 9.3 HERE]

Table 9.3. A Summary of Payment Methods for Hospitals: Their Financial Risk and
Incentive

4.3. Payment Systems and Patients

Payment systems affect patients as well as providers by determining how much

patients must pay for services. There are two cases to consider—those in which the
government directly operates the care system, and those where it acts indirectly on prices (e.g.,
through its operation or regulation of the insurance system). Almost all consideration of
patient incentives, however, arises in the context of fee-for-service payments, since patients
typically pay for care primarily in this way.

Most nations that directly operate health care systems use tax revenues to subsidize the
cost of health care provided at public facilities. This practice reduces the price faced by
patients, resulting in increased demand. As we discussed in the last chapter, the result can be
allocative inefficiency and “excessive burden” from a subjective utilitarian point of view.
Patients use care where the value to them is less than the cost of production, because that care
is free. For this reason, some nations have imposed user fees for their public services to
reduce inappropriate utilization (and to generate increased revenue).

Many nominally free public systems, however, are not actually free to patients. Often
supplies and drugs must be provided by patients (and bought by them in the marketplace), and
various kinds of bribes, gratuities and informal payments may be expected by providers. In
addition, the time and travel costs of seeking care can be substantial. All of these costs can
lessen the magnitude of the efficiency distortions created by free care.

Where governments do not directly provide extensive public care, the existence of
insurance affects the payments that patients must pay, and hence their incentives and behavior.
There are two interacting phenomena here. First, all insurance plans in effect lower the prices
customers pay at the time they get sick. As a result, such schemes raise the same allocative
efficiency problems as directly provided (and subsidized) care.

In addition, in much of the world, health insurance is not purchased on an individual

basis, but rather through tax-supported social insurance schemes. These typically include a
substantial element of redistribution or cross-subsidy from general revenue. This arrangement
encourages citizens to push for coverage that is more generous than many of them would be
willing to pay for out of their own pockets. Government subsidies for the purchase of private
insurance have a similar effect. As a result, nations that finance health care through insurance
often incorporate deductibles, co-payments, coinsurance, and payment ceilings. All of these
mechanisms are intended to create incentives for patients to reduce their use of inappropriate
care.

Deductibles are payments made by the patient before the insurance policy begins to
cover incurred expenses. The deductible level is set for either individuals or families and is
sometimes based on the level of income.

Co-payments are fixed payments made by the patient for each physician visit or each
hospital day.

Co-insurance refers to patients being responsible for a certain percentage of their costs.
 Payment ceilings are a maximum amount of money an insurer is liable to pay per
patient per year.

Table 9.4 summarizes the incentive structures that affect patients and insurance plans
under free care, full user fees, and various insurance benefit designs. As shown in the table,
under free care, the insurer bears all the risk, while the opposite is true under a full user fee.
Other benefit designs divide the risk and generally tend to reduce the amount of health care
demanded by the patient. Deductibles and co-payments have their largest effect on routine
care, while co-insurance and ceilings can have an impact on more expensive hospital care.
Payment ceilings in particular impose a significant risk on patients if a catastrophic illness
occurs.

[INSERT TABLE 9.4 HERE]

Table 9.4. Financial Risk and Incentives on the Patient and Insurer Under Free Care or
Insurance Covered Benefits

Assessing the empirical importance of these price effects on patients requires an

evaluation of the elasticity of demand, as shown in Table 9.5. The price elasticity of demand
refers to the percentage change in demand for a good or service in response to a percentage
change in the price of that good or service. On average, the price elasticity of demand for
health care is not high, which implies that the distortions may not be serious. In other words,
changes in prices do not generally result in large changes in demand for health care. However,
the elasticity of low-income households is much higher. The results of studies done in
developing countries consistently show that elasticity is higher for lower income households
and for children. These elasticity values imply that requiring patients to pay direct out-of-
pocket payments, such as user fees, have greater adverse impacts on the poor and on children
through reduced utilization.

[INSERT TABLE 9.5 HERE]

Table 9.5. Elasticity of Demand for Health Services: Overall, by Income Quartile and by
Age

4. Conditional Guidance
Table 9.6 shows the impact of each payment method on health care costs and the
quantity and quality of services. Empirical studies have found that payment mechanisms have
measurable effects on many variables, including: 1) the kinds of medical care provided to
patients (e.g., medical versus surgical treatment of angina); 2) the types and amounts of drugs
prescribed; 3) the quantity of services provided per visit or per day of hospitalization; 4) the
 length of stay per hospital admission; 5) the proportion of patients treated on an outpatient
versus inpatient basis for a given disease; 6) the labeling of the disease and its severity; and 7)
the frequency with which patients are referred to specialists and laboratory tests. These effects
indicate that the choice of payment method is a critical decision for a health sector reformer.

[INSERT TABLE 9.6 HERE]

Table 9.6. The Impact of Financial Incentives

4.1. Choosing Payment Methods

Table 9.6 implies that no payment method is perfect—each method has both positive
and negative attributes. While nations vary in their health system goals and circumstances,
international experience suggests some conditional guidance for readers to bear in mind. Here
are five critical lessons about the payment control knob:

• Decisions on payment method must be considered in the context of how

the system is organized; organization and payment must complement each other.
• The fee-for-service payment method causes rapid health expenditure
inflation. Nations would be wise to avoid this method unless there are clear and strong reasons
that justify it.
• The salary-plus-bonus payment method is superior to salary only. The
former can motivate health professionals to increase productivity and improve quality of
services. This advantage is especially evident for specialists, provided they are employed by
organizations such as hospitals or insurance programs.
• Capitation payment for primary care has much to recommend it,
especially when there are competing services in the same community.
• For high- and middle-income countries, per-admission payment and
simplified DRG payment to hospitals have desirable incentive effects but also create
administrative complexity. For hospitals in low-income countries, global budgets may be
preferable because of their more limited administrative requirements.

To what extent do we need to adjust these conclusions, especially where fee-for-service

payment is used, in light of the effect of payment on buyer’s decisions? Because the average
value of the price elasticity of demand for medical services is not high, the loss of economic
efficiency from low prices is not that significant—especially given all the costs that buyers do
typically bear. On the other hand, requiring patients to pay some user fees when their
elasticity of demand is very high can reduce waste. For example, making drugs free to patients
can increase wastage (raising the likelihood that drugs are taken home but not consumed). For
insurance plans, of all the methods to control use deductibles are easiest to administer, since
the insurance plan then does not have to reimburse patients for thousands of small bills.
4.2. Setting Payment Levels

Establishing payment levels requires the reformer to consider a complex set of market
and regulatory factors. If the level of payment is set too low, providers will opt out of
government-financed insurance schemes or charge additional amounts to patients or impose
under-the-table payments—depending on what the law allows. On the other hand, if payment
levels are set too high, the result will be higher premiums or taxes, and less money available
for other public purposes.

Setting the right payment level is a contentious and sensitive affair. Competitive
bidding has much to recommend it when there are competing providers and the process can be
combined with selective contracting—as discussed in the next chapter. But this condition may
not exist or providers as a group may resist such a method. Attempting to set a reasonable
payment level based on cost data is also likely to be controversial; payers and providers will
rarely accept one common set of data as truly objective. Even where they do agree on the
facts, disagreements on value issues—like the socially appropriate level of provider incomes—
are likely to be significant.

A fundamental tension exists in payment systems: payers want to keep the payment
level as low as possible, while providers want to raise the level as high as possible.
International experience shows that bilateral negotiation can produce mutually acceptable
results in certain circumstances. But once the government becomes involved and the situation
becomes politicized, government is likely to find itself under substantial pressure from well
organized provider groups to devote additional resources to health care salaries. Reformers
therefore need to consider in advance the political as well as the economic consequences of
payment systems for total costs—and make their decisions accordingly.

4.3. Payment Methods and Equity

Payment links to equity in two different ways, depending on whether patients pay their
own bills or not. When patients do not pay their own bills, there is the risk that the payment
system will not reflect the varied costs of different patients. In such situations, high-cost
patients can become economically less attractive to serve, and as a result they can encounter
barriers to access. These barriers may range from the subtle to the explicit, from culturally
insensitive or inappropriate service to outright refusal to provide care. This pattern has
important equity implications, since patients from lower socio-economic strata and
marginalized social groups are often less healthy, less compliant with treatment regimes, and
psychologically more difficult for doctors from privileged backgrounds to deal with. Thus, in
designing payment systems, reformers have to be conscious of these risks. (The special
problems of providing services to rural areas—one manifestation of this concern—are
discussed in Chapter 10.)
 A parallel issue can arise when payments for specific services, which are
disproportionately used by marginalized populations, are set at a low level versus their costs.
This practice can also lead to a withdrawal of providers. Even in the U.S. with its very high
payment rates, low payments for certain emergency care and mental health services have led
hospitals to close trauma centers and psychiatric wards—creating access problems that raise
serious equity concerns.

The seriousness of these two concerns—payments set too low for certain patients, and
for certain types of care—depends in part on the organization of the delivery system. As we
discuss in Chapter 10, two key features are relevant. First, how competitive is the provider
sector? Second, to what extent are providers organized on for-profit principles? Competitive,
profit-making providers are likely to be especially sensitive to price-cost margins, and hence
governments need to be especially careful about setting equity-sensitive payment levels in
such situations.

The second kind of equity concern embedded in the payment system occurs when
patients pay their own bills. As we discussed in the section on out-of-pocket financing in
Chapter 8, the price elasticity of demand is significantly higher for low-income households.
For equity reasons, therefore, user-fee schemes should include needs-based exemptions—
despite the administrative costs and corruption potential of such arrangements. For the same
reason, services that reformers particularly want to encourage—like vaccination and
prevention—should probably not be subject to user fees at all. These services are likely to have
a higher price elasticity of demand, for all income groups, compared to curative care. After
all, given travel time and costs, forgone income, bribes and the need to buy drugs and supplies,
even “free” services are seldom really free—especially for poor people in poor countries.
Indeed, because much prevention actually occurs during routine medical care, income-based
exemptions to user fees may be the only effective way to deliver such services to the
disadvantaged.

4.4. Summary

Economists sometimes over-stress the incentive effects of payment systems, even as

non-economists under-appreciate their impact. As we have noted in this chapter, the effect of
payment schemes on health sector performance depends both on how they affect providers’
opportunities and on the values and attitudes providers bring to their response. Some doctors
and hospitals provide care for “unprofitable” patients out of a sense of social responsibility.
And around the world, professional norms constrain physician’s willingness to create supplier-
induced demand—albeit to varying degrees in different settings.

On the other hand, not all performance dimensions that reformers care about can be
easily and reliably measured, and hence not all can be easily paid for. The risks of distortion
and dishonesty are always present. Still, payment systems remain one of the most powerful
control knobs available to health sector reformers. “You get what you pay for” is generally the
best place to begin to understand the economics of any national health care system. At the
least, reformers would be wise not to establish payment systems that create incentives at odds
with their priority goals.
Table 9.1 Unit of payment and payment methods commonly used

Payment Method Unit of Payment Physicians & Other Hospitals and Other

Health Professionals Provider Institutions

Fee-for-service Each item of service X X

Salary Units of time worked X

Capitation Each person registered X X

Per diem Each day X

Per admission Each admission X

Case-mix Each admission by X

adjusted treatment category

admission

Line item budget Each budget line X

Global budget Each hospital X

Table 9.2 A summary of payment methods for physicians: financial risks and incentives

Risk borne by: Provider incentives to:

Payment basket of payer provider increase decrease increase select

Method services number of number of reported healthier

paid for patients services per illness patients

treated or chargeable units severity

registered of care or

consultation

FFS each item of all risk no risk borne

service and borne by by provider yes no yes no

consultation payer

Salary one week or all risks no risk borne

one month by physician no N/A N/A no

work

Salary bonus salary bonus

and based on portion portion yes N/A N/A Yes

Bonus # of patients

Capitation all covered amount all risk borne

services for above by provider yes N/A no yes

one person “stop-loss” up to a given

in a given ceiling ceiling (stop-

period loss)

Sources: Prepared by William C. Hsiao, 1997, modifying data from WHO 1993, Bodenheimer and Grumbach 1994
Table 9.3 A summary of payment methods for hospitals: financial risks and incentives

Risk borne by: Provider Incentives to:

Payment basket of payer provider increase decrease increase select

Mechanism services number of number of reported healthier
paid for patients services per illness patients
payment severity
units

Fee for each item all risk borne no risk yes no yes no
service of service by payer borne by
and provider
consultation

Case-mix payment risk of risk of cost yes yes yes yes

adjusted rates vary number of of
per by case cases and treatment
admission case for a given
(e.g., DRG) severity case
classification

Per each risk of risk of yes yes no yes

admission admission number of number of
admission services
per
admission

Per-Diem each risk of risk of cost yes yes no no

patient day number of of services
days to stay within a
given day

Capitation all covered amount all risk yes yes N/A yes
services for above “stop- borne by
one person loss” provider
in a given ceiling up to a
period given
ceiling
(stop-loss)
Global all services no risk all risk no N/A N/A yes
Budget provided by borne by borne by
a provider payer provider
institution in
a given
period

Sources: Prepared by William C. Hsiao, 1997, modifying data from WHO 1993, Bodenheimer and Grumbach 1994.
Table 9.4 Financial risks and incentives on the patient and insurer under free care or insurance

covered benefits

Risk borne by: Incentive for:

Payer Patient Patient

(e.g., insurance or

government)

Free all none increase demand

Full user fee none all reduce demand

Deductible amount above amount up-to-total reduce demand until deductible

deductible deductible amount reached, then increase

demand

Fixed copayment full charge minus copayment reduce demand for visits

per visit copayment

Coinsurance (1-X)% of charges X% of charges reduce demand (depending on

(% of charges) percentage of coinsurance)

Source: Prepared by William C. Hsiao, 1997.
Table 9.5 Elasticity of demand for health services: overall, by income quartile, and by age

Study Location
Results
(year published) (year of data)

Jimenez (1989) Ethiopia (1985) Overall: -0.05 to -0.50

Jimenez (1989) Sudan (1985) Overall: -0.37

Yoder (1989) Swaziland (1985) Overall: -0.32

Gertler & Rural hospitals

Van der Gaag Cote d’Ivoire Income quartile Adults Children

(1989) (1985) Lowest -0.47 to -1.34 -0.65 to -2.32

Second -0.44 to -1.27 -0.58 to -1.98

Third -0.41 to -1.18 -0.49 to -1.60

Highest -0.29 to -0.71 -0.12 to -0.48

Gertler & Rural Hospitals

Van der Gaag Peru (1985) Overall: -0.57 to -0.50 -0.41 to -0.81

(1989)

Income Quartile Adults Children

Lowest -0.57 to -1.36 -0.67 to -1.72

Second -0.38 to -0.91 -0.48 to -1.20

Third -0.16 to -0.37 -0.22 to -0.54

Highest -0.01 to -0.04 -0.03 to -0.09

Sauerborn et al. Burkina Faso Overall: -0.79

(1994) (1985) Age Groups:

 <1 -3.64

1-14 -1.73

15+ .0.27

Income Quartile

Lowest -1.44

Second -1.21

Third -1.39

Highest -0.12

Source: Reddy, Sanjay and Vandenmoortele, Jan. User Financing of Basic Social Services: A review of

theoretical arguments and empirical evidence. Office of Evaluation, Policy and Planning. UNICEF, New York,

1996.
Table 9.6 The impact of financial incentives

Payment mechanism Impact on medical decisions and costs

Fee-for-service Providers favor this method; quantity of service per patient and

total supply increase; inflationary; quality may decrease due to

over-treatment and overuse of drugs.

Per case Improves efficiency of hospital services; increases admissions

somewhat; quality may decrease because of too short of stay per

admission and under-use of tests.

Per diem Less inflationary than fee-for-service; significantly increases

length-of-stay; quantity of services per day may decrease.

Capitation Significantly reduces unnecessary services; improves efficiency;

patients maybe under-treated; risk selection by providers.

Global budget Improves efficiency; most effective in controlling inflationary

health costs; quality may decrease; quantity may increase if

volume standard is tied to the budget.

 Salary Removes incentives for over-treatment of patients; quantity of

output per-hour may decrease; quality of care may decrease;

providers self-refer patients to their private practice.

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 Chapter 10
Organization

1. Introduction

In Chapters 8 and 9, we discussed options for how money for the health care system can be

raised (financing) and alternative mechanisms for distributing those funds (payment). Now we

consider how government can influence the organization of the health-care delivery system.

Each of the five control knobs has an organizational aspect. For example, how should we

organize a social insurance system, or should the medical society be given the responsibility

for disciplining physicians? In this chapter, we focus on the narrower question of the

organization of health-care provision.

We use the term “organization” to refer to both the overall structure of the health care
system, and to the individual institutions that provide health care services. In the second sense
an “organization” is a distinct entity that uses inputs (people, buildings, equipment), with a
defined authority structure, to produce various goods and services. Some health care
organizations closely match this concept, e.g., an independent private hospital. A traditional
healer who operates from her home is also an “organization” in this sense. Other providers
raise real definitional issues. Is a primary health care center run by the Ministry of Health an
“organization,” or should that term be reserved for the whole national public delivery system?
For better or worse, the boundaries of many particular “organizations” are ambiguous, and
all we can do is try to be clear about our meaning as we proceed.

A reformer who wants to “turn” the organization control knob has to focus on four
major characteristics of the health care system.

• The set of organizations that provides health care services.

• The division of activities among these organizations.
• The interactions among these organizations and their relationship with the
rest of the political and economic system—especially how they get the resources they need to
continue to exist.
• The internal administrative structures of these organizations.
 In some cases government can act directly to change these features of the system: for
example, by creating a new system of community health workers or by reorganizing its
hospitals’ governance to increase hospital autonomy. In other cases, governments may act
indirectly through the other control knobs. For example, governments could make new
payments available to private investors to foster the emergence of private hospitals. Or they
may use regulation to require private providers to offer certain services—e.g., immunization.
As we noted in the Introduction to Part II there often are linkages across control knobs, with
actions in one either needing or affecting actions in another. But these are especially important
here, because the organization of health care is affected by many different types of policy
interventions. At the same time, many of the incentive effects of payment reform and the
coercive effects of regulation depend on eliciting or producing organizational changes—
especially of a managerial sort—if they are to have their desired impact.

1.1. Alternative Strategies

Understanding the organization of the health care system in this way leads us to identify three
types of interventions within the organization control knob.

• Who-does-what strategies: The first set of interventions focuses on the first

two characteristics identified above: that is, on changing the mix of organizations or the
division of tasks among them. These interventions might result in changes in the public-private
mix in ownership, or in the scale and scope of new or existing organizations. But, as always,
our interest is not in the organizational characteristics themselves, but in their effects on
system performance.

• Incentive strategies: The second option is to operate on the third

characteristic described above—namely, on the incentives created by the connections between
health care organizations and the rest of the system. We will explore two specific approaches
designed to change these incentives: efforts to increase competition, and efforts to use
contracting to affect the delivery of health-care services.

• Managerial strategies: These interventions involve our fourth characteristic

above, namely, changing what happens inside organizations. When government operates the
delivery system it can simply impose such changes. When it does not, it has to rely on the other
control knobs to produce such changes. Corporatization, total quality management, and
efforts to improve public sector management are examples we will discuss. We include
decentralization strategies in this category, because they involve changes in the way parts of
government relate to each other, much like changes in the internal organization of a large
multinational corporation.
 As we have already noted, reformers can adopt various mechanisms to achieve these
changes. For example, a government can use payment to shift functions among different kinds
of providers. It can use regulation to influence incentives by increasing competition (through
anti-trust policy) or to require changes in the management of private hospitals or it can use its
direct authority to make such changes in government hospitals. However, it is not these
mechanisms, but the changes in organization that these mechanisms can produce, that
constitute the interventions we are considering.

Health-care services are delivered by various “front-line workers”: the doctors, nurses,
technicians and so on who see the patients, run the X-ray machines, and do the vaccinations.
How these people do their work is what ultimately determines how health care is delivered.
So we always have to look at how organizational changes affect the incentives, opportunities
and obligations these workers face, as well as their skills, attitudes and motivation. And when
it comes to determining those features of the front-line workers’ world, managers are key. For
it is the managers who buy the equipment, organize the work, and recruit, reward and
sometimes inspire the workers.

The central roles of workers and managers allow us to clarify the relationships among
the three broad classes of strategies we have identified. Incentive strategies are based on the
belief that if enough pressure is put on organizations, they will make the managerial changes
needed to improve performance. There is the additional Darwinian vision that organizations
that don’t change will shrink or die while those that adapt will survive and grow. Changes
aimed at altering who-does-what also presume that the organizations gaining functions will
have the managerial capacity to deliver higher quality and lower costs. This is, for example,
what private sector advocates claim (Herzlinger 1999). For any non-managerial intervention
to succeed, therefore, change at the managerial level has to occur.

Unfortunately, key managerial aspects of proposed organizational reforms are often

left unspecified so that their consequences are hard to predict. Will “corporatized” hospitals
have lower costs than the existing public system? Will decentralizing control of health centers
to the village level improve service quality? In other words, will these changes produce more
competent and responsible managers? Will they lessen patronage and corruption? The
answers to such questions will depend on how reforms are carried out. Hence, we will stress
throughout this chapter that “the devil is in the details” when it comes to predicting the
impact of organizational change on system performance.

Changes in external incentives and in internal management are deeply complementary.

Giving managers incentives without also giving them the skills, authority and resources they
need to respond to those incentives, is likely to be quite ineffectual. The same is true in
reverse. Increased managerial authority is not likely to be used to improve care if there is no
incentive to do so. This is why various writers on organizational reform in health care have
seen a need for “consistent” change (Harding and Preker 2002). It is not aesthetics that lies
behind their observations, but rather the need to combine the reasons to do better with the
capacity to do better—in the same reform package.

Some reforms do combine external incentives and internal managerial changes (e.g.,
many decentralization or privatization efforts). But for analytical clarity, we will consider the
various aspects of such mixed reform efforts separately.

To highlight the linkage of all reform efforts to the managerial level, we will repeatedly
explore how reform affects what we call “The Six Keys to Organizational Performance” (See
Table 10.1). These six factors determine how and why incentives on the organization filter
down to managers and workers. They also tell us to focus on the skills and attitudes that
workers and managers rely on when they respond to those incentives.

(Table 10.1 Here)

1.2. The Effects of Alternative Strategies

What can reformers hope to accomplish by changes in the organization control knob?
How might such changes affect the performance of the system in terms of the categories we
developed in Chapters 5 and 6?

To improve access and risk protection, reformers can change who-does-what. For
example, to improve access and equity in rural areas, various nations have worked to develop
community-based health workers. In Indonesia in the 1980s, for instance, it was found that
more dispersed lower-level facilities—such as sub-centers—were more effective in reaching
the rural poor than larger, more fully-staffed health centers (Berman et al. 1987, Berman et al.
1989).

Incentive strategies like competition can lower costs (improve technical efficiency) and
improve service quality and customer satisfaction. Contracting can also be used to increase
efficiency and improve quality. Decentralization advocates hope it will have similar effects
(Bossert 1998). Managerial initiatives, too, focus on producing lower costs and better quality.
If any of these interventions work, health status and satisfaction might both be improved.
(Whether cost savings are translated into more service and hence into health status gains—or
used to produce non-health benefits—depends on the political system.)

We will see, however, that these changes come with risks and tradeoffs. Excessive
competition can lead to supplier-induced demand, allocative inefficiency, and health status
declines. It can also make providers unwilling to subsidize the poor, thereby diminishing
access and health status. Similarly, altering who-does-what, to produce a dense network of
unspecialized providers in the name of improved access, can lead to diminished technical
quality.
 We will also see that these strategies are not self-implementing. The results of
decentralizing control to the local level will depend on local administrative and political
capacity. Contracting can be used not to improve efficiency, but to hand out political
patronage. The “within strategy” variations in outcomes—which depend on detailed design
and implementation—are perhaps largest for this control knob. With this perspective, then,
what strategies are available to reformers who want to change the organization control knob?

2. Changing Who-Does-What

The first strategy is to change the mix of organizations and how tasks are divided
among them. Such changes are often what people think of first when they consider
organizational reform. What reformers don’t always consider carefully is how changing the
role of providers will affect health sector performance. For example, does it matter if new
high-tech services are provided by public hospitals or private entrepreneurs? Is it better to
have primary care provided by independent general practitioners (as in the U.K.) or by clinics
with multiple specialists (as was the case until recently in much of Eastern Europe)? Are
immunization programs best organized separately—or as part of the general primary care
system? We address three general characteristics of organizational design: ownership, scale,
and scope. We also discuss the particular organizational problems of providing service in rural
areas. Throughout, keep in mind that changing who-does-what can influence performance
through both supply and demand side effects—for example, through the cost of services and
through the attractiveness of care to various patients.

Over the years, various organizational fads and fashions have appeared in
international health reform debates: e.g., integrated primary care, or comprehensive
reproductive health programs. We want to warn health sector reformers not to become overly
focused on such strategies. Too often, such reorganization does little to change the capacities,
incentives or motivations of the front-line workers—or their managers. And as a result, there
may be less effect on performance from such changes then their advocates hoped for. Indeed,
reorganization can seem attractive exactly because it avoids the difficult problem of making
meaningful incentive or managerial changes. It substitutes, instead, the deceptively easy task
of rearranging the Ministry of Health’s organization chart or the mix of actors in the private
sector.

2.1. Privatization

One widely advocated organization reform strategy involves shifting services to private

sector providers. However, the world is full of examples of good and bad performance in both

the public and the private sectors. One study in Malaysia found that preventive care offered by
private doctors was of worse quality and more limited than that provided in public clinics

(Aljunid and Zwi 1997). Conversely, private mission facilities in the Gambia were found to

provide higher-quality care, resulting in greater demand and geographic coverage

(Newbrander and Rosenthal 1997). To devise effective reforms, therefore, we need better

understanding of how ownership influences the behavior of health-care organizations.

Why do public and private sector hospitals and clinics often behave differently? Refer

back to the Six Keys (Table 10.1). The first point involves incentives. The private sector

largely depends on markets. To make profits, competitive sellers have to please customers by

offering reasonable quality and cost. However, they have no interest in providing care to those

who cannot pay—like the poor.

Public sector organizations that get their funds from government budgets could try to
provide great service and hope their customers will lobby the government to increase those
budgets. An alternative “patronage” strategy involves relying on employees to be a pressure
group on, and political resource for, the government. Since employees are easier to identify,
influence and organize than customers, the patronage strategy is by far the more common
pattern. The result is often excess staff, high costs, political involvement in hiring and
purchasing, and mediocre-to-poor customer service (Osborne and Gaebler 1993, Barzelay
and Armajani 1992).

There are also public-private differences in the incentives of managers. Private sector
managers often find their compensation and employment depend on profits. Private companies
may give managers stock options to increase their firm’s profitability. Indeed, some managers
are owners and earn profits directly. Public managers, in contrast, often come from politics or
the civil service and face few performance-based incentives (Shaw 1999, World Bank 1997).

Public managers also generally have less authority than private managers. Restrictive
purchasing and personnel systems are often put in place in the public sector to prevent public
managers from using their power for political ends. But, as a result, they often cannot create
strong incentive systems for their workers. In Tanzania and Zimbabwe, for instance, a study
found that private sector hospital administrators enjoyed wide flexibility to hire and fire staff
as well as shift funds between line items, whereas government managers were bound by time-
consuming, bureaucratic rules and regulations (Gilson et al. 1997).

Public and private managers also often differ in skills and values. Well-run private
organizations recruit managers who have the training, temperament, and interest to do
managerial work. Many public sector health managers are doctors without managerial
training who are not especially interested in a management career. They see management as a
diversion from their “real work,” and often don’t even know what they don’t know about how
to be an effective manager. In India, for instance, medical officers are promoted to block- or
district-level administrative positions and expected to supervise—without specific managerial
training—extension workers and primary care interventions (Martínez and Martineau 2002).

Finally, there may be differences between public and private employees. In some cases,
the public sector attracts people committed to social goals, while the private sector, appeals to
people seeking their own economic gain. On the other hand, the public sector, by providing
secure if unexciting jobs, can attract people who are relatively rigid and risk averse. Private
businesses, which reward the entrepreneurial, are more likely to attract those who find
uncertainty and opportunity more congenial.

We also need to stress that health-care ownership choices are more complex than the
classic public-private dichotomy suggests. There is often a "third way" in the form of non-
profit, non-government organizations. Such NGO’s often combine incentives to and
accountability of managers with a Board of Directors that is not solely profit-oriented. At
their best, such NGO’s can produce greater "technical efficiency" (including efficiency in the
production of quality) than rigid public organizations. Moreover, they can recruit staff with
different skills and motives than either for-profit business or classic bureaucratic public
agencies (Gilson et al. 1997).

In summary, the public sector often exhibits higher cost and less customer

responsiveness than the private sector. The private sector, in contrast, is often more flexible

and ruthless and less socially responsible. And private ownership only produces efficiency and

quality when competitive markets force managers to make such efforts. At the same time, the

variation in performance within each category is substantial. There are high performance

public agencies and poorly managed private ones. There is no theoretical reason why good

service and low cost cannot be achieved by well-run public providers. Observed differences

are mainly the result of specific structures and practices, rather than being determined by the
 ownership of providers per se. Details and implementation are critical. How then should health

reformers choose between using the public and private sectors to deliver services?

We believe this decision should depend on several features of a nation’s circumstances

and of the particular activity under consideration.

• Regulatory capacity: A government with greater technical expertise, a

relatively law-abiding citizenry and a well-functioning legal and administrative apparatus can
more easily control the excesses of private-sector providers.

• Reform priorities: Markets do better on efficiency but worse on equity. The

choice of ownership may well depend on the relative importance of these goals.

• Public sector managerial capacity: The more expert and better managed
and less patronage-ridden the public sector, the less compelling the case for privatization.
This could be quite different in different sectors.

• Customer sophistication: The more sophisticated the customers, the easier

it is to rely on private markets. Again, this may vary. Customers can judge dentistry more
easily than brain surgery.

• Professional self-discipline: Health-care markets function better when

sellers accept professional norms that limit patient exploitation and when there are effective
formal discipline systems to help enforce such behavior.

This review suggests first, that nations will often want a mix of private and public
provision—depending on their goals in a particular area, buyer sophistication, professional
behavior, and other factors. Second, this review reveals the deep irony that the nations least
well equipped to make their public sector function effectively are often those least able to
discipline private markets to achieve public ends. This should serve as a warning to reformers
who see the inadequacy of current public organizations but have not analyzed what will
happen if for-profit, private providers come to dominate instead.

2.2. Scale and Health Sector Performance

A second system design choice that reformers face is the scale of various provider organizations. Scale affects performance in multiple ways.
First, larger scale can lower costs. Larger hospitals, for example, can fully utilize specialized equipment and personnel (x-ray machines or
laboratory blood analyzers—and their associated technicians) (Feldstein 1993). Administrative costs (e.g., the director’s salary) can also be
spread over a larger patient base. Such advantages vary across different health care activities. Hospitals seem to benefit from lower costs up to
about 300-400 beds. Primary care is likely to get little or no cost advantages from having many physicians working together in the same
facility.
 Larger scale can facilitate clinical quality. Doing more of something—at least
potentially—makes one better at it. These “practice effects” operate at both the individual and
team levels. Clinical skill depends on both the current rate of “throughput” (how many cases
are seen per month) and the total cumulative experience with a particular type of case. These
advantages have become larger in recent years, as medical knowledge has expanded and
medical equipment and techniques have become more esoteric. Since many illnesses are not
common, a large population base is required to provide enough cases to support a highly
specialized care unit or a highly specialized physician.

The problem is that having a few large referral centers leads to access barriers,
particularly for those outside major metropolitan centers, poor and rural people and those in
marginalized groups. Thus, the search for clinical quality can lead to access problems for, and
lower health status among, groups with the poorest health status (World Bank 1993). Without
pressure from competitors, such centers may not achieve their potential cost advantages,
because they will not work hard enough to do so. There are also political pressures that run
counter to regionalization. Providers and political leaders in towns that are not chosen to be
regional centers have been known to resist such arrangements strenuously.
Moreover, there can also be diseconomies of scale, where costs increase as size increases. Large institutions often suffer from a lack of
coordination and find it difficult to motivate staff. Employees feel insignificant and hence not responsible for actual outcomes. In addition,
workers have to travel longer distances in a system with fewer large centers so labor costs can increase.

Similar issues arise at the primary care level. A choice among individual family
doctors, small clinics with 3 to 5 practitioners, and larger clinics with 20 or so doctors, is also
a scale issue. And some of the same tradeoffs arise among clinical quality, service quality and
effective availability.

We have no simple advice on the scale of facilities to create. The advantages and
disadvantages of large scale will depend upon each country’s particular situation. Densely
settled, urban environments can provide enough population to support a number of
competitive large-scale providers. The same will not be true in rural areas, or even in modest
sized cities. Uruguay is not Uzbekistan. The availability of transportation services, the degree
of sophistication among rural people, the burden of disease in a country, and its overall level
of economic development will all influence the consequences of centralized versus dispersed
services. Politics, too, will vary. In part, the question depends on which performance criterion
(health status versus satisfaction) matters more, since scale may improve clinical quality while
decreasing equity of access and satisfaction.

Moreover, the potential gains from larger scale will not be automatically realized.
What actually happens will depend (as always) on how managers react. The possible negative
effects of larger scale on market competition and organizational incentives, therefore, have to
be borne in mind. For countries with limited budgets, however, the cost and clinical quality
advantages of larger scale should, we believe, remain a serious consideration.
2.3. “Scope”—the Effect of an Organization’s “Product Line”
Governments often manipulate the set of activities each provider undertakes. To what degree is their product line diversified (i.e., they do
many different things) versus specialized? For example, should society support specialized maternity or cancer hospitals, or general hospitals
that care for all kinds of patients? Specialized “vertical” disease prevention programs or an integrated “horizontal” primary care system?
Family medicine doctors or primary care teams of multiple specialists?

Diversification can lower costs if, for example, it allows a hospital to use x-ray,
laboratory and operating room facilities to care for more patients. Similarly, a primary care
center that already has facilities, refrigerators, and nurses can provide immunizations less
expensively (as an addition to its product line) than a wholly separate service with its own
costs.

Broader scope also reduces the necessary population base for a provider and hence
allows for a denser (and more accessible) set of providers. A small town may not provide
enough volume for an obstetrician, but it might be able to support a family doctor who also
performs deliveries. The epidemiological shift to chronic disease increases the importance of
this point, since the effective management of chronic conditions requires relatively frequent
patient contact.

On the other hand, diversification risks losing some of the gains of specialization.
Industrial experience suggests that diversified companies may end up not doing any one thing
well. An organization with a narrow product line, in contrast, can attract workers with a
particular interest in, and a commitment to, a particular activity. The organization can
develop an “esprit de corps” and well-defined performance goals based on a clear and
narrow mission. A well run specialized heart institute or disease control program can benefit
from such focus in a way that a general hospital or a general primary care system often
cannot (Herzlinger 1999).

What advice can we offer to health systems planners about the appropriate scope of
different providers? For primary care, where access is critical, broad scope (and hence a
smaller population base) has much to recommend it. In rural areas, this is typically the only
option at the primary level. On the other hand, the goal of improving clinical quality through
an increase of specialization explains why so many countries have regional or national
referral institutions for more difficult cases. But each nation has to make these tradeoffs in
light of its own settlement patterns, transport system, and priorities. And it may well make
sense to make different decisions for different regions or services.

Reformers need to remember, however, that changes in scope change what is possible,
not what will actually happen. The unit cost of an x-ray machine might fall if a broader scope
of service produces enough cases for it to be fully utilized. But this will not occur if the
machine is badly maintained or the hospital runs out of film or the technician is incompetent
or frequently not on duty. Managerial effectiveness is thus essential, if the potential benefits of
reforms are to be realized.

2.4. Providing Services to Rural Areas

In many countries, a particular who-does-what problem arises in providing services in

rural areas. Often, the Ministry of Health operates a network of health centers (with a few
inpatient beds and physician staff) and subcenters (with non-physician staff and no beds). Yet
the same complaints are commonly heard. Doctors don’t want to go to remote areas, and if
assigned they don’t fulfill their responsibilities. Drugs are lacking, equipment is not
maintained, and the resulting poor quality discourages utilization (Griffin and Shaw 1995,
Akin et al. 1995).

The reasons for all this are apparent. Often physicians in the public sector (officially
or unofficially) supplement their incomes with private practice (Harvard School of Public
Health 1994-1995). In Indonesia, for example, private practice enables urban doctors to earn
one and a third as much as doctors posted in rural areas. This differential exists even though
rural providers earn a substantially higher public sector salary (Chomitz et al. 1998). Poor
rural areas offer few such opportunities, as well as little in the way of educational or social
opportunities for physicians and their families. Supervisors seldom visit remote posts, and
there is little monitoring of the quality of care. Building more facilities—which will still be
understaffed, under-equipped and underutilized—is seldom an effective answer. There are
countries where the Ministry of Health is able to provide service in rural areas, like Sri Lanka
and Cuba (Hsiao 2000). But these are special cases: small nations, with relatively dense rural
populations and a high degree of ideological motivation in the public sector.

The private sector often fills in the resulting gap in services—if only by default. Many
of the practitioners in question are not fully qualified by western standards. Some are
traditional healers. The best of these may have been trained in formal programs of the sort
that exist in India and China, but others have only an apprenticeship background. Still others
had some western-oriented training—as pharmacists, practical nurses, or aids (Fried and
Gaydos 2002, Kakar 1988, Shankar 1992). Since these practitioners operate with little
regulation and on a fee-for-service basis, local citizens have little or no protection against
poor quality or financial risk when they use such services (Berman 1998, Claquin 1981).

In response, many governments offer incentives for doctors to serve in rural areas.
Some Indian states give preference for admission to specialty medical training to those who do
so, and they offer selective “location” or “non-practice” bonuses that don’t involve changing
the formal uniform salary scale. Countries as diverse as Canada (for Arctic communities) and
Uzbekistan have created differential pay levels to attract doctors to rural areas (in Uzbekistan
by paying a doctor more than one salary). In rural areas of Kerala, in south India, local
governments are allowed to supplement the statewide salary scale to attract doctors.

An alternative is to change the kind of provider, on the theory that those with less
education and status, and from a similar cultural background, will be easier to locate in rural
areas. Poor countries have relied on nurses or community health workers in such contexts. In
many former communist countries, care in rural areas was provided by “feldshers” (Roemer
1977). These providers (akin to physician assistants in the U.S.) have substantially less
training than fully prepared physicians but are often counted as “doctors” in some national
statistics.

However, the political difficulties of closing facilities or services can mean that
programs that were begun as substitutes—to lower costs—can end up as supplements, so that
the hoped-for budget savings do not materialize. The new program then can fail because in a
competitive fiscal environment, the initiative does not get sufficient funds. This fate has
befallen some programs for community health workers, for example.

Some countries (e.g., Mexico) use weekly or bi-weekly visits by well-staffed mobile
vans to supplement the routine care offered by local nursing staff (Health Secretariat Mexico
2000). Australia and Botswana both supplement care in remote areas (offered by a resident
nurse) with a “Flying Doctor” service, which is both an evacuation system and a mechanism
for bringing in doctors to run periodic clinics in remote areas (McDonald 2002, O’Connor
2001).

Another alternative is to contract with non-public organizations to deliver care. In

Andhra Pradesh and other Indian states, governments have selectively contracted with NGO’s
to operate rural health centers. In many East African countries, church-affiliated
organizations receive government funds to run hospitals which substitute for government-run
district hospitals (Gilson et al. 1997). In aboriginal communities of Australia, public funds
once used to operate state-run medical services are now sometimes turned over to local
NGO’s (supervised by community boards) to operate locally controlled medical services
(Percy 1999).

To take advantage of these options, reformers must realize that a uniform system may
not be the best approach in a socially and geographically non-uniform country. Defending
uniformity on equity grounds, when the approach produces inequitable care in practice,
simply confuses rhetoric with reality.

2.5. Who-Does-What and the Supply of Inputs

To alter who-does-what in the delivery system, government may find it useful—even

necessary—to change the inputs into the system. A decision to rely on capitated family
doctors, for example, is unlikely to work unless government produces more family doctors.
Conversely, restricting access to critical capital equipment can also be an effective way to
provoke system change.
Where doctors and nurses are trained in government schools, the number and mix of personnel trained can be changed administratively. For
example, in Australia, to expand the number of doctors in rural areas, medical school places were reallocated to a new institution focused on
preparing physicians for such roles (Wronski, 2001). In other situations, private medical and nursing schools may be licensed by the
government, or they (or their students) may rely on government financial aid. These mechanisms can be used as a tool to alter the mix of
graduates.

Training more physicians may lead to increased price competition or to supplier-

induced demand. An excess supply of doctors can lead to enormous political pressures for
overstaffing the public system, as occurred in Egypt in the mid-1990s (Berman et al. 1997).
Unfortunately, health system consequences are often not paramount when governments decide
on training capacity, because of the political pressures that surround such decisions.

Governments can also alter which providers have access to specific kinds of capital
equipment. Governments can introduce these rules directly in their own facilities. In addition,
in some countries government is a major source of capital even for private providers. In
Germany, almost all hospital capital investment—even for independent hospitals—comes from
the state governments, and they can help shape which institutions grow in which clinical areas
(White 1995). In a number of middle-income countries, such as Thailand, Colombia, and the
Philippines, governments have initiated subsidized lending programs to encourage private
health facility development (Herrin 1997, Griffin 1992). Where the private sector is self-
financing, a variety of regulatory and payment tools are available. For example, there are
states in the U.S. that have limited the use of certain technologies to hospitals—thereby
insuring that free-standing physician groups cannot offer particular services (such as
radiation therapy).

3. Incentive Strategies
Incentive strategies take advantage of the fact that every organization has to acquire resources to continue to operate. To change the behavior
of organizations, therefore, reformers can change what must be done to obtain resources. Health sector organizations generally obtain
resources in three ways, from markets, by budget processes, and from gifts. Competition, the first strategy we explore, operates on the context
of markets. Contracting, the second strategy, can function within any of these contexts. These strategies are not mutually exclusive. For
example, contracting can be a tool to increase competition or change the provider mix. We identify and analyze the linkages between the two
strategies as we proceed.

3.1. Fostering Market Competition

As we noted in Chapter 2, there has been much interest in recent years in using
markets to provide health care services. The problem for reformers is to ensure that such
markets provide the right incentives—which means ensuring that they are reasonably
competitive.
 In a classical market situation, customers (i.e., patients) choose what to buy and from
whom, and they pay for their purchases. This occurs in the large private ambulatory care
sectors in many countries. Other health care providers confront situations with some, but not
all, of the features of a classic market. For example, public hospitals in many countries have
budgetary support but also receive significant income from user fees and informal payments.
This combination subjects them to some market incentives. Indeed, for some public hospitals
(as in China today, and in most public hospitals in the U.S.), such fees constitute most of their
revenues, so they are very much in a market-dependent situation (Yip and Hsiao 2001).

Competition is desirable because it pushes sellers to keep down costs and prices and
respond to customers in order to attract additional business. The managers of firms that might
not survive have a powerful incentive to work hard and take risks. Indeed, firms managed by
their owners are often more successful—and take bigger risks—exactly because managers
have so much to lose, and gain, from their company’s success (Berle and Means ).

Competition also creates incentives for workers. As the English essayist Samuel
Johnson wrote, “The prospect of hanging serves wonderfully to concentrate the mind.”
Workers know that a failure to adapt in a competitive marketplace could result in the loss of
their jobs. This may make them more willing to work hard and accept changes designed to
increase the firm’s prospects.

As noted in Chapter 3, economists often favor competitive markets because of their

theoretically desirable properties in fostering allocative efficiency and Pareto Optimality. But
in the real world, competition’s greatest value may be in holding down costs and improving
service quality. In the medium run, competition also encourages innovation, both new forms of
medical care (e.g., new drugs) and new models of service delivery.

Even when patients do not pay directly for care, competitive incentives can arise from
financing and payment arrangements. Hospitals may compete to serve patients covered by
insurance. General practitioners may find themselves competing for patients when paid a
capitated fee by government. Even budget-supported hospitals will face some market pressure
if budgets are set in a way that reflects the volume of care provided. The key to the incentive
effect of a market is whether buyers have choices and whether the money follows the patient
(or the customer)—regardless of where the money comes from.

Many real health care markets are what economists call “oligopolies”—they have only
a few sellers who can potentially coordinate their behavior to raise prices and limit
competition. At the extreme, there may be only one seller—a monopolist who escapes market
pressures to control costs or provide good service because patients have no other source of
care.
 Many forms of quality regulation in health care—including training and licensing
requirements—have the unfortunate side effect of limiting competition. Professional
associations can act both formally (through pricing agreements) and informally (through
social pressure) to limit competition (Brennan and Berwick 1996; Starr 1982). In some cases,
governments have given medical societies the ability to restrict the entry of new practitioners,
a move with obvious anti-competitive implications.

Economists have explored how industry structure influences the level of competition in
a particular market (Boner 1995, Caves 1992, Hoekman 1997). Structure refers to the number
and size distribution of sellers, and the presence or absence of “barriers to entry.” Such
barriers include legal limits (such as patents), control over scarce resources (such as having the
only x-ray machine in town), a seller’s reputation that guarantees business (“product
differentiation”), and problems that would-be entrants have in acquiring capital. The general
answer is that competitive outcomes are more likely when there are more sellers and when it is
easier for new sellers to enter a market. Where there are only a few, well-protected firms, they
are more likely to be able to collude successfully. Government, therefore, can follow several
strategies to overcome entry barriers, increase the number of sellers, and increase competition:

• Decrease regulatory barriers: Governments can relax licensing or patent

laws, issue additional permits for facilities or equipment, or deprive professional societies of
their exclusionary powers.

• Support new producers: Governments can use loans, grants, direct

investments, or long term contracts to help new entrants raise capital or ensure they have
customers. For example, a local vaccine producer, started with government loans, can exert
helpful price discipline on foreign suppliers.

• Enforce anti-monopoly laws: Many countries have anti-monopoly or pro-

competition statutes that typically forbid collusion on prices, and outlaw explicit agreements
to divide markets. In some cases, they limit anti-competitive mergers. Making sure these laws
are enforced, and that they can be applied to professional societies, can enhance competition.

How far governments should go to increase competition in health care, however, is

complicated by several features of the sector. First, when providers are paid fee-for-service,
increased competition can lead them to exploit patient ignorance and create supplier-induced
demand (Yip 1998). There is a real risk, therefore, that pro-competitive policies will increase
the volume of inappropriate care. Relaxing licensing laws can also raise concerns about
clinical quality if less well-trained producers enter the market. Moreover, as noted above,
there can also be a tension between competition and the advantages of economics of scale.

3.2. Contracting
Under the payment systems discussed in the previous chapter, some government agency (e.g., the Ministry of Health or a social insurance
fund) establishes a price schedule and all qualified providers are paid accordingly. While this is the most common approach to paying for
health care, there is an alternative. Selectively contracting for services can be used to provide incentives even where markets are imperfectly
competitive—although increasing competition can be a complementary strategy (England et al. 1998).

A “contract” is a written agreement between a buyer and a seller. The seller agrees to
provide certain goods and services, and in return the buyer agrees to give the seller a certain
amount of money. The contract sets out the terms of that agreement: what the seller provides,
what the buyer pays, delivery and payment dates, the time period of the agreement, renewal
provisions (if any), penalties for non-performance, and processes to resolve disagreements. A
contract can provide a more detailed and flexible set of incentives than a payment system. In
effect, it combines some of the coercive features of a regulatory scheme with the incentive
effects of a payment system.

For example, the Ministry of Health could contract with hospitals to pay a fee to cover
certain fixed costs plus a volume-based payment to cover variable costs. The size of each
payment could be based on each hospital’s particular financial situation. This combination
would both create productivity incentives and offer the hospital some protection against
financial risks if volume declines. Such a philosophy of supply-side cost- and risk-sharing
guides government contracting with hospitals in the Kyrgyz Republic, where hospitals are
reimbursed on a per-patient basis, incorporating adjustments depend on the diagnosis at entry
(analogous to the diagnosis-related group or DRG mechanism discussed in Chapter 9) (Gauri
2001).

Contracting may be particularly helpful where public hospitals have significant

autonomy and independence. The incentives provided by contracts can help fill the gap
created by diminished direct supervision. For example, a contract could specify that a hospital
has to provide a certain volume of free care to poor patients. Thus, regulations in the
Philippines require that private hospitals reserve at least 10% of bed capacity for charity
patients (Herrin 1997). The outputs delineated in a contract can further ensure that these
hospitals work towards the public sector’s goals. The autonomized Kenyatta National
Hospital in Kenya, for example, incurs higher costs than previously, apparently does not
provide more services, and has reduced services to the inner-city poor. It is difficult to know if
this hospital has or has not met the government’s goals, because it has no specified role
according to a governmental contract (England 2000).

Contracting can also be used implement changes in who-does-what. For example, a

social insurance fund could decide to pay for certain services only in selected regional
“centers of excellence”—and write contracts only with those centers (Becker et al. 1999,
Walter 1999). Or a Ministry could use contracting to shift care from one set of providers (e.g.,
hospital out-patient departments) to another (e.g., family doctors).
 Contracting can also be used to alter management practices: for example, to require
hospitals to hire managers with certain qualifications, or to provide certain staffing levels.
Similarly, as part of a contract, a hospital might have to agree to set up processes to review all
patient deaths, or to create a review board to ensure that all research projects met certain
standards. The hope is that such review processes will generate new incentives for doctors—if
only the desire to avoid embarrassment for poor decision-making in front of their peers (Bosk
1979).

The relationship created by a contract may be a simple arms-length one, or it can be

more extensive. A simple contract may specify that the seller will deliver so many doses of
vaccine of a specified potency to a particular place by a certain date, and will receive a
specific sum on delivery. Or the agreement can involve a complex merging of risks and
responsibilities—as when an NGO agrees to run a number of health centers staffed by some
government personnel with government responsible for some functions (building maintenance)
but not others (drug supply).

Complex contracts require a degree of mutual trust between buyers and sellers. The
two parties need to exchange information and work together to solve problems in the context
of an ongoing relationship (England 2000). In such situations, the narrowly defined written
terms cannot cover all the unanticipated contingencies that may arise. Dealing with
unforeseen developments—e.g., the contractually operated health centers are hit by floods—
requires some reciprocity, based on a commitment on the part of each party to take the other’s
interests seriously.

The processes for putting contracts in place can vary substantially. Sometimes, there is
a formal competitive “tender offer” process in which the low bidder wins. Sometimes, bids are
evaluated on quality as well as price, and a “score” assigned. Sometimes, potential bidders
submit their qualifications, and only those deemed qualified are allowed to bid. Sometimes,
negotiations are conducted as “sole source” processes—or perhaps with two or three
potential contractors in an informal competition.

Experience suggests that formal procedures work best with standardized (easy-to-
describe) outputs. More discretionary processes may be the only way to deal with complex or
unique situations. Since these processes involve a greater risk of favoritism or corruption, they
are best accompanied by a device like an outside review panel, to preserve both the
appearance of and reality of fairness.

Contracting outcomes depend on the level of competition in the market. Competition

helps contracting function more effectively, since buyers can threaten to go elsewhere. Thus,
fostering competition can help support a contracting strategy. Moreover, the larger the buyer,
the more favorable terms they can demand from the seller.
 When a buyer is the sole customer—e.g., a national insurance fund—the dynamics can
change. For then, if the buyer is too demanding, the seller might go bankrupt. Faced with such
a prospect, sellers will mobilize politically to protect themselves and use the threat of
bankruptcy to get tough contracts renegotiated. When both buyers and sellers are monopolists
(what economists call “bilateral monopoly”) the outcome is difficult to predict (Feldstein
1993). For then, the buyer needs the seller (e.g., the only hospital in a region) as much as the
seller needs the buyer (the only purchaser of services).

The question of competition is particularly relevant when governments use the form of
contracting sometimes called “quasi-markets” or “purchaser-provider-separation.” In this
strategy, a public agency that previously both financed and provided care, is divided into two
entities. In short, financing is separated from provision. A buyer agency is created and is
empowered to contract with various sellers—including the service-providing units of the
former unified structure (England et al. 1998, Flynn and Williams 1997). When the new seller
has a monopoly, it can effectively resist the purchaser’s efforts at cost control. This happened
in New Zealand, when newly created regional health boards went to negotiate with the newly
independent (but locally monopolistic) public hospitals (Crown Health Enterprises 1996).

Countries that plan to use contracting need to consider the capabilities needed to

implement this successfully. Do they have the expertise to develop specifications, make

contracting decisions, write contracts, and oversee compliance? Contracting does not end the

role of the Ministry of Health, but it substantially changes that agency’s role (and the

associated needs for skills and personnel) (Bennett and Mills 1998).

These tasks can be especially challenging when the “deliverables” in the contract are
complex. Then, the processes of negotiating and administering the detailed contract are
particularly important to outcomes. Sometimes, an agency inappropriately focuses on the
process of awarding the contract—on who “wins.” Yet, what the winner wins (the terms of the
contract), and how the winner is dealt with over time, are likely to be critical to the impact of
contracting. Remember, for-profit contractors have every incentive to cut costs (and services),
raise prices and lower quality, unless contract administration or the threat of non-renewal
leads them to do otherwise.

Zambia and Ghana have both tried to implement elements of the quasi-market
approach to contracting, dividing the Ministry of Health into a funding or “commissioning”
agency and a health-care delivery organization. Both countries have discovered that this type
of change requires much greater management capacity than the traditional budget-driven
government department (Gilson et al. 1997, Mills and Broomberg 1998). Similarly, an
evaluation of contracting out the running of rural hospitals in South Africa found mixed
results, in large part because the government was poorly set up to write, award, and manage
contracts (Broomberg et al. 1997).
Apart from performance concerns, contracting has other disadvantages. The substantial work in contracting processes raises administrative
costs above those of a simple, uniform payment system. In addition, the discretion involved creates risks of patronage and corruption. Thus,
the applicability of this strategy depends in part on the skill and probity of the relevant agencies. Moreover, unless the managers of the
organizations being contracted with have the authority, motivation and skills to respond to the incentives created by contracting, the potential
benefits from this setting on the organization control knob may not be realized.

3.3. Incentive Strategies: Summary

To summarize, how can the incentive strategies we have explored affect the performance of the
health care system?

Competition serves primarily to lower costs and increase responsiveness to customer

preferences, because that is what competitors have to do to be successful. These changes
should increase satisfaction with the health care system. Whether health status also increases
depends, however, on how providers react and on how government chooses to use any cost
savings. For example, competition that provokes inappropriate over-utilization will diminish
clinical quality and raise costs. Costs for marketing, or for care that patients judge to be
desirable but which does not contribute to improved health status, could also increase.
The pressure to avoid financial losses could also decrease access and risk protection for the
poor.

The impacts of contracting depend on how it is implemented. It potentially can improve

technical efficiency (by provoking cost control), allocative efficiency (by redirecting
resources), and clinical and service quality (if the contract includes measurable performance
goals). It is also possible to use contracting to improve access by requiring a volume of free
care—and thereby improve the equity of system performance. As noted, contracting does raise
transaction costs—the expenses of writing, awarding, and managing contracts—which must be
considered. Resources for these activities are critical, since badly done contracting is not
likely to achieve its potential gains.

4. Managerial Interventions
The consequences of changing external incentives or who-does-what depend on how these interventions influence the delivery health care
services. And that depends critically on the managers of health care organizations. This section looks at policy changes aimed at managerial
practices—the third set of strategies under the organization control knob.

We first explore two interventions that involve “restructuring” the public sector: decentralization and corporatization. We then examine
changing managerial practices without restructuring, and at the applicability of total quality management and contracting out as ways to
advance the goals of health sector reform.
4.1. Restructuring the Public Sector 1: Decentralization

So far we have discussed incentives for private or quasi-public providers. What options are available to reformers who want to increase the
accountability and improve the performance of providers but leave them in the public sector? One increasingly popular answer around the
world is decentralization.

The underlying argument is that centralized national systems cannot (or at least often
do not) provide effective supervision of local service delivery, especially in a large and diverse
country. Unhappy citizens face too many bureaucratic obstacles in making their complaints
heard. With many facilities to monitor, managers at the center cannot keep track of—or have
much reason to be interested in—the performance deficiencies in individual hospitals and
clinics. Moreover, district or regional managers are seldom held accountable for the quality of
services in their area (in part because performance is often not monitored). So, local
manager, too, do not provide effective control or accountability.

The kind of decentralization we consider here is sometimes called “devolution.” It

involves the transfer of authority to sub-national units of government. For primary care, this
often means shifting authority to the local level. Larger geographic units (e.g., districts) more
frequently take responsibility for hospital care. Changes that simply give more authority to the
regional offices of a centralized structure, often called “deconcentration,” are really a
different kind of managerial reform (Mills et al. 1990).

Proponents of decentralization argue that local control will improve service delivery.
Poor performance will be more visible, and managers will feel more pressure to respond.
Patronage and corruption will be more visible, and the price they extract (in the form of poor
performance) will be less acceptable. Citizens will have someone accountable to receive their
complaints, someone who will have a reason (electoral success) to respond to their concerns.
Managers, in turn, will be held accountable by local or regional political institutions for their
performance. All this, it is claimed, will lead to lower costs as well as better clinical and
service quality (Ostrom et al. 1993, World Bank 1993).
In principle, national bureaucracies can respond to varied local conditions. However, decentralization advocates contend that in practice
bureaucracies often ignore the periphery. Decentralization, in contrast, will increase responsiveness to local circumstances and preferences.
For example, more money will be spent on malaria control in malaria-prone areas, or the mix of services will adjust to fit the preferences of
local people.

Most decentralization involves a mix of incentive and managerial reforms. For

instance, managers often face added accountability in the form of local management boards
that hire, fire, and compensate them based on performance. In addition, managers are given
more power over personnel, contracting, and purchasing—what Bossert calls their “decision
space” (Bossert 1998). Our view is that these changes need to go together. Incentives without
the capacity to respond are not likely to be effective. But getting the center to relinquish
control is not easy. Indeed, in Chile the government first decentralized and then recentralized
salary setting, under pressure from the public sector unions.

Health sector decentralization also can serve non-health sector goals. These might
include invigorating local governments by giving them more responsibilities, or shifting
financial responsibilities away from a hard-pressed national government. In such cases,
governments may accept lower health sector performance to achieve these other objectives.

Decentralizing health care financing can raise serious equity problems. Richer regions
can finance the same services with lower taxes (or more service with the same taxes) than
their poorer counterparts. Unless an inter-regional redistributive mechanism is established,
poor regions can be victimized by such decentralization—as happened in Bosnia (Fox and
Wallich 1998). On the other hand, when sufficiently strong redistributive efforts are made,
poor regions can actually gain from decentralization. As evidence from Chile and Colombia
suggests, formula-based redistribution may treat poor regions more generously than prior,
politically-driven, budget processes (Bossert et al. 2003). (In this context, community
financing, as discussed in Chapter 7, can be seen as a form of decentralization that combines
authority over primary care delivery and fiscal responsibility at a very local level.)

Health systems reformers contemplating decentralization need to consider how much

technical and administrative capacity exists at the periphery, and how quickly that capacity
can be enhanced. In countries where local political processes are non-transparent, elite-
dominated and patronage-ridden, the hoped-for accountability and efficiency advantages of
decentralization are not likely to materialize. Moreover, in countries with significant inter-
community conflict, marginalized groups may find themselves worse off with local decision
making.

Local capacity building can be successfully achieved in some situations. Consider the
example of Kerala, in south India, where literacy is high and where there already was
substantial experience with effective local government. Informed observers credit a massive
training effort of local leaders with facilitating the successful decentralization of health sector
budget authority to the local level in the 1990s.

On the other hand, technical education will not necessarily overcome a deficit in
“social capital”: the willingness of citizens to cooperate in pursuit of their joint interest in
ways that involve trust and reciprocal respect (Putnam 2000 and 1993). Double-entry
bookkeeping can be taught much more easily than the attitudes required for successful
democratic citizenship. It can also be a mistake, however, to delay implementing
decentralization until all training is “finished.” That day may never come. Moreover, the
pressure of implementing decentralization can produce “teachable moments.” That is, the
need to perform can increase the receptivity of local and regional officials to acquiring new
skills and concepts.
 These observations about authority, redistribution and local capacity building
illustrate our general contention that the outcome of a policy change will depend on the details
of its design and implementation. The many choices involved in decentralization need to be
considered and decided in a consistent and coherent way, if the potential benefits are to be
realized. For example, to improve efficiency, or to produce services more closely tailored to
local circumstances, local decision-makers need to have authority over personnel and budgets.
Otherwise, how can they hope to produce the desired results?

Once a program of decentralization is initiated, the role of the central bureaucracy

changes. The center now must advise instead of control, and train instead of command.
Regulatory or incentive devices may be needed to push local policy toward national goals. For
example, cash transfers to subordinate levels of government can be adjusted based on the
achievement of national objectives. In India, for example, the national government has
provided substantial cash prizes to the states with the best population control performance.
Monitoring performance becomes especially important. Otherwise, the effects of the new
arrangements will remain obscure. Needless to say, many central government units find this
transformation difficult to accept.

One final point involves the differences occur in local conditions and capacities that
occur in different regions, especially in large countries. As a result, decentralization efforts
might need to vary by region. Even in the United States, where state governments are all
reasonably competent, the federal government picks and chooses which technical and
regulatory tasks it delegates to which states, based on differences in technical competence.

4.2 Restructuring the Public Sector 2: Autonomization and Corporatization

Another managerial intervention involves restructuring public health-care providers—usually but not exclusively hospitals—through reforms
sometimes referred to as “autonomization” and “corporatization.” We reviewed earlier some of the structural features of the public sector that
contribute to poor performance. These reforms seek to change those structural features, in order to improve performance (Preker and Harding
2002, Walford and Grant 1998).

This view has led to the creation of new organizations that import aspects of private-
sector management into the public sector. The new entities have been called “quasi-public” or
“para-statal” or characterized as “public corporations.” The more modest reforms are
sometimes characterized as “autonomization,” and the more complete changes as
“corporatization.” In these reforms, managers are given more authority and in turn are made
accountable to a new governance structure (e.g., a Board of Directors) that is not simply an
arm of the Ministry of Health. The organization can be freed partially or wholly from
government budgetary, personnel and purchasing rules, and can be paid in various new
ways—based on patient volume, or incentive contracts (Shaw 1999).

This kind of restructuring is often discussed in terms of legal or formal categories like
“ownership” or “governance” that do not address critical operational details. For example, if
 we create a new Board of Directors, will members be selected in ways that encourage the
Board to seek out competent mangers or will they play political and patronage games?

One way to understand how restructuring influences performance outcomes, is to ask

how the changes affect the “Six Keys to Organizational Performance” in Table 10.1. The
point is that the Board’s decisions create incentives on managers and incentives on workers,
which can help predict how the new arrangements will actually work out.

• Incentives on the organization: Effective reform creates strong

performance-based incentives, with either patients (in real markets) or other government
agencies (in “quasi-markets”) able to choose providers based on their cost/quality
performance. To encourage the organization to respond to these incentives, it is typically
allowed to retain much, or even all, of the profits it generates. This contrasts with the practice
of turning over any surplus to the Ministry of Finance, as is common in many bureaucratic
contexts.

• Incentives on managers: Effective reforms give managers strong incentives

to improve performance. One option is to confer the power to hire, fire and compensate
managers to a Board of Directors that in turn is appointed in a way that makes its members
performance-oriented. For this to occur, the details of “governance” structures are critical.
Reforms that allow continuing political influence on managerial appointments weaken
managers’ incentives.

• The authority of managers: To respond to their incentives, managers need

authority over personnel, purchasing, pricing, and other critical areas. Managers’ discretion,
however, is often limited under pressure from unions eager to protect employees or customers
eager to preserve low prices.

• Managerial skills and attitudes: Improving managers’ skills and attitudes

has typically been delegated—unthinkingly—to the new governance structures. Only a few
countries have thought about what government can do to produce the combination of
entrepreneurship and social responsibility among managers that would advance reform.

• Worker incentives: Improving worker performance has largely been left in

the hands of management. When managers are able to hire, fire, and alter pay scales, then
they can provide performance-based incentives to employees. On the other hand, sometimes
the old personnel system, and the weak incentives it creates, remains in place.

• Worker skills and attitudes: Reformers typically have either ignored worker
skills and attitudes, or else left these issues for the new managers to handle—hoping that
managers will use a combination of leadership and authority to transform the work force.
 In sum, a successful hospital restructuring requires a cadre of capable, well-trained
hospital managers who have reasonable authority and are rewarded for their performance. This
will require attention to the training of such individuals, efforts to increase respect for their
work among physicians, and the fostering of professional societies. Only a few nations (e.g.,
Hungary) have begun to put in place the necessary training and credentialing infrastructure to
achieve this objective.

International evidence suggests that piecemeal changes, which leave key aspects of the
hospital structure unreformed, do not produce major results (Jakob, 19xx.). Increasing
incentives on the organization, without giving managers the authority and skills to respond, is
not a promising approach. Similarly, giving managers authority and subjecting them to market
incentives—without providing external accountability—is likely to turn them into profit-
seeking entrepreneurs who slight social values. The autonomized Chinese leprosy hospital,
which started a turtle farm when its primary clientele became less numerous, is an example
that one of us heard about in Chengdu.

Multiple meaningful changes can have an interaction or “tipping” effect, transforming

the organization’s culture and functioning. Where seniority and patronage hiring continues,
hospitals will attract workers who like such situations. On the other hand, new managers—
with new authority—can create a new environment, and attract a more motivated staff that
will effectively implement productivity and service improvements.

Ironically, the greater the market pressures and the more autonomized hospitals
become, the more they will act like for-profit entities. Hence the more extensive and effective
the reforms, the more that reorganized hospitals will need to be regulated. Here again, we see
that competition and regulation are complements not alternatives.

Unfortunately, patronage, politics and powerful unions may make it difficult to get
critical personnel decisions turned over to managers. Politicians also may be reluctant to pay
explicitly for activities that were previously supported through cross-subsidies. Thus,
reformers contemplating autonomization need to assess its political feasibility early in the
reform process, to avoid wasting time and effort in an approach that cannot be implemented
effectively.

Implementation is especially important here since hospital reorganization is not like a

strong antibiotic that will, in a short time, cure some undesirable condition. It is more like a
course of physical therapy: tough, painful work that needs to be done day-by-day, over a
substantial period of time, and joined to other therapeutic interventions, if it is to improve
health sector performance.
 4.3. Improving Public Sector Performance

When political opposition makes either decentralization or autonomization unfeasible,

the question arises whether public sector performance can be improved without such
structural changes. The answer has to be a qualified “maybe,” in part because improving
public sector performance depends on changes just as controversial as any reform of
ownership or control.

The required changes are so obvious that only widespread political difficulties, and a
lack of Ministerial expertise, can explain why they are not more widely implemented. One
reason may be that reform inside the public sector can deprive Ministers of the handy excuse,
“I didn’t do it,” which can be used if a private or autonomized entity offends powerful
interests. Moreover, Ministers themselves often lack managerial experience and lack the
stomach for the long-term and politically difficult effort that managerial reform entails. Once
again, we can use the categories from the “Six Keys” to organize our discussion.

• Organizational incentives: Funding can be tied to performance in various

ways. For example, budgets can be varied based on the quality and quantity of services
provided. Incentives (e.g., prizes) can be given to regions or agencies that do better on
measured performance goals. Performance reports and rankings can be made public, and
certification provided to high performing organizations.

• Managerial incentives: The role of politics and patronage can be limited

and managers selected, promoted and compensated, based on their skill and performance as
managers. Systems of reporting and supervision that create real accountability can be
established—which is especially important if managers are to be given increased authority.

• Managerial skills and attitudes: Formal management training programs can

be developed and made a prerequisite for certain jobs. Managerial career tracks can be
developed. The prestige of managerial roles can be enhanced with various awards and
publicity efforts. Able candidates can be encouraged to pursue management careers.

• Managerial authority: Managers can be allowed to make more decisions

about budgeting, purchasing, pricing, personnel, and production methods.

• Worker incentives: Personnel systems can be changed to reward

performance and limit political influence and patronage.

• Worker capacities and attitudes: Recruitment patterns, training systems, and

personnel practices can be revised to attract and retain motivated employees.
These changes could significantly improve the performance of many public sector agencies. Countries that resist such measures—that give
managers little authority, allocate budgets based on past history, and rely on patronage for hiring—should not be surprised if their public
sector health system continues to perform badly.

4.4. Other Specific Managerial Innovations: TQM and Contracting Out

What are options for improving organizational performance that empowered managers, in any setting, should consider? The first option is
called “Total Quality Management” or “Continuous Quality Improvement” (Berwick et al. 1991, Crosby 1979, Dever 1997, Palmer et al.
1995). This approach has been increasingly attractive to health-care managers around the world in recent years.

These ideas are fully compatible with the framework we are using. “TQM-CQI” experts all advocate performance measurement, managerial
accountability, worker involvement, a focus on customer service, and leadership from the top (Morgan and Murgatroyd 1994). They focus on
the idea that the key to lower cost and higher quality is the careful redesign of systems of production. They also emphasize the importance of
systematic objective analysis (just as we do at the health systems level) as key to effective reform.

A key insight from TQM/CQI is that doing better on quality cannot come from fear or
coercion. Improvement has to emerge from a system that makes it easy to do things well and
hard to do things badly. Targeted quality improvement efforts in the health sector—to improve
drug ordering or inventory management—are often based on this approach. And they are
often badly needed. For in the health sector, operating procedures can reflect efforts by
professional groups, unions or control-oriented civil servants to advance their own ends—as
opposed to maximizing system performance. And they can persist, unchanged, because
organizations and their managers have lacked the incentives or the capacity to institute
change.

We cannot recapitulate here the huge literature on quality improvement methods. Our
point is that such programs cannot substitute for good management. On the contrary, these
approaches have had their biggest positive impact in already well-managed organizations.
Thus, TQM is not a substitute for the kinds of managerial reforms we discuss in this chapter.
On the contrary, TQM methods are most likely to bear fruit when management capability is
improved enough for the methods to be implemented effectively.

A second specific management practice often considered by health-care reformers in

recent years involves contractual arrangements with private sector firms to provide certain
services for the public sector. The most common area for this approach is non-clinical services
like food, housekeeping, and laundry. But it is also being used in clinical areas (e.g., contracts
to perform certain laboratory tests, or to run specialized services like hospice care) (Mills
1998).

The lure of contracting out—as these arrangements are called—is that specialized
suppliers can take advantage of economics of scale in a particular function (e.g., laundry) that
an individual hospital cannot achieve. In addition, suppliers can focus on an activity (like
housekeeping) usually ignored within a medically oriented hospital. Moreover, the hope is that
the bidding process will lead contract-seeking firms to offer good service at a low price. In
countries where the public sector is inefficient and difficult to reform, contracting out may
seem an attractive option. These hopes are most likely to be fulfilled when an experienced set
of competitive suppliers seek to obtain the business. Contracting with a monopolist, in
contrast, is not likely to produce the hoped-for cost and service gains (Mills 1998).

To contract successfully, hospitals need to be able to write specifications, evaluate

bids, draft contracts, and monitor performance. Moreover, unless the hospitals themselves are
under pressure to improve their performance, they will have no more incentive to do
contracting well than they formally had to do well at direct service delivery. Thus, hospitals
and their managers need increased performance-based incentives and accountability, in order
to implement contracting out effectively.

4.6. Summary on Managerial Interventions

In the context of overall health sector performance, managerial interventions are

somewhat narrow in focus. They are generally not directed at access or risk protection. They
are also seldom a response to problems of allocative inefficiency (i.e., what is produced).
Instead, these reforms focus on how things are produced—on technical efficiency and
improved service and clinical quality. This makes sense because what organizations produce
is primarily determined by their external incentives, while managerial changes are essentially
an internal matter.
The politics of such reforms typically reflect conflicting pressures. Citizens’ dissatisfaction with poor service may support such changes, even
as politicians and entitled workers oppose them. And non-health sector concerns (e.g., strengthening local governments) can also play a role.
If these reforms succeed, then costs should be lower or health status and satisfaction should be higher. Exactly how potential gains are split
among these objectives, however, will depend on other decisions made in the financing and payment arenas.

5. Conditional Guidance

Attention to the organizational control knob is often essential if the potential gains
from other reform initiatives are to be realized. Changing financing and payment can change
the funds available to providers and the incentives that they face. But such changes alone do
not increase the capacity of the delivery system to produce better care. And unless that
capacity is enhanced, efficiency, quality, and access will not improve—nor will overall system
performance.

This conclusion has often been ignored in health sector reform. Partially, that may be
a matter of ignorance. Reformers tend disproportionately to be either economists or doctors.
Economists often believe that changing money flows alone will improve performance. Doctors
focus on clinical issues and devalue what they see as intrusion into their work by
“bureaucrats” or “pencil pushers” who worry about organizational issues. It is also a
question of politics. Changing the delivery system is always opposed by those who will lose
functions and resources. Efforts to improve the functioning of the public sector can confront
grave political opposition from patronage-based politicians or entrenched unions (Walt 1994).

Despite these difficulties, reformers need to confront a basic truth about the health
care delivery system, stated at the beginning of this chapter. Provider organizations will not
function effectively unless managers have both the incentives to improve performance and the
capacity to respond to those incentives. If reformers are unwilling or unable to make the
changes required to bring this about, then they should not be surprised if health system
performance continues to be disappointing.
In terms of incentives, we explored how competition and contracting can be used to influence both private, for-profit providers and public-
sector providers who have some managerial autonomy (as in the case of quasi-markets). We also looked at decentralization inside the public
sector as a way of increasing incentives and accountability.

In terms of increasing capacity, we explored various restructuring options

(autonomization and corporatization) and the possibilities of improved managerial capacity
within the unreorganized public sector. We also noted that two particular managerial
innovations (TQM and contracting out) depended for success on increases in managerial
capacity. They are complements to, not substitutes for, managers with the skills, authority and
incentives to improve organizational performance.

This same basic insight applies also to efforts to change who-does-what in the delivery
system. Some efforts—like shifting activities to the private sector—rely on providing both
incentive and capacity changes. Other changes, like altering the scale and scope of providers,
might affect access or equity. But too often reformers have not thought through how such
changes will work themselves out at the managerial level.

5.1 Choosing Among Reform Options

When deciding what to do, reformers have to realize that with an extensive and entrenched
patronage system, only significant structural reforms will lead to significantly improved
performance. More modest reforms are most likely to be useful where managerial competence
and staff motivation are already relatively good. Unfortunately, it is exactly where drastic
reform is most needed that it is the most difficult politically.

The mix of decentralization and corporatization a nation should consider will depend
on a number of variables. Is corruption and inefficiency better or worse at the local level?
What is the likelihood we can get political approval for new forms of hospital governance that
will lead to real managerial improvements? How effective are our payment and regulatory
systems in creating the incentives and controls we will want to influence the behavior of
autonomous providers?
 The most radical restructuring strategies involve going all the way to privatization and
a reliance on the market. As we noted, whether this makes sense for a nation depends on
several issues. How competitive will the resulting market be? Private monopolies are unlikely
to produce desirable results. The second consideration is the sophistication of buyers. The
better buyers can judge options, the better the market will function. Third, what are the
reformers’ goals? Equity concerns imply less use of the market. A focus on customer
satisfaction makes market provision more appropriate. Unfortunately, here we encounter yet
another difficult paradox. Governments with weak public delivery systems also often lack the
financial and administrative skills to effectively purchase from or regulate private providers.

In addressing these questions, reformers must also consider the importance of

maintaining professional norms within the health-care delivery system. The “agency” problem
means that doctors can easily exploit patients if they choose to do so (McGuire 2000). Market
competition organization can easily erode the professional norms that limit such exploitation.
Indeed, the more competitive (and better) the market, the more pressure on providers to
maximize their own incomes.

5.2 Organizational Change and Equity

Organizational changes can have significant equity implications. As noted previously,

changing the class of providers (nurses versus doctors) or the practice setting (local
dispensaries versus district hospitals) can influence the physical or effective availability of
services for poor or socially marginalized groups. Such changes can alter the location and
travel time, or the cultural sensitivity and acceptability of service delivery.

Using private markets also has serious equity implications. Competition can decrease
the funds available to cross-subsidize poor patients. Therefore, how care for the poor is paid
for will determine whether it is attractive for competitive providers to provide such care. The
more competitive and market-oriented the providers, the more they will respond to even small
changes in price signals.

A final link between equity and organization arises in the context of decentralization.
The risk is that variations in levels of local social and economic development will be made
worse by such reforms. More advanced communities will be better able to operate services,
and unless strong equalization measures are in place, they will wind up with better services or
lower tax rates—or even both.

5.4. Summary

We began this chapter by defining what we mean by an organization—as a provider of

health care services—and what we mean by the organization of the system. We described three
kinds of interventions: changes in who-does-what, changes in incentives, and managerial
changes, and discussed how they can improve overall performance.

We have stressed that these interventions need to work together. Incentive changes like
decentralization or contracting will not alter outcomes unless accompanied by changes at the
managerial level. Similarly, the potential cost savings and clinical quality gains from
changing scale and scope will only be realized if managers take advantage of their
opportunities. Ultimately, the behavior of front-line workers and their managers has to be
changed to produce real improvement.

We have seen that organizational changes often require the use of other control knobs.
Financing, payment and regulation are especially important, particularly when the target
organizations are not fully under the authority of the Ministry of Health. Korea and Japan, for
example, have used regulation to separate dispensing from prescribing of medicines by
physicians. To help some providers grow, governments can pay them more or selectively
contract with them, lend them money or guarantee their debts. All these can change the
organization of the system.

Because details do matter, and they are often incompletely worked out at the policy
level, implementation is critical for the effective use of the organization control knob. A
persistent attention to detail and a focus on follow-through are necessary. Reformers need to
consider carefully if they will have ongoing political support when the inevitable objections
arise. Changing organization is not an enterprise for the impatient or the faint-hearted. Yet it
also may well be essential if other reforms are to yield their hoped-for gains in health sector
performance.
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 Chapter 11
Regulation

1. Introduction

In this chapter we discuss the fourth control knob—regulation. By regulation we mean

the use of the coercive power of the state to change the behavior of individuals and
organizations in the health sector. This applies not only to those who provide and finance
health care but also to those who produce inputs like pharmaceuticals and those who educate
health professionals.

One way to understand the role of regulation is to ask how it relates to the enthusiasm
of Western-trained economists for using markets as a way of allocating resources. Based on a
series of strong assumptions, economists argue that a system of perfectly competitive markets
will produce a result that is “Pareto Optimal” (see Chapter 6). In that situation, no one person’s
utility can be increased except by making someone else worse off. Governments that want to
use markets in this way use regulation to establish rules governing property rights and to
guarantee that there will be honest and open exchange (North 1990, Fuller 1978). Otherwise,
the most manipulative and powerful will take all (Oakeshott 1975). However, even where
markets work well, the distribution of well-being they produce may not be acceptable from
one or another ethical framework and regulation is then used to achieve a more equitable
outcome. Third, many markets do not work well on their own, and governments turn to
regulation to improve their functioning (Heriot 1997). The fourth purpose of regulatory action
arises because governments may use it to advance moral norms that markets cannot be relied
upon to foster.

All of these issues arise frequently in the health sector. As a result, regulation is a
major activity in all health systems and a major control knob for those who want to improve
system performance. For example, using rules to specify what health services must be included
in insurance benefit packages can directly improve health status and satisfaction. Rules that
protect consumers against poor quality drugs or incompetent doctors can have similar effects.

Regulation frequently has an important reciprocal relationship to the other control

knobs. For the other control knobs to be effective, they often must be accompanied by
appropriate regulation. For example, a country can establish a social insurance scheme, but it
will likely go bankrupt unless effective regulation compels the eligible population to enroll and
pay premiums. By the same token, regulation is often more effective when appropriate
incentives and efforts to influence individual behavior complement regulatory initiatives
(Laffont and Tirole 1993).
 However, regulation is not self-implementing. The administrative and political tasks
that must be accomplished for regulation to work effectively can be daunting. Moreover,
poorly designed regulation can make health systems perform worse rather than better.
Policymakers therefore must understand the strengths and limitations of regulation, and what it
takes to implement regulatory initiatives, if they are to use this tool successfully.

This chapter is organized around five questions: What is regulation and why regulate?
How do regulations influence the performance of health systems? What are the major
determinants of regulatory success? What are the major types of regulation in the health
sector? Finally, what is our conditional guidance about how to use regulation effectively? The
description of the major types of regulations is rather long, because of the myriad of
regulations, which differ greatly between high- and low-income countries. Readers may want
to consult it selectively to learn more about the particular regulatory alternatives of interest to
them.

2. What is Regulation and Why Regulate?

2.1 What Do We Mean by Regulation?

We use the term regulation to refer to the government’s use of its coercive
power to impose constraints on organizations and individuals. Under this definition, only
legal rules, and not incentives or behavior change (see Chapter 10), are included under the
heading of regulation. Regulation, then, includes the full range of legal instruments (e.g.,
laws, decrees, orders, codes, administrative rules, guidelines), whether issued by the
government or by non-governmental bodies (e.g., self-regulatory organizations) to which the
government has delegated regulatory power (OECD 1996).

Our definition of regulation excludes rules and requirements imposed on sellers

by purchasers of health insurance or health-care services. For example, social and private
insurance plans often constrain providers by restricting who and how they will pay for care.
These are not regulations, because they are not legal rules imposed by government, but rather
contract terms negotiated between buyer and seller. This holds true even when the
government itself acts as the purchaser.

2.2. Why Regulate?

We noted above that the purposes of regulation relate in various ways to perfecting or
correcting the results produced by economic markets. First, any society relying on market
exchange mechanisms must ensure that exchanges and transactions are done honestly and
openly (North 1990, Williamson 1985). There is a need for a basic set of rules that define the
legal obligations of the various players in market transactions, delineating their power,
responsibility and accountability. For example, in the health sector, governments use
regulation to establish the obligations and responsibilities of both buyers (patients and
consumers) and sellers (doctors, pharmacies, hospitals, and insurers) to ensure that agreed-
upon transactions are honest, transparent and reliably executed.

The second reason for regulation arises even when markets work well from an
economist’s perspective. In particular, markets can’t deal with unequal distribution of income
and varying health needs. For example, poor citizens get few services from hospitals
organized on market principles, precisely because they are poor and cannot afford to pay. By
the same token, few doctors locate in depressed rural areas because of the limited economic
opportunities these areas offer. Insurance markets, too, can produce objectionable results from
an equity perspective. For example, without regulation, such markets often will not cover
chronically ill people, because they cannot afford the premiums. All of these situations can and
have produced efforts to use regulation to promote more equal access to health care and to
improve the distribution of health status.

Third, regulation arises because health-sector markets often do not possess the
requisite conditions for reasonably effective competition (Hsiao 1995). Such market failures
are of several different types. First, consumers may be unable to judge the quality of the goods
or services they consume. Due to such problems, they may be victimized by unqualified
doctors or be unable to detect drugs with impure ingredients. Governments can respond to
such situations in a variety of ways. They may provide information to buyers to improve their
choices, e.g., through labeling requirements. Alternatively, they may restrict what is offered in
the market place, by licensing doctors or limiting the drugs that can be sold. In the public
health context, we can even limit consumers’ own behavior on the grounds of their own
ignorance, by requiring motorcycle helmets, for example. One especially relevant form of
patient ignorance, which we discussed in Chapter 3, involves the risk that doctors will induce
patients to consume too much—thereby increasing physician’s income. Many countries use
regulation to address this problem by limiting the total volume of physicians or hospital beds.

A second kind of market failure involves what economists call external effects, where
the customer’s decisions affect other people but the customer doesn’t consider those benefits
or costs in making their own decisions. The classic examples here include vaccination, where
my immunization confers benefits to others in the community, and air pollution, where my
factory’s emissions harm others nearby. Many governments subsidize or require acts with
positive gains and tax or forbid acts that impose costs on others. For example, requiring motor
vehicles to have headlights and brakes and imposing speed limits are all ways to increase
external benefits and reduce external costs to other drivers (Rosen, 2002).
 A particular kind of external effect involves what some economists call merit goods.
These are goods with widespread but difficult-to-quantify external benefits—like basic literacy
and civic education—that governments often provide outside of the marketplace. Governments
also often use regulation to see that these activities occur (Musgrave and Musgrave 1989).

A third kind of market failure involves the existence of monopoly, a single seller, or an
oligopoly, a cooperating small number of sellers. In such situations, competition does not
force producers to lower costs and prices. As a result, some governments intervene to control
anti-competitive behavior (e.g., price fixing) or limit mergers among firms to prevent
monopoly from developing in the first place (Musgrave and Musgrave 1989).

Finally, regulation is promoted by some people with particular philosophical

viewpoints—especially some communitarians and objective utilitarians—who object to market
results for a variety of specific ethical reasons. For instance, consumers may not voluntarily
purchase cost-effective preventive services, so that the market does not maximize health status.
Objective utilitarians sometimes respond by urging the regulation of individual behaviors to
improve health outcomes (e.g., quarantining recalcitrant HIV infected individuals who engage
in unsafe sex). Communitarians, in contrast, often want to use regulation to limit transactions
that offend their moral sensibilities (abortion, the sex trade, organ sales).

In sum, our analysis of regulation does not presume either that the market is
always best or that the economist’s view of society’s goals is the only way to look at health-
sector reform. Instead, we want to offer a framework that encompasses the diverse ethical
perspectives that inform regulatory efforts around the world. How each nation chooses to
proceed, and the goals it embraces, depend on its ethical beliefs (see Chapter 3) as derived
from each nation’s particular social values (Shklar 1997) and as expressed through its political
processes (see Chapter 4). (A tabulation of the ethical justifications for these four categories of
regulation is provided in Table 11.1.)

INSERT TABLE 11.1 HERE

Table 11.1.: Categories of Regulation and Their Related Ethical Perspective

3. Regulation and Health System Objectives

How are different kinds of regulation connected to the various aspects of health system
performance presented in Chapters 5 and 6? First, regulations that have an impact on a
population’s health or provide financial risk protection can directly affect the core performance
goals we have identified. For example, ensuring the safety and purity of water, food, and drugs
will influence overall health status. Similarly, compulsory enrollment in social insurance plans
can ensure that all eligible persons have financial risk protection.

Most regulation, however, affects intermediate performance characteristics, rather than

core goals. For example, regulations aimed at improving the quality of health services can, if
successful, lead to improved health outcomes and increased public satisfaction. Regulation to
correct market failures can improve efficiency, which in turn can lower health costs and make
health services more affordable. This can encourage both governments and individuals to
increase service use and in turn improve health status. Similarly, regulating monopolistic
pricing can lower the prices of health services. This can have a positive impact on effective
availability (i.e., access) and, in turn, on health outcomes and patient satisfaction.

4. The Determinants of Regulatory Success

Effective regulation is a complex and demanding process (Landy et al. 1990).

First, an appropriate regulatory strategy needs to be developed—i.e., decisions made about
what and how to regulate. Then agencies have to be established, including the recruitment of
staff and the collection of data. Then, the detailed rules have to be written. Next, they have to
be applied to specific cases. Monitoring processes need to be established so that violators can
be identified and either convinced to change their behavior or penalized if they do not. All of
this must be done in a context in which those being regulated will protest and seek to influence
the agency to treat them more leniently. Effective regulation thus requires a demanding
combination of technical expertise, administrative capacity and political support that is not
always easy for nations to provide (Ayres and Braithwaite 1992).

Regulation also needs to be adjusted to local conditions. For example, because high-
and low-income countries generally face different situations in their health systems, their
regulatory efforts are often directed at solving different problems. Most high-income countries
have an adequate supply of physicians or even a surplus. Regulation in these countries,
therefore, is often directed at limiting the supply of physicians to counteract supplier-induced
demand. In contrast, many low-income countries have a shortage of qualified physicians, and
their regulatory efforts often focus on influencing physicians to serve in physician-scarce
areas.

In addition to facing different problems, countries bring different sets of capabilities

and attitudes to the regulatory enterprise. Experience with regulatory interventions around the
globe suggests that successful regulatory efforts depend on three key aspects of each nation’s
situation: cultural attitudes, government competence, and political support. All of these, we
believe. need to be taken into account in the design of regulatory institutions.
4.1. Cultural Attitudes

Two kinds of cultural attitudes are critical to the success of regulatory endeavors—
general and specific. General attitudes involve the views citizens have toward government and
their overall pattern of reaction to state action. Such attitudes vary widely around the world.
Countries as diverse as Denmark and Singapore have highly law-abiding citizens who see
government as legitimate, trust its fairness and competence, and obey laws and rules more or
less automatically. In contrast, citizens of societies as diverse as Hungary and China are more
likely to look for ways to avoid rather than comply with regulation. They see the state as often
unfair and non-legitimate and, since rule-violation is widespread, tend to see voluntary
compliance as foolish. Similarly, some governments are more willing than others to impose
harsh penalties on violators, who then know that if they are caught the sanctions will be
severe. These cultural factors must be taken into account in designing a regulatory program.

Reformers should also realize that specific cultural norms and social beliefs influence
the effectiveness of regulation. Regulators and regulatees react differently, depending on
whether they agree with the goal expressed by the regulation. When legal restrictions are
compatible with social beliefs, citizens are more likely to comply; otherwise, the regulated
may try to evade the regulations. Efforts to control drug and alcohol use in many countries
have failed because they are not consistent with cultural beliefs. Because of such beliefs,
regulation may need to be accompanied by social marketing measures (see Chapter 12) that
bring individual behaviors into greater alignment with regulatory intent.

4.2. Capacity of Government

As noted above, regulatory tasks typically raise difficult administrative and technical
issues. A wide range of experts—from medicine, biology and chemistry, to law, economics
and accounting—may be required. Extensive data and reporting systems may need to be
constructed. Inspectors need to be trained and deployed and general rules applied to specific
cases. Establishing and enforcing regulations can place great burdens and responsibilities on
the relevant agencies. In an attempt to be explicit as to what is allowed and what is not, rules
and laws tend to depict reality in black and white terms. But many real-life situations are
shades of gray, making it difficult to apply regulations in these cases. This implies that
regulators have substantial discretion in the enforcement process.

The success a country has in carrying out these processes depends in part on the
organizational capacity of government. In countries with a high quality civil service, well
functioning police and court systems, effective tax reporting and so on, the task of establishing
a working regulatory agency is much easier.

The operations of a regulatory agency are often a focus of controversy. Because

regulators are trying to change the behavior of specific groups, those being regulated have
every reason to influence the agency to adopt practices that will benefit their interests. Such
efforts are likely to begin with trying to shape the design and wording of rules and
administrative decisions and continue through to all aspects of implementation. The resulting
efforts range from persuasion and influence, to political pressure to outright corruption.
Inducement can come in many forms from bribes to gifts, to promises of lucrative post-
government employment, to favors for the regulators’ relatives and friends. How regulatory
officials respond to pressure, persuasion, and bribery depends in part on the political structure
and professionalism of the bureaucrats.

There are large variations in the nature and extent of corruption in different countries.
Political cultures vary. In some societies, the failure of an officeholder to help family or clan
members—or even college classmates—would be viewed as dishonorable. Even within a
country there can be significant inter-regional or inter-sectoral variations. In India, Bihar is
not Maharastra. In the U.S., Mississippi is not Minnesota. In both cases, the second state has
a reputation for much greater probity than the first. According to the Corruption Perception
Index (based on bribery taking), Canada has been consistently among the least corrupt
countries with a score of 9.2; the United States has a score of 7.8, and many low-income
countries have scores of 3.5 or less, with Nigeria being the worst (Transparency International
2000). Corruption in high-income countries often takes subtler forms, for example, as
contributions to political campaigns or favorable business opportunities for political leaders.
Recent scandals around campaign contributions in Germany and France suggest that
corruption remains a serious problem even in high-income countries.

The efforts by the regulated to protect themselves can be quite subtle, as when
a regulatory agency is “captured” by those that the agency is supposed to regulate. It is not
unusual for the officials appointed to lead a regulatory agency to have worked in the industry
they now regulate. Sometimes this is because the industry is the only source of expertise on its
own affairs. In other cases, more blatant pressure is at work. But as a result, regulators have
been known to be sympathetic to, and advance the interests of, the regulated rather than those
of the public (Stigler 1971).

Many low- and middle-income countries lack the technical expertise, administrative
capacity, and information systems to promulgate regulations. As a result, there are fewer kinds
of regulation in low-income countries, and the regulations that exist often focus on dramatic
situations where bad behavior can directly impair public safety. Even then, enforcement is
often uneven and hampered by corruption and favoritism. In particular, most low- and middle-
income countries do little to regulate private health care or private insurance markets. Such a
laissez-faire policy leaves many patients at the mercy of unregulated local doctors, private
pharmacies, clinics and hospitals. But countries seeking to correct this situation through
regulation need to be realistic about whether they have the technical and administrative
capacity to do so successfully.
 High-income countries, in contrast, generally have the technical and legal infrastructure
to regulate effectively many features of the health system, including medical quality,
investments by health facilities, and the diffusion of medical technology. Moreover, where
they rely on the private sector, they often can and do use regulation to try to control
monopolistic prices, whether these are set by private providers or by pharmaceutical
companies. Insurers, too, are regulated to assure their solvency and to reduce risk selection.

The capacity of government does not depend solely on the level of economic
development—and hence neither do the regulatory options available to health system
reformers. Instead, regulatory capacity has an interactive relationship with our first variable,
cultural attitudes. Countries in which citizens support government are more likely to have
capable government institutions, and vice versa. Any nation that seeks to use regulation has to
assess both cultural factors and regulatory capacity, and formulate its regulatory strategy
accordingly.

4.3. Political Support

Regulations, whether legislated or decreed by executive order, are

enacted through political processes. All nations have organized interest groups, whether formal
or informal. These groups exist whether a nation is governed by a single party, a
parliamentary democracy, a hereditary ruler, or a military strongman. And these interest
groups can have very powerful roles in influencing regulatory decisions. Hence, in designing
regulations, political skills are of great importance. These political skills include knowing who
might support and who might oppose the regulation, what political alliances can be formed,
what compromises may have to be made, what political strategies might work, and how
regulations can be designed to be politically acceptable. (These political skills were described
in Chapter 4.)

Moreover, political support is required both for instituting a regulatory process and for
ensuring effective implementation. The regulated sometimes seek to defer important decisions
to the implementation phase—hoping that they will then be able to influence administrative
agencies when there is less public and political attention focused on the relevant decisions.
Continuing support from political leaders may well be necessary to prevent such regulatory
capture from undermining the whole effort (Stigler 1971). This is especially so since
regulations are often ambiguous when applied to specific cases, and regulators thus tend to
have substantial discretion. The regulated, moreover, always press for concessions. Hence,
regulatory agencies need to be well supported if they are to resist the inevitable pressures from
the regulated.
4.4. The Design of Regulatory Institutions and Processes

The outcome of a regulatory initiative depends on the detailed design of

regulatory institutions and processes and on how reformers respond to the attitudes, capacities
and politics characteristic of their national situation. Both technical competence and sound
judgment are needed. The substance of a regulation has to be carefully crafted and worded,
penalties have to be commensurate with the seriousness of harm or damage done by violators,
and sanctions or incentives have to be skillfully composed to promote compliance. Otherwise,
the regulation is unlikely to be effective.

Regulatory outcomes thus depend critically on the enforcement process, especially on

regulators’ ability to detect, penalize and deter violators. Because regulatory agencies typically
have only limited enforcement resources, they can only detect, apprehend, and prosecute a
limited number of violators. Only if voluntary compliance is relatively widespread, and
violations relatively infrequent, can these limited resources be sufficient to apprehend enough
violators so that the probability of detection and prosecution will be high enough to deter
potential violations (Roberts and Farrell 1978). Together, these phenomena imply that rules
and sanctions that are seen as socially acceptable in a given culture are much easier to enforce.

To detect violations, regulators need data, which creates additional complexities. The
data that are easily (and inexpensively) available are often not the data regulators would most
like to have. For example, a country that wants to regulate quality can easily test new medical
graduates on their knowledge of anatomy. It is much more difficult to assess how practicing
physicians use their knowledge in the daily treatment of patients. Thus, regulators often face a
trade-off between the relevance of data and the cost of its acquisition. Here is one place where
an assessment of a government’s technical sophistication and data-gathering capacity should
play a key role in devising a reform strategy.

Once violators are detected, sanctions must be imposed. However, if the process for
imposing penalties requires long and complex court proceedings, enforcers may not have the
resources to prosecute large numbers of violators. On the other hand, if enforcers can directly
impose fines without lengthy court proceedings, they may abuse their power. Once police,
prosecutors, or judges are involved in the process, they will inevitably find room to exercise
their own discretion about how enforcement occurs. If the rules seem unfair or inappropriate
to them, they will find ways to avoid enforcing them. Thus cultural attitudes affect not only
regulatees but also regulators.

The question of who might most cost-effectively carry out these tasks is not
easily answered. Responsibility and authority can be given to a government agency, a
parastatal organization, or a private organization. Parastatal organizations have often been used
because of their relative insulation from direct political influence, especially when the
government is ineffective, corrupt, or dominated by interest groups. A parastatal organization
has the advantages of being more insulated from politics than government agencies, non-civil
service status for its employees, and greater direct accountability to the public.

Which option is most effective and efficient depends largely on the relative
managerial capability of the specific organizations and on the nation’s political situation. For
example, many countries use the medical society to discipline doctors because that is more
acceptable to the profession. On the other hand, this arrangement raises the risk that rules will
not be rigorously enforced, because the process will be “captured” by the doctors it is
supposed to regulate. In response government can regulate the regulators, by setting the rules
on public representation on the review councils, transparency of review processes, and
accountability of the profession to the public (Irvine 1997).

Self-regulation has been used in the health sector to assure quality that is difficult to
measure or ascertain (De Geyndt 1995; Graham 1994). Indeed, health-care regulators often
rely on the regulated to report on their own behavior, just as tax collectors rely on individuals
and businesses to file tax returns. For example, what is the surgical complication rate or the
infection rate in a hospital? In such cases, it is in the regulator’s interest to ask for reports
based on data already being collected by the regulated for their own purposes. Using such data
lowers the cost of reporting for the regulated, making it more likely they will do so.
Furthermore, it can give regulators a place to check on the accuracy of the reports they receive.
To encourage accurate self-reporting, regulators have to refrain from penalizing the regulated
too heavily for small violations of the rule. If they are too draconian, they will only encourage
inaccurate reporting, resulting in unreliable data.

Table 11.2 provides a matrix of the organizational alternatives that can administer
regulations, and some examples of these regulations.

INSERT TABLE 11.2 HERE

Table 11. 2. Alternative Organization of Regulatory Agencies in Relation to the

Organizations to be Regulated

5. Major Types of Regulation in the Health Sector

 We divide regulatory activities into two distinct realms—regulation of the health care
sector, and regulation of the health insurance system. We group regulatory actions into four
categories, according to the four purposes discussed above. Table 11.3 summarizes health
sector regulations. In the next section and in Table 11.4, we describe regulatory actions aimed
at health insurance, with continued attention to the differences between high-income and low-
and middle-income countries.

INSERT TABLE 11.3 HERE

Table 11.3: A Comparison of Regulations of High-Income Nations and Low- and Middle-
Income Countries in Public Health and Health Services

5.1. Establish the Basic Conditions for Market Exchange

As noted above, governments have to create a legal and regulatory framework

to establish the basic conditions for market exchange. This includes a system of contract and
commercial law and securities law, and the courts to enforce these. Such laws cover fraud, the
failure to perform, and the system of liability and responsibility under bankruptcy. These laws
and their enforcement are part of the essential institutional infrastructure of a modern market
economy. While their absence can hinder the development of health care markets, they are
often not considered within the narrower agenda of health sector reform efforts.

Another set of basic laws defines the internal structure of health-care

organizations (as discussed in Chapter 10). This includes issues of governance, recourse and
responsibility for both for-profit and non-profit entities, the role of Boards of Directors, and
shareholder rights. There is also the need to define property rights—including intellectual
property like patent and copyright protection. In contrast to more general legal institutions,
these rules have drawn attention from health sector reformers—especially in post-communist
countries where market arrangements in health cannot fully develop until such organizational
design issues are resolved. (We discussed the substance of such matters in the organization
chapter previously.)

In the health care system more narrowly, there are the specific questions of
patient’s rights and physician obligations. This has been an area of much interest in advanced
countries in recent years, both from the perspective of improving markets and in terms of
respecting rights as a (liberal) end in itself.
 In low- and middle-income countries, the enforcement of even basic business
regulation can be difficult and uneven. And many specific forms of regulation (e.g., patients’
rights) are frequently absent altogether.

5.2. Enhance Equity

Because free markets distribute health care based on what people can and are willing to
pay, their outcome is often not consistent with egalitarian goals. Nations, therefore, may use
regulation to enhance equitable access to health services. For example, many low- and middle-
income countries have tried to use regulation to compel graduates of medical and nursing
schools to serve for a period of time in underserved areas. For instance, Egypt, Ecuador,
Nigeria and Malaysia assign and require new medical school graduates to serve one or two
years in physician-scarce areas. For similar reasons, U.S. hospitals are required to treat all
emergency patients, regardless of their ability to pay.

5.3. Correct Market Failures and Provide Public and

Merit Goods

This category includes all government interventions that arise because the market is not
functioning properly. Health-services markets in particular often suffer from market failures
because of patients’ information problems (their inability to judge the appropriateness and
quality of medical services) and providers’ monopoly power. Regulatory interventions have
been designed to counteract many of these conditions, and there is actually quite a broad range
of such efforts (Feldman and Roberts 1980).

5.3.1. External Effects and Merit Goods

Much regulation aims to reduce negative externalities and expand the supply of merit
goods. These regulations run the gamut from sanitation requirements and rules for drinking
water quality, to quarantine and immunization, to firearms control and required health
education. In each case, the theory is that markets are difficult to organize because many
potential buyers are affected by a single decision (e.g., air pollution control), or that buyers do
not fully take into account all the consequences of their decision to consume the good (e.g.,
vaccinations). Hence, government has to intervene.

5.3.2. Help Consumers Make Informed Choices

 Often buyers are unable to assess the content of food and drug products or to know
their biological effects. In this case, regulation is needed for two purposes: to inform buyers
and to ensure that products actually contain the ingredients claimed by producers. Many
countries require producers to disclose the basic ingredients contained in a good on the
packaging. High-income countries devote significant resources to ensuring that products
actually contain the ingredients that are claimed, and to ensure their purity. In most low- and
middle-income countries such regulations are quite lax, due to lack of resources and
inadequate administrative capability.

Similarly, because most patients do not have the knowledge to judge the
appropriateness and technical quality of medical services and drugs, they are especially
vulnerable to being misled by deceptive or inaccurate advertising. As a result, most countries
regulate advertisements by physicians, pharmaceutical companies, and hospitals. Some
governments also regulate what information should be disclosed to patients to help improve
their capacity to make such choices.

5.3.3. Protect Buyers from Poor Quality

An alternative to providing or controlling information is to limit what is sold. Because

the effectiveness of professional self-regulation has come into question around the world, the governments of high-
income countries are taking an increasingly active role in regulating the quality of medical services.

Using Donabedian’s categories about the forms of quality control, we can think of
government as regulating the inputs, the processes, or the outcomes of health services
(Donabedian 1980). Regulation of inputs is easiest to establish and enforce, so it is the most
prevalent. It does not necessarily assure better outcomes, however. Regulating the processes of
care is much more difficult, and the responsibility for doing so is often assigned to the medical
profession. Regulation of outcomes may seem ideal, because outcomes are what society
should be most concerned with. However, because patients may respond to treatment
differently, depending on the severity of their disease and their particular physiology,
sophisticated sampling and severity adjustment is likely to be required—which is technically
very challenging. In addition, the medical profession generally resists regulation based on
outcomes as an infringement on its clinical autonomy. This resistance is important because, to
succeed, quality regulation must be acceptable to the medical profession. Since the range of these
activities is quite extensive, we review them in more detail.

(i) Regulation of Inputs

a. Drug Approval
 Safety and efficacy concerns are the main motivations for drug regulation. Because of
the potential for negative side effects, almost all countries today have regulations to keep drugs
from the market until they are proven safe. Regulatory bodies also may require drug
manufacturers to demonstrate the drug’s efficacy (i.e., that it performs as described), and in
some countries, its cost-effectiveness. Manufacturers must also provide information about
possible adverse reactions and contraindications, as well as potential reactions when combined
with other drugs.

In general, high-income countries have more exacting standards and do more extensive
review of various kinds of data, from animal studies to controlled trials, to tracking clinical
experience after drugs are introduced. Low- to middle-income countries often rely on the
other nations for these analyses. They also often exempt a variety of traditional medicines and
herbal remedies from the drug regulatory regime.

b. Licensing and Accreditation

The main strategy for ensuring the quality of health services in low- and middle-
income countries has been to rely on licensing and accreditation, in part because the
implementation and enforcement difficulties of other approaches. High-income nations in
addition often have requirements for regular continuing education or re-certification.

India, Egypt, and Nigeria offer typical examples of physician licensing practices. The
graduate of an accredited medical school applies to a government board for a license to
practice by showing satisfactory completion of the required courses and evidence of good
character. Once the person is granted a license to practice, no re-licensing is required.
Authority and responsibility for ongoing regulation and monitoring rest with the medical
councils (Bennett et al. 1994).

In high-income countries, the licensing and accreditation of physicians may be two

independent processes. A government agency is responsible for licensing, while accreditation is
often conducted through a professional peer review system. For example, in Canada accreditation is
conducted by an autonomous, independent board, with representatives from the medical profession making up less than 50
percent of board members. This organizational structure has led to greater emphasis on education and self-development.

The licensing and accreditation of health facilities generally focuses on easy-to-observe rules about equipment
or structures
. Sometimes, practitioners also have to have particular qualifications. In Kenya, for
example, a licensed private clinic must stock essential drugs, keep an accurate record of all
drugs, and be housed in a nonresidential building in a good state of repair (Bennett and
Ngalande-Banda 1994).
Organizational accreditation
typically takes one of two forms: either the government takes a direct role in
setting standards and uses them as precondition for continued operation and funding; or
s an industry’s self-regulating body
define standards and monitors
those institutions that voluntarily choose to participate in the scheme (Kohn, Corrigan, and
Donaldson, 2000). For example, the United Kingdom has separate regulatory structures for the private and public health
care systems. The King Edward’s Hospital Fund, an independent foundation in London that
aims to improve the quality of management in
the National Health System, has developed a partial accreditation system
for the former (Scrivens 1997).
The United States relies on self-regulatory initiatives
undertaken by health-care provider organizations and by the
medical profession. he Joint Commission on Accreditation of Healthcare Organizations (JCAHO)
T , an independent not-for-profit
organization evaluates and accredits over 18,000 health-care organizations and programs
, , and federal and state regulations largely rely
on its standards JCAHO owever, is reluctant to deny accreditation except whe there is a clear and serious
(Flanagan 1997). ,h re
deficiency because
, insurance plans only pay for services rendered by accredited health facilities.
Any organization that loses its accreditation faces potential financial ruin.

In general, licensing and accreditation can only assure a basic level of quality.
Focused on inputs—ranging from education to capital investment—such rules do not
guarantee that the inputs in question will be properly utilized. The latter task is much more
difficult, as we will see in the next section.

(ii) Regulation of Process

a. Practice Guidelines
Practice guidelines are
a regulatory device designed to influence clinical decision-making.
Theoretically, guidelines should be based on a systematic review of evidence and the judgment of medical
expert .
s Practice guidelines can be effective in creating a standard of care when physicians view them as clinically credible and face
compatible payment incentives. Evidence indicates that involving groups of physicians in the
development of guidelines can increase compliance (Palmer and Hargraves, 1996). Indeed,
many uses of practice guidelines are not truly regulation, according to our definition, because
they are done within provider organizations and not backed by the state’s coercive power.

When guidelines are supplemented with incentives, they can be more effective in
practice. For example,
altering the state of Massachusetts sought to reduce hypoxic brain damage from
anesthesia. To do so, the state issued a regulation that anesthesiologists could not be found
liable for malpractice claims if they followed guidelines promulgated by the American Society of
Anesthesiologists
. Episodes of hypoxic brain damage decreased by over one-half in the years following
implementation of these
new rules. (Brahams 1989, Kelly and Swartwout 1990).

b. Patient Assessments

Medical quality has two aspects—clinical quality and service quality (see Chapter 6).
In high-income countries, patient satisfaction has become a key aspect of quality evaluations,
although patient assessments tend to focus on the service rather than the clinical component of
health services. Nevertheless, patients can also provide information as to what was done
clinically. For instance, patients can report whether a particular examination was performed
before a diagnosis was made, and whether there was a follow-up on laboratory tests. In the
United States, patient and community involvement in assessing both the clinical and service quality of health care has
increased significantly.
By providing this feedback to physicians and other health professionals,
management has successfully used patients’ assessments to improve the quality of services
(Palmer and Hargaves 1996). However, most of the experience in this area, like that with
guidelines, does not involve formal regulation.

(iii) Regulation of Outcomes

Studies suggest that quality assurance is most effective when outcomes are
monitored (Chassin et al. 1996, Palmer and Hargraves 1996, Palmer et al. 1995). Effective
outcome management system
s, however, are quite demanding administratively and therefore are not
easy for low- or middle-income countries to implement. They require a regulator to determine
reliable outcome measures (e.g., complication rates unplanned readmission rates , to set performance standards for each medical procedure
, ) ,
and to accumulate
comprehensive and reliable databases. Even then, the necessary analysis requires sophisticated
algorithms.
As a result, such efforts, to date, have been found largely in high- income countries. Moreover, in many
nations where outcome data have been collected, the reports have not been disseminated because of strong
physician opposition.

a. Standardize Report Cards

Publishing outcome results alone can sometimes improve quality. For example, the publication of
New York’s
data on each hospital’s surgical death rate due to coronary artery by-pass surgery was
associated with a 41% decline over four years in operative mortality. There are reports that some hospitals took direct action to reduce
mortality rates in response to
the publications (Hannan et al. 1989).
The Scottish Office
also has published outcome data on emergency re-admissions, mortality after admission for stroke,
cervical cancer mortality and childhood incidence of measles. Though the publication was issued with a warning that no direct inference
,
about the quality of care in particular hospitals could or should be drawn,
some purchasers reported changing contracts as a result of the
data release
(Hsiao 1999).

In the U.S., there are a significant number of other “report card” efforts. Some
magazines compile lists of the best doctors or hospitals nationally or regionally. Health
insurance plans are covered by the Health Plan Employer Data and Information Set (HEDIS)
reporting system. Administrators in the Punjab in India have told us that hospitals there are
graded by an internal auditing system. Although the results are not made public, they do
encourage competitive quality improvement. The advantage of reporting is that it can prompt
customer selection or managerial initiatives, without the administrative costs and hostility of
penalty-based regulations.

b. Clinical Audit and Peer Review

The United Kingdom and its former colonies generally rely on a clinical audit
system to assure the technical quality of medical services. Most U.S. hospitals have organized
peer review processes—called Morbidity and Mortality Rounds—where groups of doctors
convene as needed to review the care of patients who suffer serious complications or death in
the hospital. In many states, certain classes of adverse events must be reported to state
regulators. The effectiveness of these mechanisms depends critically on professional customs
and attitudes—on the willingness of doctors to be critical of each other. Since such attitudes
are often not present, these mechanisms have an uneven impact.

c. Disciplinary Boards

Many countries rely on the medical profession to discipline physicians. For

example, the British General Medical Council, a statutory professional organization, is responsible for licensing physicians
and for receiving and processing complaints against the medical profession (Hsiao 1999). Other countries also have
created state medical licensing and disciplinary boards, empowered to process complaints against and discipline doctors.
Disciplinary proceedings for professional misconduct by medical practitioners may impose the ultimate sanction
—revocation of the license
to practice
. But this penalty, which would deny a physician the ability to earn a livelihood from
medical practice, is rarely imposed. Lesser penalties (fines, suspensions, and letters of
reprimand) may not have much motivational effort. As a result, the evidence suggests that
most programs of professional regulation for misconduct have been ineffective, in part due to the
medical profession’s domination of these boards (Hsiao 1999).

d. Malpractice Liability

Alone among countries of the world, the U.S. relies heavily on malpractice
liability on the part of physicians to control the quality of outputs. As a regulatory strategy, the
system has many detractors. Studies indicate that the majority of those injured do not sue and
the majority of those who sue are not injured (Weiler et al. 1993). The use of contingency fees
allows lawyers to bring speculative litigation in the hope of sharing (up to 40%) in the
settlement. Sympathetic (and unsophisticated) juries often award large damages—even in
cases of unavoidable injury. Still, some other countries are beginning to give patients some
rights to recover damages when injured—as under India’s new Consumer Protection Act (Bhat
1996).

5.3.4. Control Supplier-Induced Demand

Empirical studies have documented that physicians, hospitals and pharmacists have the
market power to induce patient demand for additional units of their goods and services that
have little benefit for patients, but which raise total health expenditure (Yip, 1998). Many
high-income countries, therefore, regulate medical manpower and investment in new medical
facilities and equipment, on the theory that they can limit inappropriate utilization by
controlling supply.
 (i) Regulation of Manpower
The
re are three points at which efforts to control physician supply can be implemented: entrance to
medical school entr
, ance to post-graduate programs, and entrance into practice.
National governments
can control the supply of physicians—both total number and specialty
mix
—by regulating the number of slots in medical school and postgraduate residency programs. For example, the
United Kingdom Department of Health
sets the total annual intake of candidates to medical schools. Since the 1940s, committees have
advised on the number of physicians to be trained, alternating between reductions due to concerns about unemployment in the medical
,
profession and increases to utilize medical school capacity
, , in order (Hsiao 1999).
Canada conducted a nationwide study of medical manpower needs based on
, the need ratios of various specialists to the
population
. The resulting report was developed with considerable medical school input. Based on the report’s findings,
edical schools
m were asked to adjust the number of specialty slots offered and to influence medical students’ choices regarding
specialty and geographic location
(Hsiao 1999). Singapore limits supply by restricting specialists to 40% of new physicians and
training the remaining physicians to be primary care gatekeepers
(Ministry of Health 1993). Singapore also restricts the
licensing of new foreign medical graduates to a very low number each year
(Hsiao 1999). There are also a variety of indirect
methods to achieve these goals, including changes to the budgets for medical schools and the amount
of scholarships awarded to medical students.

High-income nations also use regulations to redistribute human resources. For

example, when Canada predicted that it would have a surplus of physicians, federal authorities placed
restrictions on the immigration of foreign doctors, requiring those admitted to serve physician-scarce areas
(Hsiao 1999).

Other high-income countries limit physicians by restricting the numbers that can
practice either in total or in a given area. In Australia, doctors need a billing number to be paid
by the national insurance system. In Germany, regional medical societies can limit the number
of physicians in outpatient practice. Where the production of physicians is not coordinated
with available slots, substantial excess supply can result so that new graduates have to wait
several years for employment in the health system. This is now the case in several European
nations.

Limiting supply, however, can reduce competition. In the United States, admission to practice in
each specialty is regulated by a specialty board—run by the doctors in that specialty. In some cases,
these bodies have constrained the number trained to practice in a particular specialty, such as anesthesiology, and as a result
helped create scarcity which
, has raised the incomes of those specialists.

In both high- and low-income nations, there is often great political pressure to expand
the number of medical school training slots, because this is seen as an effective path for social
and economic mobility. As a result, many nations train more physicians than they can use,
even in cases where most are trained in publicly funded schools (such as Italy, Egypt, and
Yemen). In other cases, numbers of unregulated private schools have contributed to this
situation (in Japan, Lebanon, and India). Such circumstances illustrate the need for political
support before any successful regulatory intervention.

(ii) Regulation of Capital Investment

As capital investment and technology acquisition increase, countries often dedicate more resources to specialized care
and fewer to prevention and primary care.
For those concerned about the cost-effectiveness of health
services (i.e., those who take objective utilitarian concerns seriously), this pattern calls for
regulation of capital investments, particularly in new medical technology, to ensure that the
health system uses resources cost-effectively.

Regulation of capital investment requires technology assessment. This is a process of

evaluating new technologies—compared to existing practices—in order to determine the
incremental costs and benefits. This analysis can be difficult for a new technology, because it
takes time to conduct the relevant studies. Meanwhile, experience with the technology often
accumulates rapidly, leading to expanded patterns of use. Moreover, new technologies
commonly have strong advocates—including doctors who are using the new devices, and
manufacturers who produce the devices. These groups will push aggressively for adoption of
new technologies well before serious studies can be concluded (Bunker et al. 1977).
Technology acquisition is closely linked with manpower considerations
. From a financial point of view, the
annual capital cost of a new machine may be much less than the personnel and supply costs
required to operate it—by as much as a factor of 7-10 to 1. Many United States hospitals require physicians to
have specific training before being allowed to use high-tech devices (
e.g., lasers, endoscopy). Medical and professional societies in some
countries have also taken a role in assessing and ensuring the appropriateness of technology use.

Under national health service systems, decisions on the cost-effectiveness of alternative spending
decisions for new capital facilities, technology acquisition and approval of new drugs can be linked with budgetary
and planning process
es, to ensure that overall health system objectives are met. Market-driven systems, on the other hand, lack
such a planning process and must therefore depend upon competitive market forces and governmental regulatory bodies to determine
investment decisions.
Given political and technical weaknesses in many nations, such regulation is
often lacking or ineffective.

5.3.5. Counteract Monopoly

(i) Regulation of Monopolies

Both private and public monopolies can exploit patients—the former for profit, and the
latter in ways that suit the interests of public practitioners. Monopolistic hospitals, specialty
clinics, and laboratories can compromise quality of services and charge monopolistic prices.
Most high-income countries, therefore, establish and enforce anti-trust regulations to curb
private monopolies. As we discussed in the previous chapter, strategies to curb public
monopolies have emerged in the past decade, involving the introduction of selective
contracting plus the creation of internal markets.

In low- and middle-income countries, both public and private monopolies are
widespread, since outside of major cities health facilities and specialists are few. Regulation in
these cases has been mostly ineffective at curbing the monopolistic practices of private for-
profit institutions, due to administrative and political limitations.

(ii) Regulation of Monopolistic Prices

Even though physicians’ power to charge monopolistic prices has been extensively
documented (Kessel 1958, Bennett et al. 1994), most nations have found it difficult or
impossible to regulate these decisions directly, for both technical and political reasons.
Medical practitioners provide thousands of diverse services. Regulating their fees, therefore, is
extremely complicated and requires detailed information on each transaction. Bennett and
Ngalande-Banda (1994) found that no African government regulates fees charged by private
practitioners, and we know of no such regulation in any low- or middle-income country.

Even high-income countries find it difficult to control the prices charged by physicians.
Typically, this is done in the context of purchasing, not regulation. For example, the social
insurance plans in Germany and Japan negotiate a fee schedule with umbrella organizations
representing practitioners. However, while social and private insurance plans, acting as
purchasers, can set the fees that they will pay, they have not been effective in low- and middle-
income countries in prohibiting practitioners from collecting additional charges from patients.

For many low- and moderate-income countries, a critical issue is the instability
in the public sector caused by the higher incomes of private practitioners. Public practitioners
respond to such higher earnings in several ways. Some leave for full-time private practice.
Some establish a dual practice and divert wealthier patients from public clinics to their private
clinics. Others charge under-the-table fees. These responses weaken or corrupt public sector
providers. Meanwhile, low- and middle-income countries can hardly afford to pay public
sector practitioners wages that compete with private sector earnings. As a result, some low-
and middle-income have tried to restrict private practice by public doctors to physician-scarce
areas. And even where under-the-table payments are illegal, the rules are rarely enforced.

One area where most high-income countries do regulate monopoly prices is for
pharmaceuticals. This regulation is often achieved by specifying what social insurance
systems will pay for drugs. The most common system, reference pricing, sorts compounds into
classes that are deemed to be “therapeutically equivalent” (López-Casanovas and Jönsson
2001). Then some parameter of the distribution of observed prices (such as the average) is
used for all in the class. These schemes require substantial technical capacity to operate, and
are now appearing in many transitional economies in central and Eastern Europe, and in other
middle-income countries.
 5.4. Correct Unacceptable Market Results

Results produced by competitive markets will not necessarily be acceptable to

reformers who take a variety of ethical positions seriously. Those who want to maximize
health status will favor regulating the consumption of tobacco and other goods that may harm
people’s health, and mandate the use of seatbelts and helmets to reduce injuries—even where
these would not occur in a totally free market. Others might find that a variety of transactions
violate community values and hence deserve regulation. Examples of such communitarian
concerns include blood transfusions, the sale of organs for transplantation, abortion, assisted
suicide, prostitution, and the use of certain drugs.

6. Insurance Regulation

Now we turn from the regulation of health care services to the regulation of health
insurance. Private health insurance is a complex futures contract whereby the insured pays a
premium in return for specific compensation if certain unpredictable future events happen. The
insurance policy spells out the relevant conditions, obligations, contingencies, and exclusions
that define this contract. Because they are written in technical language, such contracts are
difficult to understand and consumers can be easily exploited. In countries where private
insurance is widespread, governments often find it advisable to regulate the insurance industry
in various ways to prevent such exploitation.

Health insurance can be provided by three types of organizations: government

agencies, parastatal organizations, and private companies. Since government typically does not
regulate itself, our discussion of regulation applies to the latter two categories. Most insurance
regulations pertain to three purposes of regulation: setting the rules of honest exchanges;
doing what market cannot do, such as promoting equity; and correcting market failures.

The regulation of health insurance differs, depending on whether the insurance is

compulsory or voluntary. For compulsory social insurance, the state is often more concerned
about equity issues, unfair pricing, and deceitful business practices. For voluntary private
insurance, regulation is usually more stringent and extensive, because the chances for fraud
and deception are larger. However, in most developing countries, private voluntary insurance
companies face few regulations—exactly because the preconditions for effective regulation
discussed earlier in this chapter are often lacking. This lack, in turn, has implications for the
attractiveness of private insurance as a financing strategy in such situations.
 Table 11.4 summarizes the different types of insurance regulations. Because
insurance is seldom involved with external effects and merit goods, those categories have been
omitted.

INSERT TABLE 11.4 HERE

Table 11.4: Regulation of Insurance

Establish Basic Conditions for Market Exchange

6.1.1. Regulation of Insurance Plan Solvency

Solvency problems are more frequent in
private insurance than in social insurance systems. For social
, inadequate funds are typically addressed through
insurance government subsidies, increases in contribution
rates, or reductions in benefits. For private insurance systems, governments regulate to prevent
insolvency.
The United States
is the only high-income country that relies primarily on voluntary private
insurance to fund health care. It therefore has the most experience in its regulation. Most insolvency
of private insurance firms s due
i to mistakes in setting prices compared to claims payments, poor investment of insurance
reserve funds, or fraud. After experiencing a number of bankruptcies (in which insurers could
not meet their contractual obligations), the national government pressured states, who are
responsible for regulating private insurance, to tighten their fiscal requirements substantially.
As a consequence, states now commonly require insurers to meet certain minimum capital and surplus standards, limit
their investment options, and comply with established financial reporting standards. Various rules
control pricing, reinsurance, reserves, asset-liability matching, and transactions with affiliates and management, and their
reporting on financial statements. Countries that have established private insurance without
such controls (e.g., the Czech Republic) have seen a substantial number of bankruptcies due to
poor business practices.

Governments also establish minimum standards for the qualifications of

those who perform key technical tasks in the insurance industry. For example, actuaries who
determine premium rates and reserves (Skipper 1992) are often subject to state or professional
society regulation. The primary tool for monitoring the solvency of a firm is the review of its financial
statements.

6.1.2. Regulation of Sales and Marketing Practices

 Much private insurance is sold through agents who receive a commission for each sale.
Because of the complexity of insurance contracts, private insurance plans and their agents can
use deceptive sales practices to sell their products. High-income countries regulate potential
deception by regulating the form and contents of insurance contracts. Insurance plans must
file their policy forms for approval by regulatory authorities (Fuenzalida-Puelma 1996).
Often, sales literature and advertising are also regulated. Furthermore, to prevent private
insurance plans from paying excess commission to their sales agents and staff to promote
sales, high-income countries establish loss ratio requirements that restrict the percent of
premiums that can be used for administration, sales expenses and profits.

6.2. Enhance Equity

6.2.1. Regulation of Risk Pooling

In a fully competitive insurance market, the equilibrium price would reflect the
expected payout (i.e., the risk) for each individual. This means that the healthy would pay
smaller premiums, and the less healthy much higher premiums. To promote equity, however,
many countries require high and low risks to be pooled for an entire community (i.e.,
community rating), instead of having different premium rates for different groups or
individuals. This approach is used in Australia, for example. Reinsurance is also used as a
mechanism to pool risks across a larger population. In recent years, Germany has required the
payroll tax rate of each sickness fund to be the same for all members, coupled with a
reinsurance arrangement to even out the risks across sickness funds (Saltman and Figueras
1997). In the United States, many states require Blue Cross, a non-profit health insurance
plan, to base its premiums on community rating (Chollet and Lewis 1997).

6.2.2. Pay Health Premiums According to Ability to Pay

Even when a nation uses community rating to pool risks, a flat premium charge would
require a low-wage worker to pay a larger portion of earnings for health insurance than a high-
wage worker. For equity reasons, many high-income nations have created social insurance
schemes where premiums are based on a uniform percentage of wages instead of a flat amount.
Where multiple parastatal, non-profit, or for-profit funds operate, they are often required to set
premiums in this way (e.g., in Chile). Colombia has gone one step further. Besides a wage-
based premium rate, it adds a surcharge to the rate for workers’ social insurance contribution
and uses this revenue to subsidize insurance for the poor (Londoño 1994).
 6.3. Correct Market Failures

6.3.1. Regulation of Risk Selection

As we discussed in Chapter 8 on Financing, insurance plans have an incentive to

engage in risk selection, to insure healthy people and reject the less healthy. To counteract
these practices, governments sometimes require that plans accept anyone who chooses to
enroll during an open enrollment period. In addition, governments can reduce risk selection by
prohibiting medical underwriting, restricting the exclusion of pre-existing conditions, and
requiring insurers not to cancel policies for those who become sick. In the United States, risk
selection remains a serious problem in many markets, because insurers have numerous subtle
ways to encourage the less healthy to leave and enroll with another insurance plan. To address
such problems, New York State had to create a reinsurance mechanism, by transferring funds
retrospectively from insurers with low risks to those firms with higher risks.

6.3.2. Regulation of Adverse Selection

Sophisticated consumers who know they are relatively healthy may not be impressed
when they calculate the costs and benefits of the insurance plans offered to them. If the rates
they are offered reflect average risks, they may choose not to buy. Meanwhile, those who
know they are sick will rush to be covered. Such adverse selection (as we discussed in
Chapter 8) does not allow insurers to pool the costs of covering healthy persons with the less
healthy. Premiums—based on the costs of covering the less healthy—could then become
unaffordable for most people. Compulsory insurance is often used to deter adverse selection
and to pool the risks between the old and young, the healthy and the less healthy.

6.4. Correct Unacceptable Market Results

6.4.1. Regulation of Free Riders

Many nations provide subsidized public health services for those who are uninsured
and cannot afford to pay for services. This arrangement may encourage people who are
eligible for insurance coverage, but who have to pay a premium, not to sign-up for insurance.
To correct such free rider problems, many nations require all eligible persons to enroll in an
insurance program. Then the risks are pooled across a large population, which is one of the
major advantages of social insurance.

6.4.2. Regulation of Cost-Effectiveness

In spite of public education efforts, purchasers of insurance may not have an adequate
understanding of the benefits of certain preventive services. As a result, they may not buy
insurance that covers such services. Governments, therefore, often use regulation to specify
which minimum health services must be included in the benefit package.

7. Conditional Guidance

Just as other control knobs may require regulatory efforts to be effective, so too
regulation often needs other control knobs to supplement it. One reason for this is related to
the nature of regulation. Most regulations forbid or limit what organizations and individuals
want to do. Yet regulation is limited, because it relies on the coercive power of the state to
enforce compliance—and that power, too, is limited. Combining efforts to influence customer
and provider behavior with incentives is one way to enhance voluntary compliance.

These considerations often seem to have been overlooked in the current push by
international organizations for ministries of health to relinquish their financing role and rely
instead on regulatory enforcement. Giving up the potential for incentives, as offered by the
financing and payment systems, can be a grave strategic error for health sector reformers.
Combining regulation with incentives, on the other hand, can make rules more flexible and
increase voluntary compliance.

There is a great tendency for low- and middle-income nations to attempt to

transplant the regulations of the high-income nations and make them their own. This approach
seems like a quick and inexpensive way to develop a national program. Unfortunately, these
nations are unlikely to enjoy regulatory success, unless they have taken into account their own
particular circumstances.

We stressed at the beginning of this chapter that the success of regulation depends on
cultural attitudes, government capacity and political support. Regulatory success is more
likely in countries where there is less corruption, more popular deference to formal authority, a
well-functioning bureaucracy, and effective police and court systems. Successful regulatory
enforcement will depend on the design of regulatory institutions and processes. A variety of
practical features are relevant, including the resources regulators have, their technical
competence, the available data, the processes for detecting violations and imposing sanctions,
and the degree of voluntary compliance. The better off a country is in these regards, the more
likely that the regulatory system will function effectively and actually modify behavior.
Simply put, the task of regulators is not the same in Swaziland as in Switzerland.

As part of developing a regulatory strategy, reformers should conduct a careful analysis

to assess the political costs and benefits and the technical and administrative feasibility of the
regulations being considered. Since the political and organizational resources needed to
legislate and implement regulation are limited, there is a need to decide where the largest gains
are likely to be made and to develop an overall plan for how to proceed. The plan should
include, as integral components, an assessment of the political feasibility of various
interventions, and of political strategies for passing the regulations, establishing appropriate
regulatory bodies, and implementing the new rules.

In developing their strategic analysis, reformers should carefully consider issues of

enforceability. Enforcement difficulties often differ for the four categories of regulations we
have identified. Rules that define the basic conditions for market exchange, such as specifying
property rights and rules for buying and selling, are easier to enforce than other kinds of
regulation. The victims of violations of such rules will often be sophisticated economic actors,
and they are likely to complain and initiate remedial action. On the other hand, regulation to
promote equity is less likely to be effective. Requiring private clinics and hospitals to give free
services to the poor, for example, will often be resisted, and the victims will often be socially
or economically marginalized and not able to protest effectively. Similarly, it is difficult to
use regulation to move doctors into underserved areas. The doctors in question ignore clinic
hours, treat patients rudely, lack critical supplies, and sometimes just relocate elsewhere. The
monitoring and enforcement problems in such cases are formidable. Hence, the state may
have to rely on another control knob, such as financing or organization, to achieve its equity
goals (see Chapters 7 and 10).

Regulation to correct market failure (e.g., to assure the quality and safety of
water, food, and pharmaceuticals) typically enjoys great social acceptance and public support
in high-income countries. In these areas, there are few alternatives to state action, and
governments in such countries often have the needed technical and administrative capacity to
act effectively. This is a good example of the principle that cultural attitudes have a major
impact on regulatory enforceability. On the other hand, many low-income countries will find
such regulatory activities difficult to establish. Popular attention may be focused on other
issues, and the necessary political support and administrative capacity may be lacking.

Regulation designed to correct market failures can have a significant impact on

the quality and efficiency of health services and on the functioning of insurance markets. The
need to correct such market failures, however, depends on how much a nation relies on the
market and for what. We have seen how many kinds of interventions are available here, from
information to certification to licensing to process controls on medical practice. Again, the
more complex approaches will be beyond the capacity of some low-income countries. But
some efforts to improve service delivery—e.g., by publishing ratings and reports on
hospitals—can have an impact in all but the most resource-poor settings. And while the harm
caused by some market failures (e.g., cream skimming in private insurance markets) is
primarily financial, and may be confined to upper-income groups, other kinds of quality
failures do produce direct health status impacts.

7.1 Regulation and Equity

Because we ourselves are egalitarians, we want to offer some concluding

comments to reformers who share our values and specifically consider how regulatory efforts
relate to equity concerns. The first point is that the poor, uneducated and socially marginalized
are often the populations that are most vulnerable to exploitation in the marketplace.
However, they are also populations that are less likely to benefit from certain regulatory
initiatives—especially those focused on informational strategies like product labeling, report
cards, and disclosure rules. Limited sophistication and diminished sense of personal efficacy
can make it more difficult for the marginalized to use such information effectively. Such
initiatives should not be avoided; but reformers need to be acutely sensitive to the differential
effectiveness of regulatory approaches for disadvantaged populations.

By the same token, efforts to restrict the range of products or services available
in the marketplace—by controlling unsafe drugs or incompetent providers, for example—are
more likely to benefit less sophisticated buyers. For such individuals are less able to defend
themselves through their own purchasing decisions. At the same time, such restrictions also
are likely to restrict the supply of lower cost goods and services available to low-income
households. Hence, regulators need to strike a careful balance between protecting buyers from
the genuinely harmful and using their regulatory authority in ways that reinforce the monopoly
position of organized professional groups and established corporate interests.

Moreover, poor households often rely not just on the market but also on the
public sector for services. Hence, the most important initiatives for improving both clinical
and service quality for them will often lie within the scope of the organization control knob—
as discussed in the previous chapter. Indeed, better service in the public sector will serve to
protect vulnerable populations from market exploitation because it will shift their consumption
decisions away from such suppliers.

Poor households may also need to be protected in other ways as well. A recent
study of kidney sales in India revealed that such sales did not provide long-term economic
benefits to sellers, and did lead to health status declines among the disproportionately poor
persons who engaged in such sales (Goyal et al. 2002). Similar issues may arise in the context
of clinical trials of new pharmaceuticals.

Another realm of regulation that may be necessary in some contexts, but which
does not do much from an equity point of view, involves the regulation of private insurance.
As we discussed in the chapter on financing, as well as earlier in this chapter, such financing
schemes are regressive in economic terms. They also require substantial regulatory
intervention to assure financial viability and to help promote the kind of risk sharing that leads
to real risk protection. For these reasons, we are generally not advocates of such financing
schemes—in part because they put a great burden on what is often a limited governmental
regulatory capacity. Where they are used, however, we believe the needed regulation should
be undertaken, albeit that such efforts will generally benefit the middle and upper-income
groups, who will be the predominant purchasers of such insurance.

A final equity domain in the regulatory arena involves the regulation of the
pharmaceutical industry, to assure the availability of affordable, safe, and effective medicines.
It is now widely recognized that major global inequities exist in access to medicines between
rich and poor countries, for many important diseases (Reich 2000). Regulation has an
important role in determining these inequities in access and in shaping policy solutions.

First, many governments around the world regulate drug prices, in a variety of
ways (Ess et al. 2003). Some countries set prices at the retail level, according to different
classes of products, as occurs in India. Other countries, such as Japan, set reimbursement rates
for individual products, for payment to dispensing physicians and health facilities. In Europe, a
common system involves “reference prices,” where government sets a purchase price for each
class of drugs, based on prices in the marketplace, and the patient or supplemental insurer pays
the difference if a more expensive drug is prescribed (López-Casanovas and Jönsson 2001).
Such systems are mostly used in the context of social insurance schemes that pay for a
significant share of drug purchases. The regulation of drug prices is intended to assure the
availability of needed medicines for patients, while containing the costs for government and
other payers.

A third major regulatory approach to medicines involves the domestic

manufacture or importation of lower-priced generic alternatives to patented drugs. This
approach has depended, for many countries in the past, on national laws that did not recognize
patents for pharmaceutical products. The recent round of international trade negotiations,
however, agreed to introduce product patents for pharmaceuticals around the world, with some
delays in implementation for the poorest countries, under the Trade-Related Aspects of
Intellectual Property Rights Agreement, better known as TRIPS (Foster 1998). The
interpretation of several key clauses in TRIPS—covering policies for pharmaceutical
products—has become a major source of international controversy, with important ethical,
political, economic, and public health implications.

A third major regulatory approach to medicines involves the domestic

manufacture or importation of lower-priced generic alternatives to patented drugs. This
approach has depended, for many countries in the past, on national laws that did not recognize
patents for pharmaceutical products. The recent round of international trade negotiations,
however, agreed to introduce product patents for pharmaceuticals around the world, with some
delays in implementation for the poorest countries, under the Trade-Related Aspects of
Intellectual Property Rights Agreement, better known as TRIPS (Foster 1998). The
interpretation of several key clauses in TRIPS—covering policies for pharmaceutical
products—has become a major source of international controversy, with important ethical,
political, economic, and public health implications (Velásquez and Boulet 1999). One key
question is which diseases should be covered under rules that would loosen patent restrictions
and allow the world’s poorest countries facing a public health crisis to produce or import
generic versions of medicines still under patent in developed countries (Fleck 2003). The
United States stalemated the talks by seeking to restrict the scope to infectious diseases (such
as HIV/AIDS, malaria, and tuberculosis), while other countries have sought to include non-
infectious diseases (such as asthma, cardiovascular conditions, and obesity).

These regulatory issues of prices, formularies, and patents have been pushed
onto the international trade arena by the highly publicized case of anti-retroviral treatment for
HIV. In that case, the equity implications were starkly presented for all to see: AIDS mortality
dropped precipitously in rich countries when triple-drug therapy became widely available,
while the vast majority of the world’s AIDS patients, in poor countries, continued to die,
because of continued lack of access to the same anti-retroviral medicines. After substantial
public and political pressures were applied, a number of pharmaceutical companies decided to
lower their prices in the poorest countries—although access remains far below what is needed.
For other diseases as well, efforts have been made, through public-private partnerships, to
expand access to new medicines for such diseases as onchocerciasis, trachoma, and lymphatic
filariasis (Reich 2002). While these efforts can be very helpful to recipient nations, for
specific populations, the programs do not represent a long-term solution to pharmaceutical
supply problems in poor countries.

Unfortunately, we cannot explore all the complex issues raised by these

examples of pharmaceutical regulatory options. But we would be remiss not to note the
potentially important links here between regulation and equity.

7.2. Summary

In sum, the regulation control knob can be an effective measure to improve the
performance of a health system, particularly when it is combined appropriately with
incentives, behavior change, and suitable organizational arrangements. While it may seem
relatively easy to establish regulations, the technical challenges of doing this well can be
formidable, and the organizational and political obstacles to enforcement can be even more
difficult. Regulation can significantly change behaviors in some situations, but its impact can
be insignificant in others. Health sector reformers who want to make a real difference need to
think carefully about the likely enforcement process, the available resources, legal capacity,
political support, data and monitoring systems, and the incentives that regulation will generate,
before pursuing the regulatory route.
 While we have repeatedly cautioned the reader about the possibility of
regulatory failures, we equally stress the large inefficiencies and inequities caused by market-
driven systems without adequate regulation (Herrin 1997, Hsiao 1994, Nittayaramphong and
Tangcharoensathein 1994). Hence, reformers face a complex balancing act between what is
desirable and what is feasible in devising the best strategic approach to regulation.
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 Chapter 12
Behavior

1. Introduction

Health system performance and health status are affected by individual behavior in
multiple ways. Sexual practices and needle sharing have major impacts on HIV/AIDS.
Whether people conscientiously take their medicines affects the success of tuberculosis control
programs. Vaccination rates influence infant mortality. Physician prescribing habits for
antibiotics influence the cost and the effectiveness of diarrheal disease control programs and
the growth of microbial resistance. Driving habits and seatbelt use affect traffic deaths. In
short, changing individual behavior can have a major impact on both personal health status and
health system performance.

As providers and patients, eaters and drinkers, drivers and lovers, individuals respond
to many forces. Some of these forces are determined by other control knobs: the financing and
payment systems and the organization and regulatory structures. But behaviors are also
grounded in culture and social structure, in habits, values, perceptions, beliefs, attitudes and
ideas. This chapter describes the fifth control knob: methods for changing individual behavior
through population-based interventions. Our primary concern is how the behavior control knob
can be used to improve health system performance and promote public health goals.

In this chapter, we first introduce the basic concepts of behavior change in relationship to

health system performance and then explore four categories of individual behavior that are

important to that performance. The chapter next presents advice about how to achieve behavior

change, through a discussion of the basic elements of social marketing. We conclude with a

discussion of the strengths and weaknesses of different behavior-change strategies in the

context of health sector reform.

The behavior control knob involves the design, implementation, and evaluation of
programs intended to change individual behavior in order to improve health system
performance. Various approaches in the fields of information, education, and communication
(IEC) and social marketing are all relevant. In particular, we use the term social marketing to
refer to a conceptual framework for designing interventions based on marketing principles.
This framework will be a major focus in what follows.
 In addition to messages aimed at individuals, changing individual behavior often can
be helped by the coordinated application of one or more of the four other control knobs. For
example, a behavior-change campaign might want to supplement an educational campaign
with monetary incentives (payment) to providers, or rules governing their behavior. Similarly,
the organization of the health care system can be altered to influence patient utilization of
specific health facilities. In discussing the behavior control knob, we will thus want to refer to
the four other control knobs where these are relevant. However, this chapter does not consider
the use of behavior change strategies to influence the political acceptability of health policy
proposals, since these issues are addressed in Chapter 4.

Our understanding of options within the behavior control knob draws heavily on the field of

social marketing, and we use many of its concepts in this chapter. The field of social marketing

began in 1969, with a seminal work by Philip Kotler and Sidney J. Levy (1969), who observed

that marketing methods were being used throughout American society to sell everything from

soap to colleges to politicians. They argued that all organizations confronting marketing

challenges could benefit from using marketing approaches, whether the organization was

selling a tangible commercial product or an intangible social idea. In this chapter, we have

adapted the Kotler and Levy approach to social marketing to the issues of health reform.

Efforts to change individual behavior for public health goals occur within the context
of pervasive commercial marketing, which seeks to shape behavior for purposes of private
profit. Commercial marketing invades all aspects of modern life, selling everything from
cigarettes to coffee to computers to condoms to cough syrup. It explicitly advances
commercial goals rather than public interests, although some commercial marketing (e.g., for
condoms) can contribute to public health goals. Such commercial marketing can have
significant consequences for health system performance, as exemplified by the marketing of
fast food, infant formula, and tobacco products. Countries in transition from state-socialist to
market-oriented systems have experienced a surge in commercial marketing, with dramatic
changes in the patterns and amounts of private and public health expenditures. Sales of
pharmaceutical products, for example, exploded in the largely unregulated market of
Vietnam’s transitional economy in the 1990s (McManus 1998). Marketing by private medical
practitioners and private hospitals also shapes public expectations about medical services and
can lead to expanded use of high-technology medical equipment and services (such as CAT
scanners) and expanded demands on tertiary hospitals, as has occurred in Korea (Yang 1996).
 The behavior control knob provides a way for health policymakers to counterbalance
the negative health consequences of all this commercial marketing and to redirect individual
behaviors in ways that promote public health goals. The pervasiveness of commercial
marketing leads to some of the behaviors that health sector reformers would like to change, yet
also creates political and practical challenges to its successful utilization.

Efforts to improve health system performance by changing individual behavior can

benefit from the lessons of commercial marketing. Like commercial marketing, behavior
change efforts must recognize the central role of the customer and understand that the easiest
way to change behavior is by helping to meet the customer’s wants and needs. Health
reformers need to work with the values, beliefs, and perceptions of customers, because these,
after all, are the factors that shape health-related attitudes, knowledge, and behavior.
Interventions that support or coincide with deeply held cultural values have a better chance of
success, while those that challenge such values have a high risk of failure (as we noted
similarly for regulation, in Chapter 10).

To be effective, health reformers need to combine different kinds of behavior change

approaches. In general, reformers should not seek to “push” certain practices or ideas on
people; instead, they should find ways to “pull” new, desired concepts to existing values held
by the individual.

Approaches to changing individual behavior vary from relatively low-coercion

approaches like simply providing information, to relatively high-coercion efforts like
regulation and prohibition (Table 12.1). The strategies covered by this control knob are
somewhere in the middle. Social marketing can be more coercive than simply providing
information, because it prepares, packages, and presents messages with the intent of producing
specific behavioral changes. It often uses influence and persuasion based on emotion and
symbolism, unlike the simple provision of information. (Do note that there is some coercion
involved in purposively supplying biased or incomplete information). The degree of coercion
incorporated in behavior change interventions can raise important ethical concerns, which we
discuss later in this chapter.

In designing behavior change strategies, health reformers confront three common

marketing challenges (Kotler and Levy 1969). First, they need a clear definition of the
product, including both tangible products (including goods and services) and intangible
products (such as ideas and beliefs). Second, they need to consider the product’s relationship
to specific consumers in the health system. Various kinds of consumers should be considered:
clients (or direct consumers of the product), decision makers (or policymakers for the health
system), key stakeholders (who have a specific interest in the product), and the general public
(all those whose attitudes might affect the product’s use in some way). Third, health reformers
need to identify tools that can promote the product’s acceptance by the consumers. In this
chapter, we examine tools for changing health behaviors in relation to the four Ps of
marketing: To develop “the right product backed by the right promotion and put in the right
place at the right price” (Kotler and Zaltman 1971).

The first widespread applications of social marketing involved family planning

organizations in developing countries in the late 1960s and early 1970s. At that time,
contraceptive distribution in developing countries became a high priority for the US Agency
for International Development and for private foundations, and they promoted the new
methods of social marketing. The first national social marketing effort was the Nirodh
Condom Project, which was initiated by the government of India, with assistance from the
Ford Foundation (Altman and Piotrow 1980). These projects commonly used commercial
distribution channels, with government support and social marketing strategies to expand
consumer demand. The projects also gave rise to many consulting organizations that
specialized in social marketing for family planning and health. In 1997, 60 large-scale
contraceptive social marketing projects operated in 55 countries around the world. These
projects sold a total of 937 million condoms and 54.5 million cycles of pills in 1997, and
reported a 13% increase in number of couples served from the previous year—outcomes that
have been attributed to the successful application of social marketing methods (DKT
International 1998).

To date, behavior change approaches have not been fully exploited to improve health
system performance. They have been directed mainly at fostering the adoption of particular
health-related products or practices: contraception, breastfeeding, tobacco, bed nets,
immunization, and oral rehydration salts. Behavior-change efforts focused on getting people to
reduce their use of something have been less widespread and less successful. In part, this
reflects our earlier point about how marketing works best when it meets people’s deeply felt
needs. Unfortunately, there is a limited availability of good substitute products to enable the
“de-marketing” of risky behaviors (such as smoking and certain sexual practices). Where such
products do exist (such as smoking cessation patches and condoms), they are often less
effective in meeting those needs than the products they are trying to replace.

Another problem that has limited the effectiveness of behavior change is that
individual problem-by-problem interventions have not been systematically connected to
broader issues of health system performance. Health reform efforts have sometimes included
the development of “communication plans,” but these have usually been directed at the
processes of adopting a reform proposal (processes we considered in Chapter 4 on politics)
rather than as part of health reform itself. We argue in this chapter that many opportunities
exist to influence individual behaviors within health reform plans, and that behavior change
needs to be considered as a basic control knob for health reform, to improve overall health
system performance and assist in achieving the core criteria.
 2. Categories of Individual Behavior

Where can the behavior change control knob be applied in health reform efforts? Here
it is important to consider four categories of individual behavior:

• treatment-seeking behaviors
• health professional behaviors
• patient compliance behaviors, and
• lifestyle and prevention behaviors.

Each category can be related to important objectives for health sector reform, including
core criteria and intermediate criteria.

2.1. Treatment-seeking behaviors

Consumer decisions on when, where, and how to seek treatment represent an important
area for improving health system performance. These treatment-seeking decisions include the
kind of health professional (e.g., specialist versus generalist), the level of health facility
(primary care versus teaching hospital), the timing and location of the treatment, and the use of
traditional versus western medicine. These consumer behaviors often involve interaction with
a health professional, including physicians, midwives, traditional healers, and private drug
sellers. Treatment-seeking behaviors are important for acute health problems (e.g., trauma and
fevers) as well as chronic health problems (e.g., diabetes and health disease).

Because this is not an area of extensive experience, we will use a hypothetical example
to illustrate its potential. Imagine, for example, a campaign to encourage patients to visit local
clinics before seeking care at a regional hospital. The goal would be to enhance the efficiency
of the referral system, diminish overcrowding at regional centers, and provide care in less
costly settings where possible. All of this would enhance the technical efficiency of the
system as a whole. To be successful, this campaign would require research into the reasons
that patients avoid the local primary care clinic, including perceptions and real problems in the
quality, cost, and availability of services at those sites. Suppose that research revealed that the
advantages people saw with local centers was their accessibility (less travel and waiting time)
and their less imposing size and less rigid bureaucratic system of operation. The negatives
were lack of staff availability during clinic hours and concerns about quality. Then you might
imagine a social marketing campaign that included slogans like “Go first to your local health
center—Good doctors close to you” or “Go where they know you—Use your local health
center first.” But efforts would also be needed to improve the quality of services at primary
care clinics (through the organization control knob). For getting people to go to the centers—
only to have them disillusioned by what they encounter there—would not convince them that
your suggestion will meet their basic needs.
 Of course, persuasion does not have to work alone. It could be combined with more
coercive initiatives. For example, the payment control knob could also be used, by raising
patient co-payments at the tertiary care facility and providing free treatment at the primary care
facility. By using a gatekeeper mechanism (an example of the regulation control knob), the
effort could also require patients to receive approval from the primary care physician before
being seen at the tertiary care facility.

2.2. Health professional behaviors

Provider decisions on treatment represent a second important category of individual

behavior that can be addressed through this control knob. Important provider decisions include
the nature of a treatment, including adherence to practice guidelines, the amount of attention
given to preventative care, the location of treatment (a public hospital versus the provider’s
private office), and the referral of patients to other providers. Nor is government the only
potential actor here, since issues of professional ethics can be addressed by behavior change
campaigns directed by professional societies and targeted at their members.

There is a huge literature on quality improvement for health services, frequently

involving changes in provider behavior. One example in developing countries is the
PROQUALI project, which seeks to improve the quality of reproductive health services in two
states of Brazil. The project moves beyond conventional notions of clinical quality to a “new
client-oriented model” of quality improvement. The PROQUALI approach involves
organizational changes within the clinic, combined with external assessment for accreditation,
followed by community recognition through an awards ceremony. The project also includes
community mobilization, to enhance local demand for quality performance (PROQUALI
2000).

This program is based on the realization that interpersonal dynamics of provider-

patient relations can be significant determinants of perceptions of service quality and can
affect health-seeking behavior, thereby influencing health status and consumer satisfaction.
Changing the attitudes and behaviors of health providers, therefore, can make a major
difference in how patients seek care and respond to treatment.

Many behavior change strategies have been directed at the prescribing patterns of
physicians and pharmacies. Drug prescribers are one of the main targets for commercial
pharmaceutical marketing in the health sector. Partly in response, the practice of “academic
detailing” has been developed to provide information to physicians, using a social marketing
approach, in order to change their prescribing behavior and improve the quality and cost-
effectiveness of the medicines selected (Soumerai and Avorn 1990).
 In developing countries, strategies to promote the rational use of drugs have included
efforts to change the prescribing practices of not only physicians but also commercial
pharmacies, especially in environments where products are sold without a physician’s
prescription and often without the consultation of a trained pharmacist. For example,
campaigns have targeted drug sellers to encourage the sale of oral rehydration salts and
discourage the sale of antibiotics for cases of diarrhea (Ross-Degnan et al. 1996). Other
campaigns have sought to discourage the use of injections, even though patients may want and
expect this form of treatment as part of a medical visit.

These efforts illustrate a conflict that can arise between the goals of enhancing
consumer satisfaction and improving health status. Injections may be the treatment that
consumers prefer, but they may not be necessary or cost-effective, and can even cause health
problems through the reuse of needles that transmit infectious diseases such as hepatitis and
HIV. Successful social marketing efforts, aimed at patients and doctors, can help lessen this
potentially unhelpful tension.

2.3. Patient compliance behaviors

The third category of individual behavior involves patient decisions on whether to

follow the treatment instructions of health professionals. These behaviors include the use of
pharmaceutical prescriptions, pursuing referrals to other health providers, and other kinds of
treatment-following behaviors.

Many strategies aimed at changing patient compliance behaviors involve medications.

Examples of behavior change strategies in this arena include efforts to encourage patients to
take the full prescription of antibiotics (to decrease the development of antimicrobial
resistance), and efforts to encourage patients with chronic diseases (such as schizophrenia,
hypertension, and diabetes) to take their medications on a regular and timely basis. In some
cases, behavior-change strategies may be combined with direct regulation of individual
behavior, to assure compliance, as occurs for tuberculosis, with directly observed treatment,
short-course, known as DOTS (WHO 1999). In directly observed therapy, health-care workers
watch patients take their medications, to ensure that the right combination of drugs is taken for
the right period of time.

Behavior change strategies have also been directed at persuading mothers to follow
certain procedures in breastfeeding. For example, a social marketing program was introduced
in traditional rural communities in The Gambia to combine traditional beliefs and modern
knowledge in ways that would yield optimal breastfeeding practices, such as early initiation of
breastfeeding, feeding of colostrum, and exclusive breastfeeding for six months (Semega-
Janneh et al. 2001). The study found the interesting result that behaviors like breastfeeding
emerged from a complex social network. Therefore, attempts to change the breastfeeding
habits of mothers need to take into account the attitudes and influence of husbands and elders,
and especially the mothers of those childbearing mothers. This is an important lesson for
program designers to remember—especially when working in relatively close-knit
communities, as often occurs in rural areas of low- and middle- income countries.

2.4. Lifestyle and prevention behaviors

The fourth category of individual behaviors is consumer decisions on lifestyle habits

that have major impacts on health status, especially in preventing disease. Examples of these
behaviors include individual decisions on exercise patterns, food consumption, smoking,
sexual relations, and contraceptive usage. These behaviors do not necessarily involve
interaction with a health professional or a health facility; indeed, they are often subject to a
complex set of influences, from modern commercial marketing to the force of traditional
cultural expectations.

One example of a successful program to change lifestyle behaviors is the Harvard

Alcohol Project’s designated driver campaign (Winsten 1994) as a means to change the social
behavior of driving after drinking. The project persuaded Hollywood TV writers to incorporate
references to designated drivers in top-rated television programs. These short messages within
popular TV stories influenced people’s perceptions of appropriate behaviors and provided
social models of how to behave in specific situations. The project also found that friends and
peers have critical influence on teenagers’ behavior, so it designed messages to connect to the
existing values of teenagers, such as “Friends Don’t Let Friends Drive Drunk.”

The tobacco control field has many examples of social marketing aimed at changing
lifestyle behaviors. Evaluations have shown several factors that raise the effectiveness of such
anti-smoking campaigns. “Advertisements that directly attack the tobacco industry as the
source of the tobacco problem; expose the way in which the industry manipulates, deceives,
seduces, and addicts children and adolescents; and highlight the way the industry maintains
adult smokers as lifelong drug addicts to make profits are effective in challenging the
legitimacy and credibility of the industry” (Siegel 1998, 130). Experiences from anti-smoking
campaigns show how social marketing can be used in conjunction with regulation, payment,
and financing to promote behavior change, and how evaluative research can help develop
effective strategies that can be widely applied in different settings.

3. Basic Elements of Social Marketing

For health reformers, social marketing provides a useful conceptual framework for
thinking about behavior change and developing practical strategies. Two other major
approaches to behavior change are addressed by other control knobs: incentives (by the
payment control knob), and restriction and prohibition (by the regulation control knob). In this
section, we review the basic elements of social marketing—organized around the four Ps of
marketing: product, promotion, place, and price—as critical dimensions that any individual
behavior change plan must include. We also emphasize that health reformers need to consider
interventions apart from media-based approaches, including group interventions and other
innovative approaches, in order to have the maximum impact on individual behavior.

We believe that health reformers would be well advised to design their efforts at
behavior change based on a core conclusion of social marketing: that changing basic values is
extremely difficult. Behavior-change strategies, therefore, work best when they build on
existing values. This approach serves as the foundation for commercial marketing, as well.
Getting a population to adopt your product requires that you design the product to meet the
wants and needs of that population. This objective can be achieved by determining the wants
of the population and then following the four Ps of marketing.

3.1. Product

The first step in social marketing is to define the product for a specific audience. This
process is more complicated than it might seem, because it requires significant analysis of
different potential audiences. Three principles guide the definition and design of the product.

First is the principle of consumer orientation. To design an effective product, the

marketer must know the consumer. Both quantitative methods (such as population-based
surveys) as well as qualitative methods (such as focus groups) can be employed. Information
about the consumer is essential for product and message design, as well as for creating
distribution and communication strategies. This kind of formative research helps define both
the product and the audience for a social marketing effort.

This principle of consumer orientation provides the foundation for behavior change
strategies. To be effective, efforts to change individual behavior should be based on a
multidimensional understanding of the wants and needs of recipients, and the product should
be designed to meet (not change) those basic wants and needs.

A second principle of product definition involves audience segmentation. Marketeers

have learned that populations are often quite heterogeneous and that one message cannot
respond to the various wants and needs of all the potential target groups. Instead, each product
should be designed for a specific population group. For our purposes, this means that the broad
potential audience for behavior change should be divided into segments, with an assessment
done of each segment’s particular interests, wants, and needs. Separate products should then be
shaped for each market segment. For example, a Brazilian breastfeeding promotion program
identified eight target audiences: 1) the doctor, 2) the health services, 3) the hospital, 4) the
infant formula industry, 5) industry (in general), 6) the community, 7) government officials,
and 8) the mother. Different products were designed for each audience. For example, the
doctors were informed about the medical benefits of breastfeeding and the community was
encouraged to offer psychological support for families and to provide support facilities for
breastfeeding mothers (Manoff 1985, 48).

Audience segmentation is typically based on the psycho-social profile of a population

(called “psychographics” by marketers). This involves identifying core values through an
analysis of lifestyle, personality, communication habits, readiness for change, and perceived
needs. These psycho-social characteristics can also be related to other factors that are useful
for audience segmentation, including “geography (region, county, census tract), demography
(age, gender, family size, occupation, race, social class), and social structure (worksites,
churches, voluntary agencies, families, legislative bodies)” (Lefebvre & Flora 1988, 304).

Qualitative and quantitative research of potential audiences can be used to create

profiles of personality types for specific population segments. These profiles (e.g.,
“Traditionalist male in a low-income Filipino community”) can then be used in designing
social marketing messages for family planning (Piotrow et al. 1997, 42). Health reformers can
use various techniques of consumer analysis to define the target audience, identify specific
population segments, and describe the audience’s core values. Market research and focus
groups are important methods to understand how people think and feel about their health needs
and health system, and to define relevant sub-groups in the population. Identifying the right
audience segments is critical for defining products and messages for each target audience, and
for proposing specific methods to reach each group.

The third basic principle of product design is to meet basic needs rather than simply to
provide a material object or a particular service. This principle also follows a commercial
marketing tenet, a point made by Kotler and Levy (1969) in their classic article on social
marketing. For a soap company, the product is not just soap but cleaning; for a cosmetics
company, the product is not just makeup and lipstick, but beauty or hope; for a publishing
company, the product is not just books, but information.

Similarly, to be effective, health reformers should view their product in functional

terms as meeting basic needs and values. For a family planning organization, the product is not
just condoms or contraceptives, but quality of life and reproductive control. For an AIDS
prevention program, the product is not just safe sex practices, but freedom from disease and
control over one’s own destiny. Thus, the control knob for behavior change is concerned both
with tangible products (such as condoms for contraception, or medications for chronic
diseases) as well as intangible products (such as changing views about safe sex, or changing
perceptions about quality of care). In short, health reformers need to learn how to define both
kinds of products to appeal to the core values of a population segment in a specific society.
 Table 12.2 provides some examples of how public health products can be connected to
core values for particular segments of the population. For example, in considering smoking
initiation by teenagers in developed countries, the core value of rebellion may be connected to
decisions to start smoking (as adolescents rebel against their parents and their social norms).
The challenge for social marketing is to connect the same core value of rebellion to a rejection
of smoking (as an effort to rebel against the tobacco industry and its desire to hook teenagers
on cigarettes). These core values need to be identified for population segments in specific
countries, since values can vary across sub-populations and across cultures. A major challenge
is to connect the desired changes to existing values in specific audiences.

3.2. Place

Once the products and audiences are defined, the social marketer next works on how to
bring the product to the audience. Where can audiences be reached with the product? Making a
decision on place involves the selection of appropriate channels through which the product can
be delivered or made available to the audience. As Lefebvre and Flora (1988, 305) noted,

Any person, organization or institution having access to a definable population is a

potential channel for health communication. Thus, schools, worksites, social
organizations, churches, physicians’ offices, and various nonprofit agencies can all be
viewed as potential channels of communication. Identification of ‘life path points’—
such as laundromats, grocers, restaurants, bus stops—can also uncover potential
channels to reach certain audiences.

Health reformers need to think creatively about channels to reach the target audience,
especially if the group is socially disadvantaged, as commonly occurs with public health
campaigns for immunization, AIDS, or tuberculosis in developing countries.

Communication channels are commonly sorted into three broad categories:

interpersonal channels, including family, friends, and health care providers; group channels,
including the mobilization community and civil society organizations; and mass media
channels, including print, radio, and television (Piotrow et al. 1997, 73). Research has
demonstrated that greater impact can be achieved by combining different kinds of channels, in
order to repeat and reinforce key messages.

For example, a campaign in Kenya designed the slogan Haki Yako (It’s Your Right) to
emphasize the basic human right of women and men to control their own fertility, and then
used multiple channels to disseminate that message: “radio spots and a radio serial drama to
publicize the slogan; community visits by field workers to reach rural areas; posters and
billboards to create a visual image of men and women talking together; and T-shirts to
stimulate more interpersonal communication and to encourage advocacy by satisfied users”
(Piotrow et al. 1997, 73-74). A follow-up survey found that no single channel reached more
than half the population, but the combined exposure from all five channels was 83 percent of a
national sample survey. The goal for reformers is to reach target groups in different places
through various channels, to raise the chances of changing knowledge, attitudes, and behavior.

The availability of diverse channels allows for imaginative approaches to connect the
product and the audience. Health reformers need to consider methods beyond conventional
media approaches (such as radio), including advertising, personal contacts, social groups, and
environmental changes (see Table 12.3). Specific audience segments have different
characteristics and habits that affect where they can be reached. For example, public health
promotion campaigns often use health centers to make available child survival products. But if
there are problems in access and utilization of health centers—as commonly occurs in many
developing countries—then using health centers for product distribution will not be very
effective. Audience research for oral rehydration salts has identified other places as more
effective for product promotion, such as private pharmacies (in Egypt and Indonesia), and
small general stores (in rural areas of Honduras)—because the target population actually uses
these facilities on a regular basis (Rasmuson et al. 1988, 11).

In some cases, special events can be organized to attract a particular population group,
in order to deliver a message or a product. Social groups can also be used to promote and
maintain behavior changes. For example, the Indonesian Family Planning Program (BKKBN)
used village women’s groups for promoting contraception and organized village acceptor clubs
to provide support through social and economic programs.

In the United States, the first statewide condom-distribution program used social
marketing methods to decide on locations where condoms would be available (Cohen et al.
1999). The program selected health facilities (public health clinics, community mental health
centers, and substance abuse treatment sites) to give authority and credibility to the role of
condoms in disease prevention, through distribution by “a trusted health care provider.” In
addition, the program provided free condoms in more than 1,000 private businesses in
neighborhoods with high rates of sexually transmitted diseases and HIV, focusing on
convenience stores, bars, nightclubs, liquor stores, beauty salons, barber shops, tattoo parlors,
dry cleaners, and low-cost motels. The evaluation found an increase in self-reported condom
use, without being associated with increases in the number of sex partners or decreases in
private condom sales.

3.3. Price

Setting the price for behavior change interventions is a critical step that affects whether
the product will be adopted and used. Deciding on the price involves managing both the
monetary and non-monetary costs of product adoption, including social costs, time costs, and
physical costs. These different costs can combine to create substantial barriers to the use of a
product or service, or the adoption of a new idea or value. Applied research can be used to
identify and measure these different costs for each product and audience and to find ways to
overcome these costs to enhance the product’s acceptance.

Price can also serve as a symbol of value to potential users. In some cases, a high price
compared to similar products can attract purchasers who interpret price as reflective of high
value. A low price can similarly lead potential users to avoid the product, out of concerns
about low value. Setting the monetary price at zero, as a free product, can reduce financial
barriers to access, but may result in unnecessary usage and waste. As noted in our discussion
of the financing control knob (in Chapter 8), economists are concerned that free products can
encourage allocatively inefficient overuse. In other words, customers may use free health
services even when the value to them is below the cost of production, indicating that more
value could result if the resources were used to produce other goods or services in the
economy.

Price has another function as well. It influences the nature of the relationship between
patient and provider. In using a free service, patients may feel powerless—as recipients of a
gift. As buyers, however, they are in control of the transaction and have a different relationship
with the doctor. Anecdotal evidence suggests that such feelings of powerlessness, coupled
with the reality of poor quality of service, can reduce the willingness of even poor people to
use public clinics in some countries.

In deciding on a price for the product, social marketers need to think about their goals
and the market context in which they find themselves. Three main sources of information are
relevant for price-setting: an assessment of the costs involved, the prices for similar products
from competitors, and the price-sensitivity of the target audience (Kotler and Roberto 1989,
177). Each of these kinds of data requires research, and the results must then be combined in
ways that reflect the overall pricing objectives and goals of the behavior-change endeavor.

In setting the price for a social marketing effort, reformers must take into account the
broader objectives of price policy. Nagle (1987) has identified five pricing objectives, all of
which are relevant to different kinds of behavior-change efforts, and each of which lead to
different pricing strategies.

3.3.1. Maximizing the number of product adopters

If the aim is to maximize the number of people to adopt a social product, then products
and services can be offered at low prices or for free. Examples include free immunization for
children, as is commonly done in immunization campaigns, and free prenatal care for pregnant
women, as South Africa introduced in 1994 with the new government.
 As noted above, however, free products or services can sometimes create the
perception of low quality, which can discourage use, thereby reducing the level of product
adoption. Alternatively, a low price can encourage overuse and waste, thereby creating
inefficiency. Health reformers also need to think about the final price to consumers.
Subsidized price discounts may not reach consumers, since middlemen and retailers may sell
the product at the normal price and pocket the discount as part of their profits (Manoff 1985,
137). Also, as we noted in previous chapters, nominally free services may not be free in
practice, once we consider time and travel costs, the need for patient-provided supplies and
under-the-table payments. Thus, reformers may not be able to lower prices as much as they
might desire, if use-maximization is a goal.

3.3.2. Social equity

If a behavior change campaign seeks to achieve equitable distribution, then reformers

can adopt a graduated price structure for the same product, with higher income groups paying
more and low-income groups less. Examples of this pricing strategy include surgical
procedures and the use of insurance premiums based on income level. Some community
financing schemes also give payment exemptions to the poorest members of the community.
As mentioned in Chapter 8, this kind of price discrimination is often used by medical
practitioners who operate in a fee-for-service environment and charge high prices to rich
patients and low prices to poor patients (thereby achieving increased access to poor patients
and increased income to providers).

This pricing strategy can be used to reduce financial barriers to poor patients, while not
offering subsidies to rich patients who can pay for care. A graduated price structure, however,
requires a method for determining the economic status of buyers, which can be
administratively costly and subject to favoritism or corruption. These problems can sometimes
be addressed by innovative strategies for product targeting, such as offering low-priced
products in particular geographic districts where rich customers are unlikely to go (as has been
done for subsidized food products). An alternative is to have price vary with quality and allow
upper-income people’s preference for high quality lead them away from subsidized services—
was is done with different levels of hospital rooms in Singapore [cite].

3.3.3. Cost recovery

If cost recovery from customers has a high priority, then a fixed price can be selected to
defray a suitable part of the costs. An example of this pricing strategy is a flat fee for a
provider visit at hospitals, regardless of the patient’s income level, as a user fee to recover
some of the operating costs. User fees have been adopted in many health sector reforms, to
allow public health facilities to recoup some of their costs directly from patients (in addition to
government-provided resources). One tension that often occurs is between higher cost
recovery, which is intended to promote program sustainability, and lower (even zero) cost
recovery, which is designed to achieve greater product adoption by consumers.

The introduction of user fees, however, raises major questions about the equity
consequences for poor patients, who can be discouraged from utilizing health services
(reflecting the price elasticity of demand for different income groups). For example, the
introduction of fees to treat bednets with insecticides (for malaria prevention) in The Gambia
reduced utilization and increased mortality rates to levels before free treated nets were
available (Armstrong Schellenberg et al. 2001). Where equity is a consideration, social
marketing efforts must be careful not to set prices that can result in reduced access for poorer
patients.

3.3.4. Demarketing

For certain types of products (such as tobacco and alcohol), social marketers
deliberately set high prices in order to reduce use considered undesirable on objective
utilitarian or communitarian grounds. For example, this pricing strategy is used when a
government imposes high taxes on alcohol and cigarettes, with the goal of reducing
consumption, especially for price-sensitive groups such as adolescents. High prices can also be
used to reduce demand for medical services that do not contribute to the goal of health
maximization, such as cosmetic surgery. Again, there can be equity concerns if use of the
high-priced good is heavier among lower income groups. A proposal for a cigarette tax in
China sought to address this issue by varying the tax with the price of cigarettes (since they
differ greatly in price), instead of setting a fixed tax per cigarette.

3.3.5. Profit maximization

While the pricing strategy of profit maximization is not commonly used for social
products, one can imagine an organization that provides a social product, such as drug-abuse
rehabilitation, and also seeks to maximize its profits (Kotler and Roberto 1989, 176-177). The
classic monopoly strategy that can be adopted in such cases is price discrimination. Different
prices are set for different market segments—based on each segment’s price elasticity of
demand. The less sensitive a market segment is to price increases, the higher the price they
face. Where they can do so successfully, private companies often try to follow this approach.
Multinational pharmaceutical companies, for example, set different prices for the same product
in different countries, according to market conditions and income levels, in order to maximize
overall profits.
 3.4. Promotion

Having selected the product, place, and price, health reformers next must deal with
promotion—getting their message across to the target market segments. They require an
explicit promotion plan. The objective of promotion efforts is to enhance the probability that
consumers will accept the product. The promotion plan identifies specific activities and
materials that will help achieve the campaign’s overall goals.

The most important tasks in designing the promotion plan are to decide on the content
of the message, how to present the message, and which channels of communication to use. To
create an effective communication strategy that will reach the target audience and produce the
desired change in behavior, health reformers need to bring together prior decisions about the
product and the audience, the place to reach the audience, and the price of the product. Here
we will discuss some of the critical elements of these three key decisions.

Social marketers typically develop multiple messages about a particular social product,
in order to reach different audiences in the most effective ways. The content of the message
can draw on information about four different aspects of the product (Kotler and Roberto 1989,
225):

• physical/technical features (such as size, weight, shape, and other

observable qualities)
• sensory features (such as qualities that people can feel, smell, see, hear, or
taste)
• functional benefits (how the product will help the target audience)
• emotional/psychological benefits (how the target audience feels about the
product’s benefit to them)

The next task in developing a promotion plan is to decide how to present the message.
Here customer-orientation is critical. Health reformers need to learn the basic rule of
salesmanship: “Don’t sell what you want, sell what they want” (Kotler and Roberto 1989,
227). In designing the messages, marketers recommend a strategy of emotion followed by
logic, or beginning with the product’s benefits to the customer, and then moving to the
product’s features. Structuring the order of information in the message will depend on the
specific target group and their responses to different kinds of information. Health reformers,
therefore, need to know their consumers and how they react to information, images, and
emotions.

Experiences with anti-smoking campaigns show that messages need to be empathetic

and believable, in order to persuade people to accept the risks of behavior change. By
combining emotions and facts, an effective message can illustrate the consequences of
behavior change. Some of the most effective anti-smoking messages evoked strong negative
emotions (fear and sadness) by focusing on the consequences of smoking: “one [smoker] who
had died, two who had lost their vocal cords to throat cancer, and one in which a baby who is
exposed to secondhand smoke is coughing relentlessly” (Biener et al. 2000, 406). This
example demonstrates again the importance of research on target consumer groups in
designing the behavior-change efforts and evaluating the impacts of different interventions.

The third step in the promotion plan is to decide on the channel of communication.
Two main strategies are mass communications (to reach large target audiences) and personal
communications (to reach individuals and small group audiences). Most social marketing
programs use a combination of these approaches. Since they are mutually reinforcing, they are
generally more effective when used together (Kotler and Roberto 1989, 190). A third approach
to communication, known as selective communication, involves direct mail and telemarketing
(Kotler and Roberto 1989, 212-220). This approach is less relevant for health sector reform in
most low-income countries. Low literacy rates, sporadic mail service, and limited telephone
availability, particularly in poor and rural areas, all limit the applicability of such strategies.

3.4.1. Mass Communication

In using mass communications, health reformers face two basic choices, paid or free
coverage. Paid coverage (i.e., advertising) allows reformers to control the content and timing
of messages. Budget constraints can reduce the effectiveness of this approach, although in
some cases it may be possible to obtain free public service announcements. The more usual
form of free media involves media coverage of the social marketing message in the form of
news stories. This is less reliable and controllable than advertising, and subject to the potential
distortion or bias of the media involved (e.g., in a newspaper controlled by the political
opposition). But it also may be more credible to readers than advertising, and it is typically
much less expensive.

In working with mass communications, it is important to develop good media

relations. By preparing materials and meeting with reporters, health reformers can frame the
content of media reports. These efforts include preparing press releases (print, audio, and
video), organizing press conferences, and conducting one-on-one briefings with key reporters.
One way to obtain free media coverage is to organize a social event that can provide a ‘hook’
for reporters to write an article and thereby give public attention to a particular message.
Television and radio programs can also be used to deliver health messages directed at
individual behavior, such as the Designated Driver campaign in the United States, which was
mentioned in many Hollywood television programs.

3.4.2. Personal Communication

The main point of personal communication is to deliver the message to target

individuals in ways that enhance its credibility and acceptability. This means choosing a place
and a messenger that will have an impact on the group you are seeking to reach.
 Suppose, for example, we have identified lowering HIV transmission as a key health
reform priority and we want to increase safe sex practices among young men. Suppose, too,
our research shows that they fear such use will label them as somehow unmanly. Social events
such as a sporting event (that can lead to media coverage) might provide a good occasion to
reach this particular target audience. For example, we could distribute condoms and
information on safe sex practices at a soccer game. One can imagine going even further and
have the players distribute the condoms (packaged in team colors)—say, by throwing
packages into the crowd—before the game. A star player could also make a statement to the
crowd endorsing the distribution. After all, if you are trying to convince young men that one
can still be tough and macho while using condoms, what better person to deliver that message.

A peer or respected authority can be effective in reaching certain audiences—an

approach known as personal selling. For example, it can be more effective to have a teenager
speak with schoolmates on the issue of violence and about negotiation strategies than to have a
schoolteacher do the same. Entertainment can also be used to deliver health messages to
particular groups, including traditional forms of entertainment, such as puppet shows that tour
rural villages in India on the dangers of chewing tobacco. Social groups can also be used to
provide a mechanism for both introducing and reinforcing new behaviors, and for assisting
individuals with the transition to new habits. Examples of this approach include women’s
organizations that promote oral rehydration therapy or contraception, as well as Alcoholics
Anonymous.

One example of an entertainment-based promotion plan was the 1993 multimedia

campaign to promote family planning in Mali (Kane et al. 1998). This project used traditional
theatre and music forms, along with traditional proverbs in local languages and familiar
settings, with broadcasts on radio and television. The objective was to change knowledge,
attitudes, and practices related to contraception— to connect traditional social values with new
contraceptive methods. The specific messages provided information about modern
contraceptive methods, the need for male sexual responsibility, the health and economic
advantages of family planning, the need for communication between spouses, and that Islam
(the predominant religion of Mali) does not oppose family planning. A comparison of the
situation before and after the intervention found increases in desired knowledge, attitudes, and
self-reported practices along the lines sought by the social marketers. The authors concluded
that the impact “may reasonably be considered to be both positive and significant” (p. 320).

3.4.3. Triggers

The final step in the promotion plan is to decide on actions that will trigger the
adoption of the product. These trigger actions involve different kinds of incentives to persuade
the customer to adopt the product (Kotler and Roberto 1989, 240-241), and can involve the
payment as well as the organization control knobs. For example, incentives can be monetary
(cash payment), social status (an award or seal of approval), or material (a radio or some other
gift). One trigger technique is to provide a free sample of the product or the service, to induce
the customer to try the product. Another is to organize contests and sweepstakes for persons
who agree to adopt the product, with the offer of prizes, including money, merchandise, or free
services. A third trigger technique is to create continuity programs, in which adopters collect
coupons each time they use a product or service, with a reward after a certain number of uses.

4. Conditional Guidance

The behavior control knob has the potential to address difficult public health problems
by producing changes in individual behavior. Individual behavior patterns shape the utilization
of health services, including, for example, decisions to go directly to regional hospitals rather
than use local health centers, decisions to depend on traditional healers or medicine sellers
rather than seek care from licensed physicians, and decisions to avoid seeking out-patient care
until a medical condition has become quite serious. They also have a large impact on the
utilization (or under-utilization) of important services such as immunization, prenatal care for
pregnant women, and disease prevention for infectious as well as chronic diseases. This
control knob also holds the promise of reducing high-risk individual behaviors, like smoking
and drunk driving, and of promoting protective behaviors, ranging from physician hand-
washing to helmet-wearing.

The examples of behavior change in this chapter illustrate that this control knob
involves more than simply selling a product or redesigning a product for sale. The behavior
control knob requires an iterative process of discovering the values of the target audience,
creating goods and services consonant with those values, and evaluating the impact of
implementing strategies designed to enhance the acceptability of the products. The example of
motivating teenagers to practice being designated drivers shows how this approach can be
effectively applied in practice (Winsten 1994).

One example where behavior change approaches have been used to improve health
system performance is the Delivery of Improved Services for Health (DISH) project in
Uganda. DISH used many of the techniques discussed in this chapter to change behaviors that
can contribute to improved health system performance, especially for the health of women and
children (DISH 2001). The project seeks to improve performance through a series of Best
Practices, including the introduction of integrated reproductive health services, providing one-
stop shopping in a client-oriented approach, and holding low-cost community events, which
are recorded and broadcast as radio shows, to create wider audiences for DISH messages.
While the project does not include the entire health system in its objectives, DISH does
provide multiple examples of how behavior change approaches can be successfully applied to
achieve concrete improvements, especially in the core criteria of health status and customer
satisfaction.
 Behavior change, however, is not a magic wand. Social marketing methods present
both problems and challenges, especially when compared to conventional commercial
marketing. A list of some difficulties is presented in Table 12.4.

4.1. The Limits of Behavior-Change Efforts

Researchers concerned with behavior change are increasingly aware that social and
cultural environments influence individual decisions, especially for complex health behaviors
involving intimate matters, such as sexual relations (Green 2003). Efforts to develop effective
AIDS prevention programs have responded to this realization by emphasizing the importance
of designing culturally appropriate interventions that will be accepted and supported by
specific communities (Sweat and Denison 1995). But this cultural embeddedness raises serious
issues about the limitations of behavior-change efforts that health sector reformers need to
recognize.

Public health policymakers need to recognize that it is very difficult to use the behavior
control knob to change the basic values of a target population, rather than to change its
behavior. Private advertisers have learned how difficult it is to change people’s basic values,
leading private marketers to focus instead on identifying preferences and designing products to
connect with existing values. Indeed, trying to change basic values can undermine a social
marketing campaign’s ultimate effectiveness. It may be that the adoption of new products can
lead to broader social change, as has been argued for the birth control pill in American society.
However, broad social changes most often occur at times of multiple historical shifts, which
make it difficult to draw clear linkages from causes to differences in specific individual
behaviors.

Even when they do focus on behavior, public health professionals have a tendency to
approach behavior change from an expert-driven or product-driven perspective (“We know
what they need”), rather than seeking to understand and respond to consumer needs (Levebre
& Flora 1988, 302). This pattern reflects the bias of traditional medical culture, with its low
emphasis on psychology and with a tendency toward professional arrogance. The expert-
driven approach to behavior change, in connection with international assistance projects, can
also lead to charges of cultural imperialism, where “foreign” projects are perceived as seeking
to alter “local” behaviors. This can both diminish the acceptability of the reforms, and, because
of a lack of awareness of local conditions, lead to programs that do not actually promote the
well-being of the target group. Population control programs in particular have been criticized
for these problems. Post-partum sterilization, for example, was promoted for women when
they were least able to make a real choice, and many women later regretted the decision.

Expert-driven efforts often ignore the basic consumer-oriented method of social

marketing, and they often do not to conduct sufficient research among consumers to design an
effective program for behavior change. This perspective also tends to underestimate the
importance of “pretesting … ideas, messages, and methods with representatives of the target
group(s) before implementation” (Levebvre & Flora 1988, 304). The requirement to know the
consumer (with both quantitative and qualitative methods) cannot be overestimated in efforts
to use behavior change in health reform.

4.2. The Ethics of Behavior Change Programs

Use of the behavior control knob raises a number of ethical issues. The first of these
concerns the balance among alternative ethical imperatives. Suppose a traditional cultural
practice leads to decreases in health status—e.g., lack of school attendance by girls. This
might seem an obvious target for a social marketing campaign. But this issue also involves a
potential clash between objective utilitarian concerns for effectiveness and relativist
communitarian respect for tradition. The same issue arises with respect to feeding patterns
that give preference to male children or female genital surgery. As egalitarian liberals, we see
preservation of a minimum level of opportunity as more important than the preservation of
past social practices—but that is only our view. We recognize that there are genuine issues
here, and that health sector reformers can confront serious internal disagreements about such
questions when they use this control knob.

In a sense, as with all reform efforts, these ethical issues raise basic questions of
process. Any consequentialist argument always runs the risk that it is based on poor science,
or that unanticipated and undesirable side effects will occur. For example, some health
promotion campaigns may not have adequate scientific evidence to support the proposed
changes in life style, such as certain dietary changes. In other cases, social marketing
campaigns may unintentionally perpetuate certain values that can undermine public health
goals in the long run. For example, the use of gender stereotypes to sell condoms⎯based on
macho stereotypes⎯can reinforce asymmetrical power relations between men and women and
thereby help undermine HIV prevention programs. These efforts raise serious questions about
who decides which behaviors are desirable or legitimate, and which are not, and how those
decisions fit with broader social values about democratic processes and community control
(Fitzpatrick 2001).

A second ethical issue involves how far the state can go, how coercive it can be, once it
has identified behaviors it believes should be changed. We believe that the degree of coercion
that is justifiable depends in part on the nature of the problem and the values of the society.
Coercion may be more acceptable for behaviors that involve harm to others (e.g., unprotected
sexual behavior by a person who knows he is HIV-positive), that involve harm to self (for
example, the decision by a motorcycle rider not to use a helmet), or that involve financial cost
to society (for example, the health costs of illnesses due to tobacco smoking). As an empirical
matter behaviors that provoke cultural disapproval (for example, homosexuality or drinking in
some societies) are also likely to be dealt with more coercively. Some societies are also
reluctant to use coercive methods for intimate behavior (such as condom use) compared to
public behavior (such as seatbelt use) (Steinbock 1999). Here again is a set of issues reformers
need to confront honestly.

The use of incentives to promote certain behavior changes also raises a number of
ethical questions about coercion. In particular, what level of incentive in the promotion plan is
considered coercive? Some people have argued that any use of incentives is coercive. Others
contend that if an incentive works to persuade someone to adopt a behavior they would
otherwise not do (such as a vasectomy, in order to receive a radio), then that offer is coercive
and ethically inappropriate. The counter argument—from subjective utilitarians—is that no
one is forced to accept the radio. If the exchange is not in the recipients’ interest, they would
not accept the bargain. The question of whether the choice really is free, of course, is central
to this point of view.

In general, the degree of coercion that is considered justifiable will depend on a

reformer’s philosophical viewpoint. The most coercive perspective is objective utilitarian. If
individual behaviors are detrimental to health status, then a high level of coercion is seen as
justified in seeking to change those behaviors. In short, the ends (better health) justify the
means (coercion to change behavior). An objective utilitarian would favor the use of more
coercive interventions, such as regulation and prohibition of specific behaviors, as well as
quarantine (or incarceration) for recalcitrant individuals, as long as the approach would
improve aggregate health.

On the other hand, a liberal would oppose efforts to limit individual autonomy, even if
respect for individuals resulted in unhealthy behaviors. But liberals would not object to the
provision of information, as long as the autonomy of individual choice is respected. The
problem is that the provision of information alone tends to be ineffective in changing ingrained
personal behaviors important to public health (such as sexual practices, selection of health
providers, water-use habits, and decisions about medication). In contrast to liberals, a
communitarian would accept behavior change approaches to persuade providers and patients
to comply with community values and would approve of using more coercive techniques for
behaviors that violate cultural expectations.

These differences in the role of coercion, according to philosophical position, reflect

one of the central ethical questions in public health: How much and what kinds of coercion are
justified in seeking to change individual behavior for collective goals? This discussion of
behavior change illustrates the importance of ethical reflection and analysis for health
reformers who use the behavior control knob.

4.3. Behavior Change and Equity

Of particular concern within the ethics of behavior-change efforts are the equity aspects
of such efforts. We see two major issues here. The first has to do with the ethics of incentives
just discussed. In general, poor individuals are more likely to be influenced by incentives than
those at higher income. A poor tribal woman in India is more likely to undergo sterilization in
return for a sari than her middle-class counterpart, even when both face “free” choices. How
can we think about this?

One appealing argument is that incentives that depend on granting or withholding a

person’s basic rights are illegitimately coercive (Nozick 1974). If I say, “You can choose
sterilization or slavery,” then I am clearly coercing you. We believe there is an analogy here
to significant financial incentives to people whose baseline economic level does not allow
them a decent range of opportunity. Such incentives are likewise coercive. They constitute an
offer that the individual in a realistic sense cannot afford to refuse. Ironically, then, incentives
to poor people need to be small enough to be refusable if they are to avoid the problem of
coercion and be ethically acceptable. Of course, the deeper equity issue is the poverty of the
target group to begin with. But that cannot easily be addressed within the context of health
sector reform.

The second ethical issue involves the vulnerability of the culturally marginalized to
behavior-change efforts. Again, we noted above the relativist communitarian concern that
expert-driven public health efforts would ride roughshod over traditional practices. Around
the world, marginalized groups seem especially vulnerable to such efforts, because they lack
the political power to protect themselves and their culture (e.g., the Roma in Eastern Europe or
the Maya in Mexico). The difficulty is that such groups may also maintain cultural practices
that have significant adverse health consequences (Fonseca 1996), thereby posing sharp ethical
questions about the limits of behavior-change interventions.

4.4. Summary

In closing this chapter we want to make three points. First, changing individual
behavior is critical to the successful implementation of health reform plans. The behavior
control knob, however, has limits on its effectiveness and thus needs to be used in conjunction
with other health system changes in financing, payment, organization and regulation, in order
to achieve the desired improvements in health system performance.

A second point is that this control knob seeks to produce changes in individual
behavior but does not seek to change the social structure or power dynamics of public health
policy. However, marketing methods are critical in public policy debates, in shaping public
perceptions about the nature of social problems and appropriate policy solutions, and in
influencing the acceptability of proposed policies. We dealt with these issues in Chapter 4 on
political strategies. But many of the lessons we discussed in this chapter can also be helpful to
reformers in managing the political context.
 A third point is that making behavior change work requires that health reformers
mobilize a high level of commitment and substantial marketing expertise. The conditions when
social marketing produces health behavior change have not been adequately specified (Walsh
et al. 1993, 115-116). In particular, we need additional studies on the kinds of behavior change
approaches that work best for health reform and the conditions under which these approaches
are most likely to succeed. However, enough evidence is available to suggest that poorly
thought out or badly implemented efforts, which ignore the lessons we have reviewed, are
unlikely to contribute much to successful health sector reform.
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 Chapter 13
Conclusions

In the preceding chapters, we provided a set of tools and concepts that can help health
reformers be more effective in their own countries. We have avoided the approach of
cookbook recommendations. Instead, we have presented more general guidance on the art and
science of cooking, so that readers can develop and try their own recipes, ones that suit their
local conditions and food preferences. We have also sought to be transparent about our own
philosophical and scientific views, so that readers can calibrate our presentation and add a
grain of salt where they find it necessary.

We have explicitly and directly addressed the difficulties of getting health reform right.
Interest groups, political parties and bureaucratic agencies will all have different priorities and
favor different policies. Entrenched forces on all sides will resist change. The complexities of
health systems mean that almost any policy is likely to produce unintended consequences.
Furthermore, events in the wider world, ranging from economic instability and political
turmoil to social and cultural developments and climatic cycles, will also influence what seems
possible or necessary. Indeed, there is no single way to get health reform right; our guidance,
therefore, has always been conditional on many different factors.

Yet we also believe that it is possible to do things differently—and better—than they

are usually done now. Honest and self-critical analysis can help reformers improve the results
of health sector reform. The concepts we have offered—the policy cycle, the ethical
framework, the performance criteria, political analysis, diagnostic trees, and the control
knobs—are designed to help improve analysis and results. They must be applied in a context-
sensitive way; however, they also provide a framework for organizing work, doing analysis,
and generating and evaluating options. They are obviously not self-implementing—but we
believe they can be helpful.

The analysis presented in this book depends, explicitly and implicitly, on a series of
critical propositions about the structure and functioning of health care systems, about how
health sector reform processes typically work, and about how reformers ought to view their
own responsibilities. In this concluding chapter, we first present these propositions, and then
discuss their implications for the reform process.

• Health systems are complex socioeconomic entities, but their structure and
functioning can be influenced by rational action. The health system in any specific country has
evolved over time as a mix of public policies, private actions, history and culture. In recent
years, research has helped clarify how the structure of the health system can be changed
through intentional actions and the impacts that various changes are likely to have. We have
 summarized these variables under the headings of our five control knobs, and the emerging
body of evidence constitutes the scientific basis for health sector reform.

• Various features of health systems have evolved to suit different, often

conflicting objectives. The complex and historical embeddedness of health sector arrangements
often produces inconsistent policies and self-contradictory structures. Like the varying rock
layers underlying a geological formation, different eras of policy action have often been the
product of varying configurations of political forces, which have moved the health system in
different directions. Interest groups have often captured institutions and parts of the health
system and bent them to their own purposes. It is not surprising, therefore, that the system does
not effectively maximize some simple, specific objective function.

• Reformers have a better chance of conducting the process of reform

effectively if they can specify the goals and objectives they are trying to reach. Since the goals
of any health system are both numerous and subject to disagreement, reformers are not acting
solely as technocrats. They need to recognize the critical role of values, in order to solve even
basic technical problems, like setting priorities. And this requires, for example, deciding on the
relative importance of saving citizens at different ages. Reform is a value-relative process,
throughout.

• Changing a healthcare system is inevitably a political process. While

rational analysis can tell reformers how best to achieve their goals in a technical sense, they
need more to produce change in a system whose roots and structure are deeply political.
Regardless of whether the government is democratic, monarchical or single-party—reformers
must mobilize groups through the policy cycle if reform is to proceed. And that process of
mobilization is fundamentally political.

• Designing an effective reform package requires a deep understanding of the

system and a willingness to act on that understanding. We have repeatedly stressed that any
health system can be understood through a combination of different kinds of analyses. But
achieving that understanding is not easy, and deciding how to act, based on such insight, can
be even more difficult. Those adversely affected will resist change, and they often have
substantial resources with which to do so. The diagnostic process we have described is critical
to successful reform initiatives.

We do not, however, want to leave the impression that “It all depends.” For that
statement does not help explain what depends on what. We therefore offer four summary
pieces of advice derived from our discussion of the control knobs.

• No financing system can produce more resources than a nation’s economic

system generates. Nations tend to, and should, adjust their financing arrangements to their
level of economic, social and political development. But nations have to accept that the
resources they can spend on health care are limited by the country’s level of development.
• Because resources are always limited, nations need to adjust payment,
organization and regulation to increase technical and allocative efficiency. Both the
incentives for organizations to respond and the capacity of organizations to respond need to be
adjusted consistently. These efforts should be directed at maximizing clinical and service
quality and assuring the right mix of outputs. If a society is to maximize both health status and
satisfaction, it has to be willing to employ settings on those control knobs designed to achieve
these results. This means increasing incentives on and the accountability of organizations
(through the payment and regulation control knobs), and increasing their capacity to respond
to these incentives (through the organization control knob).

• Failure to engage in reforms designed to improve outcomes, however

understandable politically, will only perpetuate poor performance. Many in the health care
system do not in fact want to change the system to improve its performance. Instead, they want
to defend their incomes, or maximize political benefits, or provide gains to local
constituents—in other words, they want to protect their interests. While such motives may be
understandable, they help perpetuate a system that does not achieve its potential according to
performance criteria.

• Consistently think about both the demand side and the supply side. There
are limits to how much a state can coerce citizens to use health services they find unappealing
or unattractive. The supply of services, if it is to be utilized, has to be organized and priced in a
way that encourages utilization. Likewise, complementary efforts to influence individual
behavior have to be focussed on responding to and fulfilling the underlying needs of citizens,
rather than trying to reshape those needs to fit some bureaucratic or technocratic ideal.

Finally, we would like to offer six concluding points of conditional guidance for
reformers to bear in mind. In keeping with our purpose throughout this book of providing
practical advice, these conclusions are directed to people who would engage in health sector
reform. Furthermore, as always, the conclusions must be adapted to each reformer’s specific
circumstances.

1. Clarify Your Goals

Health sector reform is not about solving a single, well-defined set of problems.
Instead, it is a messy, contentious process, often initiated in response to some external shock,
about which there will be much disagreement. Therefore, if reformers are going to improve
their health system’s performance in some way, they are advised to begin by clarifying their
goals.

We have stressed throughout this book that the health system has to be seen as a means
to an end, and have offered intermediate and core performance criteria (Chapters 5 and 6) as a
way of describing those ends. We have also stressed that different ethical theories (presented
in Chapter 3) will lead to different goals. Maintaining services to the poor is much more
important to egalitarian liberal societies like Sweden or Denmark than it is to the far more
libertarian U.S. By the same token, Singapore is much more willing to coerce its citizens,
based on expert-driven analysis of what will improve their health, than would be acceptable in
America or the European Union.

Clarifying goals is especially important because goals can conflict, and different goals
can imply different policies. Concentrating high-tech services in a national facility (like the
National Heart Institute in Kuala Lumpur) can take advantage of economies of scale—but it
will also reduce competition. Charging user fees for hospital use in Uganda will improve
efficiency by discouraging low valued usage—but it will also tend to exclude the poor, raising
questions of equity. Trying to lower IV drug use via aggressive policing might (or might not)
be effective in changing behavior in ways that diminish the spread of HIV—but it is also likely
to constrain personal freedom.

Since the cycle of health sector reform is often initiated in response to an external
shock, reformers must be aware how “the problem” is defined in public arenas, especially by
the media and political circles. Different definitions will often be promoted by specific
economic or bureaucratic interests. Doctors will agitate for higher incomes, the social
insurance fund will ask for increased subsidies, the ministry of finance will point to existing
waste and inefficiency.

Rather than accepting any of these definitions, however, reformers need to craft their
own definition of the problem, based on the priorities they set and the goals they identify.
They need to articulate and promote their perspective in the muddled political world of policy
debate. We have argued that they can best do this task—with clarity and coherence—by
explicitly relating proposed performance goals to their own ethical position.

Choosing priorities is best done strategically. Problems that emerge from an

assessment of ethical concerns should be subject to political analysis focused on the feasibility
of getting an issue on the agenda and of getting a policy accepted, and technical analysis of
how policy interventions will have a positive impact on performance. In doing this, various
kinds of benchmarking can help set the aspirations for improvement.

2. Carry out an Honest Diagnosis

Once priorities have been identified and performance problems described, reformers
next have to carry out an honest diagnosis. We strongly urge the drawing of multiple
“diagnostic trees” to reveal patterns of causality and points of critical importance to the
system. This is the practical method for giving life to the advice to “Ask ‘Why?’ five times.”
 We have stressed the need for honest diagnosis because official reports and discussions
often find it difficult to confront certain taboo features of the system. Widespread unofficial
payments to doctors, endemic hiring of the politically well connected, physicians in rural areas
who don’t take up their posts, massive theft of hospital supplies, performance reports full of
fictitious numbers, poor health status among marginalized groups—these are examples of the
kinds of issues that diagnostic journeys need to address directly. Speaking about these patterns
requires a careful selection of domestic and international experts who can help challenge
existing assumptions and reveal underlying premises.

We also recognize, however, that too much time and resources spent on analysis can
delay policy action and paralyze reform efforts. To accelerate the process, reformers can use
existing studies and existing data, and thereby avoid the impulse to do everything again.
Reformers also need to know when to stop doing analyses. In the real world, data are always
imperfect, and reformers need to master the art of balancing better results against added costs.
Given the precarious nature of health sector reform, the window of opportunity for taking
action remains open only for a limited time, and can close suddenly.

A key aspect of our diagnostic advice is not to begin with your favorite solution—or
with your favorite target for abuse. Instead, we urge that diagnosis follow an evidence-based
approach that relies on data and science as opposed to slogans or preconceptions.

3. Develop a Plan that can be Expected to Work in Your National

Context

Solutions to national problems must fit the local context. Designing solutions that
work, therefore, involves a fit with cultural, political and institutional factors as well as the
level of economic development. If bureaucrats are likely to steal money from the social
insurance fund (as they did in Kazakhstan), or if firms are likely to evade payroll taxes by
shifting to non-cash compensation to employees (as they did in Hungary), then such
possibilities need to be addressed with specific measures when programs are designed.

Our discussion of interventions has been arranged around distinct control knobs, but
we have repeatedly stressed that effective policy often requires coordinated action across these
conceptual boundaries. Changing payment systems to hospitals to create incentives for
efficiency will do little good if hospital administrators are not also provided with the skills,
incentives and authority to respond. A social marketing campaign to encourage the use of local
primary health care centers is less likely to be successful if, at the same time, we raise patient
co-payments for services at those centers.
 Even within a control knob, consistent policy may be required across a number of
interventions. Few nations rely on only one financing mechanism, for example. And if we
want to use payment schemes to create incentives to reduce inefficient care, we may also need
to align both how doctors are paid and how insurance is paid for.

In designing policy, reformers need realism about what is possible. For example,
people in the middle of the income distribution will pay typical health care costs, directly or
indirectly. A good financing system, therefore, needs to focus on providing risk protection,
especially for vulnerable groups, rather than on the unattainable goal of avoiding the overall
cost burden. Similarly, if local political leaders have a long record of using resources and
authority for patronage purposes, we cannot assume that health sector decentralization will
improve customer service.

The art of effective reform requires a balance between being overly ambitious and
overly pessimistic. Both kinds of mistake are possible. Trying to design a perfect plan—one
that seeks to address all contingencies and problems—is likely to take too long, and then not
succeed because of system complexity. Instead, it may be better to implement some reforms
quickly, while the opportunity for change presents, and amend the details incrementally—as
Singapore has done with its medical savings account system. Focusing on the obstacles and
difficulties can lead reformers to attempt too little. Pushing the envelope and taking calculated
risks is often a better strategy for producing change—again, with the chance to amend and
adjust in later policy cycles.

Reformers can gain much value from international learning. The control knob chapters
are full of examples, both positive and negative. But in using such experience we urge
caution—be evidence-based, not ideology-driven. Consider your own national context, and the
importance of social values, political feasibility, and technical capacity.

Finally, reformers need to recognize that the process used to develop reforms plans
shapes their acceptability. The participation of key actors and interest groups can produce
valuable input, and can also reduce the impact of potential opponents. On the other hand,
reform plans do not require unanimous support. Genuine reform does not please everyone.
Negotiate? Yes. Turn the chicken coop over to the foxes? No.

Reformers do have to consider how the foxes are going to react if the reform plans is
implemented. This assessment is important for changes in financing and regulation, because
they deploy the coercive power of the state. In these situations, people being coerced are likely
to resist. Policy should be designed so that it is seen as legitimate, using data that are
inexpensive and reliable, lowering the costs of collection and enforcement, organizing the
relevant agencies so they have the right skills and incentives. In short, policies should be
designed in ways that raise the chances of being implemented.
4. Embrace Politics

Reform is not just a technical process but also a political matter. Politics pervades all
stages of the reform cycle. This means reformers need to embrace, not shun politics. They
need to do the kind of explicit political analysis and strategy development discussed in Chapter
4. Reformers cannot expect that everyone will agree, because of differences in ethics and
values— as well as differences in interests and beliefs about how the world works. Political
processes, of one sort or another, will inevitably be deployed to resolve these disagreements.

The politics of reform will continue to evolve, because of the cyclical nature of reform.
Reform will strengthen some interest groups and weaken others, and each group will seek to
influence the implementation and re-design of reform policies. New external shocks will
occur, pushing society to change its definition and perception of the problem. Just as reformers
need to re-evaluate their technical analyses, they need to re-do their political analyses, as the
reform process moves forward.

Successful reform thus is not just a matter of the merits of an argument. It is also a
matter of symbolism and language, of political skill and personal commitment. We have urged
realism about the prospects for reform—but we also are aware that reformers can easily
conclude that change is impossible, or at least unlikely. The forces defending the status quo are
often well organized, activated and committed. But reform does happen. Colombia does have
a new insurance system, Korea is separating the roles of doctors and pharmacists, and Hungary
is paying hospitals differently. These successes have been achieved by reformers who are
willing to use political processes shrewdly and continuously to advance their policies.

5. Focus on Implementation

Successful implementation often requires leadership and attention to detail. If local

authorities are to receive more responsibility for decisions, they may need additional training
first (as they did in Kerala, India). If fiscal decentralization is to improve inter-regional equity
(as it did in Chile), as opposed to undermining it (as it did in Bosnia), inter-regional re-
allocation systems need to be carefully defined.

Successful implementation requires performance measurement. Here again, realism is

critical. Some districts in India have reported 120% immunization coverage (defined as doses
delivered divided by the eligible population). A closer look revealed that 40% of the children
were receiving, on average, three doses each. Lean too hard on a measurement system and you
risk dishonesty in reporting, or unintended distortions in behavior. In the U.S., clinics that do
in-vitro fertilization report their success rates in a standardized way that is reliable—but few
will do difficult cases, because it would pull down their reported outcomes. These situations
remind us of the need to focus on performance not reports, on outcomes not inputs, on results
not merely efforts made.

Institutions (and people) resist change out of both interest and anxiety. Managers can
lower some of that resistance by lowering uncertainty, as shown by research in Hungary
(discussed in Chapter 10). Staffs need to be helped through the reform process by leaders who
are both credible and committed, and who understand the dynamics of organizational change.

Implementation does not just happen; it needs to be planned and guided. Critical tasks
need to be identified and likely obstacles anticipated—though, of course, not everything can
be. Managers need to adapt as experience accumulates. Many reformers turn over quickly,
especially at senior (ministerial) levels. As a result, people who design reforms may not be in
place long enough to oversee implementation. This gap between the designers of reform and
the implementers of reform can undermine efforts to produce measured improvements in
health sector performance.

6. Learn from Your Mistakes

Even successful reform often leads to new problems. Reformers, therefore, must be
prepared to learn from their mistakes. Evaluation systems need to be built into the process of
policy design. Reformers need to create incentives for providers and insurers to report data
accurately. They need to consider an experimental design of interventions and collect baseline
information before beginning implementation. Reformers need to expect that some of the
details (and maybe even some of the major features) of the system will be wrongly specified
the first time. All of this is difficult to do.

The inevitability of some mistakes helps explain why the policy cycle is cyclical.
Reform is not a one-time effort or one-off activity. Large-scale forces are at work—as we
reviewed in Chapter 1—and they will continue to operate. Technology will continue to
advance. Expectations will increase. Costs will go up. Economic turmoil will occur. Political
coalitions will unravel and regroup.

Our hope is that reformers will commit themselves to the process for the long run, that
they will think critically and politically, that they will be self-reflective ethically and creative
institutionally, and that they will focus on performance and on policy details. All this is quite
demanding, we know. But it is required to do a better job of getting health reform right.