TITLE Frontier Efficiency Measurement in Healthcare: A Review of Empirical Techniques and Selected Applications AUTHOR

Healthcare institutions worldwide are increasingly the subject of analyses aimed at defining, measuring and improving organizational efficiency. However, despite the importance of efficiency measurement in healthcare services, it is only relatively recently that the more advanced econometric and mathematical programming frontier techniques have been applied to hospitals, nursing homes, health management organisations and physician practices, amongst others. This paper provides a synoptic survey of the comparatively few empirical analyses of frontier efficiency measurement in healthcare services. Both the measurement of efficiency in a range of healthcare services and the posited determinants of healthcare efficiency are examined. Healthcare costs in most developed economies have grown dramatically over the last few decades and it is widely believed that the inefficiency of healthcare institutions, at least in part, has contributed. In response to this belief, an extensive body of literature has addressed the empirical measurement of efficiency in healthcare institutions around the world. And while hospitals have been the subject of most of these efficiency studies to date, the efficiency of other healthcare institutions has also been addressed. These include nursing homes, health maintenance organisations, physician practices, district health authorities, and even the costs associated with individual patients. Nevertheless, these studies share a common focus; namely, the growing volume of healthcare costs, the effect of these costs on public expenditure and private industry, and the impact of increased competition in the healthcare market. Economists have developed three main measures of efficiency to meet the needs of researchers, healthcare managers and policy makers in this regard. Firstly, technical efficiency refers to the use of productive resources in the most technologically efficient manner. Put differently, technical efficiency implies the maximum possible output from a given set of inputs. Within the context of healthcare services, technical efficiency may then refer to the physical relationship between the resources used (say, capital, labor and equipment) and some health outcome. These health outcomes may either be defined in terms of intermediate outputs (number of patients treated, patient-days, waiting time, etc.) or a final health outcome (lower mortality rates, longer life expectancy, etc.) (Palmer and Torgenson 1999). Secondly, allocative efficiency reflects the ability of an organisation to use these inputs in optimal proportions, given their respective prices and the available production technology. In other words, allocative efficiency is concerned with choosing between the different technically efficient combinations of inputs used to produce the maximum possible outputs. Palmer and Torgenson (1999, 1136) illustrate healthcare-related allocative efficiency as follows: Consider, for example, a policy of changing from maternal age screening to biochemical screening for Down’s syndrome. Biochemical screening uses fewer amniocenteses but it requires the use of another resource – biochemical testing. Since different combinations of inputs are being used, the choice between interventions is based on the relative costs of these different inputs. Finally, when taken together allocative efficiency and technical efficiency determine the degree of productive efficiency (also known as total economic efficiency). Thus, if a healthcare organisation uses its resources completely allocatively and technically efficiently, then it can be said to have achieved total economic efficiency. Alternatively, to the extent that either allocative or technical inefficiency is present, then the organisation will be operating at less than total economic efficiency. The empirical measurement of economic efficiency centers on determining the extent of either allocative efficiency or technical efficiency or both in a given organisation or a given industry. Most recently, economists have employed frontier efficiency measurement techniques to measure the productive performance of healthcare services. Frontier efficiency measurement techniques use a production possibility frontier to map a locus of potentially technically efficient output combinations an organisation is capable of producing at a point in time. To the extent an organisation fails to achieve an output combination on its production possibility frontier, and falls beneath this frontier, it can be said to be technically inefficient. Similarly, to the extent to which it uses some combination of inputs to place it on its production frontier, but which do not coincide with the relative prices of these inputs, it can be said to be allocatively inefficient. Equivalently, cost functions transform the quantitative physical information in production frontiers into monetary values such that cost efficiency entails producing technically efficient combinations of outputs and inputs at least cost. More detailed theoretical introductions to frontier efficiency measurement techniques may be found in Fried et al. (1993), Charnes et al. (1995) and Coelli et al. (1998). Accordingly, if we can determine production frontiers that represent total economic efficiency using the best currently known production techniques, then we can use this idealized yardstick to evaluate the economic performance of actual organisations and industries. By comparing the actual behavior of organisations against the idealized benchmark of economic efficiency we can determine the degree of efficiency exhibited by some realworld agency. This review concentrates on selected efficiency studies using frontier efficiency measurement techniques published since the mid-1980s. EconLit, the Journal of Economic Literature electronic database, was searched to identify articles that were representative of the contexts and techniques associated with frontier efficiency measurement in healthcare services. References were also used from these studies to identify other relevant articles. Of the thirty-eight studies presented in Table 1, fifty-four percent are based on healthcare organizations in the United States; sixty-eight percent are in hospitals, ten percent in nursing homes, five percent each in health management organizations (HMOs) or local area health authorities and the remainder in other settings; while sixty-eight percent employ nonparametric techniques with the remainder using parametric techniques. However, despite their dissimilar contexts and techniques these studies share a common step-by-step empirical procedure that determines first the choice of frontier efficiency measurement approach, second the specification of inputs and outputs to be used in the selected approach, and finally, the method used to explain efficiency differences and the factors thought to be associated with these differences. This common process, as depicted in Figure 1, forms a convenient framework for the following review. FIGURE 1 Empirical Steps in Measuring and Analysing Healthcare Efficiency STEP #1. CHOICE OF EFFICIENCY MEASUREMENT APPROACH This step involves choosing between the different approaches on the basis of the theoretical and empirical benefits and costs STEP #2. SPECIFICATION OF INPUTS AND OUTPUTS This step involves selecting the inputs and outputs to be used in the selected approach. STEP #3. EXPLAINING DIFFERENCES IN EFFICIENCY This step involves deciding on a technique to examine the differences in efficiency and relating it to the organisation and industry.