Payments to healthcare providers are often based on the number of patients they treat according to their particular health condition with well-known limitations. Payment based on health outcomes, a form of pay-for-performance, has long been advocated as a possible solution. This study adopts a contract theory approach and illustrates how it can inform practical implementation of pay-for-performance schemes that reward health outcomes. We first provide a simple but general model on the design of an incentive
scheme that rewards providers for improved health, as a function of key parameters related to patient health benefits and provider costs. We then calibrate the model using data from two elective procedures, hip and knee replacement, using patient reported outcome measures. The pricing rule suggests that the bonus should be set to reflect the difference between the provider’s marginal cost of a health improvement before the policy intervention and the provider’s marginal cost evaluated at the target health set by the purchaser. We provide estimates of the optimal bonus for hip and knee replacement under a range of
assumptions about provider cost functions and the value of health improvements.
Original languageEnglish
Place of PublicationYork, UK
PublisherCentre for Health Economics, University of York
Number of pages29
Publication statusPublished - Jul 2021

Publication series

NameCHE Research Paper
PublisherCentre for Health Economics, University of York


  • : hospitals
  • pay for performance
  • quality
  • health

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