Medicare's prospective payment system for long-term acute-care hospitals (LTCHs) gives providers modest reimbursements for short patient stays before jumping discontinuously to a large lump-sum payment after a pre-specified number of days. Using Medicare claims data, we show that LTCHs strategically discharge patients after they exceed the large-payment threshold. We find this behavior is more common among for-profit facilities, facilities acquired by leading LTCH chains, and facilities located within standard acute-care hospitals. Using a dynamic structural model, we evaluate counterfactual payment policies recently considered as alternatives for the existing scheme and find that they would provide substantial savings for CMS.
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