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Reforming China’s Rural Health System
found that some types of health insurance in China actually increased out-of-pocket spending: the insured received a more resource-intensive style of care. It also explains why as incomes in China have risen, utilization has either fallen or stayed largely unchanged, but the unit cost of care has grown. Increased resource intensity could, in principle, reflect patients “choosing” to spend some of their extra purchasing power—whether from insurance or rising income—on better quality care, being guided in this process by medical providers concerned only about their patients’ health. However, it could also reflect doctors and hospitals increasing demand, with some of the prescribed extra care being medically unnecessary. The scope for provider-induced demand was enhanced by the institutional reforms of the 1980s. Under the planned economy model of the 1960s and 1970s, providers were financed largely from the government budget or commune. That shifted dramatically in the early 1980s when the planned economy model was discarded in favor of one that was increasingly market-oriented. Government revenues fell, starting to rise as a share of GDP only in 1996. Meanwhile, heavier financial obligations were delegated to local governments as the central government share shrank to only 5 percent. Local governments had little choice but to limit their support of government health facilities to a fixed annual subsidy that provided just enough to cover basic salaries, with urban hospitals receiving the lion’s share of these supply-side subsidies. To make ends meet, public facilities were free to generate “business income” by charging patients for drugs and services, and they were allowed to keep year-end surpluses (Liu, Xu, and Wang 1996). Many also implemented a “personal responsibility system,” whereby financial bonuses (or fines) for individual staff were tied to quality and quantity standards or revenue targets (Zheng and Hiller 1995). Public providers were, nevertheless, limited in hiring, firing, and many other managerial decisions. They were also limited in the prices they could charge through government-regulated price schedules. The government’s policy, implemented through a price commission, was to keep basic care affordable by setting care charges well below cost, while allowing providers to cross-subsidize basic services by pricing drugs and hightech treatment above cost. The inevitable but perhaps unanticipated result followed: providers began to shift demand from unprofitable lowtech care to more lucrative drug and high-tech treatments (Liu and Mills 1999; Liu, Liu, and Chen 2000). The shifting of demand from unprofitable to profitable “business lines” was especially evident in public health programs. Under the government’s