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It was the biggest health reform since Medicare. It didn’t work.

In 2011, Julia Gillard introduced a new funding system to fix Australia’s troubled public hospitals. So why did it fail so badly?

An enduring image of Kevin Rudd’s prime ministership was his interminable visits to hospitals with the perplexed Nicola Roxon, his unfortunate health minister. There were a great many photo opportunities but no actual reform. Zilch.

Rudd wanted to take over the public hospital system from the states, running things from Canberra and providing 60% of the money. But he wanted the states to give up 30% of their GST. They said no.

After Julia Gillard ousted Rudd in 2010, she tried to salvage what could be rescued from the debacle. She struck a new agreement with the states that committed the Commonwealth to fund 45% of an “efficient price” for each patient, rising to 50% in 2017-18.

Politics intervened: the increase never happened, and federal funding remains at 45%.

The new system, called activity-based funding, was supposed to give the money directly to local hospital networks. Any network whose per-patient costs were higher than the National Efficient Price (NEP) would not get a top-up and would therefore have a strong incentive to become more efficient. Those that could do the job for less than the NEP would keep the difference as a reward, and to fund extra treatments.

Here's how the funding of each patient’s treatment is now assessed.

For the new financial year, the National Efficient Price has been set at $6,032.

Every hospital treatment is allocated to a relevant category, called a Diagnosis Related Group. Someone needing cataract surgery is assigned to the “Lens Interventions” DRG, which attracts a cost weight of 0.6, which means it gets 60% of the National Efficient Price: $3,636. The federal government pays for 45% of that, so the hospital ends up with $1,636.

And it’s the same everywhere.

This is the basis of the system the government introduced in 2011 and which it claimed would force revolutionary change for the better throughout Australian public hospitals.

“The government is determined to deliver health reforms to give patients a better deal,” Julia Gillard said in a press release.

“That means cleaning up our inefficient health system in which there is too much waste, by introducing solid market-based reforms to drive greater efficiency and innovation in the public hospital system.

“[Activity-based funding] will help identify our best hospitals, as well as some of our less effective hospitals - hospitals that are delivering services at far too high a price and as a result wasting important funds.

“That means under-performance can be tackled and successful techniques used by our best hospitals can be shared.”

We now have a decade of data to see whether those promises have been kept. Or not.

Deeble ... warning
When the scheme was announced, Professor John Deeble, co-architect of Medicare and the nation’s most renowned health economist, said it wouldn’t work. Instead, the higher costs inherent in smaller jurisdictions would mean an effective transfer of hospital funding from the smaller, generally poorer, states to the big, rich ones.

Ten years of data prove that Deeble was right. This chart shows how the cost-gap between the three largest states (New South Wales, Victoria and Queensland) has persisted.

(The apparent increase in smaller-state costs in the system’s first three years is likely to be an artefact of coding problems.)

There is no evidence that activity-based funding has made any overall improvement to efficiency, but it has certainly entrenched inequality. Hospitals in the smaller jurisdictions, with cost structures that have not been able to be reduced, are punished by losing money to the large states. If state governments do not make up the difference, patients inevitably suffer.

When the National Efficient Price was introduced, the idea was that it would be gradually reduced to force hospitals to become ever more cost-effective. But that notion did not survive reality for long.

The effective transfer of funding from small to large jurisdictions is substantial: in 2020-21 alone, the extra funding for Queensland ($379 for every admitted patient) amounted to 8% of their costs.

That year, South Australia ended up ahead. That happens rarely: usually, like the other smaller jurisdictions, it is in relative deficit.

Because the big (winner) states have so many more patients than the small (loser) jurisdictions, the differentials are magnified. Across the nine years for which we have comparable data, lower costs in the big states gave them $5.8 billion more than they would have had if Commonwealth funds had been distributed according to actual costs.

The small states were in deficit by $3.2 billion.

All of this is for acute admitted patients who spend at least one night in hospital. But they account for only about two-thirds of total costs. If the other areas – emergency, mental health, semi-acute, non-acute and non-admitted – had the same differential, the results in the chart above would be about 1.6 times as great.


Cost is not the only measure of hospital efficiency, and not the most important. More significant is whether a hospital system treats patients successfully and meets the needs of all who reasonably require it.

Another is the amount of time patients are kept in hospital. Hospitals in most countries have tried to reduce lengths of stay so beds can be cleared for new patients coming in. But this has its limits: if a patient is discharged too soon – “sicker and quicker” – problems tend to arise.

Australia seems to have reached that point some years ago. Certainly, the new funding system has not had any noticeable effect on length of stay.


In 2011, Julia Gillard promised that the new system would ensure major improvements in emergency care and elective surgery.

Gillard ... promises, promises
“The Commonwealth Government will continue to insist on tough national standards for public hospital performance to drive shorter waiting times for both elective surgery and emergency departments,” she said.

“We will work with the States and Territories on safe and effective implementation to deliver:

“The four-hour National Access Target - to reduce long waiting times in public hospital emergency departments, by aiming to have patients assessed, treated and discharged or admitted within 4 hours where clinically appropriate

“The National Access Target for elective surgery, ensuring that 95% of all patients waiting for elective surgery will be treated within clinically recommended times.

“The National Access Guarantee for elective surgery, which means that extremely long waits for elective surgery will become a thing of the past.

Those improvements were not delivered. In all these areas, the situation has become substantially worse.


Emergency departments around the country have been increasingly unable to deal with demand. Without large-scale investment in buildings, equipment and personnel, the four-hour target was meaningless.

There are five triage categories in emergency departments, ranging from Resuscitation and Emergency through to Non-urgent. Because a patient needing resuscitation is likely to die within minutes if not dealt with immediately, that targets is met. Of the others, only the Non-urgent category has remained relatively high.

Emergency department waiting times also present a window into the overall capacity of hospitals to deal with demand. Bed block – which occurs when patients needing admission to a specialist ward have to be kept in the ED because no beds are available – has two important dangers. These people need the attention of staff, who are then diverted from dealing with new presentations, causing all waiting times to blow out. And for someone needing admission, but who is kept in the ED for longer than eight hours, their relative risk of death increases by around 30%. This means someone with a 20% risk of death now faces a 26% risk.

The most revealing measure of bed block is the time waited in emergency by patients needing admission at the 90th percentile. That’s the time 90% of patients have been admitted and 10% are still waiting.

That measure is now higher than it was when activity-based funding and the four-hour target were introduced.


Despite the promises, the situation in elective surgery is no better. This chart shows the number of days patients spend on elective surgery waiting lists before being admitted for their operations. The measure, once again, is at the 90th percentile: 10% of patients have to wait even longer.

These figures are somewhat volatile, largely because some state governments (particularly Tasmania) indulge in occasional surgery blitzes, which make the figures look better for a while but solve nothing in the long term.

The national result, shown in a solid red line, irons out these volatilities. There is no evidence here that the new funding system has worked, and ample evidence that it has not.


Compared with other comparable countries, Australia should have no widespread shortage of hospital beds. But the number of beds is only one factor: how those beds are used, and what alternative care is available, is also important. It’s there that Australia spends its money inefficiently, but activity-based funding has not helped with the system-wide reform that is clearly and urgently needed.

If the Australian health system operated as it should, there would be no overall bed shortage, no bed block, few delays to treatment, and nobody in need of care would miss out.

But about a third of these beds are in private hospitals, where they are out of reach to anyone without the money to pay for them. And there are too few alternatives to acute hospital admission – too few step-down facilities for convalescents, too few nursing homes, too few psychiatric services. So people who do not need to occupy expensive acute hospital beds have nowhere else to go and cannot be discharged.

Preventive care is also inadequate, and further worsened by the inability of many hospitals to deal with the demand placed upon them. If patients are kept waiting for too long, their illnesses often become more serious and eventually can become emergency cases no longer able to be ignored but much more expensive to treat.

Other countries have been able to reduce their reliance on acute beds. Australia has not.

Almost every public hospital in the country is short of nurses, but as a nation we have more than most. We have more, for our population, than Germany, Sweden, Denmark, New Zealand, Canada or Britain. Again, it’s about how we use them.

Too many nurses have left the public system in favour of less-demanding, better-paid work in more agreeable conditions. Too many are working fewer hours than they might. And because of Australia’s over-reliance on acute hospital care, the system needs many more nurses than it would otherwise.

It’s a similar picture with GPs. Almost everywhere, people are waiting far too long for appointments, practices are overwhelmed and financially troubled, and bulk-billing rates have fallen.

On an international basis, we ought to have plenty of doctors.

Again, it’s a matter of how we use them. How many GPs work for only two or three days a week? How many things are they doing that could adequately be done by nurses, pharmacists or allied health professionals?

Some reforms about to be introduced will make the situation a little better without addressing the overall problems with primary care and the interactions between the various elements of primary care – and, just as fraught, the interactions of primary care with public and private hospitals.


Activity-based hospital funding was the most ambitious health reform since Medicare was introduced in 1984. Its failure illustrates an old lesson that has never been learnt: it is futile to try to change one element of the health system in isolation from all the others. Everything in healthcare is connected to everything else.

It didn’t help that Tony Abbott and his health minister, Peter Dutton, carved away at the reforms of their Labor predecessors. First, they abandoned incentive funding for improved elective surgery and emergency services. Then Malcolm Turnbull and his health minister, Greg Hunt, slapped a cap on the federal contribution to any state’s hospital system: no matter what happened to real costs, or to the actual number of patients being treated, Commonwealth funding would not increase by more than 6.5% a year.

They put in complex new cost controls, treating state hospital authorities similarly to the way they treated welfare recipients.

They put in a collection of consultative committees and National Cabinet offshoots that a senior bureaucrat described as a “beaver dam” designed to ensure any real progress remains trapped in one committee, or in several.

All of this was done in an uncoordinated, ad hoc way with no apparent attention given to the eventual effect on the public hospital system’s capacity to treat its patients.

Measures that look good on an economist’s spreadsheet or in a departmental committee room tend to disappoint when they’re sent out into the real world. For all the complexities of hospital costing and pricing, the system was – at its heart – a sledgehammer. It assumed hospital costs could be reduced just by reducing funding – but without properly understanding why costs were higher in some places than in others.

Many factors militate against comprehensive reform. One is the federation itself: for anything to happen, nine governments must agree.

No level of government has real control over health funding, or any ultimate responsibility for how the money is used. Each habitually blames the other.

Special interests ... money and power
Then there are the powerful interest groups, all of which will have something to lose by systemic reform. Even minor changes spark bitter, public turf wars: GPs versus pharmacy owners, insurers versus hospital operators, doctors versus nurses and allied health. And on it goes.

Australia has not one health system but two: public and private. They operate very differently. Most public hospital doctors are employees; in private hospitals, they are self-employed clients of the hospital operator who bill not the hospital but the patient. And if the hospital displeases them, they can go somewhere else – taking their patients with them.

In private hospitals, patients are not the customers. The doctors are.

Why should a top surgeon work in the public system for $300,000 a year when he could get ten or fifteen times as much in private practice, where there is no control on earnings?

Chifley ... reform is possible
Any health minister embarking on broad structural reform can expect to face many long battles, serious political costs and no certainty of eventual success. But it has been done before: the Curtin and Chifley governments established the Pharmaceutical Benefits Scheme; the Whitlam and Hawke governments gave us Medibank/Medicare. Each of those battles lasted for decades.

Then there’s the constitution. The 1946 referendum which gave the federal parliament the power to make laws on health benefits and medical services also required those laws not to “authorise any form of civil conscription”.

In a string of early decisions, the High Court took an extraordinarily broad view of this: even the requirement to use a standard prescription form was ruled to be civil conscription. Ever since, that phrase has thwarted many crucial reforms.

More recent High Court decisions, though, have interpreted it much more narrowly and realistically. There is now real hope that more ambitious legislation may now be possible, covering equity of access, efficiency, value for money and price gouging.

But these reforms take years, sometimes decades. Until then, we must live with what we have; and what we have badly needs investment.

One reason activity-based funding has not worked is that it didn’t go far enough. Federal contributions are mostly restricted to recurrent, or day-to-day, services. The states are left on their own to provide hospital infrastructure, and – however much they borrow – they don’t have the revenue streams to support it.

When public hospitals are overcrowded, as they are around the nation, staff cannot work normally or efficiently. And so costs soar while productivity slumps.

Only the federal government can raise the cash to fix this central problem. Perhaps it'll happen, one day. So far, though, there's no sign of it.




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