Bureaucracy Versus Markets in Hospital Care: The Dutch Case

In this paper we analyze the bureaucratic negotiation processthat is implied by the budgeting system applied in Dutchhospital care. This system is based on centralized pricesetting while simultaneously allowing for decentralizednegotiations on volumes. We apply a variant of the bureaucracytheory, according to which the bureaucratic agency (in ourcase the joint hospitals) are not allowed to pricediscriminate, but will receive a flat price per unit ofoutput. We find that central price setting, where the insurercannot exploit its information on hospital costs, leads to asuboptimal supply of hospital care.