How to spend less while doing more

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New national reference costs data shows that in 2006-07 the NHS in England spent less cash on inpatient, day case and emergency care than in 2005-06. Scroll down to view the charts at the end of the story.

Since 1998, annual spending increased on average around 9 per cent; 2006-07 is the first year it has fallen since the data has been collected.

But the NHS managed a small overall rise in activity. This means unit costs fell in 2006-07 - in cash terms over 2 per cent and in real terms over 5 per cent. Again, this is the first time unit costs have fallen since 1998. Productivity panic over?

Well, probably not. What has driven the overall fall in real unit costs is the reduction of over £275m in total cash spending on emergency cases; total spending on inpatients and day cases rose by £165m. With emergency care spending accounting for almost 60 per cent of total elective and emergency care spend, changes in the latter have dominated spending on the former.

But how did the NHS do more while spending less? What was special about 2006-07?

The previous year had ended with a net deficit over £500m, with a third of NHS organisations reporting an overspend. The 2006-07 financial year started with some tough responses to this. Although primary care trust allocations were to increase on average over 9 per cent, that year's operating framework limited actual spending.

First, there was a commitment not only to wiping out the previous year's deficit but to ending 2006-07 in surplus. The policy levers available to the Department of Health to achieve this goal were limited - in essence the payment by results tariff. Despite predicted cost increases of around 6.5 per cent, the overall tariff increase was set at just 1.5 per cent.

Emergency care was squeezed hard, with an actual reduction in tariff of 0.5 per cent and a cap on activity increases above the 2004-05 level of 3.2 per cent - with the punishment of a halved per case payment for activity in excess of this.

With money held in reserves at strategic health authorities and the DH, and a top-down squeeze on prices, the operating framework's financial goals were achieved: 2006-07 ended in a surplus. With real spending falling and activity continuing to grow, one by-product was a fall in unit costs.

NHS staff cuts in 2006 of 8,500 - mainly in support staff, and the first overall fall in 10 years - can broadly account for the drop in spending. Yet it remains an open question how, exactly, the NHS still did more work.

Given continued downward pressure this year, it is likely unit costs will fall again. And the NHS will have to cover for the £250m gap due to this leap year's 29 February.