Published: 18/08/2005, Volume II5, No. 5969 Page 15

It is hard to believe that it is barely three years since the funding system now known as payment by results first appeared on the NHS policy horizon. We have come a long way.

In August 2005 payment by results is very much a live system. We also have at least 50 experts who have learned the hard way how to make the system work.

Now, having introduced the basics of the new system, successfully and at almost reckless speed, what needs to happen next?

There are arguably three main areas of work. One, which involves using tariff funding to refresh those parts of the English healthcare scene that other funding systems have not reached, has been exercising powerful minds at the Department of Health for some time. And the sceptics may yet be proved wrong.

After some early setbacks it seems that the principles of a tariff payment system for mental health, based on the care programme approach, have now been agreed.

This is encouraging because if tariff funding can be made to work in mental health it can probably succeed across the broad spectrum of long-term illness.

And the use of the tariff for all emergency care, scheduled for April 2006, is to go ahead as planned.

A second challenge, building the level of financial skills and awareness that the new system demands, is covered admirably in Financial Management in the NHS, the recent joint publication by the Audit Commission and the National Audit Office. In some respects it is an old song that is being sung. The four main themes - the key role of boards in financial management, the importance of forecasting, the desirability of earlier accounts closure and the case for transparent external reporting - are hardly novel. Yet payment by results is making each of them a pressing priority. The argument is lucid, the analysis precise, and the case studies of financial decline make particularly salutary reading.

However, foundation trust boards and finance directors are getting cannier by the day, not least because of the price of failure. There are already signs that, once the scramble for foundation trust status is past and new disciplines become familiar, the quality of financial management rises. Gloomier assessments notwithstanding, the Healthcare Commission's review of the initial 20 foundation trusts' first months of operation finds that most trusts are handling their finances well enough.

This brings us to work area number three: revisiting the short cuts that were taken to achieve that impressively quick implementation of payment by results. Under the banner of enhancing 'clarity', a number of important measures are currently being considered. Together they will determine the robustness, stability and degree of ownership of the new system.

Some are essentially about setting up the policing structures that we always knew would be needed to maintain the system's credibility.

Other countries that use tariff funding find such structures essential. They curb any temptation to increase one's income by exaggerating the complexity of one's workload. This is an understandable practice, but one that, in a mixed economy, may well constitute fraud.

Others relate specifically to the developing foundation trust financial regime, particularly the extension of 'freedoms' and the delicate question of what happens in the event of financial failure. This apparently arcane issue is of real significance. Without a clear insolvency regime, commercial lenders' interest rates remain high to cover the risk of debts turning bad.

No foundation trust has so far borrowed from a commercial source.

And attention is now beginning to turn to the tariff itself. The Foundation Trust Network suggests that in the interests of transparency a single body should set NHS tariffs under payment by results. And a call for tariffs to be fixed for three to five years (to give boards confidence when considering long-term investments) appears to have been cautiously welcomed by the regulator.

This emphasis on stability also opens up the intriguing possibility of a move to a normative tariff.

Those who may have been on secondment away from planet earth since 2002 may need reminding that the current tariff for each clinical procedure is nothing more sophisticated than the average cost of the procedure for all English hospitals, gathered through the annual reference cost process, then 'cleaned' and uplifted for inflation.

Reference costs may have been a godsend in 2002 when the DoH needed a speedy solution to the dilemma of what to use for a tariff, but they carry several inherent flaws.

Their collection is time-consuming and costly. Their accuracy remains shaky: it can only ever be as good as the management accountant apportioning the trust's indirect costs and overheads, or the standard of clinical coding. GIGO, as the old computer programmers used to say:

garbage in, garbage out.

More worryingly, pinning income to an average cost promotes shortterm economy, but discourages the capital investment that offers a route to improved quality. Anyone who has ever contemplated taking out a new mortgage for home improvements while remaining on the same salary will understand the essential truth behind this. That new kitchen or extension would be fabulous, but oh! the monthly payments. And delaying essential maintenance is as much a false economy on a hospital site as at home.

The principle of normative costing is to take a group of hospitals where the standard of costing and coding is known to be sound and clinical outcomes and quality of care are judged to be good, calculate their average costs for each procedure and apply the results nationally. This approach also opens up a route to better information on the costs contributing to each healthcare resource group.

It might be an attractive route for that new 'single body' responsible for the tariff to explore. .

Noel Plumridge is an independent consultant and former NHS finance director.