Diagnostic Related Groups (DRGs) were introduced to standardize hospital care administration, moving away from a system that paid for every itemized service. This patient classification system groups individuals with similar clinical conditions and expected resource needs. The fundamental purpose of DRGs is to create an administrative structure that allows payers, particularly government programs, to manage and standardize the costs associated with inpatient hospital stays.
Defining Diagnostic Related Groups
A Diagnostic Related Group is a patient classification system designed to categorize hospital cases that are medically similar and require comparable resources. Assigning a patient to a specific DRG involves a computer program, often called a “grouper,” which analyzes data points from the patient’s hospital record. The primary factor determining the initial grouping is the principal diagnosis, the condition chiefly responsible for the patient’s admission.
The grouping algorithm also considers secondary diagnoses, including complications or comorbidities (CCs) that affect treatment or increase resource consumption. Other factors influencing the final DRG assignment are major surgical procedures performed, the patient’s age, sex, and discharge status. These groups are first broadly organized into 25 Major Diagnostic Categories (MDCs), which generally correspond to an organ system or medical specialty.
The system used by Medicare, known as Medicare Severity DRGs (MS-DRGs), refines the classification by accounting for illness severity. MS-DRGs are based on the principal diagnosis and whether the patient has secondary diagnoses that qualify as a Complication or Comorbidity (CC) or a Major Complication or Comorbidity (MCC). The codes used to capture this clinical information are derived from the International Classification of Diseases (ICD) system, ensuring the patient’s clinical picture is accurately reflected.
How DRGs Determine Hospital Payment
DRGs form the foundation of the Prospective Payment System (PPS), which fundamentally changed how hospitals are reimbursed for care, particularly by Medicare, starting in the 1980s. This system replaced the older fee-for-service model, which incentivized the over-utilization of resources by paying hospitals based on actual costs or charges. Under the PPS, the hospital is paid a single, fixed, predetermined amount for the entire patient stay associated with a specific DRG.
This fixed payment is established before the patient is discharged, regardless of the actual length of stay or the total costs incurred during the admission. Each DRG is assigned a relative weight that reflects the average resources needed for treatment. This weight is multiplied by a hospital-specific base rate to determine the final payment amount, which is adjusted for factors like geographic wage differences.
The financial risk shifts from the payer to the hospital. If the hospital’s costs exceed the fixed DRG payment, the hospital absorbs the loss; conversely, if costs are kept below the predetermined payment, the hospital retains the difference. This structure incentivizes hospitals to provide efficient care and control rising healthcare expenditures.
The Impact of DRGs on Patient Care and Hospital Operations
The move to a fixed-rate payment model created strong financial incentives that reshaped hospital operations and care delivery. Since payment is fixed per case, hospitals are motivated to maximize efficiency and manage resource consumption carefully. This structure has led to a sustained trend toward a reduced average length of stay for most inpatient cases.
Hospitals must operate within a budget for each case, encouraging them to optimize care pathways and reduce unnecessary tests or procedures. This financial pressure requires robust internal systems for tracking resource use and comparing costs against the national benchmarks embedded in the DRG weights. The ability to accurately reflect the patient’s clinical severity is paramount to hospital finances.
Documentation and Coding
The complexity of the DRG system means that accurate clinical documentation and coding are extremely important for financial health. If a patient’s secondary conditions, such as complications or comorbidities, are not precisely documented and coded, the assigned DRG may not reflect the true severity of the illness. This inaccurate coding results in the hospital receiving lower reimbursement than the resources consumed, leading to financial losses. Consequently, hospitals have invested heavily in Clinical Documentation Improvement (CDI) programs to ensure the medical record supports the highest appropriate MS-DRG assignment.