One aspect of prospect theory is the principle of “loss aversion,” which finds that individuals are more sensitive to incentives when they perceive they are losing as opposed to gaining something. This effect has also been described as “losses loom larger than gains.” This behavioral effect has been demonstrated in a series of experiments in which both doctors and patients are asked to make a choice of treatment—either surgery or radiation—for a patient with lung cancer. Both doctors and patients made different choices depending on whether the choice was framed as a loss (the probability of dying after surgery) or as a gain (the probability of surviving after surgery) (McNeil et al., 1982). In another experiment, Meyerowitz and Chaiken (1987) showed that a pamphlet that framed the benefits of self–breast examinations as a loss (lost ability to detect cancer early) led to a greater increase in the percentage of women doing these examinations than did an identical pamphlet that framed the benefits as a gain (gained ability to detect cancer early). The difference in the behavioral response for a choice framed as a loss rather than as a gain can be significant, almost twofold in magnitude (Kahneman and Tversky, 1979).
The principle of loss aversion may have implications for structuring a P4P incentive payment. Incentive payments can be structured as a withholding (a perceived loss in income)—for example, a portion of the hospital’s full payment for a service could be held back until the end of the measurement period and then released only if the hospital met the performance target—and they can be structured as a bonus (a perceived gain). The theory of loss aversion suggests that if the goal is to drive hospitals to make changes that improve quality or efficiency, withholding dollars with the likelihood of later releasing them based on performance (i.e., framing the incentive as a possible loss) may lead to a greater behavioral response than framing the incentive as a “gain,” in the form of a bonus, even if the same amount of money is at risk.
While framing something as a loss rather than a gain may result in a larger behavioral response, experiments have shown that doing so generally causes a negative reaction and violates what the parties exposed to the incentive believe to be fair. This point was illustrated in a study in which subjects were asked to respond to two decision scenarios. The economic impact of the two scenarios was the same, but one was framed as a loss, the other as a gain. In the first scenario, subjects were told that there was no inflation in the community and that employees were being asked to take a 7 percent wage cut (a loss). In the second scenario, subjects were told that there was 12 percent inflation and that employees were being given a 5 percent raise (a gain). The result in both of these decision scenarios was the same—employees would all experience a 7 percent reduction in net earnings—but the emotional response differed. A majority of subjects (62 percent) judged the first scenario to be unfair, whereas only 22 percent thought the second was unfair (Kahneman, Knetsch, and Thaler, 1986).
In terms of P4P program design, this research suggests that hospitals would be more likely to perceive a bonus in a positive light than they would a payment withholding, even if the net financial impact is the same. This conclusion is supported by a finding from a recent survey of 79 physician group leaders: When given a choice in the structure of a P4P program, 59 percent preferred a bonus, 24 percent preferred a withholding, and 17 percent felt they were the same (Mehrotra et al., 2007).