Effects of Contracting and Local Markets on Costs of Public Mental Health Services in California

OBJECTIVE: This study examined the factors that determine whether mental health services provided under contracts with private providers are more cost-efficient than services provided directly by public mental health agencies. METHODS: Data on service costs for 1993 were obtained from the California Department of Mental Health cost reporting and data collection system and from a survey of local mental health departments. Ordinary least-squares regression was used to estimate the effect of contracting, local market conditions, and contracting procedures on unit costs of seven core mental health services: psychiatric inpatient care, rehabilitative day service, intensive day service, individual therapy, medication management, crisis intervention, and case management. RESULTS: Contracts with private providers significantly reduced costs for six core mental health services, but not for inpatient care. However, the extent of savings was affected by local market conditions, including the concentration of providers in an area, the provider organization's size, and the scope of services that the provider offered, as well as by contracting procedures—whether there was a formal contract review process and whether prices were negotiated with the majority of providers. CONCLUSIONS: The amount of cost savings that can be achieved from contracting with private providers is influenced by several factors, including competitive conditions in local markets. In some areas, direct provision of services by public mental health agencies may cost less. Contracting is a complex process that cannot be viewed as a panacea for improving cost-efficiency.