How did the DRG system begin?

The DRG was originally conceptualized by researchers at Yale University under contract by CMS. This work began in the 1960s and was designed to standardize payments so healthcare costs could be controlled. Physicians commonly use the term case mix complexity, which refers to a set of patient attributes that contribute to the overall need of the patient and the level of care required: Severity Prognosis Difficulty of treatment Need for intervention Resource intensity Before DRG codes were introduced and the process was standardized, it was very difficult to identify the right amount of reimbursement payments for a diagnosis. Case mix complexity could be subject to different standards of practice and was highly subjective. By developing clinically similar groups of patients who required comparable resources from the hospital, a system that could measure resource allocation was established.

How did reimbursement work before DRGs?

Before the implementation of DRGs, hospitals received Medicare reimbursement through a fee-for-service (FFS) model that reimbursed hospitals based on the estimated costs of patient care. This original system reimbursed providers for nearly the full allowable costs, according to the Medicare limits. Over time, this contributed to the rising costs of healthcare, and lawmakers stepped in to provide a solution. The solution was the IPPS system, which uses the diagnosis-related group process. With the implementation of DRGs, hospitals improved efficiency which led to shorter stays and fewer unnecessary services. This system has promoted more accurate record keeping as proper DRG codes were needed for reimbursement.

How are MS-DRGs updated?

DRGs are constantly expanding to meet the current industry standards and needs. The first update was labeled CMS 2.0 and was introduced Oct. 1, 1983. Since then, there have been more than forty updates and CMS has continually evolved this process through many iterations. There are also state-specific and private models that use the same core principles but have been altered to address specific circumstances. Today they are pivotal in hospital reimbursement with CMS adjusting weights and grouping methods annually. As CMS notes, “through DRGs, hospitals can gain an understanding of the patients being treated, the costs incurred and within reasonable limits, the services expected to be required. The classification of patients into DRGs is a constantly evolving process."

When a patient is admitted to a hospital, careful documentation is taken of their original diagnosis, factors affecting care needs, and services rendered to the patient. Hospital coders then translate these diagnoses into codes which CMS uses to assign a DRG. Factors used in this assessment include the type of diagnosis, what procedures have been performed, patient demographic information, and other complications or co-diagnoses that would impact the overall resources need for that patient. Each DRG has an assigned payment weight and an average length of stay associated with the diagnosis. The payment weight is used in the calculation for hospital payments for Medicare claims, and the length of stay is an important component in determining payments according to CMS’ transfer policy rules.

Article

What is an MS-DRG? A guide to diagnosis-related groups and their impact on reimbursement

Jan. 15, 2026 · Authored by Brian Bodi

Understanding Medicare Severity Diagnostic-Related Groups (MS-DRGs) is essential because they are the backbone of how hospitals get paid — and therefore how they make decisions.

DRG fluency is key for hospital administration, finance teams, and healthcare providers because they directly impact revenue and hospital care strategy.

DRG codes help calculate the national average cost to treat a patient with a specific diagnosis, and it standardizes a payment that hospitals can receive.

What is an MS-DRG?

DRGs became a widespread and essential part of the inpatient prospective payment system (IPPS) after its adoption in 1983.

Under the IPPS, Medicare payments for hospital reimbursements are made at a predetermined and standardized national rate per discharge, which is weighted based on DRG severity.

Medicare Severity Diagnostic-Related Groups, sometimes called MS-DRGs or DRGs, are a classification system that identifies standard costs and helps pay hospitals for the inpatient services they provide to Medicare patients.

In essence, this system groups the standard costs related to a specific diagnosis. These codes are used by insurers, hospitals, and the government to standardize the process of reimbursement.

Reimbursement standardization across hospitals

Brian Bodi

Director