eco question

Health Economics ECON 5860 PROF. KURT LAVETTI

THE HOSPITAL INDUSTRY

History of hospitals

 19th century hospitals played much smaller role in healthcare  Higher mortality rates in the hospital than at home

 Improved technology in early 20th century increased importance of hospitals for delivery of healthcare

 In 1946, the Hill-Burton Act increased hospital construction  Congress gave money for building hospitals under the

condition that hospitals had to provide free/low cost care to the poor

 1965 introduction of Medicare & Medicaid further increased demand for hospital care and construction of hospitals

Finkelstein (2007): Trends in Hospital employment and capacity

4

Medicare and Medicaid introduced in 1965, greatly increased demand for hospital care

Health Expenditures at Hospitals : 1970-2013

Select Spending Categories

1970 1985 2005 2013

$B %NHE

$B %NHE

$B %NHE

$B %NHE

Hospitals $27.60 $165.40 $611.60 $936.90 36.80% 37.60% 30.80% 32.31%

Physicians $14.00 $89.80 $421.20 $586.70 18.70% 20.40% 21.20% 20.23%

Pharmaceuticals $5.50 $21.10 $200.70 $271.10 7.30% 4.80% 10.10% 9.35%

Administrative $2.80 $25.60 $143 Not

Available3.70% 5.80% 7.20% Home Health / Nursing Homes

$4.30 $37.30 $169.30 $235.60 5.70% 8.50% 8.50% 8.12%

Total NHE $74.90 $439.90 $1,987.70 $2,900.00

COMPETITION IN HOSPITAL MARKET MARKETS

Differentiated product oligopoly

 Hospital industry is a differentiated product oligopoly  Strict barriers to entry

 Buildings, technology, staff, administration, etc.  Few firms (oligopoly)

 Services provided by each firm are not perfect substitutes (differentiated products)

 A common measure of the level of competition in hospital markets is the Herfindahl-Hirschman Index  HHI = ∑ si2

 si = market share for a firm  If HHI closer to 1 means few firms in the market (highly concentrated)  If HHI closer to 0 means a large number of firms in the market

Differentiated product oligopoly  Industry has a fairly high HHI, and strong trend towards

increasing concentration in recent decades

 More recent data:

Lots of evidence that increases in hospital concentration cause higher prices

Limited competition

Not just due to barriers to entry. Also:

 Because of insurance, Prices not transparent Moral hazard for insured patients

 Government often sets prices  Emergency nature of health care means

that patients are unable to search for the “best” and “cheapest” hospital

What do prices really mean?

 Many different prices used in hospitals  List prices for every procedure, somewhat arbitrary prices with tons of

variation

 Every private insurer negotiates a different price with every hospital

 Medicare and Medicaid also set their own prices  No such thing as a single “price” per unit

What do prices really mean?

 How do negotiated prices relate to list prices?

 Uninsured patients are often charged the much higher list price, then get hassled by collection companies (or declare bankruptcy) when they can’t pay

 Hospitals end up collecting similar rate of revenue from these patients as they get from Medicare, but usually through legal means

Is hospital competition good for patients?  Lots of empirical research about the effect of hospital

competition on patient outcomes: mixed findings and different policy implications  Generally find that more competition in hospital markets reduces

negotiated prices with insurers  What about competition for Medicare patients, where prices are

fixed by the government?  Compete on quality when price-competition is not an option

 Kessler and McClellan (2000) find that more competitive hospital markets have lower prices and lower patient mortality

 UK is a good setting, changed policy in 2000 to allow hospitals to have more autonomy to compete and improve quality

 Cooper et al 2011 find after this policy change there were big reductions in mortality rates for heart attacks in the most competitive hospital markets

Non-Profit Firms in Healthcare • Non-profits account for only 5% of overall GDP, but about 70% of hospitals (by capacity)

• Usually in economics supply and demand are based on profit and utility maximization

•What happens if profit is not the primary objective?

• Usual view of non-profit is a charity that runs on donations, but only 3% of revenue at non-profit hospitals comes from donations

• Non-profits are exempt from paying income, property, and sales tax in the US, but usually have to justify tax exemption by providing some public/charitable service

• Non-profits also receive donations that are tax-deductible to donors

Why do nonprofits exist?

Theories for nonprofit existence

1. Altruistic-motive theory  Some entrepreneurs prefer altruism over profits

2. Government-failure theory  Politics ineffectively help those in need

3. Asymmetric information  Donors trust nonprofits more with money

4. Nonprofits are for-profits in disguise  “profits” are distributed as higher wages or non-monetary

benefits

15Why Do Non-Profits Exist? •If private hospitals will always enter a market whenever it is profitable, why would we ever need non-profit hospitals?

•Horowitz (2005): for-profit hospitals focus on certain types of procedures that are profitable, but don’t cover all procedures

•Nonprofits can serve a unique purpose when quality is difficult to evaluate

•If quality if hard to observe, non-profit status may signal that the firm sets prices equal to marginal cost

•Donations can make entering a market feasible for non- profits even if for-profits would not enter

Lots of Theories, What do the Data Say?

• In terms of quality, bottom line is there is basically no difference between non-profit and for-profit

•Sloan et al (1998) find no difference

•McClellan and Staiger (1999) find higher mortality rates in for- profit hospitals, but estimates vary a lot in different areas

•Several other studies find slight quality advantages in non- profits, but difficult to say anything conclusive with available data

Who pays for uncompensated care?

Ultimately, someone has to pay for uncompensated care.

Uncompensated care: hospital charges not covered by out-of- pocket payments, public insurance, or private insurance.

Last-resort laws mandate that hospitals treat all patients who enter their emergency rooms.

What happens when a patient lacks the resources and insurance to pay for this care?

Lots of Theories, What do the Data Say?

•In terms of charity care, also no clear difference on average

•Norton and Staiger find that within any given market non- profits and for-profits provide the same amount of charity care

•Non-profits may still choose locations differently, may be more likely to locate in poorer underserved areas making it difficult to compare if there are no for-profit hospitals in the area

Horowitz (2005): Making Profits and Providing Care

• Common view that non-profit hospitals should justify tax- exemption by providing charitable care for uninsured and low- income

• Horowitz hypothesizes that for-profit hospitals choose different services to offer than non-profit hospitals

• If true, charitable care is an incomplete measure of how valuable non-profit hospitals are

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• Data from the American Hospital Association Annual Survey of Hospitals from 1988-2000

•Roughly 2/3 of hospitals are nonprofit, 1/6 for-profit, 1/6 government

•Research design: • Collect data on profitability of each procedure performed by

hospitals

• Typically hospitals lose money on some things and make money on others, so there’s a lot of cross-subsidization across procedures

• Not a good economic reason for this, often due to Medicare setting rates that are not market based, and private insurance using Medicare prices as a benchmark when negotiating prices

• Test whether for-profit hospitals only choose to offer profitable procedures, while non-profit or government hospitals offer procedures that tend to lose money

Horowitz (2005): Making Profits and Providing Care

21Profitability Differences by Procedure

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• BASIC STATISTICAL MODEL: 𝑃𝑃𝑃𝑃𝑃𝑃𝑃𝑃𝑖𝑖𝑖𝑖𝑖𝑖 = 𝛼𝛼 + 𝛽𝛽1 ∗ 𝑃𝑃𝑜𝑜𝑜𝑜𝑜𝑜𝑃𝑃𝑖𝑖 + 𝛽𝛽2 ∗ 𝑌𝑌𝑜𝑜𝑌𝑌𝑃𝑃𝑖𝑖 + 𝛽𝛽3 ∗ 𝑃𝑃𝑜𝑜𝑜𝑜𝑜𝑜𝑃𝑃𝑖𝑖 ∗ 𝑌𝑌𝑜𝑜𝑌𝑌𝑃𝑃𝑖𝑖 + 𝜀𝜀𝑖𝑖𝑖𝑖𝑖𝑖

• WHERE PROC IS 1 IF THE HOSPITAL J PERFORMS PROCEDURE I IN YEAR T, AND 0 OTHERWISE (PROBIT MODEL)

• OWNERJ IS A VECTOR OF DUMMY VARIABLES INDICATING IF THE HOSPITAL IS NON-PROFIT OR FOR-PROFIT

• YEART IS A SET OF DUMMY VARIABLES, ONE FOR EACH YEAR IN THE DATA

• COEFFICIENTS 𝛽𝛽1 TELLS YOU WHETHER THERE IS A SIGNIFICANT DIFFERENCE, ON AVERAGE, IN THE PROBABILITY THAT A NON-PROFIT HOSPITAL PROVIDES A CERTAIN PROCEDURE

• 𝛽𝛽3 TELLS YOU WHETHER THE DIFFERENCE CHANGED OVER TIME

23 Estimates for Open-Heart Surgery (Profitable)

• For-profit hospitals were about 7 percentage points more likely to offer procedure than non-profits, and about 13 percentage points more likely than government hospitals

24 Estimates for Emergency Psychiatric Services (Unprofitable)

• For-profit hospitals were about 8 percentage points less likely to offer procedure than non-profits, and about 15 percentage points less likely than government hospitals

Horowitz (2005): Making Profits and Providing Care

• One type of care that’s really well-suited for answering this question is home health care

• In 1980s Medicare switched payment rules in a way that made home health care more profitable

• From 1986-1998 home health visits grew by 15.6% every year

• In 1997 payment rules were changed again, and home health care became unprofitable

• Question: did non-profit and for-profit hospitals react differently to these changes in reimbursement from Medicare?

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• Initially, government and non-profits more than twice as likely to offer home health care as for-profits

• When reimbursements increase, probability of offering triples among for-profits • When reimbursements fall again probability of offering by for-profits falls 37.5% in

one year, and by about 70% over 9 years • Non-profits and government hospitals don’t change much during timeframe

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• Overall results:

• Profitable procedures: • For-profits are significantly more likely than government hospitals to

offer procedure for 12/17 procedures • Significantly less likely for 0/17 procedures

• Unprofitable procedures: • For-profits are significantly more likely than government hospitals to

offer procedure for 1/17procedures • Significantly less likely for 11/17 procedures

28Horowitz (2005): Conclusions • Government hospitals are the most likely to supply unprofitable services, which are disproportionately used by poor and uninsured patients • Non-profits appear to act like intermediaries, somewhere between for-profit and government hospitals

•Suggests incentives are a blend of the bottom-line and serving the poor/uninsured

•Horowitz suggests that in evaluating whether a non-profit hospital should be able to keep tax- exempt status need to also consider case-mix

THE PRODUCTION OF HEALTH

Outline: Production of Health

 Health Production Function  Theory: Think back to Grossman Model  Inputs: Empirical Evidence  Historical view  Changes in Health Production Today

Marginal Product of Health Care

H = Q (M, Z) H = Health M = Medical Care Services Z = Other Inputs (Income, Education, Environment, Nutrition, Behavior)

• As we spend more on health care inputs the marginal product decreases

• What happens to this curve when we invest in new medical technology?

32Marginal Health Product

• The “marginal health product” is the change in health (or health status) for an incremental change in an input.

• MHP is equal to the slope of the health production function

• Given that US spending on healthcare is about $2.9 Trillion per year, economists and policymakers are very interested in this measure of efficiency • In 1995 healthcare spending was $1 trillion, is the extra

$1.9 trillion per year worth it?

Are We on the Flat of the Curve? Recent Evidence

 Murphy and Topel (2006) study improvements in health and reductions in mortality since 1900

Are We on the Flat of the Curve? Recent Evidence

 During the 20th century life expectancy increased by about 29 years for men and 32 years for women  The value of this increase in life expectancy is worth about

$1.2 million per person in 2000  Gains since 1970 alone are worth $3.2 Trillion per year, or

50% of GDP (at the time)  Total net value of health improvements between 1970-

2000 was $61 Trillion  Example: a 1% reduction in cancer mortality is worth $500

billion in the US alone  Suggests the marginal product of medical care is still high even

though we buy a lot of it

Many Determinants of Health

Factors via Health Care System • Supply of MDs,

Nurses, Hospitals, etc.

• Access to care

• Quality / Quantity of medical care

Other Factors that influence health • Sanitation

• Nutrition/Diet

• Immunizations

• Antibiotics

• Education

• Income/Poverty

• Public Safety

• Lifestyle choices

HC

Historical Role of Health Care

 How did past health care investments affect mortality  Was the change in mortality really due to medicine?

Source: Fogel, Robert. CDR=Crude Death Rate, measured as total deaths per 1,000 people

Source: Cutler and Meara 2001

US Mortality Rates

Source: Hall and Jones 2007

US Life Expectancy

What Caused Mortality Declines?

Was it Really Medicine?

Alternative Explanation: Nutrition

 Better nutrition  improved health  Technology allowed increased caloric production

beginning in the mid-19th century (Robert Fogel)  Can’t measure nutrition precisely in historical data  look at height  Evidence that height of teenagers increased as

wages increased during industrial revolution

Source: Fogel, et al. NBER WP 890

Public Health and Health Improvement

 Arguments that public health has driven demographic transition since the industrial revolution

 Improvements in sanitation, environment and treatment for communicable diseases

 Question of timing relative to mortality declines

46Public Health: Example John Snow and the Broad Street Pump Handle: Cholera in London (1850s)

The Beginning of Epidemiology

Source: http://www.cdc.gov/mmwr/preview/mmwrhtml/mm4829a1.htm

US Public Health and Infectious Disease Deaths

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Income and Health (Country Level)

Source: Angus Deaton (NBER, 2004); Note: Circular areas reflect relative population sizes

50 Education and Health (Country Level)

Source: Cutler and Lleras-Muney (NBER, 2006)

51Education and Health

Debate about the causal pathway  Education  Health (Direct)  Education  Income  Health (Indirect)  Education  Lifestyle  Health (Indirect)  Ability  Education and Income  Health  Life Expectancy  Education  …several other potential pathways