Micro economics essay
Quynh Cao
MicroCH22Revised_Summer2014.pdf
22 The Economics of Health Care
■ Important Facts About Rising Health Care Costs in the United States
■ The Economic Implications of Rising Health Care Costs
■ The Problem of Limited Access to Health Care for Those Without Insurance
■ The Demand and Supply Factors Explaining Rising Health Care Costs
■ How Recent Legislation Has Altered the U.S. Health Care System
Learning Objectives
■ Twin Problems: Costs and Access ■ Health Care Expenditures and
Finance, 2008 Health Care
Expenditures Sources of
Funds Nursing Homes Prescription Drugs
Program Administration
Doctors Dental,
Vision, Misc.
Hospitals 9%
10%
7%
22% 21%
31%
Medicaid
Medicare
Military, Other Public Insurance
Other Private Expenditures
Copayments, Deductibles, Etc.
Private Health Insurance
33% 15%
13% 13%7%
20%
The Health Care Industry
The Health Care Industry Health Care Spending as a Percentage of GDP,
Selected Nations United States
Switzerland Germany
France Canada
Australia Italy
Japan United Kingdom
Mexico
11.5 11.1
10.1 9.9
9.3 8.4 7.9
7.7 6.2
17.3
Source: Organization for Economic Cooperation and Development
Economic Implications of Rising Costs
■ Reduced Access to Care
■ Labor Market Effects ■ Slower Wage Growth ■ Use of Part-Time and Temporary Workers ■ Outsourcing (and off-shoring) ■ Personal Bankruptcies ■ Impact on Government Budgets
■ Too Much Spending
■ Limited Access
■ The most pervasive effect of rising health care costs are the increases in the cost of premiums for employer provided insurance.
■ Also, higher out of pocket costs to workers such as increases in co-pays continue expand.
Economic Implications of Rising Costs
■ Workers’ total compensation, wages plus fringe benefits including health insurance paid by employer, generally match gains in productivity.
■ In the face of higher health care costs, firms wanting to maintain an existing level of benefits are forced to reduce the wage portion of total compensation.
■ In the long run workers bear the burden of rising health care costs with slower growing wages.
Economic Implications of Rising Costs
Slower Growing Wages
■ Higher health care costs have caused a restructuring of work forces within firms. Full-time workers with paid health insurance benefits are employed in smaller numbers, while part-time and temporary workers are employed in larger numbers.
■ Large firms with generous health care benefits are outsourcing such lower productivity jobs such as food service, custodians and grounds staff.
■ Productivity measures include value added. Such functions not directly involved in the production of the good or service create little value added whereby firms find it cost effective to outsource.
Economic Implications of Rising Costs
Use of Part-time and Temporary Workers
Economic Implications of Rising Costs
■ Less labor mobility Workers fearing loss of health care benefits are reticent about changing jobs, thereby impacting on labor mobility.
■ Higher health care costs cause some firms to take advantage of the profitability of shift work to domestic or international suppliers.
■ Lower labor costs are incurred in such situations where the outsourced firms provide lesser medical benefits to their workers.
■ Offshoring or international outsourcing has shifted jobs to such nations as China, India and Mexico. Although labor productivity is lower in these nations than in the United States, lower wages and employer provided benefits may make offshoring profitable.
Economic Implications of Rising Costs
Offshoring
■ Large uninsured medical bills are one of the largest causes of personal bankruptcy. Medical bills are often the last to be paid because there is no collateral to repossess, or property to foreclose upon.
■ Such procedures as open-heart surgery or prolonged expansive treatment for cancer can leave even the most timely paying individuals in financial difficulty.
Economic Implications of Rising Costs
Personal Bankruptcies
■ During the past two decades, spending for health-care through Medicare and Medicaid has been the fastest growing portion of federal government spending.
■ 20% of the $3.7 trillion budget for fiscal 2012 is expenditures on health. This is $754 billion. Either raising taxes or reducing spending on national defense, education, environmental programs, scientific research, etc., or borrowing are the alternatives to affording such expenditures.
■ State governments are also finding it increasingly difficult to finance their share of Medicaid costs. This has forced reductions on non- health expenditures.
■ Local governments face similar constraints in funding public health services and clinics.
Economic Implications of Rising Costs
Impact on Government Budgets
Why the Rapid Rise in Costs?
■ Peculiarities of the Health Care Market ■ Ethical and Equity Considerations
Society regard health care as an entitlement or a “right.” It is not considered unfair for a person to not afford consumer goods such as a luxury car. However, ethical question intervene in markets when decision involve quality of life or, life or death itself.
■ Asymmetric Information Unlike shopping for consumer goods where consumers can gather information and shop competitively, doctors acting as agents for the patient tell the patient what he or she needs.
Why the Rapid Rise in Costs?
■ Peculiarities of the Health Care Market
■ Positive Externalities The health care market often creates positive externalities or spillover benefits such as immunizations for influenza, as when given to one person, there is less chance of another person becoming ill due to fewer carriers.
■ Third Party Payments: Insurance Four Fifths of health care expenses are paid through public or private insurance. This reduces costs to consumers and promotes excess consumption.
The Increased Demand for Health Care ■ Rising Incomes; The role of Elasticties
■ Health care is a normal good. Increases in income increase the demand for health care. Studies suggest that the income elasticity for health care is approximately 1, meaning that per capita spending on health care rises in direct proportion to per capita income.
■ Price elasticity of demand for health care is inelastic with a coefficient of about .2 The relative insensitivity to price change results from several factors.
■ Health care is viewed to be a necessity rather than a luxury. There are few if any substitutes for health care in treating injury, infections and alleviating ailments.
■ In emergency situations, medical treatment is usually provided without regard to price consideration.
■ In general, patients seek long-term relationships with doctors and do not ”shop-around.” ■ 85 % of health care expenses are paid through private or public insurance rendering
most patients unaffected by price increases or price differences between hospitals or providers of health care.
The Increased Demand for Health Care
■ An aging Population. ■ People over age 65 accounted for 9% of the population in
1960, 12% presently and are projected to account for 20% by 2020.
■ People age 65 and older consumer 3 ½ times more health care than age 19-64 counterparts.
■ People over 84 years of age consume 2 ½ times more health care than those age 64 to 69.
■ Health care expenditures are often extraordinarily high during the last year of life.
■ In 2011, the 76 million people born between 1946 – 1964 will begin turning 65, creating a substantial surge in the demand for health care.
The Increased Demand for Health Care
■ Unhealthy Lifestyles. ■ Substance abuse drives up health care costs. Abuse of alcohol, tobacco
and illicit drugs damages health and is therefore and important component to the demand for health care.
■ Increases in traffic accidents, liver disease in the case of alcohol abuse; the increased incidence of cancer, heart disease, bronchitis and emphysema in the case of tobacco abuse; the increases in violent crime, health problems in infants, the spread of Aids in the case of the use of illicit drugs, where users contribute to hundreds of thousands of visits to emergency rooms all contribute to increased demand for healthy care.
■ Obesity and over eating and lack of exercise contribute to heart disease, diabetes, and other ailments. Obesity related medical costs are estimated to be $75 billion annually. More than half of these costs are paid through Medicare and Medicaid.
The Increased Demand for Health Care ■ The Role of Doctors; Supply-induced Demand.
Physicians may increase the demand for health care in several ways: ■ Asymmetric Information:
an information imbalance on the health care provider side regarding diagnostics (MRI) or joint replacements for example, creates a “principle agent” problem. The supplier, not the demander decides the types and amounts of health care to be consumed. This is supplier induced demand.
■ Doctors are paid “fee-for-service:” In combination with asymmetric information, doctors have the opportunity and incentive to perform more tests and procedures than absolutely necessary.
■ More surgeries are perform in the U.S. by fee-for-service than in other developed nation where doctors are paid by salary where income is not tied to the quantity of procedures.
■ More X-rays are done by doctors owning the machine than by doctors who refer patients to a radiologist.
■ Approximately 1/3 of tests and procedures done in the U.S. are inappropriate or of no additional value.
The Increased Demand for Health Care ■ The Role of Doctors; Supply-induced Demand.
Physicians may increase the demand for health care in several ways: ■ Defensive Medicine:
“Become a doctor; support a lawyer.” In today’s culture of legal accountability every patient is a potential law suit. Doctors recommend more tests and procedures than what is warranted both medically and economically in order to protect themselves. ■ Pennsylvania is among the highest awarding states for malpractice suits.
Which intern increases the price of malpractice insurance for which premiums are among the highest in Pennsylvania. This especially true in the area of Obstetrics and Gynecology.
■ Doctors recommend more tests and procedures in order to generate revenue to afford the cost of insurance.
■ Medical Ethics: Can increase the demand for health care for two reasons: ■ Doctors are ethically committed to the “best practice” techniques in order to
save their patients. ■ Public values support the idea that life should be sustained as long as
possible. This interferes with the notion of scarce resource and efficient allocation.
The Role of Health Insurance
■ The Moral Hazard Problem: The tendency of one party to alter their behavior in a manner that is costly to another party. ■ Less Prevention:
Health insurance may contribute to behaviors that require more health care. Although those with insurance are as careful as those without, some with insurance may be inclined to smoke, avoid exercise and eat unhealthy foods, knowing they have insurance.
■ Overconsumption Insured people tend to go to doctors more often and request more diagnostic tests and complex treatments than if they were paying out of pocket. After paying a deductible of co- payment, health care becomes a free good. Insurance removes the budget constraint when consuming health care.
■ Government Tax Subsidy Federal Tax Policy is that employees do not pay federal income tax on the value of their employer paid health insurance. The effect in many cases is to take more of compensation in non- taxed benefits and less in taxed wages. The rationale is that spillover benefits are created in a healthy, productive work force. Hence government encourages employer paid health insurance.
Health insurance contributes to rising cost and overconsumption.
Q
P
Q
P
0 0 D
Qu
S
Pu
D
S
Qu
Pu
Qi
Pi
a
b
c
Efficiency Loss From
Overallocation
Without Insurance With InsuranceA B
Figure a represents the market demand and supply for health care withy no insurance coverage. The rationing function of price should find the allocatively efficient quantity of health care demand and supplied, where Qu is the optimal amount. Remember that the price we are willing to pay is a reflection of the marginal benefit for the additional unit. More over, this price also reflect the marginal cost of providing the additional unit. The price paid must cover the cost of that additional unit. Figure B represents the market demand and supply of health care with insurance coverage. At some point, the additional expenditures provide less additional benefit while the additional cost increases. The increase in consumption of health care due to insurance rendering additional units less expensive to consumers causes over consumption to quantity Qi. This result in an over allocation of resources. From societies perspective, the increase in consumption increases the cost of additional units of health care, while the additional benefit to society; this causes an over allocation of expenditures to health care.
The Role of Health Insurance; A Graphical Illustration
Note carefully, this is not to suggest that there is too much health care. Rather, it suggests that the overconsumption drives up costs, thereby rendering insufficient benefit to society to justify this cost. In short, over consumption creates an inefficient allocation of resources, and expenditures which would have justifiable value elsewhere. The problem is cost control.
Supply Factors In Rising Health Care Prices
■ Number of Physicians: ■ Rising salaries in other professions, rising cost of medical training, a
significant part of which is the sophistication of medical care, and malpractice insurance have necessitated increases in doctors salaries.
■ The time involved in education, some 12 years in all, provide for a significant opportunity cost to capable individuals whom have an expectation of compensation.
■ Slow Productivity Growth: Productivity growth in most industries reduces costs and increases supply. ■ There is no improvement in mechanization available to increase the units
of health care per input used as in manufacturing.
■ There is not a brisk competition for patients sufficient to force providers of health care to reduce cost and therefore, decrease price. Moreover, with insurance covering most costs, price is not a factor in decision to choose providers. Most patients would find it discomforting to choose the lowest priced provider.
The supply of health care has increased, but at a slower rate than the increase in demand.
Supply Factors In Rising Health Care Prices
■ Changes in Medical Technology: ■ Vaccines have reduced the costs of health care by reducing the
length of treatment and reducing incidence.
■ Other technologies have increased the cost of health care. ■ New Prescriptions
The cost developing such technology is massive in the face of a limited patent period to recover costs and earn a return on investment. There is a paradox between the risk/return of private investment and the ethical institution of life saving medical technology.
■ Technology is by definition, better health care. Health care providers extend huge expenditures to provide the best technology, which changes often. Procedures must be done to generate the revenue to afford the technology.
The supply of health care has increased, but at a slower rate than the increase in demand.
Cost Containment: Altering Incentives
■ Managed Care ■ Insurance companies control and coordinate medical services in order to
reduce health care expenditures. ■ In 2009 90% of all U.S. workers received health care through managed
care plans.
■ Deductibles and Co-payments ■ Intended to alleviate overconsumption. ■ Insurance companies are dealing with rising costs by imposing sizable
deductibles and co-payments. ■ Example: Patient pays first $250 or $500 of health care expenses per
year (deductible) or and 20% of all additional costs (co-payment).
■ Two Types of Managed Care ■ Preferred Provider Organizations (PPOs) ■ Health Maintenance Organizations (HMOs)
Cost Containment: Altering Incentives
■ Preferred Provider Organizations (PPOs):
■ Physicians, hospitals, etc., who participate in the plan accept health care service fees set by the insurance company. Eventually, these health care providers are giving discounts to the patients in the plan.
■ The payment made by the PPO to the provider is accepted as full payment although the actual billed fee may be significantly higher. Normally, the patient is not responsible for the difference between the billed amount and the amount actually paid.
■ Patients are given a list of physicians and health care providers included in the network. Depending on the level of the plan, for network providers 80% to 100% of the expenses are paid by the insurance company. For out-of-network providers, insurance companies might pay 60 to 70% of expenses.
■ The lower fees paid by the insurance companies to network providers allows for reductions in insurance premiums for employers or paying individuals.
Managed Care
Cost Containment: Altering Incentives
■ Health Maintenance Organizations (HMOs):
■ HMOs provide health care coverage to a specific group of enrollees in exchange for a set annual fee.
■ The physician is essentially employed by the HMO. Physicians are hired and outside contracts are made with hospitals and other providers such as Paramedic Squads, Hospitals and rehabilitation facilities.
■ While the purpose is hold down costs, doctors may not suggest tests or surgeries because their work is monitored and they may have a fixed budget.
■ Due to fixed annual revenue, HMO may loose money if “too much” health care is provided. ■ There is an incentive to hold down costs. Excessive billing reduces doctors’
earnings. ■ There is an incentive for preventive care to hold down the expense of corrective
care.
Managed Care
Cost Containment: Altering Incentives
■ Advantages of Managed Care:
■ Health care is provided at a lower cost than traditional indemnity insurance plans.
■ Disadvantages of Managed Care:
■ A patient is usually restricted to physicians employed by, or under contract with, the managed care plan.
■ Consensus suggests that the focus of reducing cost has gone “too far,” resulting in denial of highly expensive but effective treatment.
■ Due to fixed annual revenue, HMO may loose money if “too much” health care is provided. ■ These claims have been mostly directed at HMOs where cost reducing incentive
have been greatest.
■ Given the backlash from the claim of excessive focus on reducing health care costs, today about 21% of workers receive health care from HMOs.
Managed Care
Cost Containment: Altering Incentives
■ Medicare and DRG
■ In 1983 the Federal Government altered the way it makes payments for hospital services received by Medicare patients.
■ Payment is now based on a “Diagnosis-Related-Group or DRG system.
■ Hospitals receive a fixed payment for treating each patient. This payment is based on one of the several hundred detailed diagnostic categories that best characterizes the patient’s condition and needs.
■ Prior to DRG hospitals were automatically paid for all costs relating to a patients treatment and length of stay.
■ Since DRG, hospitals have the incentive to reduce the amount of resources used in treating patients.
■ Length of stay in hospitals have been greatly reduced.
■ More patients are treated on an out-patient basis.
Managed Care
Recent Laws and Proposals
■ Prescription Drug Coverage ■ Medications have become an integral part of modern health care where,
the expense has claimed increasing part of the incomes and savings of seniors.
■ The number of seniors and their adult children has increased significantly among the voting citizenry.
■ In late 2003, the Bush administration and congress added prescription drug coverage in the face of the political realities.
■ Congress fears 2 things:
■ The IRS ■ The American Association of Retired Persons
Congress has rejected for the most part, major reforms of the health care system.
Recent Laws and Proposals
■ Medicare Part D began in 2006
■ Standard Plan 2011 ■ Enrollees pay a monthly premium all year that averages $24 per month.
■ Enrollees pay 100% of prescription drug costs up to a $310 annual deductible.
■ Then, 25% up to $2800.
■ Coverage gap (“Donut Hole”) $2801 to $4550. No coverage. Designed to hold down costs allowing 95% coverage for expenses over $3600 per year.
■ Then, Enrollees pay approximately 5% for expenses between after 4550.” Such expenses are viewed as catastrophic for retirees, particularly those living on social security.
The Medicare Prescription Drug Improvement and Modernization Act of 2003.
Recent Laws and Proposals
■ Medicare Part D began in 2006
■ The Law forbids the Federal Government from establishing a Formulary.
■ A formulary is a list of drugs covered by the private insurance policies. Although the private insurance companies may create a formulary, the government may not do so.
■ The Law forbids the Federal government to use its large oligopsony power (price setting power as a large buyer) to negotiate prices with the pharmaceutical industry.
■ The law provides subsidies to large employers to encourage them to maintain existing prescription drug coverage in the health care plan of retirees.
The Medicare Prescription Drug Improvement and Modernization Act of 2003.
Recent Laws and Proposals
■ 38 million people had signed up for the Medicare Prescription Drug Program by mid 2006.
■ At the outset, the estimated cost over the first 10 years was $400 million. ■ The cost for the first 10 years was revised to $746 million.
■ Proponents contend:
■ Medicare Part D will greatly reduce the burden of personal medical costs for millions of senior citizens.
■ Medicare Part D will significantly improve health care for seniors.
■ Critics Contend: ■ The huge added cost of the Part D program will further exacerbate the already significant under
funding problem facing Medicare in future decades.
■ Other Observers Predict: ■ The new law will drive up the already escalating drug prices by increasing the demand for
prescription drugs without controlling costs.
The Medicare Prescription Drug Improvement and Modernization Act of 2003.
Recent Laws and Proposals
■ The provision of Health Savings Accounts was also created under the 2003 Medicare Law.
■ HSAs are available to: ■ Insured workers with annual deductibles of $1000 or more; and, ■ Those who have no other first-dollar coverage.
■ Individuals can make tax-deductible contributions to HSAs, even without itemizing deductions on tax return.
■ Employers can make tax free contribution on behalf of employees if they wish.
■ Earnings in HSAs are not taxed and owner of these accounts can spend the funds on qualified medical expenses.
■ Unused funds build up from year to year and remain available for out-of pocket medical expenses.
■ Account owners can add money each year between age 55 and the year they become eligible for Medicare.
Health Savings Accounts (HSAs)
Mandatory Health Insurance
■ Beginning July 1, 2007,proof of health insurance coverage must be provided on annual tax return. Failing to have coverage invokes fines up to $1200 per year.
■ Purpose and provisions of the Law
■ Create universal health coverage for all state residents.
■ Eliminate free-riders who without coverage use medical facilities for expensive, “free” emergency care.
■ Expected to reduce health care costs by reducing the hidden surcharge to subsidize uninsured patients.
■ Purpose and Provisions of the Law
■ Expected to increase demand for employer paid heath insurance by workers, even in the face of lower cash compensation.
■ Employers not providing health insurance will be fined $295 per worker per year to help subsidize those without employer provided health care.
Massachusetts, 2007; “Pay to Stay”
Mandatory Health Insurance
■ How will the poorest among Massachusetts's 550,000 uninsured residents acquire health care coverage?
■ Subsidy and Income Redistribution in the Law.
■ $1 billion annually in state subsidies to private insurance companies that provide new policies for basic health insurance.
■ Due to state subsidies policy premiums will range between $250 per month and nothing.
■ Residents with incomes below the “poverty line” pay no premiums, but will pay small co-payments when obtaining health care.
■ Residents with incomes less than 3 times the poverty line income will pay subsidized premiums based on their income level.
Massachusetts, 2007; “Pay to Stay”
Mandatory Health Insurance
■ Proponents contend this is a feasible model for a national system of health care.
■ Combines popular concepts of personal responsibility with compassion for those in need.
■ It does not disrupt the current system of private health insurance, individual choice of physicians, and established hospitals.
■ Adverse selection problem of residents moving to bordering states to avoid the mandate would be solved by a national system. For adverse selection, citizens would have to move to a different country.
■ Critics Contend it is not a feasible model for a national system of health care:
■ Insurance providers will leave state to avoid mandates.
■ The cost-containing features of the law are “indirect and relatively weak.”
■ Universal access will drive up the demand for health care, therefore driving up the price of medical services.
■ The percentage of uninsured in Massachusetts is far lower than the percentage nationally. The cost of a similar program at the national level would be prohibitive.
Massachusetts, 2007; “Pay to Stay”
