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Presentation Outline
I. II.
a. b. c. d. e.
Introduction: Scope and Methods A Survey of the Special Characteristics of the Medical-Care Market
The nature of demand Expected behavior of physician Product uncertainty Supply conditions Pricing practices
III.
a. b. c. d.
IV.
a. b. c. d.
I.
Focus on medical care industry not health Focus on the way the operation of medical-care industry and the efficacy with which it satisfies the needs of society differ from the norm.
1. Introduction
The interest in the competitive model stems partly from its presumed descriptive power and partly from its implications for economic efficiency.
Arrow argues that institutional organization and observable practices of the medical profession should also be included
Competitive Markets
Three conditions need to be satisfied The existence of a competitive equilibrium The marketability of all goods and services relevant to costs and utilities Non-increasing returns The first two conditions ensure that the competitive equilibrium is optimal The third condition states that every optimal competitive equilibrium corresponds to some distribution of income
This is clearly not practical. Therefore collective intervention occurs either a subsidy, tax or compensation
Information as a Commodity
If information is a commodity then There is a cost to producing it There is a cost to making it available Therefore it will not be uniformly distributed across the entire population but rather concentrated amongst those who can profit from it Note that we are actually buying information from health providers they have the knowledge and skills to deal with health problems Therefore information departs from the usual marketability assumptions about other commodities
Information as a Commodity
Arrow mentions that one form of knowledge is research Knowledge tends to be increasingly used once it is available It is used over and over without being consumed Cost of reproduction is much less than the cost of production Therefore either a free enterprise economy will under invest in research or patents will restrict access to it
Failure of Preconditions
When one or more of the preconditions does not hold it means There will be a failure to reach Pareto Optimality This means that there will be a loss in welfare Society if it recognizes this problem will take actions to redress it Action typically will tend to be nonmarket social institutions trying to bridge this welfare loss gap
C. Product uncertainty
Uncertainty as to the quality of the product Recovery from disease is as unpredictable as its incidence The uncertainty is very different on the two sides of the transaction
D. Supply Conditions
Entry to the profession is restricted by licensing (USMLE is only one example) The cost of medical education in the US is a reflection of the quality standards imposed by AMA. Both licensing laws and standards of medical-school training have limited possibilities of alternative qualities of medical care.
E. Pricing Practices
Extensive price discrimination by income Formerly, strong insistence on fee-forservices as against alternatives as prepayment. Problems of implicit and explicit pricefixing. Price competition is not welcome
Important to keep in mind that this was the situation when Arrow wrote the paper
B. Increasing returns
Hospitals show increasing returns to scale up to a point Problems associated with increasing returns play some role in allocation of resources---- particularly in low density and low income areas.
C. Entry
Most striking departure from competitive behavior is restriction on entry to the field. Why entry restrictions important:
Additional entrants would be, in general, of low quality? To achieve genuinely competitive conditions, it would be necessary not only to remove numerical restrictions but also to remove subsidy in medical education. To some extent, the effect of making tuition carry the full cost education will be to create too few entrants, rather than too many
C. Entry
If entry were governed by ideal competitive conditions, it may be that the quantity on balance would be increased, though this conclusion is not obvious. Entry restrictions exclude many imperfect substitutes for physicians.
C. Entry
In the competitive model without uncertainty, consumers are presumed to be able to distinguish qualities of commodities they buy. Under this hypothesis, licensing would exclude those from whom consumers would not buy anyway; but it might exclude too many.
D. Pricing
Pricing practices part sharply from competitive norms Not only is price discrimination incompatible with the competitive model, but its preservation in the face of a large number of physicians is equivalent to a collective monopoly
D. Pricing
Price discrimination is designed to maximize profits along the lines of discriminating monopoly Organized medical opposition to pre-payment was motivated by desire to protect these profits.
Arrow is not convinced that there is sufficient evidence for this in reality. Price-discrimination by income in the extreme case of charity for example shows that social and ethical factors should be considered
Resistance to pre-payment is also because of its relation to closed-panel plans where the physician assumes the risks.
D. Pricing
Price discrimination, for whatever cause, is a source of non-optimality:
Hypothetically, it means that everyone would be better off if prices were made equal for all, and the rich compensated the poor for the changes in relative positions. The importance of this welfare loss depends on the actual amount of discrimination and on the elasticities of demand for medical services by different income groups.
A. Introduction
The loss due to illness is only partially the cost of medical care. It consists of:
Discomfort Loss of productivity Possibly death or prolonged deprivation of normal function
From the point of view the welfare economics of uncertainty, both losses are risks against which individuals would like to insure. The nonexistence of suitable insurance policies for either risk implies a loss of welfare.
C. Problems of insurance
1. Moral hazard 2. Alternative methods of insurance payment. Three main methods:
Prepayment Indemnities according to a fixed schedule Insurance against costs, whatever they may be In a hypothetically perfect market, these 3 forms would be equivalent but in reality they do not work in health insurance market easily
C. Problems of insurance
3. Third-party control over payments: Provider and patient moral hazard shows itself here 4. Administrative costs - There are several types of operating costs such as commissions and acquisition costs and selling costs. - Not only does this mean that insurance policies must be sold for considerably more than actuarial value, but it also means there is a great differential among different types of insurance - Expenses constitute 51.6% of total premium for individual policies vs. 9.5% for group policies. - This implies economies of scale. A strong case for widespread plans, including in particular compulsory ones (think of a huge social insurance pool)
C. Problems of insurance
5. Predictability and insurance
From the risk aversion point of view, insurance is more valuable, the greater the uncertainty in the risk being insured against.
2. Ideal insurance
This will involve insurance against a failure to benefit from medical care
Consequences of the information asymmetry: - The physician cannot act, or at least appear to act, as if he is profiting maximizing his income at every moment of the time. - The patient must delegate to the physician much of his freedom of choice