Lecture 5 - Demand for Medical Care

Question 1

What is the Grossman model (theory of demand for medical care)

Answer 1

• people gain utility from health
• people have a stock of health which is part of their human capital
• health stock depreciates with ace
• health stock is increased via consumption of healthcare and investment of time and effort in health-promoting activities. Investment ability and efficiency depend on individual skills and knowledge which are functions of education
• consumption and investment are constrained by time, income and prices

Question 2

What is derived demand?

Answer 2

Demand for a good or service that is ultimately driven by the demand for another good or service

e.g. demand for healthcare is derived from demand for health

Question 3

What is the ability to invest time and effort in to health promoting activities dependent on?

Answer 3

Investment ability and efficiency depend on individual skills and knowledge which are functions of education

Question 4

What constrains health consumption and investment?

Answer 4

Time, income, prices

TIP

Question 5

What are Grossman’s 5 predictions?

Answer 5

1. Individuals will make investments in their health
2. Individuals with higher returns of health capital make greater investments in their health
3. If wages increase, demand for health stock will increase because the cost of a sick day has increased
4. As health stock deteriorates with age, people will spend more time investing in health
5. Education may increase demand for healthcare but because educated people are more efficient at investing in health it may reduce demand

Question 6

What is the traditional model of demand?

Answer 6

There’s an inverse relationship between price and quantity demanded. This means that as the price of a good or service increases, the quantity demanded by consumers will generally decrease, and vice versa

Question 7

What is an indifference curve?

Answer 7

Shows various combinations of goods. At any point on the curve the combination leaves the consumer satisfied

Question 8

What is the equation which represents the utility that consumers get from healthcare?

Answer 8

U = U(H, OG)

H - health
OG - other goods

Question 9

What is the equation to represent budget constraints for healthcare?

Answer 9

BC = (P_h x H) + (P_OG x OG)

P_h: price of healthcare
H: quantity of healthcare
P_OG: price of other goods
OG: quantity of other goods

Question 10

What is utility maximised on the indifference curve?

Answer 10

When the slope of the budget line = the slope of the indifference curve (they are tangental)

Consumers marginal rate of substituting one good for another is equal to their relative prices

Question 11

If income increases or price falls, what happens to the indifference curve?

Answer 11

It will get higher (move to the top right)

Question 12

What does the slope of the demand curve mean?

Answer 12

PED - how responsive people are to price

Question 13

Why is the demand for healthcare more complex than normal goods?

Answer 13

• Some people avoid using healthcare even if they need it
• People don’t get utility directly from healthcare, they get it from improved health status (derived demand)
• Some healthcare is preventative and can benefit other people (positive externalities such as vaccines)
• People don’t pay the full price of healthcare when they have insurance

Question 14

What are normal goods?

Answer 14

Normal goods are goods for which the demand increases as a consumer’s income increases. In other words, people tend to buy more of a normal good as they have more money to spend.

Question 15

What are public goods?

Answer 15

Public goods are goods or services that are non-excludable and non-rivalrous in consumption. This means:

• Non-excludable: It’s difficult or impossible to exclude people from consuming the good, even if they haven’t paid for it. Examples include clean air, national defense, or streetlights.
• Non-rivalrous: One person’s consumption of the good doesn’t diminish the availability for others to enjoy it. For instance, if you watch a public firework display, it doesn’t prevent others from enjoying the same spectacle.

Question 16

When insurance kicks in, what happens to the demand curve?

Answer 16

It increases quantity since the price is now split between insurer and insured

Question 17

Is quantity infinite under insurance care is free?

Answer 17

No because we only consume healthcare when we need to (not going to the hospital for fun when we are healthy)

Question 18

What are the 3 problems with insurance?

Answer 18

1. Asymmetric information between insurer and insured
2. Adverse selection: insured have ‘hidden characteristics’ and the insurer cannot accurately observe the characteristics of the insured. High risk are more likely to take out insurance
3. Moral hazard

Question 19

What are ex-ante and ex-post moral hazard?

Answer 19

Ex-ante: people with insurance may engage in more risky behaviour or take less preventative action

Ex-post: once ill, people with insurance might use more healthcare services

Question 20

What are 3 solutions to adverse selection?

Answer 20

1. Insurers collect more information for more accurate risk-rating
2. Offer meny of contracts where individual selects contract most suited to their risk status
3. Regulators make insurance mandatory. Requires risk adjustment mechanism so some companies don’t end up with all the high risk people.

Question 21

What was insurance like in the US before Obamacare?

Answer 21

Insurers could exclude people with ex-existing conditions or make them pay higher premiums

Question 22

What did Obamacare implement?

Answer 22

• outlawed advantageous selection
• everyone had to enrol
• everyone paid the same premium for a particular policy
• there was a tax penalty for those who did not enrol
• used community rating to the premium was the same for the entire pool

Question 23

What did Trumpcare implement?

Answer 23

• allowed insurers to charge sick people more, reintroduced risk selection
• experience rating, premium based on individuals’ risk

Question 24

Why are risk adjustment formulas often imperfect?

Answer 24

• since factors which could impact health expenditure (past utility, smoking, underlying conditions) can be poorly observed
• insurers may see characteristics of insured better than regulators which allows them to engage in cream skimming (choosing healthy low cost customers)

Question 25

What are 4 ways to prevent moral hazard?

Answer 25

1) Co-insurance (pay a proportion
2) Co-payment (pay a set amount)
3) Deductibles
4) No claims bonus

Question 26

Manning et al (1987)

Answer 26

RAND Health Insurance Experiment
- Conducted experiment to see what effect co-insurance had on medical care
- Randomly enrolled people in 6 sites in the US in 1 of 14 co-insurance plans (0, 25, 50 or 95% co insurance, with expenditure limits of 5, 10, or 15% of family incoem up to a maximum of $1k)
- Followed up after 5 years
- Per capita spending on free plan was 45% higher than those on 95% co-insurance
- Price elasticity was -0.1 to -0.2; 10% increase in co-insurance led to a 1-2% fall in healthcare demand (necessity)
- Spending on other plans lay between extremes
- User charges did not impact the quality of care received by individuals between the plans
- Poorest and sickest individuals on the free plan had better health outcomes than the poorest and sickest on other plans
- Reduced the demand for both effective and ineffective care
- People did not look for cheaper care, they just forewent care altogether
- People on the free plan were more likely to visit their GP and access hospital services
- Prices deter people from using care which may lead to increasing costs in the future and deter low-income from accessing care

Question 27

Is it more important to deal with adverse selection or moral hazard?

Answer 27

Adverse selection since reducing moral hazard can lead to people foregoing care and have negative equity implications

Question 28

How does the recent outbreak of polio connect to the concept of market failures?

Answer 28

1. Externalities: getting vaccinated results in positive externalities (herd immunity). In a market-driven system people may not take positive externalities into account leading to less vaccination
2. Information asymmetry: people mighht not know the risks and benefits of vaccines = lower vaccination rates
3. Market power (monopoly or oligopoly): less vaccine producers means lots of market power = higher prices and limited accessibility
4. Public goods: people might not want to get vaccinated because they think they can free-ride on the immunity of others

Question 29

Baicker and Finkelstein (2008)

Answer 29

Oregon Health Insurance Experiment

• limited expandion of one Medicaid program in Oregan; health insurancex program for low-income, uninsured adults who were not eligible for Medicaid
• Random lottery to enroll people in the program due to limited number of spots
• Provided comprehensive insurance coverage with no cost-sharing
• Lottery assignments increased healthcare spending, improved economic security and improved some health measures