Midterm Exam Flashcards
What is Economics?
study of how societies use scarce resources
“Use” means:
- what to produce
- what to consume
- how to allocate production
- how to distribute resources
Why Economics?
because there is scarcity, there will always be trade-offs
Why Health Economics?
arose with the demand for a better understanding of our healthcare system
Why does the US spend so much more than other countries?
- higher prices
- higher administrative costs
- higher intensity/utilization
- more expensive technology
What is a perfectly competitive market?
- full information about good or service traded (buyers & sellers)
- potential buyers have full transparency about price they will pay
- no barriers to entry/exit
- large number of buyers and sellers: no market power to affect the price
- consumers are rational
- providers will maximize profit
Is the healthcare market perfectly competitive?
Does it fulfill: full information about good or service traded (buyers or sellers)
- physicians may not agree on the diagnosis or the treatment
- imbalance in information: physicians have more information than the patient (physician-agency problem; supplier induced demand)
- patients know better than insurers how much health care they will use (adverse selection)
Is the healthcare market perfectly competitive?
Does it fulfill: potential buyers have full transparency about price they will pay
- certainly not
- even providers have little idea about how much services cost
Is the healthcare market perfectly competitive?
Does it fulfill: no barriers to entry/exit
- medical licensure (barrier)
Is the healthcare market perfectly competitive?
Does it fulfill: large number of buyers and sellers: no market power to affect the price
- some areas have few providers
Is the healthcare market perfectly competitive?
Does it fulfill: providers will maximize profit
- large role of non-profits
Opportunity Cost
the cost of the highest valued alternative one gives up at the macroeconomic, or policy level, and at the microeconomic, individual level
Examples:
- Resources used for cancer treatment are not available for autism research
- Time spent by researchers working on opioid addiction treatment cannot be spent on childhood disease research
- Time spent by a person waiting for a free flu shot could have been spent earning an hourly wage
Production Possibilities Frontier (or PPC)
- illustrates the trade-offs between two goods (or services)
- shows how choices are constrained by the fact that we cannot have everything we want
The shape of the PPC occurs because of
the law of increasing cost
one reason for the law of increasing cost is the imperfect substitutability of resources
A point outside the PPC…
will only be attainable if the stock of resources rises, a new technology is discovered, or a change occurs in economic, political, or legal arrangements that improves productive relationships in the economy
Production efficiency
is attained when the economy operates at any point on the PPC
Allocative efficiency
is attained when society chooses the best or most preferred point on the PPC
Positive economics
concerns descriptions of facts, circumstances, and relationships in economics
- what is the growth rate in medical expenditures?
- studies show that a 10% increase in income → a 10% increase in medical expenditures
Normative economics
involves value judgments and ethics - deeply held moral sentiments - no right or wrong answers - must be determined by public policy
- to what extent should government subsidize the poor with medical care?
- should raising medical expenditures in the US be controlled?
Utility Analysis
the positive slope of the utility curve indicates that an increase in a person’s stock of health directly enhances utility
the shape of the utility curve demonstrates
the law of diminishing marginal utility
each successive incremental improvement in health generates smaller and smaller increases in total utility
How might the total product curve change over time?
new medical technologies have profoundly affected all aspects of the production of health
- development of sophisticated devices
- introduction of new drugs
- application of innovative medical and surgical procedures
- use of computer-supported information systems
in general, a change in any of the other variables in the product function alters the position of the total product curve
- total product curve may shift
- total product curve may rotate
Law of demand
the inverse relationship between price and quantity demanded
as price falls, the quantity of physician services demanded rises
What are other factors that affect the demand for medical services?
income, time costs, prices of other goods (complements/substitutes), health insurance features (coinsurance, co-payments, deductibles)
An increase in demand
is represented by a rightward shift of the demand curve
A decrease in demand
is represented by a leftward shift of the demand curve
Moral Hazard
people who are insulated from risk behave differently than those who are exposed to it
with respect to insurance
- increases likelihood of purchasing medical services, ex-post
- induces higher spending in the event of an illness
- may increase risky behavior, ex-ante
hypothesis directly tested by RAND health insurance experiment
RAND Health Insurance Experiment
One of the largest randomly controlled economic experiments ever conducted
Conclusion
- 40% increase in services on a free-care plan
- yet had little or no effect on health status for the average adult
Elasticity
the percent change in the dependent variable resulting from a one percent change in the independent variable
Inelastic if E < 1
Elastic if E > 1
Unit elastic if E = 1
What are some various forms that moral hazard might take?
over time, the consumer may have less incentive to guard against the insured event (more risky behavior)
because of insurance, there may be more of a demand for expensive medical technology - the adoption of these technologies may in turn raise the cost of health insurance
insurance may lower the incentives of the consumer to monitor the quality of health care providers
insurance lowers the incentive for the consumer to price shop - less comparison shopping means less competitive pressure on providers to lower prices
Total Product Curve
initially, output rises at an increasing rate
eventually, output rises at a decreasing rate
What determines the shape of the total product curve?
the principle of diminishing returns determines the shape of the total product curve
once output begins increasing at a decreasing rate, diminishing returns have set in
In general, why do we see diminishing returns occur? But why doesn’t this matter in the long run?
because of the presence of a fixed input
but it doesn’t matter in the long run because in the long run, the quantity of all inputs can be changed
Marginal product
is the change in total output associated with a one-unit change in the variable input
marginal product is also the slope of the total product curve at any point on the curve
marginal product rises until we encounter diminishing returns and then marginal product declines
Average product
the total quantity of output divided by the level of the variable input
average product can also be measured as the slope of a ray from the origin to each point on the total product curve
Cost function
the relationship between outputs and costs
Production function
the relationship between inputs and outputs
Implicit Costs
can be thought of as the value of benefits foregone (e.g., if you take a day off to go to a museum with your cousin who is visiting)
Profit equation
total revenue - total costs
Total revenue equation
price x quantity
Marginal revenue equation
change in total revenue / change in quantity
Total cost equation
fixed costs + variable costs
Marginal cost equation
change in total cost / change in quantity
Average cost
total cost / quantity
Short-Run Total Cost Curve
first increases at a decreasing rate and then increases at an increasing rate once diminishing marginal returns set in
Short-Run Per-Unit Costs
the marginal and average product curves are directly related to the marginal and average variable cost curves
the maximum points on the marginal and average product curves correspond to the minimum points on the marginal and average variable cost curves
short-run marginal cost intersects short-run average variable cost at the minimum point on the short-run average variable cost curve
SMC and SAVC are ____ to marginal and average productivity
inversely related
Marginal costs _____ as marginal productivity increases
decline
Fixed costs
only occur in what economists define as the short run or the operating period
The long run
the period in which all costs are variable or the planning period
Hospital example (fixed costs vs. variable costs)
Fixed costs: include capital, employee salaries & benefits, and building maintenance
Variable costs: include patient care supplies, food, medications, radiographic film, and gloves
Long-Run Costs of Production
In the long-run, all inputs including capital can be changed
The long-run average total cost curve, LATC is
- derived from a series of short-run cost curves
- represented different scale of services
- “envelopes” the short run average cost curves
Most efficient point of production is the SATC that minimizes LATC
Economies of scale
means that the average cost falls as output rises
average costs fall as the medical firm becomes larger due to specialization of labor and capital
the proportional increase in total costs that would result from a proportional increase in output
occur when the proportional increase in total cost is LESS than the proportional increase in output (AC falling)
Diseconomies of scale
means that average cost rises as output rises
occur when the proportional increase in total cost is GREATER than the proportional increase in output (AC rising)
Economies of Scope
said to exist if it is possible to produce the outputs jointly in the same firm cheaper than it is to produce them separately
Competitive Markets
Many buyers and sellers
No buyer or seller can have a significant impact on price
New firms can enter the market
Noncompetitive markets
Smaller number of firms
Individual firm behavior can impact price
Single firm or monopoly
Monopolist
charges a higher price and produces less
smaller consumer surplus
larger producer surplus
smaller total surplus
deadweight loss
Monopoly is a form of market failure
Competitive Firm
charges a lower price and produces more
larger consumer surplus
smaller producer surplus
larger total surplus
no deadweight loss
How might firms (e.g. pediatricians) enter the market?
established practices begin providing pediatric services as a part of their established portfolio
established pediatric practices open offices in a new city
young physicians (after medical school) may establish their own practices
What might be the barriers to entry for these services (e.g. pediatricians)?
exclusive control over an input, sunk costs (initial investments), learning by doing/experience lower costs, limit pricing/economies of scale/ legal restrictions
