Midterm - Lectures 1-7 Flashcards
Consumer’s Choice
Every point on a plane is a bundle that the consumer could buy
What are the two steps to consumer choice?
1) What bundles can the consumer afford? (Establish the budget set)
2) Of the bundles the consumer can afford, which does she prefer? (Create utility function)
Budget Set
(PQ1)+(PQ2)
What is a utility function?
a rule assigning numbers to bundles such that if x is preferred to y, U(x)>U(y) where U= utility function.
What do utility functions NOT take into account?
magnitude
What is an indifference curve?
Its a curve where all the bundle combinations have the same utility
What are the assumptions of indifference curves?
Assumes a rational consumer, and it assumes that prferences (and thus indifference curves) do not change.
Even though along a given indifference curve we are indiffiernt, what indifference curve do we always prefer?
The one farthest from the origin that is still on our budget set; is tanglet to the budget set.
What do we aim to achieve in our budget set choice?
we aim to maximize utility - aka aim for constrained maximization
What is the peltzman effect?
when people adjust their behavior to a regulation in a way that counteracts its intended effect.
It may not completely erase the effect, but it could reduce its impact.
In the budget set, what happens if the price of one item changes?
her budget set - and thus choice - will shift, even though her indifference curves (and thus preferences) do not change… you have to maximize your utility based upon your constraints.
Crowd out
When governmental intervention crowds out the private purchase of goods. It involves consumers switching from privately purchased goods to publically purchased goods.
What must policy makers budget for concerning crowd out?
Policy makers must budget for individuals who will opt into government programs due to crowd out - this makes governmental programs expensive.
Opportunity Cost
The value of the next forgone alternative use (the next best use of that resource).
“On the margin”
At each “Unit” or increment there is a decision whether or not to consume based upon the benefit/cost to you.
its the point at which you become indifferent/determine overconsumption
Competitive Market
Many consumers and many producers who are price takers
Law of demand
if price increases then consumption decreases (downward sloping).
If people are richer, shift right
If people are poorer shift left.
How do you get a market demand curve?
Take individual demand curves and aggregate them up to the market demand curve –> its summed consumption vs price added horizontally.
A competitve Firm is 2 things
a price taker
a profit maximizer
Profit =
(pricequantity) - (costquantity)
Fixed costs
are independent of quantity produced
Variable costs
change based upon the quanitity produced
Average costs
total costs/quantity produced
i.e. the more units, the smaller the cost per unit
Marginal Costs:
The additional cost of producing onem ore unit - isnt necessarily linear.
Firms want to maximize profits at the margin - they will continue to produce until price = marginal cost, at which point the cost would be greater than the price to produce the next item, and the firm would lose money
Economies of Scale
Firms enjoy lower costs as quantities increase (when marginal costs
What happens when marginal costs intersect average costs?
you hit diseconomies of scale, where costs have to increase to meet demand (i.e. more employees, factories, etc.).
Law of supply
Supply curves slopes “sup”
If cheaper/easier to produce, shift right
if harder to produce/more expensive, shift left
Competitive Equilibrium
No one looking to buy a product can’t find it; no one looking to sell a product cant sell it.
happens naturally without governmental intervention.
prices transmit info; as prices increase consumers may consume less and/or shift to another product.
What happens when a price ceiling is put on food?
A shortage can be created (bc quantity produced at that price is less than the quanitity demanded at that price).
Who wins in price ceilings?
consumers who can find food
Who loses with price ceilings
producers
consumers who cannot find food
may lead to a misallocation problem.
Economic Rents
Profits made by keeping out the competition
Rent Seeking Behavior
when suppliers attempt to Use government power to keep out competition (i.e. bar exam, taxi medallions, nurse practicioners as pcp’s).
Externalilty
a transaction where a third party is affected
can be positive or negative.
when these exist, if the government does not intervene, there will be inefficiencies.
Free market & externalities
the private market will not work without government intervention when it comes to externaltities.
What do negative externalities sans gov’t intervention lead to?
overproduciton
What do positive externalities sans gov’t intevention lead to?
underproduction
public goods
1) are non-rival in consumption (person a’s use does not affect person b’s use)
2) are non-excludable (its difficult to keep others from enjoying the good).
If externalities are negative, which direction does government intervention shift the supply curve?
to the left!
What are government inteventions to avoid over production in the case of negative externalities?
pigouvian tasxes
Quanity quotas
Cap & Trade
Pigouvian Tax:
lower the market price through a tax… producers are allowed to produce as many units as they want, they just have to give the government a cut of the income.
Ways for government to intevene in the case of positive externalities (to make up for under production)?
subsidies
quantity regulation
when you’re only allowed to produce a certain amount due to negative externalities/gov’t intervention
Cap & Trade
How the government regulates firms that produce pollution… they create “pollution vouchers” for the amount they’re allowed to pollute, and the firms can trade these vouchers in a new market with one another.
Positive Externalities:
vaccines –> herd immunity
autopsy –> discovery of new diseases, learn how disease affects body, new surgical techniques, performance of new treatments.
Knowledge –> public good, we can all benefit
Negative Externalties
car size - smog car size - dangerous in accidents econimic epidemiology --> self-limiting incentive effects of epidemics; rationale for individuals to sop prevention efforts when disease risk becomes rare --> feedback loop antibiotics --> resistance tobacco
Behavioral economics
are economics keeping in mind human irrationality
internalities
individuals ignore fugture costs ot their future self….need high taxes on items like this to make them internalize the costs.
paternalism
people are utility maximizers, not health maximizers
Exploiting defualt bias
asymmetric paternalism; libertarian paternalism. have the default choice be the healthy choice.
Uncertainty
Difference in well-being between two different states in the world.
Probability something will occur =
1 - the probability that something will not occur
Expected Value =
the weighted average of all possible outcomes
prob1outcome1)+(prob2outcome2
Expected Utility
a different way of modeling how people make decisions… on average, how much utility will they have?
Utility curve says
the wealthier you are, the happier you are
Diminishing Marginal Utility
at any increasing point on the curve, your marginal utility increase is less.
losing money leads to a greater loss in utility than an equivalent gain in the opposite direction.
Expected Utility Calculation
E(U insured) = [prob(sick)(wealth if healthy - money lost if sick - premium + reimbursement from insurance)]+ [prob(healthy)(wealth if healthy - premium)]
if you have a higher likelihood of being sick, you have more to lose if?
you dont have insurance.
if you have a higher likelihood of being healthy, you have more to lose if
you do have insurance –> this is why people may not purchase insurance if they’re young/healthy and think they dont have a lot to gain.
what exemplifies a more risk-adverse person… a more curved utility curve or a less curved utlity curve?
a more curved utility curve.
there are two factors in the insurance decision
your risk-aversion propensity
your patient type
Calculation for an Insurer’s expected profits
E[profits] = probability(sick)(premium-benefits)+probability(healthy)premium
what must take place for insurance to be considered “acturarially fair”?
the expected profits must equal zero
who do insurers want to increase premiums for?
high risk/sick
who do insureres make their money on?
healthy/low risk
who susbsidzes who in health care?
healthy subsidize the sick
Law of Large Numbers
the more you pull from a distribution, the more likely you are to get the average –> its easier to forecast HC costs for a big pool than a small one.
What is community rating?
when everyoen in a community has to get the same premium.
with mixed risk groups, it “evens out” the premiums, but the young pay more than is actuarially fair to subsidize the risk of the old
Calculation for an actuarially fair premium with community rating constructs
0 = [(proportion of group * probability of sickness *(premium-benefits))+(proportion of group * probability of healthy * premium)] + [(proportion of group * probability of sickness *(premium-benefits))+(proportion of group * probability of healthy * premium)]
Problems with Health Insurance
Moral Hazard Adverse Selection Reclassification Risk Job Lock Good Samaritan Problem Tax Subsidy Counterparty Risk
Reclassification Risk
aka premium risk. if you get sick, you will be reclassified midyear, and experience a big premium jump at next year sign up…since you can only sign up for one year at a clip
Job Lock
Given that insurance is tied to employment, people wont leave their jobs even if they’d be happier to do so just to keep their insurance.
good samaritan problem
when you don’t buy health insurance because you know someone will take care of you when you get sick
tax subsidy
health insurance benefits are not taxed, and so it effectively makes it a cheaper good than others leading to overconsumption
counterparty risk
mostly with long term care - when you are worried that the other party might not be there when you need to call down on the contract.
Moral Hazard
Hidden Action
Asymmetric Information
one side of the transaction knows more than the other
How do you deal with moral hazard problems?
financial incentives.
health insurance premium
monthly payment for coverage
Cost-sharing mechanisms
copay
deductible
coinsurance rate
copay
the amount you pay in tandem with the insurance company to utilize care
deductible
the amout you have to pay upfront before your insurance kicks in
coinsurance rate
% paid by the insurer (the individual pays x%, and the insurer pays y% up until z amount of spending, after which the insurer will cover everything).
Elasticity
How sensitive people are to a change in price (accounts for different units).
Price elasticity of demand
% change in quanitity resulting from a % change in price.
% change in Qty/% change in price
perfectly inelastic
price elasticity of demand of zero
purchase quanitity does not change even if price changes
think insulin for diabetics
perfectly elastic
price elasticity of demand of infinity
purchase quantity varies drastically as price changes
i.e. copper in chile (vs copper elsewhere) - no one craves copper in chile!
price elasticity of demand of wine in US
-.64
price elasticity of demand of wine in france
-.06
much closer to perfectly inelastic!
Ex-Ante Moral Hazard
before uncertainty is resolved (i.e. neither side knows if you’ll get sick when you enter the transaction)
hidden action: insurer sells insurance but doesn tknow if insuree is acting properly before the event.
deductibles can give you skin in the game so you care more ex-ante.
most economists think ex-ante is not an issue because no one wants to act in a way that makes them feel sick.
Ex-Post Moral Hazard
after the uncertainty has been resolved (i.e. abuse of health insurance)
hidden action = overconsumption
overly generous plans shield people from the true cost of healthcare.
colution = copays, deductibles.
Demand for health care is how re: elasticity?
is not perfectly inelastic
if it were perfectly inelastic, there wouldnt be over consumption because people would consume the same amount no matter what.
Optimal insurance balanes two forces
moral hazard
risk protection
Evidence for Moral Hazard
RAND HIE
Studies showing a shift in coverage impacts care (tal’s regression discontinuity between parental coverage and non coverage/medicaid lottery)
4 things to remember from RAND HIE
1) Free care leads to increased use of care
2) Cost sharing cuts back on both effective and ineffective care utilization
3) on average no one was hurt by cost sharing
4) however at-risk individuals did experience a reduction in health due to cost sharing.
Why do conservatives like rand hie/
cost-sharing reduces consumption without hurting anyone
what do conservatives miss when they say they like rand hie?
everyone cut back on care, at risk people were hurt, and elderly were not taken into account in the study population.
what is the price elasticity of demand for health care?
-0.2
solutions to moral hazared
van halen and brown m&m’s
3 Problems to solutions to moral hazard problems?
the offset effect,
the multi-tasking problem
strategic delay
Offset Effect
as cost-sharing increases, the healthcare savings today is partially offset by hospitalization increasing later on.
see a drop in prescriptions filled, drop in number of doc visits, but can see an increase in hospitalizations.
its a trade off - overall there are still cost savings, but its the high risk people who drive the offset effect.
what constituency drives the offset effect?
the high risk individuals
policy implication for offset effect?
Value-Based INsurance Design (VBID)
lower copays for effective care, higher copays for wasteful care, lower copays for high risk people.
Issues: adverse selection
multi-tasking problem
the problem may be more complex than we assume - too much focus on one hidden action may lead you to miss something you also care about. Incentives can have an unintended consequence.
i.e. - if you reward teachers for good test performance, they’ll only focus on test material and ignore the rest
strategic delay
consumers will hold off on consuming care until its cheapest - i.e. dental cavity refill in January.
Adverse Selection
A type of asymmetric information - Hidden Type
Lemon issue
the market doesnt work - good car sellers wont sell at prices that people will buy at for risk of getting a lemon –> market falls apart.
Outcomes of Lemons if the Government is involved
government regulates the market because there is asymmetric information
lemon laws (selections for sellers) Licensing for sellers
Outcomes of Lemons if Government is not involved
other mechanisms can be put in place to protect against lemons
guarantees/contracts (i.e.e money back guarantee if lemon)
carfacts.com (info to fill gaps)
reputation (i.e. reviews on ebay)
Applications to Health Insurance for Lemon Situation
a health insurance lemon is someone who is very sick and is therefore expensive/drainign the insurance pool.
Insurer doesnt know if hte client is going to be a lemon when they sign up for a policy.
Death Spiral
As premiums keep increasing to cover expensive customers, the less costly people drop out. The premiums in turn continue increasing to cover costs of a smaller pool of expensive clients, leading to a death spiral as one by one the marginally most healthy clients leave.
What can lead to death spirals in healthcare?
people ahve private info on their health; the highest risk types want insurance the most.
3 Adverse Selection Types
1) Implicit Tax - ACA
2) Across plan adverse selection/cream skimming
3) Medicare Advantage
Implicit Tax in the ACA
the ACA gives everyone healthcare, but your subsidies reduce the more money you make. Therefore the implicit tax could mean that people choose to make less money to keep their healthcare.
Across Plan Adverse Selection/Cream Skimming
Insurers are incentivized to cut certain types of care to save money… by selectively cutting offerings they can keep sicker people from certain plans.
Governmental role: mandate certain coverage to make sure plans dont cut things to get rid of certain types
new type of cream skimming
using fit bits to get healthier people!
why is VBID complicated?
its not sure if plans are making changes in favor of vbid or if they’re doing it to cream skim.
Medicare Advantage issues with Adverse Selection
can also lead to cream skimming . by offering bad plans for sick people, can take advantage of gov’t payout since the payment is based on average health…even within quintiles of health.
issue is private sector observes more than government!
What can the government do to limit death spiral situations?
experience rating
enforce community rating
pre-existing conditions
what is missing: 2+3+mandate
experience rating
premiums higher for higher risk peope –> leads to equity issues (as prem’s up for those who need the most care).
Community rating –> how does employment of this affect death spirals?
makes it worse because the lower risk/cheaper patients (if not mandated) will drop out due to not being allowed to pay actuarily fair premiums.
Pre-existing conditions
similar issues as experience rating. alone this doesnt address actuarially fair premiums, because sickest would be forced to pay the most –> issues with equity.
What does the ACA do to deal with adverse selection?
enforces community rating plus pre-existing conditions and a mandate
the individual mandate can actually lower some premiums, and solves the good samaritan problem.
What are the 5 problems with the individual mandate?
Compliance High Cost to Low Risk Patients Legal Implicit Taxation Expensive as leads to increased (and probably over) consumption
Compliance and the ACA mandate
how do you make everyone buy in? can fine peoiple but often that hurts the middle class that we’re trying to help.
Cost and the ACA
low risk people end up paying more than is actuarially fair.
Legality and the ACA
it has been proven legal, but its a slippery slope toward paternalism
Implicit taxation and the aca
unintended consequence of some people working less to increase their subsidy.
Expensive care and the aca
the more you give people care, the more they’ll consume.
3 reasons of Evidence for adverse selection in h.c.
people ahve private info
high risk types want insurance the most
death spirals
Physical Capital
resources you can use to make money
capital stock
physical capital you have
return on capital
what you get back from assets
Human capital
apply physical capital model to people –> your skills you can use to make money.
How do you invest in human capital?
education; historically increase income by 7% for each additional year of school
who invented the idea of health capital
grossman in 1972
what is health capital
stock of health-related wellness.
how do you invest in health capital
you can exercise, take medicine
what happens when health capital is depreciated?
your health gets worse.
What do humans care about under the grossman model?
you care about your health, not your health capital.
Health vs. Health Capital Relationship
you invest in health capital to increase your health
what is the nature of the Grossman Health Production Function?
it has diminishing returns… as you increase your health capital, you get a smaller marginal increase in health for each additional unit of health capital. Its capped by 365 healthy days in the year.
Derivative of Grossman Health Production Function represents
the return on investment for health capital
what does the roi for health capital graph look like?
a downward sloping line.
what does education do to the ROI for health capital graph?
it shifts it to the right. grossman thinks this is evidence for a causal relationship between health and education.
why does grossman say that people are utility maximizers, not health maximizers?
as there is a constant cost to any investment, rational people decide to stop investing in health when their ROI = the cost (so when the curve crosses the cost line). People decide how healthy to be, even if its not as healthy as possible.
why does grossman assume that education increases the roi?
maybe more educated people know more about health
maybe they’re better able to follow a physician’s instructions.
How does Victor Fuchs disagree with Grossman
says grossman confuses correlation with causation. its a 3rd variable that impacts education and health that causes this increase in both. attitude, gumption, persistance.
proof of third variable theory?
marshmellow test
national merit scholarship regression discontinuity design.
young mother regression discontinuity design. 1
who is correct, grossman or fuchs?
fuchs.
