PPHC 06: Health (Health Economics I) – Why is healthcare different?

Question 1

Describe the relationship between scarcity, choices, and opportunity cost.

Answer 1

• we have limited resources, which we call SCARCITY
• we have lots of alternative uses of resources, but scarcity forces us to make CHOICES
• every time we make a choice between alternatives, there is an OPPORTUNITY COST

Question 2

Describe the concept of supply and demand.

Answer 2

the price we pay for something depends on how many people want it (demand) and how much is available and for sale (supply)

• when demand is low and supply is high – prices will decrease
• when demand is high and supply is low – prices will increase

Question 3

Describe demand curves.

Answer 3

x: quantity
y: price

• as prices decrease, demand increases – people are more likely to buy at lower prices
• (arrow going up from right to left)

Question 4

Describe supply curves.

Answer 4

x: quantity
y: price

• as prices increase, supply increases – producers want to maximize profits
• (arrow going up from left to right)

Question 5

What is equilibrium (Q*)?

Answer 5

quantity of a good or service supplied equals the quantity demanded at a particular price

Question 6

What does equilibrium (Q*) determine?

Answer 6

the market price and quantity of goods sold – ensures that resources are allocated efficiently

Question 7

What is equilibrium quantity?

Answer 7

how much we should produce – where demand and supply curves intersect

Q* = Qd = Qs

Question 8

What is equilibrium price?

Answer 8

what price it should be sold at – where demand and supply curves intersect

P*

Question 9

What is allocative efficiency?

Answer 9

producing the combination of goods/services that aligns with the value

• A: people who value a good at or above the market price get it
• B: people who value a good below the market price do not get it

Question 10

What is allocation based on in a market system?

Answer 10

the price you are willing (and able) to pay

Question 11

What is technical efficiency?

Answer 11

producing the maximum output from a given set of inputs, using resources in the most effective way possible without wasting any

• about productivity, not cost or allocation
• see notes for graph/curve

Question 12

Technical Efficiency

At what price do suppliers sell something? How could they lower these prices?

Answer 12

(see notes for graph/curve)

• sell at price P* because it covers the cost of making a product and gives them a profit (it is worthwhile)
• if they realize they could make the same amount of products with fewer inputs or make more products with the same amount of inputs, they can lower prices to P1 by being more technically efficient – then other suppliers have to match to survive
• supply curve shifts right

Question 13

Technical Efficiency

What happens when the price falls below the price that some people are willing and able to pay?

Answer 13

(see notes for graph/curve)

• more people get the product (Q1)
• all things being equal, this is good – fewer people go without because they are unwilling or unable to pay
• supply curve shifts right

Question 14

What do markets tell us?

Answer 14

• how much to make (equilibrium quantity)
• what price to sell at (equilibrium price)
• who gets it (who is willing and able to pay) – allocative efficiency
• forces prices to be as low as possible so more people can get it – technical efficiency

Question 15

What are the 5 important conditions needed for markets to work well?

Answer 15

• no barriers to entry or exit
• no monopoly power
• availability of perfect information
• no externalities
• no special public interest objectives

Question 16

1. No Barriers to Entry or Exit

What does ‘no barriers to entry’ mean?

Answer 16

new suppliers should be able to enter the market easily (ie. start to supply) if they think they can make a profit

• want this to promote, competition, innovation, and efficiency

Question 17

1. No Barriers to Entry or Exit

What does ‘no barriers to exit’ mean?

Answer 17

suppliers should be able to exit the market (ie. stop supply) without facing significant financial or regulatory penalties

• want inefficient firms to leave, and resources to be reallocated to more productive uses

Question 18

1. No Barriers to Entry or Exit

What is the overarching purpose of this condition?

Answer 18

want to promote competition and efficiency

Question 19

1. No Barriers to Entry or Exit

What are some examples of how healthcare violates this condition?

Answer 19

• developing new pharmaceuticals involves significant investment, making it difficult for new entrants (no barriers to entry)
• pharmaceutical companies may be locked into long-term contracts with insurers making it costly to exit the market (no barriers to exit)

Question 20

2. No Monopoly Power

What does ‘no monopoly power’ mean?

Answer 20

no single firm controls a significant portion of the market for a particular good or service

• avoids allowing single firms to influence prices, output levels, and overall market conditions
• monopoly power can lead to inefficiencies in the market, such as reduced consumer choice and higher prices

Question 21

2. No Monopoly Power

What are some examples of how healthcare violates this condition?

Answer 21

• large hospital systems dominate specific geographic areas
• pharmaceutical companies hold patents for their drugs, allowing them to set high prices without competition

Question 22

Barriers to Entry/Exit vs. No Monopoly Power

What do these conditions have in common?

Answer 22

all about promoting competition

Question 23

Barriers to Entry/Exit vs. No Monopoly Power

Answer 23

monopoly power focuses on market control by individual firms

• individual firm behaviour – do they have too much power (maybe through buying up all their competitors)
• can allow them to influence prices (set price above equilibrium, restrict output) and consumer choice

no barriers to entry/exit is about the ease of market participation for any firms

• market characteristic – is there something about the product that prevents competition from happening

Question 24

3. Availability of Perfect Information

What is transparency?

Answer 24

are buyers and sellers able to access complete and accurate information about the products, prices, and alternatives

• allows for rational decision-making and fair pricing

Question 25

3. Availability of Perfect Information

What is ‘no information asymmetry’?

Answer 25

if either suppliers or buyers have more information than the other (ie. sellers know more about a product’s defects than buyers), it can lead to problems

• are you able to decide what you need or do you need help
• can you decide what you should pay for it/how much you value it
• can you work out what is high-quality and low-quality

Question 26

3. Availability of Perfect Information

What are some examples of how healthcare violates this condition?

Answer 26

• patients can face unclear and variable pricing for medical services, leading to unexpected medical bills (transparency)
• patients often lack medical knowledge needed to understand their conditions and treatment options – rely on healthcare providers for information (no information asymmetry)

Question 27

4. No Externalities

What is an externality?

Answer 27

consequence of an economic activity affecting third parties who did not choose to be involved in that activity (ie. not the buyer or seller)

Question 28

4. No Externalities

What is a positive externality?

Answer 28

actions of buyers or sellers provide benefits to others (third parties), which are not reflected in the market price

• this can mean that demand for beneficial goods and services is lower than it should be because suppliers do not receive adequate compensation for the benefits they provide to others
• government subsidies or incentives may be introduced to encourage more supply in these cases

Question 29

4. No Externalities

What is a negative externality?

Answer 29

actions of buyers or sellers provide costs to others (third parties), which are not reflected in the market price

• this can mean we supply too many harmful goods or services because suppliers do not account for the external costs in the prices they set (remember – higher prices would reduce demand)
• needs regulatory measures such as taxes or fines to internalize these costs

Question 30

4. No Externalities

What are some examples of how healthcare violates this condition?

Answer 30

• through vaccination, people protect themselves and help reduce the spread of disease by providing her immunity to others (positive externality)
• time pressure/expectation can lead doctors to prescribe unnecessary medications leading to issues like antibiotic resistance or the opioid epidemic (negative externality)

Question 31

5. No Special Public Interest Objectives

What is this condition?

Answer 31

if there are no special public interest objectives in a market, we focus just on profit maximization and efficiency, and the implications are:

• consumers make choices only on price and quality, not ethical considerations or social implications
• products and services are allocated based on supply and demand dynamics without consideration for equitable access or distribution – ie. if you can afford it, you can get it (otherwise you don’t)
• minimal government intervention, market forces (supply and demand) dictate outcomes

Question 32

5. No Special Public Interest Objectives

What are some examples of how healthcare violates this condition?

Answer 32

• universal access – individuals have access to essential health services
• Canada Health Act – all eligible Canadians have reasonable access to medically necessary hospital and physician services, without charge

Question 33

Does healthcare rely on markets?

Answer 33

NO – not always

• have government intervention (healthcare system and health technology)

Question 34

Why doesn’t healthcare rely on markets?

Answer 34

fails all 5 main conditions

• failing one of the 5 main conditions is not unique – it is the combination of failing all of them together that makes healthcare special

Question 35

What is market failure?

Answer 35

occurs when allocation of products and services by a free market is not efficient

• key features are not met, which promote allocative and technical efficiency
• information about fair value to suppliers and consumers is distorted
• failures justify government interventions to improve efficiency and welfare, such as regulations, taxes, subsidies, or provision of public goods (ie. healthcare)