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Fifth Edition
Thomas E. GetzenTemple University and iHEA
WILEY
Preface
Acknowledgments xxv ^ ;
About the Author xxvi
Foreword xxvii
1 Choices: Money, Medicine, and Health l
Questions 1
1.1 WHAT IS ECONOMICS? 2
Terms of Trade 2
Value 3
Can We Pay Somebody to Care? 3
Financing Health Care 4
Full Cost: Paying for Medical Care 5
1.2 THE FLOW OF FUNDS 6
Health Care Spending in the United States 7
Sources of Financing 7
Health Care Providers: The Uses of Funds 10
1.3 ECONOMIC PRINCIPLES AS CONCEPTUAL TOOLS 11
Scarcity (Budget Constraints) 12
Opportunity Cost 12
Willingness to Pay 12
Trade 12
Money Flows in a Circle 12
The Margin: What Matters? 13
Maximization: Marginal Costs and Marginal Benefits 13
Choice: Are Benefits Greater than Costs? 13
Investment 13
Contracts: Complex Exchanges to Deal with Timing and Risk 14
Organizations Adapt and Evolve 14
Distribution: Who Gets What 14
1.4 HEALTH DISPARITIES 15
1.5 WHOSE CHOICES: PERSONAL, GROUP, OR PUBLIC? 16
I X
X CONTENTS
1.6 SOCIAL SCIENCE AND RATIONAL CHOICE THEORY 18
Suggestions for Further Reading 19Summary 19Problems 20Endnotes 21
2 Demand and Supply 23Questions 23
2.1 THE DEMAND CURVE 23
The Diamonds-Water Paradox: An Example ofMarginal Analysis 24
Consumer Surplus: Marginal versus Average Value
of Medicine 25
Ceteris Paribus 27
Individual, Firm, and Market Demand Curves 27
2.2 THE SUPPLY CURVE 27
Marginal Revenue 28
2.3 PRICE SENSITIVITY 28
Price Elasticity and Marginal Revenue 30
Price Discrimination 31
2.4 IS MONEY THE ONLY PRICE? 32
2.5 INPUTS AND PRODUCTION FUNCTIONS 33
Production Functions 33
Marginal Productivity 33
2.6 MARKETS: THE INTERSECTION OF DEMAND AND SUPPLY 34
2.7 NEED VERSUS DEMAND 35
How Much is a Doctor Visit Worth? 36
The Demand for Medical Care is Derived Demand 37
The Demand for Health: What Makes Medical Care Different 37
2.8 DETERMINANTS OF HEALTH 38
2.9 EFFICIENCY 38Suggestions for Further Reading 40
Summary 40
Problems 42
Endnotes 43
3 Cost-Benefit and Cost-Effectiveness Analysis 44Questions 44
3.1 COST-BENEFIT ANALYSIS IS ABOUT MAKING CHOICES 45
An Everyday Example: Knee Injury 45
Stepwise Choices: Yes or No? How Much? 48
CONTENTS xi
Calculating Marginal and Average Costs 49
Defining Marginal: What Is the Decision? 50
3.2 MAXIMIZATION: FINDING THE OPTIMUM 54
Declining Marginal Benefits 55
Optimization: Maximum Net Benefits 55
Expected Value 56
3.3 THE VALUE OF LIFE 57
3.4 QUALITY-ADJUSTED LIFE YEARS (QALYs) 59
Discounting Over Time .. 60
QALY League Tables 60
3.5 PERSPECTIVES: PATIENT, PROVIDER, PAYER, GOVERNMENT,SOCIETY 62
Distribution: Whose Costs and Whose Benefits? 62
CBA and Public Policy Decision Making 63
CBA Is a Limited Perspective 63Suggestions for Further Reading 64
Summary 64
Problems 65
Endnotes 67
Health Insurance: Financing Medical Care 69Questions 69
4.1 METHODS FOR COVERING RISKS 69
Savings 70
Family and Friends 70
Charity 70
Private Market Insurance Contracts 71
Social Insurance 71
Strengths and Weaknesses of Different Formsof Risk Spreading 72
4.2 INSURANCE: THIRD-PARTY PAYMENT 73
Why Third-Party Payment? 73
Variability 75
Third-Party Transactions 75
Who Pays? How Much? 76
How Are Benefits Determined? 77
4.3 RISK AVERSION 78
4.4 ADVERSE SELECTION 79
4.5 MORAL HAZARD 81
Welfare Losses Due to Moral Hazard 83
Ex Ante Moral Hazard 85
xii CONTENTS
4.6 TAX BENEFITS 85
4.7 EFFECTS OF HEALTH INSURANCE ON LABOR MARKETS 86
4.8 HISTORY OF HEALTH INSURANCE 87
Suggestions for Further Reading 89Summary 90Problems 91Endnotes 93
5 Insurance Contracts and Managed Care 96Questions 96
5.1 SOURCES OF INSURANCE 96
Employer-Based Group Health Insurance 97
Medicare 98
Medicaid 100
State Children's Health Insurance Program 100
Other Government Programs and Charity 100
The Uninsured 100
5.2 CONTRACTING AND PAYMENTS 101
Insurance Companies are Financial Intermediaries 101
Risk Bearing: From Fixed Premiums to Self-Insurance 101
Purchasing Medical Care For Groups 102
Medical Loss Ratios 103
Claim Processing 104
The Underwriting Cycle 104
ERISA, Taxes, and Mandated Benefits 105
Other People's Money: Rising Costs and Mediocre Results 106
5.3 CONSUMER-DRIVEN HEALTH PLANS: HIGH DEDUCTIBLES ANDHEALTH SAVINGS ACCOUNTS 108
Defined Contribution Health Plans 109
5.4 MANAGED CARE 109
Closed-Panel Group Practice HMOs 109
IPA-HMOs and Open Contracts 110
Managed Care Contract Provisions 111
The Range of Managed Care Contracts: POS, PPO, HMO 113
Management: The Distinctive Feature of Managed Care 114
Provider Networks and Legal Structure 114
Contractual Reforms to Control Costs 116
5.5 UNRESOLVED ISSUES: SPLIT INCENTIVES,DIVIDED LOYALTIES 117
Suggestions for Further Reading 118
Summary 119
CONTENTS Xlli
Problems 120
Endnotes 122
6 Physicians 124Questions 124
6.1 FINANCING PHYSICIAN SERVICES: REVENUES 124
Copayments, Assignment, and Balance Billing 128
Physician Payment in Managed Care Plans 129
Incentives: Why Differences-in the Type of Payment Matter 130
A Progression: From Prices to Reimbursement
Mechanisms 130
6.2 PHYSICIAN INCOMES 131
6.3 PHYSICIAN FINANCING: EXPENSES 132
Physician Practice Expenses 132
The Labor versus Leisure Choice 133
The Doctor's Workshop and Unpaid Hospital Inputs 134
Malpractice 135
6.4 THE MEDICAL TRANSACTION 135
Asymmetric Information 136
Agency: Whose Choices? 1366.5 UNCERTAINTY 136
6.6 LICENSURE: QUALITY OR PROFITS? 137
How Does Licensure Increase Physician Profits? 138
Supply and Demand Response in Licensed versus UnlicensedProfessions 139
How Does Licensure Improve Quality? 140
A Test of the Quality Hypothesis: Strong versusWeak Licensure 140
Suggestions for Further Reading 141Summary 142Problems 143Endnotes 144 ;
7 Medical Education, Organization, and Business Practices 146Questions 146
7.1 MEDICAL EDUCATION 146
7.2 THE ORIGINS OF LICENSURE AND LINKAGE TO MEDICALEDUCATION 147
AMA Controls over Physician Supply, 1930-1965 148Breaking the Contract: The Great Medical StudentExpansion of 1970-1980 149
xiv CONTENTS
Building Pressure: Fixed Domestic GraduationRates, 1980-2010 151
7.3 ADJUSTING PHYSICIAN SUPPLY 151
The Flow of New Entrants and the Stock of Physicians 151
Immigration of International Medical Graduates 152
Growth in Non-MD Physicians 152
• Balancing Supply and Incomes: Tracing the Past and Projecting theFuture 152
7.4 GROUP PRACTICE: HOW ORGANIZATION AND TECHNOLOGYAFFECT TRANSACTIONS 153"
7.5 KICKBACKS, SELF-DEALING, AND SIDE PAYMENTS 156
7.6 PRICE DISCRIMINATION 157
7.7 PRACTICE VARIATIONS 159
7.8 INSURANCE, PRICE COMPETITION, AND THE STRUCTURE OFMEDICAL MARKETS 161
7.9 CHOICES B YAND FOR PHYSICIANS 164Suggestions for Further Reading 165
Summary 165
Problems 166
Endnotes 169
8 Hospitals 172Questions 172
8.1 FROM CHARITABLE INSTITUTIONS TO CORPORATE CHAINS:DEVELOPMENT OF THE MODERN HOSPITAL 172
8.2 HOSPITAL FINANCING: REVENUES 173
Sources of Revenues 175
8.3 HOSPITAL FINANCING: EXPENSES 180
8.4 FINANCIAL MANAGEMENT AND COST SHIFTING 180
8.5 HOW DO HOSPITALS COMPETE? 181
Competing for Patients 182
Competing for Physicians 182
Competing for Contracts 183
Measuring Competitive Success 184
Measuring the Competitiveness of Markets 184
8.6 ORGANIZATION: WHO CONTROLS THE HOSPITALAND FOR WHAT ENDS? 185
Suggestions for Further Reading 186
Summary 186
Problems 188
Endnotes 189
CONTENTS XV
9 Management and Regulation of Hospital Costs 191
Questions 191
9.1 WHY DO SOME HOSPITALS COST MORE THAN OTHERS? 191
9.2 HOW MANAGEMENT CONTROLS COSTS 192
Short-Run versus Long-Run Cost Functions 192
Uncertainty and Budgeting 194
9.3 CONFLICT BETWEEN ECONOMIC THEORY AND ACCOUNTINGMEASURES OF PER UNIT COST 196
Timing 196 '
Whose Costs? 198
9.4 ECONOMIES OF SCALE 199
The Hospital Is a Multiproduct Firm 200
Contracting Out 200
9.5 QUALITY AND COST 200
Technology: Cutting Costs or Enhancing Quality? 200
Improved Efficiency May Raise Total Spending 201
9.6 HOSPITAL CHARGES, COSTS, AND PRICES: CONFUSION ANDCHAOS 202
Chargemaster and Negotiated Fees 202
Cost Finding: Gross Revenues and the RCCAC 203
Medicare as a Standard for Pricing 203
9.7 CONTROLLING HOSPITAL COSTS THROUGHREGULATION 204
Suggestions for Further Reading 208
Summary 208.
Problems 209
Endnotes 210
10 Long-Term Care 212
Questions 212
10.1 DEVELOPMENT OF THE LONG-TERM CARE MARKET 213
10.2 AGE AND HEALTH CARE SPENDING 214
10.3 DEFINING LTC: TYPES OF CARE 216
10.4 MEDICAID: NURSING HOMES AS A TWO-PART MARKET 218
10.5 CERTIFICATE OF NEED: WHOSE NEEDS? 221
Money and Quality 221
Competing for Certificates of Need, Not for Patients 222
Evidence on the Effects of Certificates of Need 222 !
10.6 COST CONTROL BY SUBSTITUTION 223
10.7 CASE-MIX REIMBURSEMENT 224
xvi CONTENTS
10.8 LONG-TERM CARE INSURANCE 226
Is Long-Term Care "Medical"? 226
10.9 RETIREMENT, ASSISTED LIVING, AND THEWEALTHY ELDERLY 227
10.10 FINANCIAL REIMBURSEMENT CYCLES 229Suggestions for Further Reading 231Summary 232Problems 233Endnotes 234
11 Pharmaceuticals 236Questions 236
11.1 PHARMACEUTICAL REVENUES: SOURCESOF FINANCING 237
Inpatient Pharmaceuticals 238
11.2 USES OF FUNDS 239
Retail Pharmacies 239
Wholesalers 240
Insurance Companies and PBMs 240
Pharmaceutical Firms 241
Cost Structure 242
11.3 HISTORYoAND REGULATION OF PHARMACEUTICALS 242
11.4 RESEARCH AND DEVELOPMENT 246
11.5 PHARMACOECONOMICS AND TECHNOLOGY ASSESSMENT 248
11.6 INDUSTRY STRUCTURE AND COMPETITION 249
Value, Cost, and Marketing 250
The Role of Middlemen: Distribution versus Marketing 251
Research Productivity 253Suggestions for Further Reading 255Summary 255Problems 256Endnotes 257
12 Financing and Ownership of Health Care Providers 259Questions 259
12.1 WHAT IS FINANCING? 260
12.2 VALUE AND RATE OF RETURN 260 ,
The Time Value of Money 260
Interest Rates and Present Value 261
IRR: The Internal Rate of Return 262
Human Capital: Medical Education as an Investment 264
CONTENTS xvii
Risk 265
Valuing Assets 267
12.3 UNCORRELATED (INDEPENDENT) AND CORRELATED (SYSTEM)RISKS 268
Which Is Riskier: Nursing Homes or Drug Companies? 269
Assessing Business Risk 269
12.4 OWNERSHIP AND AGENCY 270
Equity and Debt 271
Who Owns the Business? Who Owns the Patient? Agency Issues 272
The Role of Financial Intermediaries 273
12.5 CAPITAL FINANCING: HOSPITALS 274
12.6 HMO OWNERSHIP AND CAPITAL MARKETS: SUCCESSAND FAILURE 277
Business Risks for an HMO 277
Kaiser Health Plan: The Evolution of an HMO 277
Group Health Association: A Consumer Co-op Gets Bought Out by aFranchise Chain 280
12.7 ENTREPRENEURSHIP AND PROFITS 280
U.S. Healthcare: A Profitable Growth Company 281 ".
12.8 HEALH CARE FOR PROFIT, OR NOT 283
Differences Between For-Profit and Nonprofit Behavior 285Charity Care: For Real or for Show? 285For-Profit or Not-for-Profit: Which is Better? 285Medical Care is Difficult: Risk, Information Asymmetry,
Social Justice 286Suggestions for Further Reading 287
Summary 287
Problems 288Endnotes 289
13 Macroeconomics of Medical Care 292
Questions 292
13.1 WHAT IS MACRO? 292
Micro and Macro Perspectives on Spending 293
13.2 THE CONSUMPTION FUNCTION 294
The Permanent Income Hypothesis 296
Shared Income 296
Public and Private Decisions 298
Budget Constraints: Borders that Matter 298
13.3 ADJUSTING TO CHANGE: DYNAMICS 299
Permanent Income and Adjustment of Health Spending to GDP 301
xviii CONTENTS
Adjustment to Inflation 302
Adjustment to GDP: Rates of Change and TimeSeries Analysis 304
13.4 FORECASTING FUTURE HEALTH EXPENDITURES 306
13.5 COST CONTROLS: SPENDING GAPS AND THE PUSHTO REGULATE 307
Capacity Constraints and Budget Constraints 309
13.6 WORKFORCE DYNAMICS: "SPENDING" IS MOSTLY LABOR 309
Employment 309 v
Wages 312 .
Suggestions for Further Reading 314
Summary 315
Problems 315
Endnotes 317
14 The Role of Government and Public Goods 319Questions 319
14.1 THE ROLES OF GOVERNMENT 320
Markets are Perfectly Efficient, but Only with Perfect
Competition 320
Government in a Mixed Economy 321
How Government Works 321
The Voluntary Sector 322
Government is Necessary, and Costly 322
Markets are Costly, Limited, and Always Regulated 32314.2 GOVERNMENT HEALTH FINANCING 323
14.3 LAW AND ORDER 325
14.4 PUBLIC GOODS AND EXTERNALITIES 326
Privatizing Public Goods 327
Insurance Makes Any Good More Public 327
Externalities 327
The Coase Theorem: Transaction Costs and Property Rights 328
14.5 MONOPOLY AND MARKET FAILURE 328
14.6 INFORMATION 330
Rational Consumer Ignorance 331
Social Costs Depend on the Number of People 331
Milk or Bread: Which Is More Public? 332
Infectious Disease Externalities 333
Epidemics 333
The Sanitary Revolution: A Moral Campaign forPublic Health 334
Formation of the U.S. Public Health Service 335 .
CONTENTS XIX
14.7 DRUGS, SEX, AND WAR: PUBLIC HEALTH IN ACTION 335
Addiction 336
Sexual Behavior 336
Who Counts as a Citizen? Abortion and Other Dilemmas 336
War and Public Health 337
14.8 POLITICS, REGULATION, AND COMPETITION 338
Politicians: Entrepreneurs Who Try to Get Votes 338
Government as the Citizen's Agerit 339
Public Goods Make Almost Everybody Better OffBut Nobody Happy 341Winners and Losers 341
14.9 TRUST, CARE, AND DISTRIBUTION 341Suggestions for Further Reading 343Summary 343Problems 344Endnotes 346
15 History, Demography, and the Growth of Modern Medicine 347Questions 347
15.1 ECONOMIC GROWTH HAS DETERMINED THE SHAPE OF HEALTHCARE 347
15.2 BIRTH RATES, DEATH RATES, AND POPULATION GROWTH 348
15.3 THE STONE AGE 348
15.4 THE AGRICULTURAL AGE 349
Investment and Trade 349
Civilization, War, and Government 350
The Decline of Civilizations Leads to Population Declines 351
The Plague 351
Food Supply Determines Population 352
The Rise of Economics 352
The Malthusian Hypothesis 353
15.5 THE INDUSTRIAL AGE 354
Why Malthus Was Wrong 354
Demographic Transition 355
Demographic Change, Income Distribution, and the Rise of theMiddle Classes 357
15.6 THE INFORMATION AGE 358
15.7 INCOME AND HEALTH 359
15.8 REDUCING UNCERTAINTY: THE VALUE OF LIFE AND ECONOMICSECURITY 361
The Value of Risk Reduction 361
Social Security and Health Insurance 362
XX CONTENTS
15.9 THE RISE OF MODERN MEDICINE 363
Preconditions for Change 363
The Growth of Medical Science and Technology 363
Did Better Medical Care Increase Life Expectancy? 365Suggestions for Further Reading 366Summary 366
Problems 368Endnotes 369
16 International Comparisons of Health andHealth Expenditures 372Questions 372
16.1 WIDE DIFFERENCES AMONG NATIONS 372
Size of the Market 374
16.2 MICRO VERSUS MACRO ALLOCATION: HEALTH AS A NATIONALLUXURY GOOD 375
16.3 CAUSALITY: DOES MORE SPENDING IMPROVE HEALTH? 377
16.4 LOW-INCOME COUNTRIES 378
Health Care in Ghana 379
Sudan 382
16.5 MIDDLE-INCOME COUNTRIES 383
China 384
The Health Care System of Mexico 388
Poland 389
16.6 HIGH-INCOME COUNTRIES 391
Health Care in Japan 392
The Health System in Germany 395 •
The Expensive Exception: The United States 399
16.7 INTERNATIONAL TRADE IN HEALTH CARE 401
People and Ideas 402
Services 402
Equipment 402
Pharmaceuticals 403Suggestions for Further Reading 404
Summary 404
Problems 405
Endnotes 406
17 Economic Evaluation of Health Policy: The Patient Protectionand Affordable Care Act of 2010 408Questions 408
17.1 PPACA 2010: DESCRIPTION OF MAIN ELEMENTS 409
Coverage Rules 410
CONTENTS xx i
State Health Insurance Exchanges 411
Individuals 412
Employers: Positive and Negative Incentives to Provide Benefits 413
Medicare: ACOs, IPAB, Bundled Payments, and the Donut Hole 414
Medicaid: Major Expansions with Federal Funding 415
Prevention and Other Provisions of PPACA 415
Still Uninsured: The Undocumented and Some Other
Outsiders 416 ,
17.2 STATEMENT OF THE PROBLEM: AFFORDABILITY 416
Rising Costs Slowly Create a Crisis 416
The Middle Class Gets Stretched: A Leveraged Gap in Coverage 417
Macro Affordability: The Growth Gap 418
17.3 USING EXISTING PLANS AS MODELS 419
States 419
The Federal Employees Health Benefits Plan 419
17.4 UNRESOLVED ISSUES 420
Equity 420
Defining Essential Benefits 421
The OPM Legacy: Third-Party Payment and Cost Shifting' 421
Price Transparency: A Conspiracy of Silence 421
The Uninsured: Still There, Still Have to be Paid For 422
i Unfunded Health and Retirement Benefits 422
Defined Benefits, Defined Services, or Defined Contribution 423
Who Bears the Risk? 423Suggestions for Further Reading 424
Summary 424
Problems 425
Endnotes 425,
l 8 Value for Money in the Future of Health Care 427Questions 427
18.1 FORCING THE QUESTION: WHO GETS HEALTHY AND WHO GETSPAID? 427
18.2 SPENDING MONEY OR PRODUCING HEALTH? 429
18.3 DYNAMIC EFFICIENCY 430
18.4 DISTRIBUTION, DISTRIBUTION, DISTRIBUTION 432
18.5 PATH DEPENDENCE AND THE POSSIBILITIES FOR REFORM 433
How Did We Get Here? 433
What Did Medicine Miss? 434
What Went Wrong? Notable Failures and UnresolvedDilemmas 434
18.6 THE PATH FORWARD: STEP BY STEP 436
XXU CONTENTS
18.7 THE SHAPE OF HEALTH CARE SPENDING TO COME 437
18.8 THE LONG RUN: 2050 AND BEYOND 438Suggestions for Further Reading 439Summary 439Problems 440Endnotes 441
Glossary 443
Index 453
