317_L18, Feb 15, 2008, J. Schaafsma 1 Review of the Last Lecture Finished our discussion of insurance as a source of market failure in the HC market Also discussed the case for public health insurance rather than private. Today discuss the second source of market failure in the Healthcare sector => externalities

317_L18, Feb 15, 2008, J. Schaafsma 2 V.3. Second Source of Failure in The Healthcare Market: Externalities Have noted that there are three sources of market failure in the health care market: insurance, externalities, information asymmetry Have finished our discussion of insurance as a source of market failure. We also noted that the health insurance market (as distinct of the healthcare market) is also subject to market failure, and that there is thus scope for public insurance. today begin our discussion of the second source of market failure in the healthcare market (NB not the health Insurance Market): externalities.

317_L18, Feb 15, 2008, J. Schaafsma 3 Positive Externalities Diagram and the Role of Subsidies positive externalities and market failure: SMB = (PMB + EMB) > PMC when P = PMC (see diagram) the role of a subsidy to achieve efficient output (see diagram) If EMB is large and PMB is modest may need to “bribe” consumers to reach socially efficient output (see diagram). Example? can also have negative externalities and market failure (e.g., pollution): impose a tax to achieve efficient output (won’t discuss) in general, efficiency requires SMB = SMC, or in absence of externalities, PMB = PMC ///

317_L18, Feb 15, 2008, J. Schaafsma 4 Relevance of Identifying the Source of the HC Externality It is generally agreed that there is an externality in the consumption of healthcare This externality motivates society to help pay for the healthcare people consume however, society is willing to pay for only some types of healthcare, not for all types. Question is: why? Reason: the nature of the externality determines what we will pay for we thus need to carefully articulate the nature of the externality in the consumption of healthcare.

317_L18, Feb 15, 2008, J. Schaafsma 5 Two Possible Reasons for the Externality in HC Consumption. two possible reasons for the externality from HC consumption: 1. Selfishness 2. Altruism i) Utility specific altruism ii) HS specific altruism iii) HC need specific altruism a) self-expressed HC need b) paternalistic (third-party assessed HC need)

317_L18, Feb 15, 2008, J. Schaafsma 6 Selfish Externalities here no concern about well-being of others only concern  fear of contagion this is not the source of our interest in HC needs of others REASONS: 1.Only small fraction of the HC we help others acquire is for contagious diseases 2. would deal with contagion through quarantine if less costly. ///

317_L18, Feb 15, 2008, J. Schaafsma 7 The Basic Source of the Externality in HC Consumption: HC is a need. HC often described as a “need” not a”want” want (is a subjective concept)  determined by income, prices and tastes; no ethical imperative that others should help a person satisfy his/her wants HC need  relays 2 messages: 1. Objective, not subjective  HC requirement can be objectively verified by a qualified third party (three parties: patient, taxpayer, HC provider), i.e., HS  if HC consumed 2. Ethical imperative  need imposes a moral obligation on others to supply the technically required HC, Health is a basic human right ///

317_L18, Feb 15, 2008, J. Schaafsma 8 Altruistic Externalities: Utility Specific (all needs create an externality, poor HS is a need) A’s level of satisfaction depends in part on B’s level of satisfaction  if B better off for whatever reason, then A better off, cet. par. interdependent utility functions where U B affects U A : U A = U[X 1, … X n, HC A, HS A (HC A ); U B ] EXPLAIN Inadequate explanation of the externality: if correct  subsidize B whenever U B drops, generally don’t  should transfer wealth to B, let B max U, we don’t! ///

317_L18, Feb 15, 2008, J. Schaafsma 9 Altruistic Externalities: HS Specific (there is an externality only of the  in utility is due to a  in HS) if the externality isn’t from U B affecting U A, when U B changes for whatever reason, perhaps it derives from changes in U B due to changes in HS B only. U A = U[X 1, … X n, HC A, HS A (HC A ); U B (HS B )] EXPLAIN not the reason for the externality  we don’t necessarily act if U B  due to HS B . If HS B  and there is no HC to address it we don’t transfer wealth to compensate for the loss of utility ///

317_L18, Feb 15, 2008, J. Schaafsma 10 Altruistic Externalities: self- expressed HC Specific is the externality driven by a person’s self expressed HC needs? person is ill, and we feel good if that person can access the HC the person feels is required. NOT QUITE the source of the externality  we are not willing to pay for whatever HC B feels might help improve his/her HS we only feel obligated to B if we (society) believe the HC will make a demonstrable difference to B’s HS. ///

317_L18, Feb 15, 2008, J. Schaafsma 11 HC Specific Paternalistic Altruism source of the externality in HC  society believes that there is HC that will make a difference to a person’s HS and feels good if the person can access it. only feel obligated to help person access HC we believe will make a difference  altruism based on paternalistic assessment of HC needs. approved HC a merit good Merit good: a private good that society feels should be accessible to all  lack of income should not be a barrier to HC consumption. ///

317_L18, Feb 15, 2008, J. Schaafsma 12 Implications of the Ethical Imperative in the Concept of HC Needs ethical imperative from third party verifiable HC needs  we must reduce barriers to HC capacity barriers  hospitals, HC, personnel, equipment geographical barriers  HC to be available in all parts of Canada social barriers  HC available regardless of social class, race etc. financial barriers: - subsidies to production - publicly funded insurance - community rated insurance - subsidized health insurance premiums ///