THE QUANTITY OF MEDICAL CARE DEMANDED

Part I: Basic Demand Concepts Definition - The demand analysis seeks to identify factors that are most influential in determining how much health care that consumers are willing and able to purchase at given prices. Purpose – A better understanding of the demand relations provides insights into the various health care issues to be explored in health care economics.

Points of clarification 1. The demand for medical care is “derived” from consumers’ demand for health (or stock of health). 2. It is not synonymous to an act of purchase or an utilization of health service. A purchase or utilization is “realized demand.” 3. Health care is different and the differences pose a “shopping problem” for patients/consumers.

Is Health Care Different? Viewed from the perspective of demand, health care differs from ordinary consumer goods in several important respects: 1. Uncertainty 2. Idiosyncratic patient needs 3. Asymmetry of information 4. The inseparability of diagnose and treatment and the resulting dual role of physicians 5. Complex price structure of health care

1. Uncertainty  One never knows when he/she will get sick and how bad the condition might be when sick.  Uncertainty refers to the random nature of the incidence of illness and the inherent variations in treatment outcome. “… the special economic problems of medical care can be explained as adaptations to the existence of uncertainty in the incidence of disease and in the efficacy of treatment.” Kenneth Arrow

Consequences of Uncertainty

2. Idiosyncratic patient needs  No two patients are exactly alike; Every patient must be treated individually (no assembly-line production)  Tailor-made services cost more

3. Asymmetry of information  Buyers and sellers need good information about prices and quality of products for the market to function well  Information is scarce in health care  Health professionals know more than patients about diseases and healing processes  Consumers/patients must divulge information to assist in the diagnostic process

4. Physicians as a service provider  Physician care – The product and the activity of production are identical  In most instances, the provider has just one chance to do it right and the customer cannot test the product before deciding to buy or not  Advertising and overt price competition are virtually nonexistent  Patients have a shopping problem

5.Complex price structure of health care  In addition to the numerous prices charged for a myriad of services and procedures, the price of health care is complicated by insurance and price ‑ like incentives such as deductibles and co-payments  Lack of price transparency  Price is not measured solely in the amount of money must be paid. Other measures of prices include:  Price of time  Pain and suffering  Price of compliance

Medical Care and Utility Medical care is an input in producing health  Subject to law of diminishing marginal productivity Health yields utility to the consumer  Subject to law of diminishing marginal utility

We can generally graph the relation between medical care and utility as follows: Utility Medical Care Medical Care and Utility

Define : MU = marginal utility of medical care P = price q = quantity of medical services z = quantity of all other goods Consumer’s Optimal Choice of Health tradeoffs  Given the consumer’s income, she chooses q and z to maximize utility.  Utility maximization rule : MU q MU Z P q P z

 Total utility reaches its peak when the marginal utility gained from the last $ spent on each product is equalized Consumer’s Optimal Choice of Health i.e. The consumer equalizes “the bang for the buck” across all goods

Proof  Suppose that instead : MU q MU Z P q P z > X Then MU q would fall, MU z would rise, until the 2 ratios are equalized  Last $ spent on medical care generates more U than last $ spent on other goods  Consumer could U by purchasing more medical care (q), and less other goods (z)

Deriving a Demand Curve for Physician Visits  Suppose P q rises. This will lead to : MU q MU z P q P z < Note : Now let q represent physician visits l Consumer can U by purchasing less q, and more z l P q lower demand for q

Deriving a Demand Curve for Physician Visits  Downward sloping demand curve for physician visits Price P1P1 P0P0 q0q0 q1q1 Price changes lead to movements along D curve

Deriving a Demand Curve for Physician Visits (cont.)  Consumer’s purchase of medical care is a “derived demand” i.e., “no direct” utility from visiting the doctor U derived from health resulting from dr. visit: U = U(h,z) h = h(q,…)

Other Economic Factors Affecting Demand  If income increases, then at any given price, consumer is willing and able to purchase more q 1. Income q0q0 q1q1 Price P0P0 DODO D1D1 Physician Visits

Other Economic Factors Affecting Demand  e.g. left shoes and right shoes  e.g. laser printers and toner cartridges  e.g. alcohol and cigarettes?  e.g. contact lenses and optometrist visits 2. Complements - 2 or more goods which are consumed together

Other Economic Factors Affecting Demand  e.g. contact lenses and optometrist visits  If contact lenses become cheaper, demand for optometrist visits ___ 2. Complements Price D0D0 D1D1 Optometrist Visits Price of complement falls

Other Economic Factors Affecting Demand  e.g. Coke and Pepsi  e.g. Physicians and Nurse practitioners?  e.g. generic and brand name drugs 3. Substitutes - other goods which satisfy the same wants, or provide same characteristics

Other Economic Factors Affecting Demand  e.g. generic and brand name drugs  If generic drugs in price, D for brand name ___ 3. Substitutes - other goods which satisfy the same wants, or provide same characteristics Price D1D1 D0D0 Brand name drugs Demand for brand name drug falls

Elasticities Price # Visits A relatively flat demand curve implies that a small increase in price leads to a large fall in # visits demanded

Price # Visits A relatively steep demand curve implies that a small increase in price leads to a small fall in # visits demanded Elasticities

Elasticities (cont.)  Own-Price Elasticity of Demand:  Example: If the elasticity of demand for physician visits is -.6, a 10% increase in price leads to a 6% decrease in the number of visits demanded.  Elasticities are scale-free We can compare the ED for physician visits vs. nursing home days, even though they are consumed in different units.

More price elastic demand leads to a flatter demand curve. Price # Visits Relatively inelastic Relatively elastic

Elasticities (cont.)  Income elasticity of demand:  Example: If the elasticity of demand for physician visits is.1, a 10% increase in income leads to a 1% increase in the number of visits demanded.  For most types of medical care, E Y should be positive.

Except in special cases, the E D is different on different points of the demand curve P Q 4 8 Demand curve: Q = 8 – 2P 4 2 E D = -1 E D = -  E D = 0

Insurance No insurance : consumer faces price P, makes q visits Price P cP qcqc q # Visits W/ coinsurance : consumer faces price cP, wants to make q c visits

Insurance (cont.)  Coinsurance leads to a demand of q c visits at price P, shared by consumer and insurance company Price P cP qcqc q # Visits  Demand curve rotates clock wise