Lecture Health economics - Chapter 3: Demand for medical services (Part 1)

This chapter presents the following content: Theoretical derivation of the demand curve for medical services, economic and noneconomic variables that influence demand, elasticities, the impact of health insurance on demand.

Demand for Medical Services

Part 1

Health Economics

Professor Vivian Ho

Fall 2009

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

The graph shows that as the level of

medical care rises, each additional unit

of medical care yields a smaller

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 :

MUq MUZ

Pq Pz

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

Deriving a Demand Curve for

Physician Visits

MUq MUz

Pq P < z

Note : Now let q represent physician visits

Consumer can U by purchasing less q, and more z

P q lower demand for q

Deriving a Demand Curve for

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

The demand curve illustrates the effect

of changes in the price of the good on quantity demanded holding all other

factors (income, prices of other goods) constant

Changes in factors other than the price

of the good itself lead to shifts in the

demand curve

Other Economic Factors

Affecting Demand

If income increases, then at any given price,

consumer is willing and able to purchase more q

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 _

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

Brand name drugs

Demand for brand name drug falls

Open Heart Surgery

Deliveries

Knee Surgery Carpal Tunnel

Facelifts

“My experience with

priceline.com was fantastic This

was truly a great bargain I saved

enough on my knee surgery to

get the facelift I always wanted!

Thank you, priceline!”

Ryan G.

Running and looking great!

Online Health Care Purchases?

Online Health Care Purchases!

“If you're thinking about a cosmetic procedure cosmetic surgery, cosmetic dentistry, laser vision-correction surgery, or podiatric

surgery then Bid For Surgery can help you find not only the right doctor charging a fair price, but the best total package for your

individual medical or dental care.

How? By introducing you to many highly-qualified, well-experienced doctors, and having these doctors offer their "bids" for your

procedure detailed bids that include:

•their medical education and credentials;

•their practice history and practice philosophy;

•patient references and typical outcomes;

•their associated surgical facilities;

•their office location, and languages spoken;

•patient financing (coming soon);

•and other important information including their best price.”

Online Health Care Purchases!

# Visits

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

Elasticities

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

ED is expected to be negative Thus, price elasticities of demand are often

own-quoted in terms of absolute value

The demand curve is inelastic if

0<|ED|<1

The demand curve is elastic if

1<|ED|<

Elasticities (cont.)

If you are given a formula for a demand curve, you can compute the elasticity of demand for any combination of price and quantity along that demand curve

%

%

Q P

Q

Q P

P

Q P

P Q

D

Elasticities (cont.)

Except in special cases, the ED is different

on different points of the demand curve

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

Cross-price elasticity of demand:

Example: If the elasticity of demand for

Tylenol with respect to the price of Advil is 1.5, a 10% increase in the price of Advil

leads to a 15% increase in the quantity of Tylenol demanded

X C

Total revenue will increase if price is raised

when demand is inelastic

• Own price elasticity of demand critical for determining

a health care manager’s total revenue

TR = PQ D

• Demand theory tells us that P QD

If demand for physician services is inelastic, and

the price is raised, then I %QD I < I %P I

Elasticities

A 1991 study by Frank Chaloupka

estimated the price elasticity demand for cigarettes to be:

The above demand analysis assumed that the patient pays for care out-of-pocket

How does insurance affect the demand for care?

cost of each visit (often C = 20)e.g If the visit costs $100 :

patient pays $20, insurance pays $80

What if the consumer has full

coverage?

• i.e., copayment = 0

Price

# Visits

• Fixed $ copayment

pays the rest

• Deductibles - Consumer must pay a fixed amount out of pocket per year before

coverage begins

expenditures must be paid by the customer

small claims are filed each year

medical services near start of the year

expensive medical services are required