HEALTH ECONOMICS, HEALTH

INSURANCE IMPLICATIONS ON
EQUITY AND EFFICIENCY
 OVERVIEW

PART ONE

Present issues involved in the study of health economics

PART TWO.

Analyze the problems of adverse behavior on health insurance and their

implications on equity and efficiency.
 PART ONE
1.PRESENT ISSUE INVOLVED IN
HEALTH ECONOMICS
1.PRESENT ISSUE INVOLVED IN HEALTH
ECONOMICS
Health economics definition

Main objectives of heath economics

General features of healthcare

The nature of the medical services

Common problems exiting in healthcare

Demand for healthcare Vs Demand of the other good

 HEALTH ECONOMICS

Health economics can be defined as the application of

Economic theories, tools and concepts of economics as a
discipline to the topics of health and health care.

Health economics is not confined itself to to allocate scarce resources to

improve health outcome, it is applied to allocate resources within the
economy to the health sector and within the health care
system to different activities and individuals.
 HEALTH ECONOMICS(cont’d)

In Tanzania, there is increasing population growth and rapid outbreak of

disease burden, which bring constraint on the healthcare resources.

Therefore, Health economics examine the problem of scarcity as it arises

with respect to health and health care.

The discipline of health economic is the study of these questions

and the answers to them that individuals and societies have put forward.

The Questions are;

 MAIN OBJECTIVES OF HEALTH
ECONOMICS

• How is health produced ?

• What role does health care play in its production?

• What is the value of health?

• How do we go about measuring health status? What influences

demand for health and health care?

• What influences the supply of health care?

• How can equilibrium between demand and supply be achieved?

 MAIN OBJECTIVES OF HEALTH
ECONOMICS
The intervention of the Health economics as the subject comes due to
the fact that, the market forces originated by the forces of demand and
supply creates the following problems like; Adverse selection, Moral hazard,
Asymmetric information and supplier induced demand.
 GENERAL FEATURES OF
HEALTH CARE

Health include the wide concepts of understanding, going beyond

accessing medical care by restoring the distorted health. Hence, it is of

more important to know the different perspectives related to health and

to impulse the role of the government for the proper healthcare provision.

Those perspectives are;

GENERAL FEATURES OF HEALTH CARE

• Health as the right.

• Health as a consumption good.

• Health as investment good.

 HEALTH AS THE RIGHT

The WHO constitution states that ‘…the enjoyment of the highest

attainable standard of health is one of the fundamental rights of every
human being without distinction of race, religion, political belief, economic
or social condition.

Thus the government is responsible for the provision of the equal health and
healthcare, as the constraint towards its full attainment should have to be
minimized.
 HEALTH AS THE CONSUMPTION
GOOD

The government here has no special responsibilities in the promotion of

health, but leaves decisions as to its comparative importance to individual
consumers. The government should have to ensure that the health care
provided is of an adequate quality (such as ensuring professional
standards ) in the same way that it would monitor the quality of any good
or service, such as food. or service, such as food, Land and air Transport, etc.
 HEALTH AS THE INVESTMENT GOOD

This is viewed as, once a person is healthy, He/she can be able to engage
into productive activities . In other words, it affects the productive ability
of the workforce. Illness may affect overall production, either through
absenteeism or lowering the production rate/capacity.
 THE NATURE OF THE MEDICAL CARE
Medical care has the unique characteristics that make it unlikely for the
patients to judge on their impacts on their welfare of consuming different
levels of care.

Patients are in need of good health, vitality and longevity which are not
directly being purchased, instead they purchase medical care which needs
element of diagnosis, information and treatment- to improve their health status.
 THE NATURE OF THE MEDICAL CARE

Medical care is heterogeneous and non-tradeable.

This means there is not a standard ‘’one size fits all’’. It covers a wide
range of services from purely private consumption(e.g. cosmetic surgery)
to purely social goods(e.g trauma care ) that are made available to
everyone regardless of the ability to pay. Furthermore, One form of
medical care is not necessarily a perfect substitute for another.
 COMMON PROBLEMS EXISTING IN
HEALTHCARE MARKET.
Why we don’t leave the healthcare to the market ? you can not buy and sell
health as like the other commodities. It's distinctive features is relying on some
common problems which makes it to be different to the other commodities. These
problems are as follows:
• Market failure
• Problems of Risk and uncertainty
• Unequal information – Doctor’s agents
• Consumers as satisfaction maximisers
• Imperfect competition
• Externalities
• Equity and health care
 1.MARKET FAILURE IN HEALTH

In economics perspective, market should have;

• the exchange between buyers and sellers,
• Information regarding the quality,
• price and characteristics of the purchased goods and,
• the proper arrangement that allows the exchange of goods ad services.
Likewise, the market should have to be efficient.
An efficient free market requires producers to be operating under
conditions of perfect competition. (i. e free movement, a uniform
product and freedom of entry and exit, perfect information).
 OCCURRENCE OF MARKET FAILURE
- lack of information between the buyer and the purchaser of
healthcare
Information is of vital importance as it helps producers and consumers on
the quality, characteristics , benefits and costs of the products in the market
E.g, we lack a very acute information problems, which make rational
purchasing decisions difficult, if not impossible. For instance, most people do
not know the best way to treat a stomach ulcer in such away that, they
would find it difficult to buy such treatment.
 CONT’D
- supply and demand being interdependent rather than independent
The notion that the demand for medical services is determined by the
preferences and decisions of doctors(suppliers) rather than patients
(consumers) represents a significant departure from the standard
Neoclassical Economics.
The medical profession often does little to inform/ or sometimes refuse to
inform the consumer concerning the results of alternative courses of
treatment. Nonetheless, they have a significant power to influence price or
the total quantity being produced.
 MARKET FAILURE IN HEALTH

For the case of healthcare market , Doctors and other suppliers of

health care often have greater market power, and lacks the other features
of efficient market (i.e. free movement, freedom of entry and exit, perfect
information,) that will result into the market failure.
 2.RISK AN UNCERTAINTY.
When there is more complex conditions, Both doctors and patients face risk and
uncertainty. These are resulted from;

• Classifying patients so that probability if disease, extent of disease,

prognosis and treatment outcomes can not be reasonably ascertained.
• Patients also face uncertainty about whether the course of medical treatment
recommended by the doctor is best, and the long-term consequences of the
treatment. This is due to the lack of medical background and they are
infrequent users of the medical markets.
.
 RISK AND UNCERTAINTY.
• Health care is expensive and it is unpredictable. It is also taking high
risk , if you intend to postpone buying health care .

The main response of eliminating these problems is the establishment

of health insurance to remove risk and uncertainty from the
healthcare spending. Unfortunately, the health care insurance market
itself is often not efficient. Moral hazard and adverse selection both cause
significant market failure and incompetence of the health insurance market
to prosper.
 3.UNEQUAL INFORMATION

Unequal information occurs in the following scenarios;

Rational choice.

Normally, If you want to buy anything, you should have to have enough
information to make a rational choice and you do not need the shop
assistant to tell you what you should buy. BUT Going to the doctor is
very different, you may rely upon the doctor to specify the treatment –
if the doctor says you need an expensive operation then you buy it.-
 UNEQUAL INFORMATION

In the health care market, information is not equally shared between

buyers and sellers, instead, the seller, (the doctor,) has far more
information than the buyer, (the patient) does.

Information problems

Most medical information is technically complex and so not easily

understood by a layman. NONETHELESS It is also often difficult to
postpone treatment/looking for other physician. How will you will be
able to judge between different doctors’ opinions?
 UNEQUAL INFORMATION
Doctors as agent

Doctors are expected to provide objective advice on the appropriate

level of medical care. We rely upon our doctor to act in our best
interests, to act as our agent.(on one hand as the buyer, on the other as
the seller of health care).

Due to the information asymmetry, the relationship changes. Doctors,

use their discretionary power to engage in demand shifting or
inducement of medical activities. The abuse of the agency relationship
with the patient create the SID problem.
 UNEQUAL INFORMATION

Supplier induced demand.

The change in demand associated with the discretionary influence of

providers, especially physicians, over their patients. Demand that is
provided for the self interests of providers rather than solely for patients
interests.

Due to the rational choice, asymmetry information and being the doctor to act as agent,
The doctors induce the patients to choose the medical option or type or level
of medical service. Many scholars argue that SID is negative because
Doctor’s induce patients for the financial gain.
 SUPPLIER INDUCED DEMAND.

Why is it difficult to identify the SID?

Clinical uncertainty.

It is relative difficult to unveil the merits and demerits of alternative levels

of treatment. Moreover, some or all of the medical problems needs
medical knowledge/specialized medical processes to detect it.

Difference on the patients preferences.

Other patients may seek for the deep diagnostic procedures on the small
medical problem, while others may not.
 SUPPLIER INDUCED DEMAND.

Potential drivers of SID

• Imperfect agency relationship

• The act of the doctors to seek for the genuinity /real medical
problems that affect the patient.
 4. CONSUMER’S AS SATISFACTION
MAXIMIZERS

Rationality means, consumers behave consistently - so if they prefer A to B

and B to C then, they will prefer A to C. More widely, they mean that
people will behave in a reasonable manner. If consumers are not rational in
this sense, they are not necessarily make decisions, which maximize their
welfare.

Social psychology suggests that people are often not rational in this
sense - instead they exhibit what is called cognitive dissonance.
 CONSUMER’S AS SATISFACTION
MAXIMIZERS

cognitive dissonance means the act of simultaneously holding two ideas

that are psychologically inconsistent and use various forms of self
justification and rationalization to overcome the tension.

Cognitive dissonance suggests that people will often not make decisions,
which maximize their utility.
 4. CONSUMER’S AS SATISFACTION
MAXIMIZERS
Consumers are unlikely to be in a position to appreciate the full
range of possibilities available to them and so need expert help to guide
them. If utility is relative, then, this suggests that society would be better
off with some form of universal provision rather than one based on
individual health care purchases.
 5.IMPERFECT COMPETITION
The significant proportion of health care is delivered by hospitals and these hospitals
can often exercise monopoly power within the health care market in the local area. This
leads to the emergence of one large hospital in an area rather than a large number
of small hospitals, this is due to the economies of scale, economies of scope and the
ability of setting price.

1.Economies of scale

Why should the average cost of providing treatment fall as a Hospital becomes larger?
There are a number of reasons.

 A large institution is able to make more use of specialization. This can involve both
people and capital.
 IMPERFECT COMPETITION
 A large institution is able to achieve purchasing economies of scale

through bulk buying

2.Economies of scope.

In many cases, it costs less to provide a range of services in a single

hospital rather than have several hospitals each just producing one

or two services. For example, emergency surgery and treatment of

heart attacks are more cost effectively provided in a single hospital

rather than two separate ones.

 IMPERFECT COMPETITION

3. Price maker

The hospital as supplier of health care services has considerable power

to bargain over price. In particular, if the hospital is profit maximizing then
it will set price above marginal costs giving an allocative inefficient outcome.
In addition, it is likely that the hospital will be productively inefficient, since
it lacks the incentive to reduce costs, which would be provided by
competition.
 6. EXTERNALITIES

Externalities or spillover effects provide another source of market

failure in a free market. This is because, the market price does not
accurately contain all the information about the benefits and costs of the
market transaction.

For example, In vaccination against any disease, The amount of

vaccination that private individuals will be prepared to buy at each
price will depend upon their estimate of their personal benefit from
being protected against, e.g. whooping cough.
 EXTERNALITIES….CONT’D

Other people also gain since they are now protected against catching
whooping cough from you. A free market will thus underprovide
vaccinations and this in turn will impose a cost upon society. Thus, this
extra or externality benefit is missed by the free market.
 7.EQUITY AND HEALTH CARE

Efficiency is not everything. We are also concerned with what is fair. If we had
a market distribution of health care, then only those who could afford to
pay would be able to purchase it. Most people regard that as
unacceptable.

As Donaldson and Gerard put it: “Within most societies there exists,
in some form or another, a concern that health care resources and
benefits should be distributed in some fair or just way”
 CONT’D

William Beveridge, the architect of the welfare state, argued for a

health service which would provide treatment “to every citizen
without exception, without remuneration limit and without an
economic barrier at any point to delay recourse to it’’
 DEMAND FOR HEALTHCARE
The demand and need for medical care is not always the same. For

instance, an individual may demand more care than is required medically.

Conversely, he may need medical care, but may not be aware of its value.

Need is generated by the incidence of illness, while demand is

generated by the interrelationship of illness with other factors. To plan for

future use of facilities and personnel, demand rather than need for such

resources must be projected.

 FUNDAMENTALS FACTOR AFFECTING
THE HEALTHCARE DEMAND
According to Grover C. Wirick has identified five fundamental factors that

can have an impact on the demand for health care services. The first three

forces are characteristics of the patient, while the fifth is a phenomenon of

his environment. The fourth force is somewhat indistinct and could be

characteristic of either or both.

The first is need,

when a person suffers from a condition that requires attention, or he/she has

some other reason for seeking medical care or examination.

 CONT’D
secondly, there must be a realization of the need.

Either the individual or someone acting in his/her behalf must know that

the need exists. A number of psychological processes, hopes, fears and

beliefs of the individual, as well as the other personal factors such as his/her

previous experiences, customs and religion play a significant role For

example, a person with a strong religious conviction against a particular

kind of medical treatment may have a different realization of need for care

from that of someone with other religious beliefs

 CONT’D
Third financial resources must be available to implement the care.
It include income and assets possessed by the individual or his/her
family, insurance coverage, eligibility for free care under a group or
government program and availability of care through welfare programs

Fourth, there must be a specific motivation to obtain the needed care

even with the availability of the other forces such as need, realization
and resources, something must initiate the action.

Fifth is availability of service.

 CHANGES IN DEMAND FOR HEALTH
CARE

In the analysis of demand for medical care the focus is on health care, hence the
commodity physician care’ is used as the major example.

Physician care is defined as examinations and treatments administered by physicians to their

patients. Physician care is only one of the many commodities in the health care sector.

The effects of factors other than the out-of-pocket price on the economic behavior of
consumers are introduced by way of their influence on the basic price-quantity
relation. These other factors can be placed into three broad categories.
 CONT’D
Income

Is a variable used to measure the ability of the individual to afford medical care, but it
is only an approximate measure. Change in the level of income results in a shift in the
demand curve. Another measure of the affordability of medial care is the individual’s
level of wealth, including bank deposits, real estate and other assets, less any debt, such as
bank loans and mortgages.

Price of related commodities

The demand for a particular commodity is also influenced by the quantities of related
commodities consumed. Two classes of commodity relations are of concern to us:
complements and substitutes
 CONT’D

3. Taste

Tastes have sometimes been called wants, a term connecting the intensity

of desire for particular commodities. They include health status,

educational background, sex, age, race and upbringing.

These Three can explain differences in the intensity of desire for medical

care among individuals. It is also explain why the health status of the first

individual is lower than that of the second individual.

 PART TWO
ADVERSE BEHAVIOR ON HEALTH
INSURANCE AND ITS IMPLICATIONS
ON EQUITY AND EFFICIENCY
 HEALTH INSURANCE & ADVERSE
BEHAVIOR

There are several methods of covering risk when bad/unexpected things

happen in our life. These methods are like savings, asking help from the
family and friend, charity, etc., But all of these have limitations/challenges
that make it difficult to encounter.

Health insurance as one of the type of Insurance, has also special

elements of risk pooling, as money moves/Shift from those they have
regular earnings(i.e. healthy) to those who have less(when they are sick).
 HEALTH INSURANCE & ADVERSE
BEHAVIOR

Health insurance is not based on sickness at all , rather than incurring an

expense for medical treatment. Nonetheless, it does not reduce the cost
of medical care but it redistributes the cost so that different people on
the pool of being insured are end up paying for insurance.
 ADVERSE BEHAVIOR
These are sometimes named as bad behavior conducted by individual which lead to
the increment of consumption/usage of something beyond certain level.

In health insurance, once a person posses a medical insurance , He/ she is likely to
do some certain things that will increase the chance of seeking for medical
treatment. The change of behavior can be categorized as Ex-post and ex-ante

Ex-ante(Prior)adverse behavior occur when an insured person is involving in

activities that increases his/her chance of getting sick. E.g. the sport of parachuting,
engaging in risky sex, act of not wearing seat belt,
 ADVERSE BEHAVIOR
Expost(after the fact)adverse behavior occurs when an insured person
adopt excessive use of the medical treatment, beyond the required amount.

The two forms of adverse behavior are generally/sometimes known as moral

hazard.

One of the form of the behavioral changes can be illustrated using the
ordinary demand curve analysis. The demand curve for physician visits by
people without insurance is show by the line D. With insurance picking up to
80%, then the price that a patient has to pay is just 20% of the actual price,
therefore consumption will increase to Qi. This increase in visits resulting
from being insured is attributable to moral hazard
ADVERSE BEHAVIOR
 ADVERSE BEHAVIOR AND ELASTICITY OF
DEMAND
The extent of expenditure due to moral hazard increases with the price elasticity of demand
curve. For the services that are not very price sensitive,(i.e. inelastic) the fact that people are
insured will not cause them to purchase many more services, therefore there will not be much
of distortion in consumer behavior due to insurance.

On the other hand for services that are very price elastic,(i.e. price sensitive, elastic) the fact that
people are insured can cause a very large increase in the quantity they consume(which insurance
will pay for) there by making moral hazard problem. This theoretical result provides us with a
hypothesis about which services will be covered by insurance.
ADVERSE BEHAVIOR AND ELASTICITY OF
DEMAND
 ADVERSE BEHAVIOR AND ELASTICITY OF
DEMAND
This is because moral hazard reduces gains from risk pooling then the types of medical care
for which there is a considerable moral hazard(services with high price elasticity) are less
likely to be covered by insurance than services for which there is very little moral hazard(with
low price elasticity)

Inelastic services examples are hospital care and surgery

Elastic services examples are nursing homecare, physical therapy, behavioral counselling,
dentistry and drugs
 IMPLICATIONS OF ADVERSE BEHAVIOR
ON EFFICIENCY
Adverse behavior in health insurance has the following effects to the equity and
efficiency.

 It reduce the gains from risk pooling, as there is high amount of expenditure incurred
by the insurance company due to the high medical bills

 It reduces the type of medical care services that are provided by the insurance
companies.( i.e. exclusion on the some of the services, that they would be probably
provided)
 IMPLICATIONS OF ADVERSE BEHAVIOR
ON EFFICIENCY
The extra services that people consume just because they are insured will result in the
economic waste. This loss of vale is called the Welfare triangle, This is the area of triangle
between the price that the insurance company must pay and the demand curve

QTNS, 1. Who loss? All members of the insured group loss because their premium must be
higher to cover the excess use of services.

2. Is there any necessary way(s) that the insurance companies can avoid the welfare loss?

No. it is unavoidable. This is because, if people are buying insurance, the gains from trade due
to risk pooling and access to high cost care must exceed the welfare loss from moral hazard, if
losses are were larger than the gains, people would not buy
WELFARE LOSS
 IMPLICATIONS OF ADVERSE BEHAVIOR
ON EFFICIENCY

However, This is not the case when the purchase of insurance is

subsidized by the government through paying taxis, which will create
additional excess utilization of services that are not highly valued by the
customers.
END OF LECTURE THREE.