Healthcare Economist

Price indices are useful for calculating inflation over time.  The consumer price index (CPI) measures changes in prices for the overall economy.  Researchers can also use price indices to understand the evolution of the price of health care over time.  For instance, the Bureau of Labor Statistics also calculates a CPI for Medical Care and Medical Care Services.

The question of how to calculate a price index is far from trivial however.  To calculate the change in the price of any good between years 1 and T, one could simply use the following formula:

• P_simple=p_iT/p_i1

However, a price index indicates the change in prices for a basket of goods.  If you are considering the change in price of 10 medical services, how much weight to you give to each one?

Economists have generally come up with the solution: the goods that make up a large share of total expenditures should be weighed more than those that make up a small share.  For instance, let us imagine a simple example where you have two expenses: food and medical care.  The price of food goes up by 10% and the price of medical care goes up by 20%.  Let us assume that food makes up a larger share of your budget than medical expenses and that the initial value of the price index is 1.0 (i.e., T=1).  Thus, if 80% of your income goes to food and 20% of your income goes to medical expenses, than the value of the price index one year from now would be would be 80%*1.1+20%*1.2=1.12.

Sounds easy right?  Not so fast.

I said that 80% of the person’s budget was made up by food, but does that figure refer to your budget expenditures in the first time period or the second time period?  Let us assume the following:

• P_food,1=$1; Q_food,1=800; E_food,1=$800;
• P_food,2=$1.1; Q_food,2=800; E_food,2=$880;
• P_med,1=$100; Q_med,1=2; E_med,1=$200;
• P_med,2=$120; Q_med,2=3; E_med,2=$360;

Above, P, Q and E refers to price, quantity and expenditures respectively; the first subscript in the formulas above refers to the good (food or medicine) and the second subscript refers to the time period (1 or 2).  In the example, 80% of the person’s budget in period 1 is for food and 20% is for medical supplies.  If we use the budget shares in the first period to weight the price changes, then we could calculate the price index as:

• (800*$1.1+2*$120)/(800*$1+2*$100)=1.120

This method is known as the Laspeyres price index.  The general formula is: [Σ p_itq_i0]/[Σ p_i0q_i0].

An alternative measure is the Paasche  price index.  In this case, we weight the price changes depending on the bundle of goods in the last time period under consideration.  In the example, our price index would be:

• (800*$1.1+3*$120)/(800*$1+3*$100)=1.127

The price index is higher now.  Why?  In the last period, the quantity of medical care we purchased increase (for 2 to 3) compared to the quantity of food purchased (stayed the same at 800).  This means that the Paasche price index will put relatively more weight on the price changes for medicine.  Since the price of medicine increased faster than the price of food, the overall price index level be higher in this example than in the case of the Laspeyres price index.  The general formula for the Paasche price index is: [Σ p_itq_iT]/[Σ p_i0q_iT].

However, both the Laspeyres and Paasche indices do not take into account substitution effects between goods. Goods are weighed statically based on the quantity purchased in either the first period (Laspeyres) or last period (Paasche). To solve this problem, one can use the Fisher price index. This index does account for individuals substituting across different types of goods. To calculate the Fischer index, one simply takes the geometric mean of the Laspeyres and Paasche indices. According to the example above, this means the price index would be:

• P_f=(P_p*P_l)^0.5=(1.120*1.127)^0.5=1.123

One can also chain the Fisher index calculations from each year in order to produce a chain-weighted Fisher price index, but I’ll save that explanation for another day.

• Antidepressants no more effective than placebos.
• If you are readying this, you may be depressed.
• Health expenditures in 2018: 20.3% of GDP.
• Worker’s Comp and Medicare.
• Understanding the employer-based health insurance tax subsidy.
• Vaccines don’t cause autism.

John Kay offers a European perspective on the debate of between the superiority of a market economy against a centrally planned economy.  Is there empirical evidence that a market economy is superior?  John Kay says yes:

“The fall of the Berlin Wall in November 1989 …marked the end of the most extensive controlled experiment in the history of social sciences – the division of Germany into two economic zones, one centralised and planned, the other a market economy. After forty years, the gap in living standards between the two was so extreme that the experiment was terminated.”

Why is capitalism so successful over the long run?  Kay gives 3 reasons:

• Prices act as signals; the operation of the price mechanism is a better guide to resource allocation than central planning
• Markets function as a process of discovery, the chaotic process of experimentation through which a market economy adapts to change…Centralised systems experiment too little. They find reasons why new proposals will fail – and mostly they are right in their suspicions, because most experiments do fail. But market economies thrive on a continued supply of unreasonable optimism.
• Markets yield benefits from the diffusion of political and economic power… A one sentence description of why some countries are poor and others rich is that the politics and economics of poor countries are dominated by rent-seeking and the politics and economics of rich countries are not.

But isn’t a market economy one motivated solely by greed?  Can a country motivated solely by greed be successful?  According to Kay, “This is the economic environment of Nigeria and Haiti, and it does not work.”  Instead, the greed must be tempered through the mechanisms of trust relationships and reputation.  To get a broader perspective, Kay concludes with the following:

“Markets are not a well-oiled machine: they more closely resemble a constantly changing, adaptive biological system. Pluralism is their motive force, their essence is chaotic, their development inherently uncertain. If we could predict the evolution of markets, we would not need markets in the first place.”

Source: Kay, John (2009) “The Rationale of the Market Economy: A European Perspective,” Capitalism and Society: Vol. 4: Iss. 3, Article 1.

I recently watched the movie Money Driven Medicine.  The movie documents many of the current ills of the American healthcare system.  The movie’s focus details how financial incentives drive both the quantity and quality of care.  Any health economist will of course say ‘duh’, but for those who believe that medicine is purely an altruistic endeavor, this may be an eye opening film.  Some of the problems they document include:

• Doctors get paid to provide more services whether or not these services actually benefit the patient.
• Doctors get paid for procedures.  Thus, procedure focused specialists get paid much more than primary care physicians.
• Many doctors coming out of medical school that prefer to focus on primary care won’t do so because they are saddled with debt from their training.
• According to the Dartmouth Atlas, regions that spend more on health care don’t have healthier residents.
• America has the best specialized care, but likely not the best care overall.  The U.S. does not rank highly in the prevalence of preventable illness.
• Hospitals don’t advertise to patients, but instead advertise to attract doctors.  When doctors have admitting privileges, they bring their well-insured customers as well.
• Quality is suffering.  Despite this, politicians (especially Republicans) consistently claim that America has the best healthcare system in the world.  These politicians also receive significant funds from lobbyists who want to maintain the status quo.
• The film claims that there is an inherent conflict between doctors (who are supposed to put patients first) and corporations (who are supposed to maximize profits).  In reality, however, doctors and corporations both care profits and both care about patient care.  Believing the corporations don’t care about patient health at all or that doctors don’t care about profits at all is naive.

One thing I found interesting, was that primary care doctors complained that they weren’t paid enough, but they also complained that they had short visits with patients.  Of course, these primary care docs choose to have shorter visits in order to make more money.

Another interesting point the film makes is that European use government-run insurance systems to  to ensure high quality care for all its citizens.  Then, this say person says the following:  ”After Medicare was passed in 1965, elderly patients were getting far more care than they were getting before then.  And that’s when our industrial medical complex I would say took off.”

Overall, if you read this blog regularly, you won’t find anything new in the film.  Further, the film does not offer many solutions to the problems it presents.  The one solution it offers is to have patients more involved in the decisionmaking process.  The true benefit of increase patient decisionmaking is dependent on the physician presenting the treatment choices honestly and in a thorough manner.  Financial incentives likely skew how the doctor will present these options.

Although it does not present any revolutionary material, if you want a film does a good job of explaining some of the many problems facing America’s healthcare system, Money Driven Medicine is worth a watch.

Regional differences in the cost of health care are due to differences in both the price and volume of medical care.  Since, Medicare sets prices, there should be little variation in prices…right?

Actually, Medicare payments have geographic adjustments based on a number of factors.  For instances, the hospital wage index gives pay hospitals more in areas with higher labor costs.  Similarly, Medicare pays physicians more in high cost areas through the geographic practice cost index (GPCI).

In order to compare differences in volume across regions, one must also make the following adjustments

• additional payments to hospitals above the standard rates in the inpatient prospective payment system including graduate medical education, indirect medical education, and disproportionate share payments.
• additional payments to physicians above the standard rates in the physician fee schedule in provider scarcity areas and health provider shortage areas.
• additional payments to rural hospitals above standard rates in the inpatient prospective payment system, including special payments for sole community hospitals, small rural Medicare-dependent hospitals, and critical access hospitals.
• beneficiaries’ health status, as measured by the MSA’s average risk score from the CMS–hierarchical condition category (HCC) risk adjustment model.
• the rate of beneficiaries’ enrollment in Part A and Part B of the Medicare program—in some areas, the percentage of beneficiaries with only Part A or Part B coverage differs significantly from the national average.

After taking these factors into account, a recent MedPAC report finds that although raw per capita spending is 55% higher for beneficiaries in the area at the 90th percentile than for beneficiaries in the area at the 10th percentile, medical utilization use in higher use areas (90th percentile) is only about 30% greater than in lower use areas (10th percentile).  Approximately, 45% of the FFS population lives in areas that have service use within 5 percent of the national average.

The metro area with the highest service use was Miami.  In fact, Miami’s medical service use was twice the level of the services provided in the metro area with the lowest utilization levels (non-metropolitan Hawaii).  One reason for this difference is that “per capita spending on durable medical equipment and home health care in Miami–Dade County were both more than seven times the national average and dramatically above spending in neighboring counties.”

• Source: MedPAC (2009) “Measuring Regional Variation in Service Use: Report to Congress,” December 2009.
• Hat Tip:  Gooz News.

• Higher co-pays decrease physician visits, but increase hospitalizations.
• Where do your tax dollars go?
• Healthier people are more likely to buy health insurance.
• The Infectious Diseases of Haiti.
• Think 10% unemployment is bad?  Spain is nearing 20%!
• Why is my local pie shop featured in The Economist?

The county government is often the place of last resort for the medically indigent in California.  Some counties run hospitals and/or clinics to care for these individuals outside of the Medicaid system.  Other counties operate their own HMO to cover Medicaid patients.  As I previously described, there are three types of private Medi-Cal HMO systems that California counties can adopt: Geographic Managed Care, County-Organized Health System, and Two Plan Counties.  In many of these systems, counties operate their own Medicaid HMO.

A recent California Health Care Foundation study, looks at how different counties care for their poor.  This table summarizes those findings.

The US News and World Report has popular rankings for colleges, graduate schools and now hospitals.  Do patients actually decide to seek care at different hospitals based on these ratings?  Devin Pope attempts to answer this question in a recent Journal of Health Economics article (free draft).

To determine whether or not this is the case, Pope uses two methods.  First, he employs a fixed effects framework.  This method in essence evaluates how a change in the hospital rank affects the change in the volume of non-emergency patients.  The second method uses a mixed-logit discrete choice model (a.k.a. the random coefficient logit model).  This is based on a random utility framework and is different from the standard conditional-logit model; most importantly, it does not exhibit the logit’s restrictive independence of irrelevant alternatives (IIA) property.

To determine the change in patient volume, the paper focuses on Medicare patients in California.  The reason for this is because Medicare patients have flexible coverage and each hospital receives the same payment from Medicare from each patient.

The paper finds that a hospital-specialty that improves their within state rank by one spot experiences a 6.8% increase in patient volume on average.  The effect is largest for heart problems.  This may imply that patients are most responsive to changes in rankings for heart treatments.

Pope also conducts a number of robustness checks.  One of these is to examine how changes in a hospital’s rankings affect the volume of emergency care.  Since emergency care patients likely have little choice over the hospital to which they are admitted, a change in rankings should have little impact on patient volumes.  This turns out to be the case.

• Source: Pope, Devin G., (2009) “Reacting to rankings: Evidence from ‘America’s Best Hospitals’” Journal of Health Economics, 28(6): 1154-1165.

In an article in the Atlantic, James Fallows ponders if America is in decline and if so, is there anything we can do about it. One of the more revealing commentaries on America’s prospects comes from an American businessman living in China:

“We scream about our problems but as long as we have the immigrants, and the universities, we’ll be fine.”

• James McGregor, an American businessman living in China

These set of links focus less on Healthcare and are instead more for my Economist readers.

• Kenyes vs. Hayek:  A hip-hop duel
• The disingenuous spending freeze.
• Chinese Corruption (e.g., falsifyng $3 billion in earnings)
• Economics Journals going open-access.
• John Gruber on the iPad.
• Will we go the way of Japan?  Becker and Posner ponder.