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These are some thoughts I had recently on US health care. Over the past week a surprising number of my friends have asked me what I think of the health care situation from an economic standpoint, so although I don't know much, I'm throwing my ideas out here in a pretty watered down form so that they are accessible and can be criticized. Hopefully more opinions and information can be added.
I don't particularly care for the semantics of the situation (e.g. whether modern reform is socialism or capitalism, etc). That's all too vague to be useful as far as I can tell.
I talk a bit about insurance first and a bit about the general nature of medical markets second.
Not only is insurance causing pricing problems - medical insurance, at least as it exists today, doesn't even make sense. Insuring against buying monthly medication is pretty much the same as insuring against buying groceries. The whole point of insurance is to avoid variance, something poker players know a lot about. Example: if we summarize your yearly income from poker as being either 10BB/100 or -10BB/100, with an 80% chance of 10BB/100 and a 20% chance of -10BB/100 then your EXPECTED win rate for the year is 6BB/100. Remember, we're supposing that at the end of the year you will either come out at 10BB/100 or -10BB/100 and that (unlike the real life) no other option is a possibility. Would you, knowing that your EV was 6BB/100, be willing to pay a .5BB/100 premium to LP.net Insurance in order to ensure that your win rate was 5.5BB/100 for the year?
That's how insurance works: You insure against the possibility of a low-probability, high-impact event. You don't insure against relatively low-impact certainties. You don't insure against buying groceries. We shouldn't insure against monthly medication. Why are you paying a premium to medical companies on top of what you're already expecting to pay?
Insurance has other problems. It creates a lot of fucked up incentives. With a typical insurance company, we have copay (for simplicity's sake I'll ignore other types of insurance, but the principle is basically the same for coinsurance, etc.) Suppose my copay is $25 for any medication I buy. Medical corporations can now price their $35 product at $125 and yet no matter what they price it, demand from the insured is the same because copay is only $25. The whole concept of quantity demanded as a function of price goes right out the window. Profit-maximizing firms are incentivized to raise their prices.
Suppose then that not all of the population is insured. Insurance companies are gonna say "fuck the uninsured demand, I'm raising my prices. I can sell my shit at $125 where I used to sell it at $35, and people [the insured] will still buy it exactly the same as before." In other words, the insured have an extremely inelastic demand cure, meaning they will continue to purchase the medication is though it were $25 even as prices skyrocket. So, given that fact, medical corporations have an incentive to raise prices regardless of the uninsured demand because it benefits them to sell less product (also meaning less costs associated with production) at a substantially greater price. This whole phenomenon forces some of the uninsured to consider purchasing insurance just so they can afford the extreme prices of monthly medication.
Obviously this is a vicious cycle.
Another consideration with regard to insurance is the consumption of doctors' labor. The AMA already has a stranglehold on the number of doctors being licensed so in the USA we already have too few doctors to be called socially efficient. Couple the shortage of doctors with the copay example of how prices rise due to insurance. The price of a doctor's time, already artificially high because of the AMA's licensing procedures, is further increased by the fact that copay pays for all but $25 of a doctor's visit that can range into triple digit prices. Doctors prices are pushed higher, making them unaffordable to the uninsured while the quantity of doctor's labor demanded by the insured remains unchanged. We can imagine some unsavory, if not unlikely results: Suppose that before the introduction of insurance, a doctor's visit was relatively expensive, and suppose that once insurance is produced, a large fraction of the population purchases insurance. Then the quantity demanded for doctor's labor may actually increase due to the introduction of insurance meanwhile, because of the copay system, prices charged by doctors skyrocket. This means that not only will there be a shortage of doctors' labor, but that the condition will persist perhaps completely unchanged in spite of prices becoming incredibly expensive.
Do I think there should be medical insurance? Yeah, for stuff that doesn't happen often and is hugely expensive; not for routine check-ups or monthly/weekly prescriptions.
Sadly, insurance isn't the only problem with medical markets.
The very nature of medical markets disposes them to social inefficiency. As people are constantly pointing out, if you're dying and there's only one company with the cure, you're probably willing to pay a pretty high price to that company. In medical markets there are often no good substitutes for a given treatment; there are R&D/licensing barriers to entering the market; etc. Basically medical markets breed monopoly (or at the very least, they breed inefficiency).
Because medical companies are essentially monopolies reaming public welfare, government regulation of medical markets is absolutely necessary to achieving a socially optimal equilibrium. The breakdown of revenues and costs in medical markets is so far out of economic equilibrium that when I first read it I was hung up on the fact for days. What i'm referring to is neatly summed up in the fact that across the ENTIRE medical market, the mean after-tax accounting profit is over 20% of medical firms' revenues and costs balance. Without going into too much detail, there's a huge economic profit being realized in medical markets, and economic profit is a reliable red flag for social inefficiency. Socially efficient market structures do not yield positive economic profit, so positive economic profit is always suspicious to someone interested in socially optimal outcomes.
So you can see what I'm talking about, compare the following:
Graph
The graph is from 2005. Oil/gas is doing worse than you might expect. If this graph were current, banks and financial shit would be crashing, and I suspect that medical/biotech would stand well away from its competitors in terms of profits reaped. This is important for economic consideration: the fact that medical markets are way better than "the best alternative." Medical markets are raping all the other markets listed, and medical markets are also raping society at large.
A good read courtesy of Savio from TL.net: Overview of US Healthcare
 
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Note, the poker win rates are essentially just flows of money. You can understand 10BB/100 to be a desirable outcome and -10BB/100 to be an undesirable outcome. BB stands for big blinds and is how a lot of poker players keep track of inflows and outflows
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Bosnia-Herzegovina1437 Posts
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I agree with a lot of what you said, though I probably didn't read it all as close as I should have.
Basically, my ideal view of insurance would be relatively low premium, high deductible, unlimited coverage insurance with at least a consumer option for guaranteed lifetime coverage. It would encourage people to buy insurance early, before they get sick, and keep it for their entire lives, protecting them if they happen to get a debilitating disease.
Of course, I think one of the other main problems is the tax break on money spent by employer's on health insurance for employees. First of all, this encourages employers to spend more on health insurance rather than wages, as it's all tax-free, allowing for high-premium programs that pay for things like yearly checkups. And second, this adds more layers between individuals and insurance companies.
Ideally, I think the best way to pay for insurance would be with individual vouchers paying for $X of insurance per person, with no tax deductions for employer spending OR any more spent past the voucher.
Most of the rest of the regulations and current proposed plans are fairly harmful I think. Especially on your monopoly argument, the solution is to lower prohibitive R&D restrictions. The current way that the FDA works encourages excessive regulation and barriers, as the FDA is blamed for any deaths caused by bad medicines passing regulation, but all the lives lost by life-saving drugs being kept off the market are never counted.
So basically, I agree that the current dynamics of insurance are messed up; to be honest, it isn't insurance as insurance is typically thought of, hedging against major risks. However, government regulation isn't the way to deal with the inefficiencies that are currently in the system, in fact, excessive government regulation is a major creator of those inefficiencies.
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Comparing profit margins across industries isn't really a good indicator about how skewed the market is because each industry in itself is so different. If you really think about it, profit margin is just "profit"/"revenue"...and trying to compare what goes into profit for the oil industry versus what goes into profit for biotech/pharmaceutical isn't really an accurate representation. This is especially true because research and development, the sole source of future revenue for biotech/pharmaceuticals, is expensed as incurred. So a spot look on the actual profit in R&D companies is comparing current revenues from past research with expenses of research having expected future payoffs...it's not paired like it is in most other industries. These companies are essentially gambling with every project they have, so they need a higher pay off; more risk, more expected return.
That is not to say I disagree with you about it being a broken market (I believe it is as well), but just be careful in how you present your evidence.
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On August 24 2009 09:23 gchan wrote:
Comparing profit margins across industries isn't really a good indicator about how skewed the market is because each industry in itself is so different. If you really think about it, profit margin is just "profit"/"revenue"...and trying to compare what goes into profit for the oil industry versus what goes into profit for biotech/pharmaceutical isn't really an accurate representation. This is especially true because research and development, the sole source of future revenue for biotech/pharmaceuticals, is expensed as incurred. So a spot look on the actual profit in R&D companies is comparing current revenues from past research with expenses with expected future payoffs...it's not paired like it is in most other industries. These companies are essentially gambling with every project they have, so they need a higher pay off; more risk, more expected return.
That is not to say I disagree with you about it being a broken market (I belive it is as well), but just be careful in how you present your evidence.
all i will say is this:
there is essentially a oligopsony and a oligopoly in the healthcare market.
For doctors, the insurance companies are their primary source of patients, as well as Medicare. There is thus a price control for doctors.
For those without health insurance, there is no room for them to seek healthcare without insurance, as prices will become too high. This is partly due to Medicare and the insurance companies, but also because of the deadweight loss that is caused by price efficiencies. In this case, any producer or consumer surplus (i.e. doctor's extra time for patients, consumers get cheaper costs) is wiped out and instead converted mostly into deadweight loss.
I've also already expressed my opinion on this issue multiple times in multiple healthcare threads, in which i have already stated, to no response, that there are many reasons why healthcare is expensive that go beyond the simple scope of universal vs. status quo vs. free market.
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Thanks for the input and responses
gchan, thanks for your note on the after-tax revenues comparison. I think that the one mitigating factor is that the figures I was using encompass the entire market, which is to say that "gamble" is largely accounted for in that by viewing the entire market we get both the successful gambles and failed gambles. So even accounting for failed gambles, medical markets are still head and shoulders more profitable than other industries.
Caller, I agree that there's more to the issue which is why I'm asking for more input. There's certainly a multiplicity of explanatory factors for why health care in the US is offered at the price levels it currently is (and I think that the worst place to look is universal vs status quo vs free market).
And yeah, I largely agree that in matters of economics, government regulation is typically unproductive. However, there are definitely times when government regulation of some form is necessary. The market tends to look after those who participate in it, but a ree market can't easily account for those who don't directly interact in a given market and yet are still affected by occurrences in said market. So while I agree that the government and regulation is typically faulty, I don't think it's that government regulation is inherently doomed to lose out to other solutions (although centralizing things does tend to make them less efficient.) It's just that the government is not very good at determining good forms of regulation from bad, and we get a vast majority of poor regulation.
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The debate on US health care is so controversial that i think a solution wont come very soon. There are the white collar workers who have lots of money who can afford health care will oppose universal health care whereas the working class will be for a cheaper health care. Its two sides fighting and in the end its one man ( obama's ) call.
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EPT
