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An Economist's Perspective On Health Care

Presented by Malcolm Robinson

What I’m going to say will dove tail with what Professor Solomon has said except I will ask you to look at health care through an economists’ eyes.  I’m going to argue we get quite a bit for our health care dollar.  Looking at health care in crisis is a little bit like the tale of the blind man and the elephant.  We each touch the elephant and tell our version of the story.

As an economist thinking about the crisis in health care, I naturally turn to the insight of Arthur Okun in one of his classic works, Equity and Efficiency.  Okun taught if we want to achieve a fairer, more just outcome than the market will provide, then we must be willing to accept outcomes that use our limited resources inefficiently.  Try to impose fairness and it will cost you.  The more you care about cost, the less likely you are to be fair.

This wasn’t an issue for medicine a century ago.  Health care wasn’t in crisis prior to World War II.  As Paul Starr explained in The Social Transformation of American Medicine, medical insurance was limited then precisely because there was little that medical care could do for the sick.  Penicillin and other antibiotics changed the way people looked at medicine and the need for insurance.  Medical systems (like Medicare and Medicaid, for example) developed in response to equity considerations because health care has been viewed as not just another good.  Health care, in this view, is a fundamental right; the uninsured have “unmet needs.”

The goal of equity, for universal access, is now often questioned due to the fundamentals of the medical care market.  Medical costs have increased rapidly over time; since 1960, medical care has more than doubled as a share of national output.  When Victor Fuchs addressed the American Economics Association as its President in 1996, he reported that 81% of health economists he surveyed agreed that “the primary reason for the increase in the health sector’s share of GDP… is technological change in medicine.”  How can this be?  Technological advances in other markets have led to falling prices and declining expenditure shares. 

There are two related reasons; I’ll explain by way of anecdotes: 
1)  First, the development of angioplasty to open clogged arteries in patients who had heart attacks led to the application of these techniques to patients with clogged arteries simply at risk for heart attacks.  Inpatient expenditures for heart disease and heart attacks practically quadrupled in real terms to $19.4 billion from 1977 to 1996. 

2)  Second, the laparoscopic technique for gall bladder surgery cost 25% less than conventional gall bladder surgery.  While conventional surgery had a 3 to 7 day hospital stay coupled with a long and painful recovery period, the laparoscopic technique involves a 1 to 2 day hospital stay and a short, nearly painless recovery period.  HMO’s discovered that lowering the non-monetary cost of surgery (the part borne by the patient!) so increased demand that falling prices were accompanied by an increase in gall bladder surgery expenditures.

Fuchs then set the research agenda for the next decade in health care economics by asking:  is the technology worth the cost?  Is technological advance in medicine a curse or a gift?

David Cutler recently summarized the modern, mainstream economist’s point of view in his book, Your Money or Your Life, by posing the question: 

Which would you choose, 1950 medicine at 1950’s prices or 2000 medicine at 2000 prices?

If we answer the present then the benefit of our medicine must outweigh its cost.  No doctors will provide 1950’s medicine at 1950 prices.  The trick is in tying down the measurement of the benefits.  How much is a life worth?  How much is a year of life worth?  Economists, going back to Adam Smith and The Wealth of Nations in 1776, argue that the prices that we pay and the wages we receive reveal something about the way life is valued.  Why are those who cap oil wells paid such a high wage compared to equally skilled workers at less risky jobs?  The answer, of course, is the risk that they face.  When air bags were optional, they added $300 to the price of a car.  It’s estimated that an airbag saves the life of one driver in 10,000.  10,000 people buying airbags means that, on average, one life is saved for each $3,000,000 spent.  The literature suggests that this isn’t a bad first pass – estimates range from three to seven (3-7) million as the value of a statistical life; the EPA, based on this kind of research, values a statistical life at 6.3 million, the Department of Transportation, at 3 million.  To make estimates comparable between countries, we need to adjust for exchange rates and income differentials.  We can ask how many years are saved due to a procedure, adjust as best as possible for quality of life issues, discount the future to the present and we can come up with some numbers.

Cutler estimates that a typical 45 year old will spend $30,000 in present value over the rest of their life on cardiac care and add about 4 ½ years to their life because of that care.  After some math, this yields a value of about 120,000 for the medical treatment.  Think of it, that’s a 300% return on each dollar spent.  Where can you find such high returns?  Investors are thrilled with a 20% return.  Because we value life and health so much, the payoff to technology is extraordinary.  Recent MacArthur fellow, Kevin Murphy, a University of Chicago economist, has gone so far as to suggest that we under invest in medical technology research!.  He has shown that life expectancy improvement alone adds about $2 .6 trillion per year in value to our economy whose average GDP was 5.5 trillion from 1970-1998. 

Is that where it ends?  Should we be pleased?  I want to return to Okun and Equity and Efficiency.  I teach a course, a freshman seminar whose basic premise flips on its head the notion that imposing fairness on markets will cost you.  Since our world doesn’t use resources efficiently to begin with, we can create a more equitable world if we use our limited resources more efficiently.  We can look at the outcomes of cardiac care in the US and Canada for a hint.  The Canadian government places severe limits on the use of high tech medicine; as a result, typical heart attack patients are less likely to undergo bypass surgery than in the US.  Yet survival after a heart attack is virtually the same in the two countries!

How can we do better?  Cutler has emphasized that the way we pay for health care creates the wrong set of incentives.  (For those who’ve read Freakonomics – NY Times Best Seller – a discussion of incentives should ring a bell.  ) Doctors are paid to perform surgery.  Doctors are not paid to make sure their patients take their medicine as prescribed or keep their scheduled test dates so no follow-up occurs.  The returns on these low cost activities are enormous.  Cutler says “Medical care is not the same as health improvement and the system does poorly when they differ.”  He suggests pay for performance for health providers.

Medicare is currently testing pay for performance.  Hospitals scoring in the top 10% in a set of quality measures will be given a 2% bonus.  The present head of Medicare is Mark McClellan; he’s an MD with a Ph.D. in economics; he’s a former co-author of David Cutler.

The vision for the future is that our dollars can buy us better and cheaper care which can then allow us to focus on the question of how we provide that fundamental right of health care.