Chapter 2

Economic Dimensions of the Health Care System

2.1   INTRODUCTION

 

2.2 ECONOMIC UNITS AND ECONOMIC FLOWS

2.2.1 Economic Units: Units observed for economic analysis include individuals and organizations.

Can vary considerably in size, and the size of a unit is believed to affect the unit’s efficiency and at times its ability to obtain a better price for its product.

Providers can vary by ownership status.  A provider can be for profit, meaning its assets are owned primarily by shareholders who can sell their shares in the organization and have a claim to any profits (revenues over expenses) that the organization might make.  A nonprofit organization is incorporated for the purpose of providing a service.  A third type of provider is government-owned.

 

2.2.2 Flows between Units

 

2.2.2.1 Flows in a “Generic” Health Care Market

Consumers
 
                                                                                                       

 

Premiums

                       

 Pa Reimbursementsents                                                  

 

Insurers
 

Providers
 
                                                                                                                                                                                                                                                                                               

                                               

               

                Hospital cases are categorized into diagnosis-related groups (DRG’s), and a separate reimbursement rate is set for each DRG.  Each time a patient is admitted to the hospital, the hospital is paid a rate corresponding to the patient’s particular DRG.  Physicians are largely reimbursed on a fee-for-service basis, and long-term care facilities on a per diem basis.

 

       2.2.2.2 Introducing the Employer

 

                                                                                                Income taxes

Employees
 
 

Wages

Employers
 
                                                                                                                                                                                                               

                     Out-of-pocket Payments        Ee’s share                                                                                      -Ers’ share of

                                                                                of premiums                                                                      premiums (typically 2/3)   

Providers
 

Insurers
 
                                                                                                                                                                                                                                                                                                                                                 

                                                                Reimbursement

 

      2.2.2.3 Medicare has 2 parts: Part A (or hospitalization insurance) covers hospital care, home care, and a small amount of long-term care (limited to skilled nursing facility care). Part A largely financed by a federal payroll tax paid by both –ers and –ees.  (in 2000 = 1.45% of taxable earnings from –ee and –er) In 2000, deductible of $776, which covers first 60 days of care, and for anyone needing 61 to 90 days of hospitalization, there was a coinsurance payment of $194/day.  Over 90 days during a year, could draw upon a lifetime reserve of 90 days.  Many individuals have purchased a private form of insurance called Medigap, which covers Medicare direct expenses.

Part B (supplemental medical insurance) coverage is for physician care, lab and radiology services, and physiotherapy.  Enrollment is voluntary and can be purchased with a premium payment ($45.50/month in 2000).  Annual deductible of $100 and a copayment of 20% after that.

Medicare now reimburses hospitals on a per case basis, with distinct payments made for each type of case (DRG).  The DRG rate is preset and is called prospective.  Payment system is called prospective payment system (PPS).

 

    2.2.2.4 Medicaid

    2.2.2.5 Health Maintenance Organizations = 1 type of managed care organization.  Managed care refers to forms of insurance coverage in which enrollee utilization patterns and provider service patterns are monitored by the insurer or an intermediary with the aim of containing costs.

There is a set fee for each enrollee, and the HMO receives a single annual amount for each enrollee whether it provides much or little care.

One of features of any HMO is restriction of access to providers.  This allows the HMO to monitor the providers and possibly have some impact on provider behavior.  Such monitoring can potentially encourage providers to practice in a more conservative, less costly manner.

   2.2.2.6 Preferred Provider Organizations

Were designed to expand consumer choice while maintaining many of the monitoring benefits of managed care.  A PPO will contract with certain providers (‘preferred providers’) who agree to charge low prices and submit to utilization monitoring in exchange for being designated as a preferred provider.  PPO then contract with insurance companies on behalf of these providers to gain their business.   Insurers offer enrollees a dual pricing system –one price for those who use the preferred providers and a higher price for those who use nonpreferred providers. 

Recently, HMO’s have been allowing members to seek care from unrestricted providers for a differential fee.  These HMO’s are called point-of-service plans.

 

2.3   COST OF ACTIVITIES

In the context of a flow, cost is taken to be the magnitude of the resources devoted to an activity. 

The notion of opportunity cost, defined as the value of the most valuable alternative course of action given up for the chosen course of action, is used as a measure that does not depend on whether providers are paid in money for their services.

Costs can be direct or indirect.  Direct costs refer to money expenditures, while indirect costs (also called lost-productivity costs) refer to unpaid resource commitments. 

1998: estimated value of all direct national health expenditures for U.S. amount to $1.149 trillion, or 13.5% of GDP in that year.  Social costs include both direct and indirect costs that fall on all members of society as a result of illness.

The following resource components might be affected by the illness: health care resources used in diagnosis and treatment (also called direct care costs); direct nonhealth resources such as transportation, special diets, and household goods; patient loss of work time due to illness and injury (also called indirect care costs); and other related indirect costs, such as work time lost by unpaid caregivers.

Cost-of-illness studies can be conducted on a prevalence or incidence basis.  With a prevalence basis, the annual costs of all existing cases during a year (including newly and previously diagnosed) are included.  In contrast, an incidence-based analysis includes all present and future costs only for cases newly diagnosed during the year.

 

An activity (e.g. being ill) can result in costs incurred (value of lost time) in different time periods.  To be valued on an equal footing, costs that occur in different time periods must all be valued as o f the same point in time.  The adjustment factor that brings future costs in line with present costs is called the discount factor.  The result of adjusting a future period cost to the present is called the present value, and a discount rate can be applied to costs occurring in different periods in order to put them all on the same footing, i.e., valuing them all as of the present period.

One study for 1980 estimated the social costs from all illnesses in the U.S. to be $455 billion (Rice etal. 1985), broken down as follows: direct personal health care expenditures, 212 billion; indirect morbidity costs, 67 billion; indirect mortality costs, 137 billion (PV).

 

2.4   ACCOUNTING FOR THE GROWTH OF COSTS

Let C = Total Cost             Q = units of output          K = unit cost

In time period 1:               C1 = K1Q1

                “          2:                C2 = K2Q2

Let ΔC = C2 – C1                 ΔK = K2 – K1                                     ΔQ = Q2 – Q1

 

C2 can be rewritten as:

C2 = C1 + ΔC = (K1 + ΔK) (Q1 + ΔQ)

                       = K1 Q1 + ΔK Q1 + ΔQ K1 + ΔK ΔQ

Since C1 = K1Q1 we are left with

                ΔC = ΔK Q1 + ΔQ K1 + ΔK ΔQ

Dividing through by C1 = K1Q1

Growth rate of Total Cost ≈sum of unit cost + output growth rates.

Data for 1981-87 indicate an average growth rate of 9.3% for total hospital expenditures.  There was an average annual growth of 11.25% for expenditures/patient day, an average annual decline of 2.3 % for average length of stay, and an average annual decline of under 1%.  For admissions →The major contributor to growth in hospital costs during 81-87 was hospital expenses/day.