Chapter 9

Market Power in Health Care

9.1 INTRODUCTION

9.2 MONOPOLISTIC MARKETS

9.2.1 Simple Monopoly

Supplier has monopoly in a market when it is sole source of supply in that market. Demanders do not have any close substitutes for services.

9.2.2 Demand

Assume a single pediatric group practice. Product defined as quality-constant pediatric visits. Group faces a simple market demand curve. (Table 9-1, p. 205). Monopolist has ability to set price at any level it wishes.

9.2.3 Cost

TFC = $3

9.2.4 Objectives: Initially assume that provider’s objective is to maximize profits. MR = MC.

· Should be noted that MR is positive only at those quantities that correspond to the elastic portion of the Demand curve.

· Since MC is unaffected by fixed costs, the profit-maximizing level of output is unaffected by changes in fixed costs. Only the profit level will be lower when fixed costs increase.

· Similarly, if monopolist received a fixed subsidy, TR would go up at every level of output, but MR would not be affected. Price will not change.

· Monopolist can earn above-normal profits that persist over time.

9.2.5 Price Discrimination

Under some conditions, monopolist can further increase its profits by charging different prices to different buyers. This is called price discrimination. Assume pediatric practice can separate patients into 2 markets according to patient income. Fig. 9-2, p. 207.

To maximize profits, provider will set price in each market so that (1) MR in all markets is same and (2) overall, the MR in each market is equal to MC of producing that level of output.

9.2.6 Physician Pricing and Supply in Public Programs

Fig. 9-3, p. 209. Physician assumed to be monopolist facing two submarkets: one with private patients and one with patients in a public program. Public agency reimburses physician at a fixed fee level F_m → MR_m = F_m. Physician will supply Q₁ to private and Q₃ – Q₁ to public patients. Assume physician’s MC curve is MC₁. Private patient will pay P_m.

9.3 MONOPSONY—BUYERS’ MARKET POWER

The basic monopsony model can be illustrated by the example of a large hospital chain that is a purchaser of aspirin. Higher prices result in a greater quantity supplied, so the supply curve looks like S in Figure 9-4, p. 211. The expense of adding another unit of an input for a monopsonist is called the marginal factor cost (MFC), and it will be higher than the supply price, as shown by the MFC curve.

Since there are many substitutes for aspirin, the hospital chain will have a somewhat elastic demand curve indicating its marginal benefit for any quantity (based on increased revenue the input will enable it to earn). In making a purchase decision, it will weigh this marginal benefit against the MFC and buy the quantity at which these two are equal. At any quantity less than this, there would be increased profit as a result of expanding purchases. At a higher quantity, profit would be enhanced by a reduction in quantity purchased.

The result is shown in Fig. 9-5. Q₀ units will be purchased at a price of P₀ per unit. If the demand curve had represented the total demand of many small buyers, equilibrium would have been at P_cQ_c. So the effect of monopsony is to decrease price and quantity compared to what which would occur in perfect competition.