Economic relevance of the healthcare sector

Healthcare merits a large proportion of government attention because it impacts everyone living in the UK, and in a substantial way. Everyone requires healthcare services at the beginning of their lives, towards the end of their lives, and when they fall sick. A good healthcare system contributes to a healthier population, which in of itself is an economic goal because economics concerns itself with welfare. People, it can safely be assumed, gain utility by being healthier. Ensuring that the population is healthy is also a means to ensuring another economic goal: better workforce productivity (Gianluigi, 2012).

 

What a private health market would look like

Without government intervention, individuals would become liable for paying for their medical health. But because of

• uncertainty for most individuals about when and what type of medical treatment they will require,
• the risk that medical treatment can far exceed individuals’ liquid savings – heart surgery, for example, in the United States can cost over USD 100,000 (Gokhale, 2013), whereas the median cash savings of American is USD 5,200 (Smith, 2018), and because
• people are normally risk averse (Arrow, 1963: 959-960),

there would exist a market for health insurance (Krugman, 2009).

 

Anticipated market failures in the healthcare sector 

If the free market priced all relevant costs and utilities and allocated resources to services which would make all participants in the market better off, the market would have achieved Pareto efficiency (Arrow, 1963: 942). Consumers would have choice, and would have the knowledge and state of mind to make informed choices.

These would not, however, be expected outcomes of a purely private market sans government intervention for multiple reasons, including:

• the difficulty of modelling for societal disutility when
  • inequality occurs because those born with ‘lemons’ for bodies would also suffer more financially, and
  • ‘unethical’ exclusion occurs because finances preclude receiving medical attention,
• information asymmetries between healthcare providers and patients, allowing providers to over-prescribe treatment and price treatment well above marginal cost,
• conflicts of interest between insurers and the insured, whereby profit-maximising insurers
  • dictate treatment choices that are not the most cost-efficient, let alone the best treatment for the patient,
  • will try to deny claims to the extent that they can,
  • will deny coverage to those that need it the most, ie. those with pre-existing conditions,
• the power professional healthcare unions would have to restrict the supply of medical professions by restricting the number of places offered at educational institutions to prevent competitive labour pricing,
• behavioural biases on the part of patients who undervalue the benefits of healthcare insurance, as well as lack of ability by patients to make the best choices for themselves (sometimes precisely because of the very illness from which they suffer that needs to be treated),
• lack of incentives, such as government-issued patents that allow pharmaceutical companies to capture medium-term Schumpeterian innovation rents (economic profits), and
• in the most extreme absence of government,
  • the high transactions costs associated with ascertaining the quality of healthcare likely to be provided because of the lack of regulation by centralised disinterested bodies with the requisite expertise that are ultimately accountable to customers (patients and prospective patients), and
  • the unenforceability of exchange in transactions and lack of recourse to judicial remedies for fraud of either party or professional negligence because of the lack of rule of law. If a market did still exist in these conditions, this absence of checks on fraud would exacerbate
    • information asymmetries between customers (prospective patients) and health insurance companies, whereby patients knowingly under-declare the likelihood that they will require treatment, thereby costing insurance companies more than they could have forecast by undercharging, and forcing them to charge higher premiums for all, thus crowding out low-risk self-insured patients and resulting in adverse selection, and in
    • hidden actions by insured customers who take more risks because they know that their insurance company will bear the financial cost (moral hazard).

In the case of health insurance, besides operating costs that add to the fair actuarial value of an insurance policy are the selling costs. In his seminal paper, Nobel prize economist Kenneth Arrow illustrated that expenses accounted for more than half of total health insurance premium income in 1958 USA (1963: 963). Competitive pressure would result in consolidation of the industry so that insurance companies would be able to offer customers lower premia in the short-term by benefiting from economies of scale that reduce the proportion of administrative costs. But consolidation of the industry would result in less competition and greater market power, allowing insurance companies to act like monopolies and set prices for insurance well above marginal cost, ie. well above administrative and selling costs and fair actuarial value. Not only would economic surplus be unequally distributed in favour of insurance companies, the economy would suffer Pareto allocation inefficiency in the form of a deadweight loss, with fewer insurance customers than could have been achieved in a competitive market equilibrium.

On the plus side, non-intervention of the government in the healthcare market would mean that price discrimination would not be illegal. The private sector would charge services by patients’ ability to pay. This would result in some amount of greater allocative efficiency and equity.

Non-intervention by the government would also reduce wastage by patients not seeking medical attention so much as just general attention.

Policy implications

To overcome the problem of overpriced medical professional fees because of bottlenecks in educational institution places available, the government can supplement the supply of graduates by financially assisting existing private sector establishments to expand, with the threat that they will lose potential revenues if they do not because it will otherwise establish its own medical professional schools. These expanded or new schools could still charge unsubsidised tuition fees for students from privileged backgrounds so long as demand for places in these schools is also not a bottleneck, and with financial assistance for those from impoverished backgrounds.

The government can offer patents to incentivise private sector health research and directly fund research itself to facilitate medical breakthroughs.

The government can establish centralised bodies to license medical professionals and approve medical treatment to ensure standardised minimum quality for customers.

To overcome the myriad problems associated with private health insurance, the government should consider the radical approach of offering single-payer national health insurance, as the Canadian government does (Flood and Rock, 2017). All residents of the UK would be covered for all necessary medical service by a government insurer. It would be run on a non-profit basis, funded by taxes and could, like in the case of Canada, have its income supplemented by premia paid by employers and employees. The single-payer national health insurance model would:

• Retain private provision of medical healthcare,
• Allow customer choice in hospital and doctor,
• Overcome issues of inequality and exclusion (and in so doing, doing away with the need for deliberate hiding of information by those who are most likely to need medical attention), and allow for treatment for all without involving financial ruin for those without private insurance,
• Allow for medical and social professionals to better monitor, advise and treat at-risk patients who do not self-admit themselves to treatment.

The single-payer national health insurance model would not, like its private counterpart, overcome moral hazard by customers who take undue risks with their health, but the government could intervene in this department as well by taxing unhealthy behaviours such as smoking, drinking and speeding.