Why is Yardstick competition useful in setting hospital reimbursement?
HEALTH ECONOMICS TOPICS
>Introduction
A very large portion of health budget are spent to hospital. Therefore, since last two decades, many country try to find out the appropriate mechanism to reimbursement hospital. Since the number of hospitals are limited and have at least some monopoly power, it seems market competition is not work for hospital. With market power, hospital tend to provide services at a certain level where they can get maximum profit. As a result of monopoly, welfare lost tend to occur. To overcome this problem (inefficiency) Yardstick competition are introduced. Yardstick competition try to replicate perfect competition under monopoly situation. How Yardstick competition work and the way the system try to reduce the cost will explain below. The paper start by explaining very brieftly about monopoly.
Monopoly
Most hospitals face down slope demand curve. It mean that they have some degree of monopoly power. Therefore, hospital try to decrease the quantity of health care services in order to maximize the profit. In the case, the quantites are reduces to Qo with the price at Po. Where if hospital has acted as competitive firms, they should expanded their production at the point of R, where Marginal Cost equal to Demand with the price of Co. From social perspective, under monopoly market, hospitals create welfare loss as much as represented by MAR.
Yardstick Competition
Yardstic competition, try to replicate perfect competition under monopoly market. This method assumes that all hospital are able to invest in cost-reducing technology in effort of reducing Average Cost. A hospital is reimbursed at the average of treatment cost of all other hospital in the market. Payer observes the average of marginal cost of all paticipant of market regularly, then introduce a new average. This procedure continue until the average of marginal costs no longer falls. At this point, price become equal to MC. Theoritically, this result is same as the result of perfect competition.
Reaction of Hospital to Yardstic Competition
The average and marginal treatment cost are constant and initially treatment costs are Co. Hospitals are reimbursed as much as Co. Each hospital has to provide of teatment at which MC is equal to market price. In order to make a profit, the hospital can invest in cost-reducing technology, incurring fixed costs, to lower marginal treatment cost of production to C* and the hospital finds a new AC curve as given by the curve AFC+C*. The firms can invest for further cost reduction until MC of investement exceed MR gained by the investment. The new output occur is equal to demand price, which is at B, then optimal provision becomes Q1 and the price fall to P*. Then if the marginal costs of the firm is still above C*, the firm will lose the amount represented by vertikal line area. To compase government provides a lump-sum subsidy to that hospital. However, if the hospital succeed in lowering marginal cost to C1, the hospital gain incremental pofit represented by horizontal line area.
In conclusion
Under retrospective payment system, hospital have no incentive to reduce cost and to increase efficiency. In contrast, under yardstick competition, hospitals are pushed to be cost concious and cost containment by improving efficiecy. Yardstick competition lead to optimal equilibrium which is know as Nash equilibrium. A situation where each firm does the best that it can, given the decision of others. It is equlibrium because once choice are made no firm has any motive to change its action. However, this system work if there is no collusion
Add comment June 15, 2006
Is economic helpful in assessing efficiency in health care sector?
Is economic helpful in assessing efficiency in health care sector?
Introduction
The main concern of economic is how to use limited resources efficiently, including health resources. Efficiency in economic is achieved through market mechanism, which is at the point where demand and supply are equilibrium. This equilibrium can be achieved under certain conditions or assumptions. A number of important assumptions will describes belows. Such condition is rare occur in health sector, therefore market is failure in health care sector. I will explain how this failure occur both from demand sides and supply sides, and briefly discussed a number of specific strategies to overcome the failure.
Market and Efficiency
Efficiency in economic market can be achieved when supply and demand are equilibrium. This usually can be achieved if the degree of competition in market is high enough. Under high competition, in order to survive, the suppliers or firms should allocate resources to most efficient use. Each firm try to keep prices as low as possible to attract consumers or buyer. The prices (P) are set equal to marginal cost (MC). It means that P and MC is equivalent to demand (D). If the market operate under this condition, then efficiency, particularly efficiency in consumption can be achieved. By this, it means that benefits to community or social efficiency are maximized. Under this condition, marginal social benefits (MSB) are equivalent to marginal social costs (MSC).
This could be happenned under certain conditions, such as supplier are prices takers, no barrier to entry market. Form demand sides, purchaser try to maximize utility and they have soverignity and perperct knowledge what they want to buy. I will descriabe briefly such conditions and show how these assumptions are failure in health sectors. Description both from supply sides and demand sides
Supply Sides
Price-taker is one of crucial condition in free market. Firm should be price-takers in all product and factor market. There is no one firm that able to influence the price of good or services. They compete based on price. This only occur if there are many producer selling product or providing services. Each firm only produce or provide a tiny fraction of total ouput or particularly good or services. Producers and purchaser are well informed about price.
However, in health sector, price-takers are rerely occur. If so, only for very simple product or services. Usually, some firms or providers able to influence the price in the market. For example, a pharmaceutical industry that has a patent right to produce certain medicine. That firm have market power to influence the price. This creates market failure.
In addition, this monopoly is a also very commond occur in other health services. This is mainly related with supplier that are very limited. In some area, there are a number of supplier, but in other areas, it is very limited. Then patient do not have many choice. Moreover, there are a very few close subtitute of services.
If there is a provider want to enter the market, they face many barriers. Professional body is very powerful and licence is needed to enter market. Consequently, under this monopoly will transform consumer surplus to producer surplus. However, the lost cost in consumer is bigger than gain in producer surplus. Therefore, there is an overall lost to cociety or deadweight loss.
Demand sides
In the perpect market, the purchaser have soverignty. They have information about the product and able to judge the cost and benefit of product or services and purchase those services where benefits exceed cost.
However, in health sector, there is asymetric information between providers and patients. Patients very difficult to judge the the benefit of health care. Even after pateint received the treatment, they can not sure whether the treatment has worked. Under this situation, it is very difficult to define indifferent curves. This will create market failure. When demand side instition is fail, then resources allocation perform by new institution through agency relationship. Under limited knowledge, patients rely on health care professional. They act as agency on behalf of patients. However, the agency relation is not perfect. There is a tendency to over supply and induced demand over consume. This is particularly true if agency know that financial risk is not by consumer. In short this will create inefficieny and market failure.
Conclusion
In short market failure in health care can be explain from demand and supply sides. Market failure from demand side mainly related with asymetric information. When demand sides intitution is fail, then resource allocated by new institution through agency relation. However, the relation is not perfect. Then market also fail
June 10, 2006
Add comment June 15, 2006
