Health Economics

An influential 1963 article by Kenneth Arrow gave rise to the health economics as a discipline. Health economics is a branch of economics that studies the issues related to scarcity in the allocation of health and health care. In broad terms, health economists study the working of the health care systems adopted by the society and the private and social causes of health-affecting behaviours such as excessive drinking and smoking.

Health Care Demand

The health care demand is derived out from the demand for health. The demand for health is different from the demand for other goods as the individuals allocate resources in order to both consume and produce health.

Michael Grossman's 1972 model views each individual as both a producer and a consumer of health. Health is treated as a stock which degrades over time in the absence of "investments" in health, so that health is viewed as a sort of capital. Health care is sought as a means for consumers to achieve a larger stock of ‘health capital.’ The model shows that health care is both a consumption good that yields direct satisfaction and utility, and an investment good, that yields satisfaction to consumers indirectly through increased productivity, fewer sick days resulting in higher wages. In Grossman's model, the optimal level of investment in health occurs when the marginal cost of health capital equals the marginal benefit. In this model, the optimal health stock can be affected by factors like age, wages and education. Age decreases the marginal benefit of health stock. The optimal health stock will therefore decrease as one grows older.

Insured patients are naturally less concerned about health care costs than their counterparts who pay the full price of care. This increases the health care costs, as shown by the famous RAND Health Insurance Experiment.

Consumers in health care markets often suffer from a lack of adequate information about what services they need to buy and which providers offer the best value proposition. This is where the Health economists’ role comes into play whereby the health economists studies the problem and come up the solution of supplier induced demand, whereby providers put forth treatment recommendations on economic, rather than medical norms and conditions.