Day

1. Medical care spending is absorbing an increasing share of national output, at least up until the last two or three years. Whether this recent slowing in the percentage share of GDP will continue is debatable (and a good structured discussion topic). The reasons for high and rising spending include 1) the increased use of medical technology, 2) rising medical input prices, 3) an aging population, 4) the cost of medical malpractice litigation, and most importantly, 5) the third-party payment mechanism.

2. Scarcity in economics is the recognition that all resources are limited relative to wants that are unlimited in the aggregate. Scarcity forces us to make choices.

3. Tobacco market
a) Demand falls: price falls, quantity falls
b) Supply falls: price rises, quantity falls
c) Supply falls: price rises, quantity falls
d) Supply falls: price rises, quantity falls
e) Demand rises: price rises, quantity rises

4. a. The coefficient 0.09 indicates that a $1,000 increase in per capita national income will result in a $90 increase in health care spending.

5. Market failure occurs when the level of output in a market is not optimal, when marginal benefits do not equal marginal costs for the last unit of output provided. Failure in medical markets is caused primarily by information problems, including provider-induced demand, moral hazard, adverse selection, and the third-party payment structure.

6. Evidence of market failure cited by proponents of a government-run system include exceptionally high administrative costs of a private insurance system, poor access for those without insurance, asymmetric information problems giving providers too much power in the decision-making process, and the free rider problem.

Quantity of Vaccinations	Marginal Private Benefit	Marginal External Benefit	Marginal Social Benefit	Marginal Cost
400	$18.00	$2.00	$20.00	$12.00
500	16.00	3.00	19.00	13.00
600	14.00	4.00	18.00	14.00
700	12.00	5.00	17.00	15.00
800	10.00	6.00	16.00	16.00
900	8.00	7.00	15.00	17.00
1000	6.00	8.00	14.00	18.00
1100	4.00	9.00	13.00	19.00

a) The free market outcome occurs where Marginal Private Benefit equals Marginal Cost at Q = 600 and P = $14.00.

b) The socially optimal outcome occurs where Marginal Social Benefit equals Marginal Cost at Q = 800 and P = $16.00.

c) The optimal subsidy is equal to the marginal external benefit at the optimal output, namely, $6.00. Vaccine providers would be able to capture $2 of this subsidy in the form of a higher market price (from $14 to $16).

9. With CBA benefits are measured in currency units. With CEA benefits are measured according to outcomes. One reason that CEA might be preferred is that it might be viewed as distasteful to put a monetary value on life.

a) In terms of number of total lives saved, D is the best. In terms of average cost per life saved, B is the best.

c) When comparing A v. B and C v. D, the call is an easy one. Almost everyone, not just economists would prefer B and D. Is a life worth $33,333?

13. Following Arrow�s (1963) approach, demand for medical care is irregular, it is characterized by information problems, and it is subject to widespread uncertainty. The industry is dominated by not-for-profit providers and financed by third-party payers.

15. Health care is an investment to the extent that it enhances a person�s future productivity�market and non-market. Except for those whose looks are their livelihood, cosmetic surgery is probably pure consumption.

19. Deductibles and coinsurance are devices to increase out-of-pocket spending by patients. It is meant to counter the problem of moral hazard.

21. This question may be answered with the discussion beginning on page 170 in Henderson.

22. Self insurance is a way of avoiding paying insurance loading costs, many state mandates, and participation in state-run high risk pool.

Income	Health Care Spending
$ 5,000	650
10,000	1,100
15,000	1,550
20,000	2,000
25,000	2,450

Program	ICER	ACER
A	dominated	$10,000
B	0	$8,333
C	dominated	$16,667
D	$33,333	$13,333