Demand for Health Care

Dr Enas Aboraya

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 Outline
Demand & purpose of demand analysis •
Need, want & demand •
Michel Grossman model of demand for health •
Factors affecting demand for health •
Distinctive characteristics of health sector •
Law of demand, demand schedule & curve •
Economic factors that affect demand for health •
Equilibrium of demand & supply •
Elasticity of demand •
Factors affecting elasticity of demand •
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Elastic & inelastic demand curves •
 Demand
Demand describes the behavior of consumers. It does •
not mean the desire to obtain something (Health
care)

The hungry man who can not pay for food has no •
demand for it

An individual’s demand for a good is the various •

quantities of goods & services that the consumer is
willing and able to buy at each specific price

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 Demand for health care
The major purpose of demand analysis for •
medical care is to determine those factors
which on the average, most affect a persons
utilization of medical services

Demand analysis seeks to identify which •

factors are most influential in determining
how much care people are willing to purchase

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 Need Vs. want
A need is something that is necessary for humans to live •
a healthy life.
Needs are distinguished from wants because a •
deficiency would cause a clear negative outcome, such
as dysfunction or death.
In economics, a want is something that is desired. •
It is said that people have unlimited wants, but limited •
resources.
Thus, people cannot have everything they want and •
must look for the best alternatives which they can
afford.
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 Need versus demand
Need
Someone's subjective
idea
(may be based on a
formula applied
objectively, but the choice
to use the formula was
someone's subjective
idea.
Money is not a factor.
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Demand
Objectively observable as
behavior in the market.
Money is a key factor.
"Demand" is also called
"effective demand,"
because it's expressed
only by spending money.
 Need versus demand…
Health plans that focus on need and ignore •
demand will face under- or over-utilization of
service capacity

If one believes quantity demanded is too little •

or too much (e.g. under-use or over-use of
emergency room) relative to need, then
quantity demanded must be manipulated by
changing,
price or other costs to buyer, or –
demand through marketing or de-marketing –
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 A model of demand for medical
care
Consumer purchase goods and services for the utility •

If the commodity demanded by consumers is good •

health, then health can be produced by goods and
services purchased in the market as well as by the time
devoted to preventive measures

Demand for medical care is derived from the more •

basic demand for health

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A model of demand for medical care…

According to Michel Grossman, consumers have •

a demand for health for two reasons:

Health is a consumption commodity—it makes the –

consumer feel better

Health is an investment commodity—a state of –

health will determine the amount of time available
to the consumer for productivity
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 Grossman’s demand model

Individual/client factors
[age, sex, education, occupation]

Health care resources

Environmental factors factors
(physical, economic, Demand
E.g. supply, access,
social, cultural) acceptability

Prepayment factors
E.g. private insurance, tax based health
Insurance, national health system,
Out of pocket payment
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 Grossman’s demand model…
According to this model every one inherits a stock of 
health when born

Health depreciated overtime, however an •

investment is required to sustain health

As peoples’ age advances there is an increase in rate •

of illness and in the utilization of health services.

The stock of health can be sustained by investment •

to maintain health., such as use of health services
and health promoting activities

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 Grossman’s demand model…

A view of medical care demand being derived •

from the demand for health implies the
following:
increase in age result in an increase in the rate at –
which the person’s stock of health depreciates

Over the life cycle people will attempt to offset –

part of the increased rate of depreciation in their
stock of health by increasing their expenditure on
health

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 Grossman’s demand model…

the demand for medical care will increase –

with increases in person’s income

education may have a negative effect on –

the demand for health care, because more
highly educated people are presumed to be
more efficient in producing health

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 Distinctive characteristics of health
sector
Consumer ignorance –

Non-profit motive –

Large components of personal service –

Restrictions on competition –

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 Distinctive characteristics of health
sector…

The uneven and unpredictable incidence of –

illness

External effects e.g. Herd immunity –

Mixture of consumption and investment –

elements
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 Deriving a Demand Curve for
institutional Visits
• Downward sloping demand curve for the visits

Price

P1

P0

q1 q0

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• Price changes lead to movements along D curve
 Other Economic Factors
Affecting Demand
The demand curve illustrates the effect of •
changes in the price of the good on quantity
demanded holding all other factors (income,
prices of other goods) constant.
Changes in factors other than the price of the •
good itself lead to shifts in the demand curve.

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 Other Economic Factors
Affecting Demand…
1. Income
If income increases, then at any given price, consumer •
is willing and able to purchase more q
Price

DO D1

P0

18 q0 q1 Physician Visits
 Other Economic Factors
Affecting Demand…
2. Complements - 2 or more goods which
are consumed together

e.g. laser printers and toner cartridges •

e.g. sugar and milk? •
e.g. contact lenses and optometrist visits •

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 Other Economic Factors
Affecting Demand…
2. Complements
e.g. contact lenses and optometrist visits •
If contact lenses become cheaper, demand for optometrist •
visits will increase

Price
Price of complement
falls

D1
D0

20 Optometrist Visits
 Other Economic Factors
Affecting Demand…
3. Substitutes - other goods which satisfy the
same wants, or provide same characteristics

e.g. Doctor and Health Officer? •

Generic and brand name drugs •
Private and public hospitals •

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 Other Economic Factors
Affecting Demand…
3. Substitutes - other goods which satisfy the
same wants, or provide same characteristics
e.g. generic and brand name drugs •
If generic drugs in price, D for brand name will decrease •

Price
Demand for brand name
drug falls

D0
D1

22 Brand name drugs

 Equilibrium of supply and demand
Market equilibrium occurs when two economic •
variables [supply and demand] are in balance

The market equilibrium comes at that price and •

quantity where supply and demand forces are in
balance

At such a price the quantity and amount that buyers •

wish to buy is just equal to the amount that sellers
wish to sell

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 Equilibrium of supply and demand…
At the equilibrium, price and quantity tend to stay •
same as long as other things remain equal

Equilibrium price and quantity come at that level where •

the amount willingly supplied equals the amount
willingly demanded.

In a competitive market, this equilibrium is found at the •

intersection of supply and demand curves.

No shortages or no surplus are found at equilibrium •

price.
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 Equilibrium of demand and supply

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 Elasticity
In economics elasticity refers to the ratio of the •
relative change in a dependent variable to the
relative change in an independent variable.

A change in any of the demand factors will cause a •

change in quantity purchased of a good per time
period.

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 Factors affecting elasticity of demand

Price change •
Availability & price of substitutes •
Availability & price of complements •
Income change •
Nature of commodity •
Multiple uses •
Deferred consumption •
Position of the commodity in consumers budget •

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 Elasticity of demand in heath care
Demand may be affected by factors determined by •
the consumer, the provider, the supply or location
of services

Elasticity of demand relates quantity demanded to •

the price of the goods or services

Cost to the consumer is a factor in choosing to •

purchase goods or services

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 Elasticity
Price A relatively flat demand curve
implies that a small increase in
price leads to a large fall in #
visits demanded

# Visits
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 Elasticity…
Price In this case demand is
considered to be relatively
“elastic” with respect to a
change in price

# Visits
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 Elasticity…
Price A relatively steep demand curve
implies that a small increase in
price leads to a small fall in #
visits demanded

# Visits
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 Elasticity…
Price In this case demand is
considered to be relatively
“inelastic” relative to a change
in price

# Visits
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 Elasticity…
Price Elasticity of Demand:

%QD % change in quantity demanded

ED  
%P % change in price
Example: If the elasticity of demand for physician •
visits is -.6, a 10% increase in price leads to a 6%
decrease in the number of visits demanded

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 Elasticity…
ED is expected to be negative. Thus, price •
elasticities of demand are often quoted in
terms of absolute value

The demand curve is inelastic if •

0<|ED|<1 •

The demand curve is elastic if •

1<|ED|<
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 Elasticity...
Q
% QD Q Q P
  
% P P P Q
P
If you are given a formula for a demand curve, •
you can compute the elasticity of demand for
any combination of price and quantity along
that demand curve
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 Elasticity…
Income elasticity of demand: •
%QD % change in quantity demanded
EY  
%Y % change in income
Example: If the elasticity of demand for physician •
visits is .1, a 10% increase in income leads to a 1%
increase in the number of visits demanded

For most types of medical care, EY should be positive •

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 Elasticity…
•Price elasticity of demand is critical for
determining a health care manager’s total revenue
TR = PQ D

• Demand theory tells us that P QD

If demand for physician services is inelastic, and
if the price is raised, then I %QD I < I %P I
 Total revenue will increase if price is raised
when demand is inelastic

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 Insurance
 The above demand analysis assumed that the
patient pays for care out-of-pocket
How does insurance affect the demand for care?

1. Coinsurance - Patient pays only a fixed % of the

cost of each visit (often C = .20)

e.g. If the visit costs $100 :

patient pays $20, insurance pays $80

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 Insurance…

Price

cP

q qc # Visits

• No insurance : consumer faces price P, makes q visits

• With coinsurance : consumer faces price cP, wants to
make qc visits
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 Insurance…

Price

cP

q qc # Visits

 Coinsurance leads to a demand of qc visits at price P,

shared by consumer and insurance company
 Demand curve rotates clock wise
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 Indemnity Insurance
Insurer pays a fixed amount for each –
purchased service
Insurer pays $150 for each overnight hospital stay, and •
patient pays the rest

Price

$150

D1
D0

41 Visits
 Estimating Demand for Medical Care

Quantity demanded will be affected by: •

out-of-pocket price –
real income –
time costs –
prices of substitutes and complements –
tastes and preferences –
state of health –
quality of care –

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 Empirical Evidence
Demand for primary care services •
(prevention, early detection, & treatment
of disease) has been found to be price
inelastic
Estimates tend to be in the -.1 to -.7 range –
A 10%  in the out-of-pocket price of hospital –
or physician services leads to a 1 to 7%
decrease in quantity demanded
Ceteris paribus, total expenditures on hospital –
and physician services increase with a greater
out-of-pocket price
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 Empirical Evidence…
Demand for other types of medical care is •
slightly more price elastic than demand for
primary care

Consumers should be more price sensitive •

as the portion of the bill paid out of pocket
increases

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 Out-of-Pocket Payments in the U.S.

1960 1980 1990 2003

National health expenditures ($b) $26.9 $247.3 $699.5 $1,678.9
% out of pocket 48.7% 24.4% 20.6% 13.7%

 Hypothesis: Consumers are more price

sensitive if they pay a larger % of the health
care bill
 The fall in the % of out-of-pocket
payments may explain the rapid rise in
health care costs
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 Out-of-Pocket Payments…
Total Expenditures and % Paid Out-of-Pocket, 2003
$b
Hospital care $515.90 3.2%
Physician & Clinical Services 369.7 10.2%
Dentist Service 74.3 44.2%
Prescription Drugs 179.2 29.7%
Nursing Home Care 110.8 27.9%
 Hypothesis: Consumers are more price
sensitive if they pay a larger % of the health
care bill
 Higher hospital and physician expenditures
may be due to the low % paid out-of-pocket
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 Empirical Evidence
At the individual level, the income elasticity •
of demand for medical services is below
+1.0

The travel time elasticity of demand is •

almost as large as the price elasticity of
demand

Little consensus on whether hospital care •

and ambulatory physician services are
substitutes or complements
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 Applying Demand Theory to Real
Data
• Demand analyses in health care must take
insurance/ exemption into account

• Demand analyses are critical in shaping

managerial and public policy decisions

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 The end!

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