Are we spending too much on health care? Most people, especially patients in the health-care system, would answer yes. Many factors are cited as being behind the high spending, including waste, government programs, high profits earned by some providers, and an aging population.
Recent spending on health care has risen faster than other spending and faster than consumer income. Yet it’s important to realize that any spending amount is a product of the price per unit and the number of units consumed.
Half of the recent increase health-care spending is caused by more units of health care being consumed, or in simple terms, greater usage of health care. Three factors are driving our increased consumption, or use, of health care: our aging population, our desire to be healthier as we are becoming more affluent, and the way in which health care is financed (more on this last point later).
The other half of the rise in health-care spending is caused by higher prices—that is, the price per unit of health care consumed. Indeed, health-care prices have risen two-thirds faster than other prices in the last decade.
Yet there’s debate about whether increases in health-care prices are being properly measured. When we think of a price increase, most of us think of paying more for the same thing. So, if the price of a dozen eggs rises from $1 to $2, we clearly say eggs cost more.
However, health care is different because it contains an important quality component, and few would disagree that the quality of health care has improved enormously. Our health-care system can treat many more illnesses, diseases, and injuries with greater effectiveness than any time in the past.
So, part of the reason health-care prices are up is because we’re getting more for our money. In fact, some economists argue that when “quality-adjusted” health-care prices are calculated, they show no increase. This would be like saying the doubling of egg prices from $1 to $2 was because the $2 eggs were twice as nutritious and satisfying as the $1 eggs.
Nevertheless, if we want to slow future increases in health-care spending and prices, what can be done? Economists always focus on the two sides of any market: demand and supply. To hold down price jumps, we’d want to slow the increase in demand while speeding up increases in supply.
On the demand side, a major issue is how consumers pay for health care. Currently consumers pay little of the direct cost of health care. Instead, they pay indirectly through government and insurance payments.
Some think that if consumers paid more of the direct price tag for health care, they’d be more motivated to compare prices and evaluate treatments. In short, consumers would become more price-sensitive at the time health-care decisions are made. In turn, this would motivate providers to be more efficient and to eliminate wasteful spending.
This is exactly the motivation behind health savings accounts. In such accounts, consumers are covered for catastrophic illnesses and injuries. But smaller expenditures are paid out of a deductible. To prompt consumers to monitor, and perhaps prevent, these small expenditures, unused funds in the deductible go into a savings account for the consumer.
Critics of this demand-side approach question whether consumers are capable of making health-treatment decisions, and worry that any incentive for consumers to reduce health-care expenditures could come at the expense of their own future well-being. So this debate gets to the very heart of consumer sovereignty.
Attacking health-care costs from the supply side means reducing barriers and regulations to make it easier for the number and type of health-care providers to expand. Licensing and training requirements and “certificate of need” programs would all come under review with this plan. Indeed, a recent Federal Trade Commission study cited such supply restrictions as a major factor behind the increase in health-care prices.
Again, such supply-side proposals raise issues. If standards are relaxed, would the competency of health care providers suffer? Further, if more providers are allowed to enter the market, would lower prices come as a result of “cut-throat” competition and instability? Yet one response to such questions is, if it works in other markets, why not health care?
Although many claim health care is fundamentally different than other product markets, it still follows the laws of that “dismal science”—economics. Skyrocketing demand and restricted supply have led, by some measures, to rising prices. To reverse this trend, we need what any market would need: moderating demand and skyrocketing supply.
Michael Walden is a William Neal Reynolds distinguished professor at North Carolina State University and an adjunct scholar with the John Locke Foundation.