health economics- lecture ch07

8/3/2019 Health Economics- Lecture Ch07

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Demand for Health Capital

Dr. Katherine Sauer

Metropolitan State College of Denver

Health Economics


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Overview:I. The Demand for Health

II. LaborLeisure Trade-Offs

III. The Investment/Consumption Aspects of Health

IV. The Cost of Capital

V. The Demand for Health Capital

VI. Empirical Analyses


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I. Demand for Health

A. The Consumer as a Health Producer

1. People ultimately want health, they demand medical

care inputs to produce it.

2. Consumers are active producers of their health.

combine: -time devoted to health-improving efforts

-purchased medical inputs


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3. Health lasts for more than one period.

- does not depreciate instantly (can analyze like acapital good)

4. Health can be treated both as a consumption good and an

investment good.

As a consumption good, health is desired because it

makes people feel better.

As an investment good, health is desired because it

increases the number of healthy days available to

work and to earn income.


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B. A Model of Time Spent Producing Health

Suppose we divide your time into 3 categories:

workleisure

improving health


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The model:

I = I(M,TH)where

Iis investment in health

Mis market health inputs

THis time used in the production of health

B = B(X,TB)

where

B is leisure goods produced by the individualXis market purchased goods

TB is time used producing leisure goods


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Total Time = time on improving health+ time producing leisure goods

+ time lost to illness

+ time working

T = TH + TB + TL + TW


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II. Labor-Leisure Trade-Off Model

Leisure

Time

Income When you spend all

your time working, your

income is at its

maximum and you

spend 0 hours on leisure.

When you spend no

time working, you can

achieve your maximumleisure time:

365 - TH - TL - 0365 - TH - TL

Slope = wage rate


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Leisure

Time

Income

Consumers have

preferences regarding

income and leisure.

Consumers prefer to

have both more income

and more leisure.

The optimal income-

leisure combination for

this consumer is Y*, B*.

365 - TH - TL

U3

U2U1

B*

Y*


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Leisure

Time

Income

Over time investments inhealth reduce time lost to

illness, TL, and thereby

increase leisure time.

A higher level of utility can

be achieved.

365 - TH - TL

365 TH TL

B*

Y*

B2

Y2


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III. The Investment and Consumption Aspects of Health

A. The Production of Healthy Days

This illustrates the production

of healthy days using a single

input, health stock.

If health stock falls below

Hmin, it indicates death.

The shape of the function

indicates diminishing marginal

returns.


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B. Production of Home and Health Goods

AECD represents production

possibilities.

If health is an investment good

only, indifference curves look

like U1.

- no intrinsic value of

health

If health is a consumption good

then indifference curves look

like U2.

- likes feeling good


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Consider the alternative: Instead of purchasing the X-ray

machine, the clinic could have put the $200,000 in a

savings account, at 5 percent interest, yielding the

following:

200,000 x 1.05 = 210,000 at the end of Year 1


220,500 x 1.05 = 231,525 at the end of Year3


243,101 x 1.05 = 255,256 at the end of Year5


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For the investment in an X-ray machine to be desirable

by these criteria, it should provide at least $55,256 inincremental revenue over the five years.

But capital goods depreciate over time.

For the investment to be worthwhile, it must not only

earn the competitive 5 percent return each year, but it

also must provide enough return to cover depreciation.


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V. The Demand for Health Capital

The cost of capital (in terms of forgone resources) is a

supply concept.

The marginal efficiency of investment is a demandconcept that relates the return to investment to the amount

of resources used.


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A. MEI is the marginal

efficiency of investment

The cost of capital is the

foregone interest rate

plus depreciation (r + ).

As investment in the stock

of health increases, the rate

of return on additional

investment declines.

Health Stock

Cost of

Capital

MEI


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Looking at MEI:

If the cost of capital is

r + 0, then optimal

investment is H0.

If the cost of capital is

r + 1, then optimal

investment is H1.


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B. Changes in Equilibrium

1. Age

As we age, our health stock

depreciates faster, that is,the depreciation rate rises

from 0 to 1 to D.

The result of aging in thismodel is a continuously

falling optimal level of health

stock.


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2. Wage Rate

As the wage rate rises, so

does the return from healthy

days.

MEI curve shifts to

the right

It is now optimal to increase

health stock from H0 to H2.


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3. Education

Education is seen as

improving the efficiency of

producing health.

shifts the MEI curveto the right

The optimal investment in

health stock increases from

H0 to H2.


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4. Uncertainty

Two effects can occur when we treat investment in healthas a risky assts:

a. Investment now can increase the efficiency of

investment in the future (shift MEI to MEI) and

increase optimal investment from H0 to H2.

b. Investment now does not increase MEI in the

future, which results in a return to investment

below r + 0.


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VI. Empirical Analysis

Sickles and Yazbeck (1998)- developed and estimated a structural model of

health production

- looks at the demand for leisure and the demand

for consumption for elderly males

- find that both health care and leisure

consumption tend to improve health


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Gerdtham and Johannesson (1999)

- estimate demand for health

- results are consistent with the theoretical

predictions

- demand for health

increases with income & education

decreases with age, urbanization,

being overweight, and being single


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Leibowitz (2004)

- retrospective essay on research achievements and

directions in the 30 years after Grossmans

analysis

- finds that increases in the parents valuations of

time will also affect the relative costs of alternative

inputs to childrens health


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2. By analyzing the demand for health in this way, we

recognize that the demands for health care inputs aredemands that are derived from the demand for health

itself.

health economics- lecture ch07

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