Objective. Sessions on Economics. Six Sessions

Transcription

1 Objective Sessions on Economics Pharm 532 Lou Garrison, Ph.D. April 8, 2009 Understand the basic principles of economics as applied to health care and integrate these principles into policy analysis. Six Sessions on Welfare Economics and the Economics of Medical Care, Insurance, and Pharmaceuticals Objective gain a sense of the welfare economics origins and this perspective on economic issues related to pharmaceuticals Six Sessions 1. Competitive norm and market failures (Weimer & Vining; pp ) 2. Other market failures, especially informational issues. (M&V, pp ; Arrow) 3. Welfare Economics and Government Failures (M&V, pp ) and Economics of Health Care 4. Economics of Medical Care 5. Economics of Pharmaceuticals 6. Global Pharmaceutical Pricing

2 Efficiency and the Idealized Competitive Model Chapters 4 (Weimer and Vining) Social Values Efficiency, human dignity, distributional equity, economic opportunity, and political participation How to choose among these? Market-oriented approach gives primacy to efficiency. Efficiency Technical efficiency max output given inputs Cost efficiency minimum cost given output Economic efficiency technical+cost+producing right output Idealized Competitive Model (1) Collective action enables society to produce, distribute, and consume a great... Premise: individuals generally act in their own best interest. Voluntary agreement mostly Policy analysts concerned with legitimate coercive powers of government

3 Idealized Competitive Model (2) Model: Perfectly competitive economy Many utility-maximizing consumers Many profit-maximizing producers Under certain assumptions, leads to efficient global outcome It would not be possible to change the patterns [of production and consumption] in such a way as to make some person better off without making some other person worse off. Market failures violations of assumptions that would lead to inefficiency Rationale for government/policy intervention. Efficiency Benchmark Competitive Economy (General Equilibrium Model) Individuals maximize Utility [U(x1,..xn)] subject to an income constraint Firms maximize Profits π=px-c(y1..yn) subject a production relationship x=f(y1..yn) Everyone a price-taker Result: Pareto-efficient or Pareto-optimal How would you choose between two Paretoefficient distributions? Pareto Efficiency Social Surplus= Consumer Surplus+Producer Surplus Pareto-efficient allocation also maximizes social surplus. Max social surplus Pareto-efficient Consumer surplus=difference between maximum WTP and actual price Producer surplus= difference between price and

4 Consumer Surplus Demand Curve and Deadweight Loss Consumer Surplus Money Metrics for Utility Developing a money metric Compensating variation Equivalent variation Constant-Utility Demand Function Constant income (Marshallian) Demand Function

5 Firm Cost Curves Producer Surplus Average cost vs. marginal cost Economic profit vs. accounting profit Rents Monopoly rents Scarcity rents Monopoly vs. Competitive Pricing & Rents Producer Surplus

6 Social Surplus General Equilibrium Model-- Limitations Static vs. Dynamic Given income distribution Rents spur innovation Focus on individual markets Others? Adam Smith s Invisible Hand...every individual necessarily labours to render the annual revenue of the society as great as he can. He generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it. By preferring the support of domestic to that of foreign industry, he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it. I have never known much good done by those who affected to trade for the public good. Adam Smith on Self-Interest Man has almost constant occasion for the help of his brethren, and it is in vain for him to expect it from their benevolence only. He will be more likely to prevail if he can interest their self-love in his favour, and show them that it is for their own advantage to do for him what he requires of them. Whoever offers to another a bargain of any kind, proposes to do this. Give me what I want, and you shall have this which you want, is the meaning of every such offer; and it is the manner that we obtain from one another the far greater part of those good offices which we stand in need of. It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their selflove.

7 Rationales for Public Policy: Market Failures Chapter 5 (Weimer and Vining) Types of Market Failures Public goods Externalities Natural monopolies Information asymmetries Public Goods Private goods Rivalrous consumption Excludable ownership Public goods Nonrivalrous, nonexcluble, or both in some degree Potential for congestion (externality) Excludability related to property rights de jure vs. de facto; sometimes undefined. Nonrivalrous Social MB=Social MC for optimum Congestibility Optimality follows as with rivalrous: P=MC; MB=P, MB=MC. Property rights Sometimes de jure property rights do not exist because changes in technology or relative prices create new goods that fall outside of existing allocations. (p. 73)

8 Market Demand for Exclusive Good Market Demand for Nonrivalrous Good Taxonomy of Public vs. Private Goods Toll good; no congestion

9 Toll good with congestion Privileged Group: Private Provision of Public Good Overconsumption of Open Access Resource Prisoner s Dilemma

10 Other concepts Nash equilibrium- In a two-person game, a pair of strategies is a Nash equilibrium if, given the strategy of the other player, neither player wishes to change strategies. Scarcity rents; rent-seeking behavior Rent dissipation and distribution Summary by Quadrant NE underconsumption; need variable pricing SE free riding no market supply SW overconsumption Externality Externalities an valued impact (positive or negative) resulting from any action (whether related to production or consumption) that affects someone who did not fully consent to it through participation in voluntary exchange. Good having impact is a byproduct of consumption or production. Can be positive or negative. attenuated property rights missing market

11 Negative Externality Positive Externality Market Responses to Externalities Will the market product an efficient output level in the presence of externalities? Coase Theorem when property rights are defined and costless to enforce, costless bargaining can lead to efficient outcome. Okay for a party of two: less applicable with large numbers. Works sometimes in neighborhoods. Market Failure Natural Monopoly Average cost declines over relevant range of demand.

12 Natural Monopoly--DWL For Next Time Arrow Uncertainty and the Welfare Economics of Medical Care How the medical care industry differ from the norm of the competitive model. First Optimality Theorem: If a competitive equilibrium exists at all, and if all commodities are infact priced in the market, then the equilibrium is necessarily optimal in the following precise sense (due to V. Pareto): There is no other allocation of resources to services which will make all participants better off.

13 Second Optimality Theorem Pareto Efficiency If there are no increasing returns in production, and if certain other minor conditions are satisfied, then every optimal state is a competitive equilibrium corresponding to some initial distribution of purchasing power. Operationally, the significance of this proposition is that if the two optimality theorems are satisfied, and if the allocation mechanism in the real world satisfies the conditions for a competitive model, then social policy can confine itself to steps taken to alter the distribution of purchasing power. Source: Katz and Rosen, Microeconomics Pareto Improvement Source: Katz and Rosen, Microeconomics