Accepted for publication in letter section of EPW
Prof Kenneth Arrow passed away on 21 February 2017. His research delved into some complex economic and ethical issues facing health sector. No professor teaching a course on health finance or health insurance can ignore the seminal work of Prof Arrow "Uncertainty and the Welfare Economics of Medical Care," published in American Economic Review, December 1963, 53(5), pp. 941-973. This paper is a classic and the most cited paper. This paper was one of the first readings of the course on health insurance which I offered at IIM Ahmedabad during 2014-16.
One of the issues the economists throughout have been dealing with is the problem of allocation of resources. Following the first optimality theorem (popularly known as the Pareto criterion) an allocation of resources is "optimal" if one can not rearrange things in a way that make any other better off without putting at least one person worse off. Further, the economic theory suggests that if some underlying assumptions of perfect competition and consumer having full knowledge are true, then the free market will produce an efficient allocation of resources. The consumer supremacy ensures that they are in commanding position subject to their budget constraints.
While the free market concept is celebrated for its optimal outcomes for which Arrow laid down its prerequisites explaining it in mathematical terms. Arrow challenged the concept of consumer sovereignty (whether the consumer has the knowledge and decision-making ability to make buying choices) in medical markets. Arrow first time provided a detailed explanation on why medical markets do not fit the conceptual framework of the free market. The “uncertainty” principle explained in the paper referred to the basic and fundamental problem in medical care. This is stated beautifully in the paper, as
Following this the concept of "information asymmetry" became the most popular concept in medical care and health insurance. In 1963, this was the most definitive answer to those who believed that markets are capable of validating the quality of hospitals or insurance plans.
Following this, the paper makes the most important point about consumer ignorance in medical markets. What we now know as "information asymmetry" and "principal-agent" relationship in medical markets, doctors has information, which the patient buys and physicians decide on behalf of patients. In economics terms, this is a failure of consumer sovereignty.
Arrow's paper also makes one important point that if one thinks what we are producing is not desirable; one can fix this by redistribution of wealth. Regulating the market is not the solution. Arrow describes this as the "second optimality theorem." However, he realizes that this may at times be politically a difficult proposition in free market situation. Towards this we need to take role of social institutions more seriously to handle the possible optimality-gap in medical markets. The paper argues:
Developing the arguments on consumer ignorance in the medical markets, the paper delves into the concept of "marketability.” In 1963 some implications of buying and selling of goods and services and their costs and benefits relevant to the decision were not evident. These have to do with what we now know is “externalities” that deals with the costs and benefits of one's decision to purchase or sell impose on others who are not a party to the transaction. The famous example that is quoted in the class is immunization. Failing to get vaccinated increases risk for others. Because other will not pay for these risks, the government action is required.
Much of the contents of this paper have now become standard to describe the peculiarities of medicine and medical markets. The paper illustrates the differences between how doctors compare with other entities. Because of the fundamental failure of consumer sovereignty and imperfect marketability of information in these markets, this paper articulates the need for professional ethics.
The other uncertainty Arrow discusses "product uncertainty” of medical care as compared to other commodities. One of the insights I got, which I frequently use in my discussions in class, is that we face information problem in all products/services we buy. The only difference is that in other commodities/services we gain knowledge through experience. Medical conditions experienced give only one chance and the ways they are treated have consequences. In medical markets, the experience of consumers cannot solve the product uncertainty problem.
To address the quality uncertainty in the medical markets, licensing of health care providers is most preferred form of non-market intervention. However, there are always tradeoffs in this. Arrow highlights the kind of trade-offs and distortions which the licensing can introduce. The licensing system can bring rigidities in production of medical services, for example, about what tasks doctors can perform and nurses can not. Many health systems having human resources constraints are grappling with this challenge.
Arrow discusses why it is hard to provide health care in rural areas. To provide medical care, there is some required minimum size and because of that resources are "indivisible.” Because of this if there are a few patients, the average cost becomes prohibitively high.
The paper develops one important argument while discussing uncertainty of the effects of treatment. It is understandable that the way the patient views his/her treatment and its effects are going to be different from his physician's. This is because of the differences in knowledge and perspective. Under this condition what should be the best way to compensate the providers and Arrow proposes doctors should be paid only for outcomes/results, and not for effort or based on inputs. This is one of the ways to align the provider's incentive with the patient's well-being. Health systems across the globe are struggling with this idea as such arrangements require a lot of hard work to get implemented as outcomes/results are hard to measure. Instead, we have a system that relies on trust by the patient and social obligation by the physician which is so fragile that often it gets challenged.
Prof Kenneth Arrow passed away on 21 February 2017. His research delved into some complex economic and ethical issues facing health sector. No professor teaching a course on health finance or health insurance can ignore the seminal work of Prof Arrow "Uncertainty and the Welfare Economics of Medical Care," published in American Economic Review, December 1963, 53(5), pp. 941-973. This paper is a classic and the most cited paper. This paper was one of the first readings of the course on health insurance which I offered at IIM Ahmedabad during 2014-16.
One of the issues the economists throughout have been dealing with is the problem of allocation of resources. Following the first optimality theorem (popularly known as the Pareto criterion) an allocation of resources is "optimal" if one can not rearrange things in a way that make any other better off without putting at least one person worse off. Further, the economic theory suggests that if some underlying assumptions of perfect competition and consumer having full knowledge are true, then the free market will produce an efficient allocation of resources. The consumer supremacy ensures that they are in commanding position subject to their budget constraints.
While the free market concept is celebrated for its optimal outcomes for which Arrow laid down its prerequisites explaining it in mathematical terms. Arrow challenged the concept of consumer sovereignty (whether the consumer has the knowledge and decision-making ability to make buying choices) in medical markets. Arrow first time provided a detailed explanation on why medical markets do not fit the conceptual framework of the free market. The “uncertainty” principle explained in the paper referred to the basic and fundamental problem in medical care. This is stated beautifully in the paper, as
“unless you have knowledge as much about your health condition as your doctor, you can't evaluate the quality of advice he or she gives you.”
Following this the concept of "information asymmetry" became the most popular concept in medical care and health insurance. In 1963, this was the most definitive answer to those who believed that markets are capable of validating the quality of hospitals or insurance plans.
Following this, the paper makes the most important point about consumer ignorance in medical markets. What we now know as "information asymmetry" and "principal-agent" relationship in medical markets, doctors has information, which the patient buys and physicians decide on behalf of patients. In economics terms, this is a failure of consumer sovereignty.
Arrow's paper also makes one important point that if one thinks what we are producing is not desirable; one can fix this by redistribution of wealth. Regulating the market is not the solution. Arrow describes this as the "second optimality theorem." However, he realizes that this may at times be politically a difficult proposition in free market situation. Towards this we need to take role of social institutions more seriously to handle the possible optimality-gap in medical markets. The paper argues:
"In the presence of market failure, society will, to some extent at least, recognize the gap, and non market institutions will arise attempting to bridge it."
Developing the arguments on consumer ignorance in the medical markets, the paper delves into the concept of "marketability.” In 1963 some implications of buying and selling of goods and services and their costs and benefits relevant to the decision were not evident. These have to do with what we now know is “externalities” that deals with the costs and benefits of one's decision to purchase or sell impose on others who are not a party to the transaction. The famous example that is quoted in the class is immunization. Failing to get vaccinated increases risk for others. Because other will not pay for these risks, the government action is required.
Much of the contents of this paper have now become standard to describe the peculiarities of medicine and medical markets. The paper illustrates the differences between how doctors compare with other entities. Because of the fundamental failure of consumer sovereignty and imperfect marketability of information in these markets, this paper articulates the need for professional ethics.
The other uncertainty Arrow discusses "product uncertainty” of medical care as compared to other commodities. One of the insights I got, which I frequently use in my discussions in class, is that we face information problem in all products/services we buy. The only difference is that in other commodities/services we gain knowledge through experience. Medical conditions experienced give only one chance and the ways they are treated have consequences. In medical markets, the experience of consumers cannot solve the product uncertainty problem.
To address the quality uncertainty in the medical markets, licensing of health care providers is most preferred form of non-market intervention. However, there are always tradeoffs in this. Arrow highlights the kind of trade-offs and distortions which the licensing can introduce. The licensing system can bring rigidities in production of medical services, for example, about what tasks doctors can perform and nurses can not. Many health systems having human resources constraints are grappling with this challenge.
Arrow discusses why it is hard to provide health care in rural areas. To provide medical care, there is some required minimum size and because of that resources are "indivisible.” Because of this if there are a few patients, the average cost becomes prohibitively high.
The paper develops one important argument while discussing uncertainty of the effects of treatment. It is understandable that the way the patient views his/her treatment and its effects are going to be different from his physician's. This is because of the differences in knowledge and perspective. Under this condition what should be the best way to compensate the providers and Arrow proposes doctors should be paid only for outcomes/results, and not for effort or based on inputs. This is one of the ways to align the provider's incentive with the patient's well-being. Health systems across the globe are struggling with this idea as such arrangements require a lot of hard work to get implemented as outcomes/results are hard to measure. Instead, we have a system that relies on trust by the patient and social obligation by the physician which is so fragile that often it gets challenged.
No comments:
Post a Comment