Demand for Health under ex ante Moral Hazard
- Presenter:
Chair: James Burgess; Discussant: TBA Tue June 6, 2006 8:00-9:30 Room 121
Authors: Rui Wang (ruiw@hawaii.edu) and Gerard Russo (russo@hawaii.edu), Department of Economics, University of Hawaii at Manoa
Title: Demand for Health under ex ante Moral Hazard
Rationale: Although the United States ranks highest in health care spending per capita among the industrialized societies and it has the most advanced medical technology available to public, health status of Americans consistently ranks poorly relative to that of residents of other industrialized nations. One possible cause of this puzzle, which has been largely neglected by researchers, is insufficient preventive care and increased population risk factors as a result. Unlike social insurers in most other industrialized countries, private insurers in the United States do not have long term incentives to subsidize preventive healthcare since most insurance policies cover the insured for only a relatively short period of time. A lack of preventive care could explain the coexistence of high medical expenditure and poor population health outcomes.
Objectives: The objective of this paper is to develop a dynamic, stochastic framework of demand for health that examines individual lifecycle behavior of health investment and addresses the issue of ex ante moral hazard under insurance incentives.
Methodology: Following the line of literature beginning with Michael Grossman’s famous human capital model, this paper develops a demand for health framework that employs a random process and optimal control. It explicitly recognizes illness as random utility loss which could be compensated with curative medical care. Illness occurs over time according to a non-homogeneous Poisson process, whose intensity is inversely related to health stock. A representative individual’s lifecycle behavior of consumption and investment in health capital is then examined. With the introduction of health insurance, individual behavior under ex ante moral hazard is examined and conditions for optimal social insurance under ex ante moral hazard are derived.
Results: Under incentives of health insurance, individuals tend to invest sub-optimally in their health capital, which in turn leads to higher morbidity and increased curative health spending. Such distorted incentives under ex ante moral hazard are mitigated when subsidy to preventive care is provided. Under optimality the rate of such subsidy should be equal to the rate of reduction in utility loss by curative care paid for by insurance.
Conclusions: Investment in health during early ages is efficient because it serves the individual for a relatively long period of time under relatively low depreciation rates. Society should subsidize medical indigent families with young kids out of efficiency considerations besides preference for health equity. Private insurers do not have strong enough incentives to subsidize preventive healthcare. Lack of preventive care leads to higher morbidity and increased health spending, which may partially explain the American puzzle of high health spending coupled with relatively poor health outcomes.
Disclosure information: Rui Wang is a Ph.D. candidate and Dr. Gerard Russo is an associate professor in the Department of Economics, University of Hawaii at Manoa. This research is part of Rui’s dissertation project.
