2 Supply and Demand of Physician Services: Outline A. General ModelsB. Forms of CompensationC. Physician-Induced Demand
3 General Models: Outline I. Supply of PhysiciansII. Supply of Physician Servicesa. Model with Complete Informationb. Incomplete Informationc. Objectives Besides Income
4 I. Supply of Physicians Summary Statistics (U.S.; 1994) 126 medical schools16,000 graduates per year550,000 practicing physicians254 physicians per 100,000 residentsAverage net income : $182,400Average work hours: 55/weekPhysicians work a lot and make a lotMarket forces or shortage?
5 I. Supply of Physicians Market distortions Barriers to entry Educational and licensing requirementsAMA controls these; incentive to restrict supply too much?This would reduce supply below socially optimal levelMedical school subsidiesCould raise supply above socially optimal level
6 I. Supply of Physicians Empirical Evidence Difficult to measure physician shortages or excess returns on investments in medical educationSupply side: new medical school graduates constantDemand side: average age, real per capita GDP, and insurance coverage all increased dramaticallyConsistent with excessively restricted entryMore recentlyOutput of medical schools has expanded dramatically in last yearsWeeks et al. (1994): returns to education for physicians, lawyers, dentists, and MBAs all similar
7 II. Supply of Physician Services a. Model with Complete Information Monopolistic CompetitionMany sellersDifferentiated products (physicians are imperfect substitutes)Some market powerDemand exogenous from physician’s perspectivePerfect information on both sidesPhysicians maximize profitNonretradable goods
8 II. Supply of Physician Services a. Model with Complete Information Physician makes “all or nothing” offer to patient, who would prefer to consume less care at the given pricePhysician can price discriminateIf price set by demand side (i.e. insurance companies/Medicare), physician responds by increasing quantityQuality of service is another dimension to consider
9 II. Supply of Physician Services b. Incomplete Information Punch line from part a: Even with perfect information, the differentiated and nonretradable nature of medical goods can keep medical expenditures above competitive levels.Relaxing the assumption of perfect information further enhances our understanding of why medical expenditures are so high.
10 II. Supply of Physician Services b. Incomplete Information 1) Irreducible uncertaintyDoctors and patients have imperfect information about the underlying condition and effectiveness of treatmentsMost doctors and patients are risk averse=> increased test frequency and treatment intensity
11 II. Supply of Physician Services b. Incomplete Information 2) Principal-agent problemPrincipal: patientAgent: doctorDoctors know more than patients about appropriate level of care (asymmetric information)Outcomes are often difficult for patient to observeOften gray areas about appropriate treatment=> Could lead to excessive provision of care“Induced demand”
12 II. Supply of Physician Services b. Incomplete Information 3) Unobservable physician qualityLarge fixed cost with trying a new physicianInformation asymmetry makes it hard to observe physician quality=> Prices may not fully adjust to an increase in competition
13 II. Supply of Physician Services c. Objectives Besides Income Parts a and b assume that physicians act to maximize income. Other considerations:1) Medical ethics: legal and moral constraints2) Patient’s best interest (patient’s utility enters into doctor’s utility function)Patient’s utility, not society’s utility. Why is this an important distinction?3) Target income
14 II. Supply of Physician Services c. Objectives Besides Income 3) Target incomeMotivation: explain positive association between physicians per capita and prices of services, negative association between fees paid and quantity suppliedPhysicians aim to maintain a “target income”If increased competition lowers their income, they take advantage of their market power by raising prices or inducing demand to keep income relatively stableWhat does this say about physician behavior before the increase in competition?
15 II. Supply of Physician Services c. Objectives Besides Income 3) Target incomeTaken seriously for a long timeGenerally rejected now, though still subject of debate in literatureIf target income hypothesis is true, there should be large income effects on supply (identified using non-labor income), and this doesn’t seem to be the caseCan you think of other explanations for the apparent paradoxes?
16 Forms of Compensation I. Fee-for-service II. Capitation III. Salary IV. Pay-for-performance
17 I. Fee-for-servicePhysicians are paid an additional amount of money for each service they provideWould expect this to increase the amount of care providedOpen question how much these additional services would improve healthSchuster et al. (1998) estimate up to 30% of services are not medically necessaryOften supplemented with incentives to economize
18 I. Fee-for-service Who sets the fees? Used to be physicians In response to incentive problems, insurance plans began negotiating fees and Medicare began setting feesThese groups can do this because they are large enough that they have market power (monopsony)How does this tie into the “public option” debate?
19 II. CapitationPhysicians receive fixed amount of money for providing services to a patient for a particular period of timeIncentive to keep long patient roster but give them each as little attention as possibleCould lead to higher referral ratesVarious schemes to makes physicians share in financial riskStill need to provide enough care to attract and retain patientsIncentive to select healthy patients (cream skimming; cherry picking)Fee for a patient is “risk adjusted” based on expected utilizationThis adjustment only accounts for 10% of variationOften supplemented with incentives to ensure sufficient quality of careCould be combined with ffs in a “mixed” system
20 II. Capitation Quantity Capitation seems to be effective in reducing quantity and expenditures (is this good?)Stearns et al. (1992)Group of WI employees enrolled in IPAChange from ffs to capitation system where physicians shared in financial risk of hospitatlization and specialty costsIncreased primary care visits by 18%Decreased specialist visits by 45%, hospital visits by 16%, and length of stay by 12%
21 II. Capitation Quantity Ogden et al. (1990) Group of IL employees enrolled in IPASwitched from ffs to capitation with shared financial riskSpecialist costs increased 2% compared to 12% the previous yearHospital outpatient costs dropped 7% compared to increasing 12% the previous yearLittle change in inpatient hospital utilization
22 II. Capitation Quantity Mooney (1994) GPs in Copenhagen, Denmark switched from capitation to mixed capitation-ffsProvision of services that provided extra fees increased dramaticallyDecrease in referrals to specialists and hospitals
23 II. CapitationQualitySorbero et al. (2003): patients 36% more likely to switch physicians under capitation than ffsShen et al. (2004): survey with hypothetical treatment decisions; physicians more “bothered” by their decisions under capitation than ffs
24 II. Capitation Referral rate Capitation does seem to lead to more referrals on the margin, both theoretically and empirically, if the GP does not share in the financial riskTheoretical: Barros and Martinez-Giralt (2003); Iverson and Luras (2000b)Empirical: Forrest et al. (2003); Carlsen and Norheim (2003)
25 III. SalaryProvides fixed income to physician over a particular time periodEx. in US: Staff HMOsIncentive to do as little as possible to keep jobOften supplemented with incentives to ensure reasonable quantity and quality of careLess common than others, but do see it in national health systems like UK and staff HMOs in US
26 IV. Pay-for-performance Ties part of physician or hospital reimbursement to meeting performance thresholds (clinical outcomes, patient satisfaction, etc.)New and largely untested>20 million in US covered (Rosenthal et al., 2004)Difficult to measure “performance”What incentive problems might result from paying on the basis of outcomes?
27 Physician-Induced Demand I. TheoryII. Evidence from Increased CompetitionIII. Evidence from Decreased FeesIV. Summary
28 I. TheoryPhysician-induced demand (PIP): “when the physician influences a patient’s demand for care against the physician’s interpretation of the best interest of the patient” (Handbook, p. 504)Physician exploits role as agent to alter the patient’s demand curveDistinctions that make PID challenging to identify empirically (not enough to just look at quantity)Useful agency v. inducementDemand shifting v. quantity setting
29 I. TheoryModelWhere Y=income, I=inducement, N=number of patients, m=margin, x=quantity, i=inducementSolving yields
30 I. Theory Testable prediction 1 N down => Y down and I down => UI less negative and UY up => -UI/UY down => x1’ and x2’ down => i1 and i2 up.So, increased competition for patients should increase the per-patient quantity of servicesSupply side: more physicians in marketDemand side: less need for servicesDepends on changing tradeoff between I and Y as income changes (income effect)
31 I. Theory Testable prediction 2 m1 down => UY up => -UI/UY down => i1 and i2 upIncome effectm1 down => lower return to inducement in sector 1 => i1 down and i2 upSubstitution effectNet effect on i1 ambiguous; net effect on i2 downSo, a drop in fees from one payer should increase quantity among patients with another payer
32 II. Evidence from Increased Competition Effect of increase in per capita number of physicians on quantityProblemsReally tests joint hypothesis of induced demand and income effectsEndogeneity of number of physicians (likely a response to demand)
33 II. Evidence from Increased Competition Fuchs (1978)Effect of supply of surgeons on surgeries22 metropolitan areas, pooled cross sections from 1963 and 1970IVs: metro area, hotel receipts, percent white10% increase in surgeons => 3% increase in surgeriesCromwell and Mitchell (1986)More years, more areas, better controlsSame identification strategySame sign, smaller effectBirch (1988) and Grytten el at. (1990)More dentists per capita => more dental visits
34 II. Evidence from Increased Competition Rossiter and Wilensky (1983, 1984); Scott and Shell (1997)Small effects of physician density on quantity for some proceduresDranove and Wehner (1994)Falsification test: estimated “effect” of number of obstetricians on volume of birthsSimilar IV methodology to Fuchs and Cromwell and MitchellFound positive effect; suggests methodology is suspect
35 II. Evidence from Increased Competition Gruber and Owings (1996)13.5% fall in fertility from represents exogenous shock to incomes of OB/GYNsExploited between-state over-time variation in fertility rates to identify effect on Caesarian section deliveries (more lucrative)10% drop in fertility => 0.6% increase in P(C-section)
36 II. Evidence from Increased Competition Pauly (1980)Used large individual-level datasetLeast informed patients should be the most susceptible to demand inducementPoor patients in big cities should be the least informedFound (small) effect of number of physicians on quantity of ambulatory care for this group
37 III. Evidence from Decreased Fees Hadley and Lee (1978); Mitchell et al (1989)Medicare price freezes during 1970s and 1980s led to increased utilizationHurley et al. (1990); Hurley and Labelle (1995); Escarce (1993b)No clear evidence of effect of own-fee changes on utilizationNot surprising; theoretical prediction ambiguousRochaix (1993)GPs in Quebec changed mix of services in response to lowering of fees
38 III. Evidence from Decreased Fees Rice (1983)1977: Medicare began setting fees in Colorado based on state-wide averagesReduced fees in Denver-Boulder area; increased them in other areasPhysicians facing declining rates increased provision of surgery, medical services, and tests
39 III. Evidence from Decreased Fees Nguyen and Derrick (1997)Impact of Medicare fee reductions for “overpriced procedures”For 20% of physicians who experienced the largest price reductions, 1% reduction in price => 0.4% increase in volume.Yip (1998)Reductions in Medicare fees for thoracic surgeons led to large increases in volumeSurgeons recouped 70% of lost income
40 IV. SummaryThere is no perfect test for demand inducement, but theory generates predictions that lead to tests that are suggestive.“It appears that, in response to economic considerations … physicians can induce demand for their services, they sometimes do induce demand, but that such responses are nether automatic nor unrestrained” (Elgar p. 265, citing Hurley and Lebelle, 1995).