Chapter 1: Health Economics and its Contribution to Health Planning

1. Definition of Economics The best starting point for consideration of the contribution of health economics to health planning is a definition of economics. Samuelson, the author of one of the most widely read textbooks of economics, defines economics as:

the study of how people and society end up choosing, with or without the use of money, to employ scarce productive resources that could have alternative uses, to produce various commodities and distribute them for consumption, now or in the future, among various persons and groups in society. It analyses the costs and benefits of improving patterns of resource allocation. This definition docs not restrict economics to any one kind of human activity: it applies to all activities where scarcity exists and there is thus a need for making choices. Indeed, economics is often described as the study of scarcity and choice. The emphasis of the above quotation is on describing and analysing decisions to do with scarcity and choice. This area of economics is called positive economics and it is concerned with 'what is', or 'was', or 'will be'. In addition, normative economics attempts to determine what 'should be', not merely 'what is'. Normative economics thus has to make judgements about the norms, or standards to be applied and disagreement over normative statements cannot easily be settled by empirical observation. For instance debate over the desirability of a private market for health care is often as much concerned with issues of normative economics (such as the value to be placed on freedom of consumer choice) as it is with issues of positive economics (such as how a private market behaves in practice). Although positive economics may not stale what 'should be', it is still relevant to policy-making. For instance, positive economics cannot decide what health objectives ought to be achieved but it can explore the implications of adopting different objectives and different policy options. 2. Definition of Health Economics Health economics can be defined broadly as the application of the theories, concepts and techniques of economics to the health sector. It is thus concerned with such matters as:

- the allocation of resources between various health-promoting activities - the quantity of resources used in health delivery - the organization and funding of health institutions - the efficiency with which resources are allocated and used for health purposes - the effects of preventive, curative and rehabilitative health services on individuals and society.

Although health economics has only recently developed as a sub-discipline of economics, it has established an interest in many of the main theoretical areas of economics. Figure 1 attempts to indicate the intellectual span of health economics and the main fields studied within health economics. The concerns of the different fields are as follows: Box A: Box B: Box C: Box D: what determines health? What is the relative contribution of health services, income levels, education, environmental factors etc? what value is placed on health and how can it be quantified? what influences the demand for health services (demand derived from the demand for health)? What is the influence of price, income, travel time, behaviour of health care providers etc? what are the characteristics of the supply of health services? What are the costs of production, mix of inputs, nature of the markets supplying health care inputs such as labour, drugs, equipment? What are the payment systems for health service suppliers and how do these influence their behaviour? what are the costs and consequences of alternative ways of improving health/delivering a health programme? what are the results of the interplay of supply and demand for health services in terms of money or time price paid, rationing systems, who does/does not get health care? what are the effects of different ways of financing and organizing the health sector in terms of efficiency and equity criteria? what means are available to maximize the achievement of the objectives of the health sector (e.g. budgeting systems, planning methods) and how effective are they?

Box E: Box F: Box G: Box H:

Theoretical and applied work has been done in all these areas, though in many cases the body of knowledge is still small relative to other sub-disciplines of economics.

Figure 1: The Framework of Health Economics

Source: Adapted from Centre for Health Economics, University of York. 3. The Contribution of Health Economics to Health Planning Health planning is basically about choice: choice between one future or another; choice between various ways of achieving that future. Health economics is also interested in choice, so there is an obvious affinity between health economics and health planning. Economic considerations play a key role in all aspects of life: in agriculture, housing, industry, trade and in health. In addition, the nature and level of a country's economic development is a major determinant of the health status of its inhabitants and is associated with the level of health service and health-related activities a country can support. Health policy and its implementation is thus strongly influenced by macro-economic considerations. At the same time, the health of a population can itself influence economic progress. Health programmes have therefore come to be seen as part of a comprehensive strategy aimed at improving the social and economic welfare of populations. Such a strategy demands the selection of those programmes which improve health most efficiently: health services, the provision of other infrastructure such as water and sanitation, or actions aimed at improving nutrition, for example. Health economics can help to evaluate such choices. The recent reappraisal of health policies in a number of countries has involved questioning the merits of many existing forms of care and of past strategies and priorities. Choices on how best to improve health exist everywhere, but such choices in poor countries are both crucial and difficult. Efforts to widen the choices to be considered for delivering health services and for encouraging health-promoting activities are therefore highly relevant. They are particularly relevant in the economic context of lower income countries. Health services absorb a significant proportion of both government expenditure and family budgets. They also demand scarce foreign exchange for drugs, equipment and transport. Governments are actively seeking ways of containing costs, increasing efficiency and tapping additional resources. Health economics is attractive to them since it promises to help improve the allocation of health resources, increase their efficiency, identify more cost-effective technologies and evaluate alternative sources of health finance. Table 1 attempts to elaborate the connection between economics and health planning in the following manner. The first column identifies a number of issues that are of direct relevance to planners (items A-G inclusive). Not infrequently the economist, in looking at such issues, needs to generate further questions which require answering before the issue can be tackled. These further questions appear in the second column under the heading 'Prior Questions'. The final column is intended to show what economists can contribute in that area and offers pointers to those parts of economic theory that can best help to elucidate the planning issues. It is important to emphasize, however, that health economics does not have all the answers. There are particular difficulties in applying some of the traditional conceptual and technical tools of economics to health. These difficulties may make health economics of great intellectual fascination to economists, but they hamper the application of health economics to health planning. While health economics certainly does have quantitative techniques to offer health planning, an equally important contribution is its distinctive mode of thought. The kind

of approach characteristically adopted by the economist has been described by Culyer (1981) as:

the desire to specify an unambiguous objective or set of objectives against which to judge and monitor policy; the desire to identify the production function; the recognition of the importance of human behaviour, as well as technology and the natural environment, in the causes, prevention, cure and care of disease. The economist's views, of course, will represent only one input to planning and planners will weigh up views from a variety of sources in making their decisions. Table 1. The relevance of economics to planning. Some health planning/management issues I Health and economic e.g. development How much should be spent on health? How much should be spent on health services? Some prior questions Relevant corpus of economics

II Organization and e.g. delivery systems How should health services be organized?

1. What constitutes health Identification and measurement and health issues of health and improvement? illness/disease; basic needs measures. Macroeconomic models of economic development; determinants of growth. Human capital theory: investment and consumption elements of health expenditure; household production functions for health; ill-health and the productivity of labour. 2. What are the determinants of health improvement? 3. How does health (and health services) affect production and the economy? 1. What are the economic Welfare theory and market failure: characteristics of health rationality, consumer sovereignty, care and health related income and wealth issues, activities? indivisibilities, externalities, public goods and merit goods. 2. What is the relevance of these characteristics for the pursuit of health through market and nonmarket mechanisms? 3. How do different health

III e.g.

IV e.g.

V e.g.

care systems handle their organization and distribution decisions? Finance of the health 1. What are the sources of Social accounting systems and health care financing? public finance: revenue generation sector How can more and tax incidence; self-financing, resources be obtained insurance and pre-payment for health? mechanisms; ability and willingness-to-pay concepts. 2. What type and quantity of resources are being utilized to finance the health sector? 3. What do alternative financing methods achieve both in terms of yield and of incidence (burden)? 1. What determines the Theories of household, individual Demand analysis Why do consumers demand (or absence of and supplier-induced behaviour: prefer one health demand) for specific generation and interpretation of agency rather than health services, and for demand schedules; determinants of another? traditional healers, demand, price, income and crossHow can the utilization herbalists and elasticities; time costs. pattern of health practitioners? services be influenced? 2. What factors determine the provider response to an individual's demands for health care, including factors such as the availability of referral facilities? 3. How do health payment systems (e.g. charges, prepayment methods) affect the demand for and utilization of health services? 1. What determines the Production functions and Supply analysis Are some health cost behaviour of substitutability between inputs. facilities being run more organizations and health Estimation of short- and long-run efficiently than others? agencies? cost curves, average and marginal Can economies be made costs, private and social costs. in existing services? Determinants of hospital and What size facilities health centre cost variations (caseshould be built? mix, quality factors); economies of scale.

VI Health manpower e.g. What types of health manpower should be trained and employed? How should they be trained?

2. How and why will costs vary with changes in the scale, location or type of medical and health services (and facilities) provided? 3. What mix of resources will produce specific services? 1. What determines the supply and distribution of each type of human resource?

Labour markets and the demand for and supply of health workers. Marginal productivity theory. Factors influencing supply elasticities: impact of income levels and financial incentives, leisure preferences; private practice the brain drain.

2. How do forms of remuneration and other determinants of behaviour affect manpower recruitment, absenteeism, retention and geographical distribution? 3. What are the productivities of various types of health worker in relation to their training costs and rate of pay? Budgeting systems and VII Financial management 1. How is the budget e.g. How can financial divided, who controls accountability (cost centres, cost management procedures the budget, and how is units); inventory management. be improved? that control exercised? Determinants of supplier behaviour (local, national, multinational). Shadow pricing and social opportunity costs. 2. Can economies be effected in the procurement and distribution of resources? 3. What is an 'appropriate' technology? 1. Who makes the resource Managerial and behaviour theories VIII Organizational e.g. behaviour allocation decisions to of government, not-for-profit, How can managers and and within the health profit and voluntary organizations.

health workers be encouraged to increase their efficiency?

sector, and what are their objectives?

Notions of efficiency and the role of inducements (rewards and penalties).

IX e.g.

X e.g.

2. What is the feasibility of reconciling the conflicting goals, values and interests involved in the health sector? 3. What types of controls or incentives (monetary or otherwise) can be introduced to encourage efficient behaviour? 1. Does the service do any Project Evaluation Which health good or have any programmes or services discernable effect on should receive highest health? For whom? priority when allocating new funds? 2. What are the relative efficiencies (merits and demerits) of alternative health activities? 3. What are the distributional consequences of health activities (who incurs the cost, who receives the benefits?) Health policy, equity 1. How best can resources be matched to the and social justice Does the operation of population's needs, the health sector reflect mortality and morbidity of the government's patterns, demands and objectives e.g. for utilization? equity?

Micro-economic evaluation: cost benefit and cost-effective analyses. Notions of 'effectiveness' and the 'margin'; size and incidence of costs and benefits.

Optimum welfare criteria and the concept of the social welfare function. Inequalities and inequities in health care: definition and measurement issues. Effect of socioeconomic variables and physical access on utilization patterns.

2. What impact do different health care systems have upon eligibility, access, takeup, and benefits received by target groups in the population? 3. What are the barriers, if any, to the provision of an equitable (fair) health

service?

Adapted from Lee K and Mills A (1983) The Economics of Health in Developing Countries: a critical review. In Lee K and Mills A The Economics of Health in Developing Countries Oxford University Press.