Health Economics

Lecture 5Cost and Benefit

Evaluation Methods

Rational

Never intentionally choose to be worse

off

Choices

What is life worth?How do we measure?Costs and Benefits?

Cost Benefit Analysis(CBA)

Type of CostsDirect Medical Costs

Direct Non-Medical CostsIndirect Costs

Direct Medical CostsHospitalsPhysicians

Nursing HomesTests and Examinations

Drugs

Direct Non-Medical Costs

TransportationHome Heath Care

DietFamily Members

Indirect CostsTime

Opportunity CostsLost Productivity

Benefits(Diverted Costs)

Prevent IllnessPostpone DeathRestore HealthIncrease Utility

0

1

2

3

4

5

6

7

8

9

10

Benefit Less Cost= Net Benefit

Benefit

Cost

Net

0

1

2

3

4

5

6

7

8

9

10

A B C D E0

1

2

3

4

5

6

7

8

9

10

A B C D E

Cost Benefits

MarginalCosts

MarginalBenefits

Cost Benefits

0

1

2

3

4

5

6

7

8

9

10

0

1

2

3

4

5

6

7

8

9

10

Marginal Costs Marginal Benefits

too little too much

Objective: Maximize Net Benefits

JustRight

Discounting

Present Value of the Future

0

25

50

75

100

2014 2015 2016 2017 2018

7176

8287

93

100100100100100

AmountPresent Value

500410 Discount Rate = 7%

(1+r)N

r = rate N = number of periods

Present Value or PV

1

(1+r)N

r = 10% PV =? 1 .909

2 .8263 .7514 .6835 .621

N PV

1

Value of a LifeHuman Capital Approach

Willingness-to-Pay Approach

Human Capital Approach

Present value of all production in a life

Human Capital Approach

100,000 a year30 years

Total = 3,000,00010% discount

Present Value = 942,691

Human Capital Approach

Only considers moneyno leisure

no income = no value

Willingness-to-PayApproach

How much are you willing to pay to reduce the probability

of dying?

Willingness-to-PayApproach

Value of Life = Cost divided by

probability

10 riyals to reduce your chance of dying by 1 in 100,000?

Value of Life = Cost ÷ Probability Cost = 10Probability = .00001Value of Life = 10 ÷ .00001Value of Life = 1,000,000

500 riyals to reduce your chance of dying by 1 in 4,000?

Value of Life = Cost ÷ Probability Cost = 500Probability = .00025Value of Life = 500 ÷ .00025Value of Life = 2,000,000

Willingness-to-PayApproach

Usually higher than human capital

approach estimate

What is one year of your life worth?

Compare to the cost of getting it

New Technology

Surgical diagnostic devices Pharmaceutical, Biomedical researchInformation technology

Health

Medical Costs

Health and Medical Costs

New Innovation

New Innovation

More health for same cost

Same health for lower cost

Cost Effective AnalysisCEA

Compare the cost effectiveness of two

or more options

Cost Benefit AnalysisWhat is the the dollar value of

the costs and benefits?

Cost Effective AnalysisGiven an objective, what are

the costs of various alternatives to achievement?

Incremental Cost Effective Ratio

ICER

--

Cost new

Effectiveness new

Cost old

Effectiveness old

--

C1

E1

C2

E2

CostLess

CostMore

MoreEffective

LessEffective

Option CostEffectiveness

Life YearsCost

Effectiveness

Current 20,000 2 10,000

A 100,000 12 8,333

B 5,000 1 5,000

C 50,000 4 12,500

D 15,000 1 15,000

Life?

QuantityversusQuality

Quality-Adjusted Life-YearsQALYs

Quantity x Quality

HigherQuality

LowerQuality

MoreYears

FewerYears

Human Utility IndexMeasure Quality

Scale 0 to 1

0 = death 1 = perfect

QALY AnalysisLife

Years Quality QALY

1 0.75 0.75

10 0.5 5.0

5 1 5.0

10 0.1 1.0

Human Utility Index

Rating ScaleStandard GambleTime Trade-off

Rating Scale

Individuals are surveyed

Results = HUI

Standard GambleTwo choices

A. Live with less than perfect condition

B. Procedure with probability of perfect health or (one minus probability) of death

Standard Gamble

Two choices

A. Blind

B. Cure blindness or death

Probability on procedure = HUI

Time Trade-Off

Two choices

A. Live X years with perfect health

B. Live Y years with condition

X÷Y = HUI

Cost Utility Ratio

--

Cost new

QALYs new

Cost old

QALYs old

CEA versus CUA

Option CostLife

Years CEAHealthUtilityIndex

QALY CUA

Current 20,000 2 10,000 0.7 1.4 14,286

New 110,000 12 9,167 0.4 4.8 22,917

Gain 90,000 10 9,000 3.4 26,471

New 2 110,000 12 9,167 0.8 9.6 11,458

Gain 90,000 10 9,000 8.2 10,976

SummaryScarcity requires choicesCost-Benefit Analysis - CBA What is a life worth?Human Capital vs. Willingness-to-PayCost Effectiveness Analysis - CEA Life Year Saved - LYRatio ComparisonsCost Utility Analysis - CUAHealth Utility Index - HUISurvey, Standard Gamble, Time Trade OffQuality-Adjusted Life Year - QALYRatio Comparisons