Thursday, June 04, 2009

Why advancing technology makes health care more expensive, and everything else less expensive.

There's much talk and debate of late about projections showing that rising health care costs pose a very real threat both to the finances of the government and the viability of the the economy in years to come -- years that are getting closer to now, well, every year!

And if you look for the reasons why the cost of health care has been growing at a faster rate than the economy for two generations now, you will find many experts saying that Reason #1 is the development of expensive new medical technologies. Broadly defined, these range from high-tech hospital equipment to prescription drugs to behavioral therapies developed through costly clinical trials and directed by skilled professionals.

For instance, a CBO paper on the subject [.pdf] states...
most analysts have concluded that the bulk of the long-term rise [in cost] has resulted from the health care system’s use of new medical services that were made possible by technological advances, or what some analysts term the “increased capabilities of medicine.”
... and cites estimates of the post-1965 increase in health care costs as being from 38% to >65% attributable to the cost of new technology.

Yet to many persons who think "economically" something about this seems amiss. After all everywhere else in the economy improvements in technology reduce cost.

Advances in technology by definition increase productivity, to provide more for less. The horse and carriage became the automobile because the latter provided better transportation service at less cost, and the Model T became today's vehicles with On Star (as long as GM lasts) air conditioning and stereo satellite radio for the same reason. The computers themselves used in medical technologies cost less and less for the computing power they provide each year.

So why is it that only in health care new technology increases cost? This disparity leads a good number of people to conclude that either there is some economic "paradox" affecting the health care sector of the economy, or something very wrong is at a work -- such as special interest groups lining their own pockets by driving patients to less effective, more costly medical interventions.

But in fact there is no paradox to explain. Technological advances work in the health sector just as everywhere else, enhancing productivity continually, making new services available for the first time and improving the cost-benefit ratio of existing services.

Thirty years ago, my father had a cataract operation that was performed with a blade, and afterward he had to lay in a hospital bed for days with his head secured to keep it from moving. Recently my mother had a double cataract operation and it was walk-in, walk-out, "I can see again!" Hip and other joint replacements today are performed in the hundreds of thousands annually, two generations ago they were an impossibility. Studies of new prescription drugs show they provide large cost-benefit gains in averting expensive interventions (for heart attacks, strokes, etc. ... not to mention burial costs) that would be expected without their use.

So, if medical technology is providing large cost-benefit gains, just like technology in all other parts of the economy, we are still left with the question as to why it is the only kind of technology that increases cost to consumers rather than reduce it.

The first part of the answer is that the simple creation of a new technology increases its cost to the economy -- a service that doesn't exist costs zero, so the cost of that service once it does exist is an increase. As ever more new medical technologies come into existence, their aggregate cost as a portion of GDP steadily rises.

But of course that's not the total answer because the same thing is true of other technologies -- the cost of computing technology comprises a significant portion of GDP today, compared to about zero 60 years ago, yet nobody is complaining about "the ever rising cost of computers to society".

The second, big, part of the answer is that most other major technologies are developed primarily for use in commerce, so their use produces a financial return that pays for the use ... making investment in the technology self-funding. For instance, computer users from Fortune 500 corporations to freelance writers increase their net revenue by using computers, and the resulting increase in their income pays the money cost of their computers ... and also pretty much pays for the entire computer industry's research and development costs for new products and technologies.

Indeed, the requirement that the business user's purchase of a computer pay for itself financially imposes a strict spending constraint on purchases, and directs the computing industry's investments in new technoligies towards those that will pay for themselves, monetarily.

Here is where medical technology is very different. With medical technologies the payoff to the final consumer, while it may be large and extremely valuable, is non-monetary. It doesn't produce revenue for the user. So the monetary cost of the consumer's use of the technology has to come from somewhere else: from savings ... or from reduced consumption on lifestyle, clothing, food ... or from other people, such as all the other persons who pay premiums to the same insurer, and from taxpayers.

Moreover, because the payoff from medical technologies can indeed be very large to consumers -- the difference between years of living in comfort and living years in pain, or not living at all -- demand for them can be very high. If you happen to buy a computer or car totally for personal, non-revenue generating use, you will weigh its recreational value to you against the value of other things in your life, and limit your expenditure on it accordingly. But if you are talking about a technological medical procedure that will be the difference between you (or a loved one) having a high-quality life or low-quality life for many years to come ... or no life at all! -- well, you gotta have it! If your savings and income aren't enough to pay for it, you are going to want your co-insureds and fellow taxpayers to pay for it. "Pony up!"

And that's why advances in medical technology drive increases in the cost of health care to consumers, while technological advances everywhere else in the economy reduce costs to consumers. (1) The cost of medical technology is not financially, monetarily, self-funded from the productivity gains it produces, as is the cost of technologies developed for use in business and commerce; compounded by (2) The demand for such technologies can be extraordinarily high, driving up its cost -- especially when that price is to be paid by others, unconstrained by the consumer's own income and savings.

Is there a remedy for this? More, later ...