What Should Macroeconomists Know about Health Care Policy?

Contributor Notes

This primer aims to provide IMF macroeconomists with the essential information they need to address issues concerning health sector policy, particularly when they have significant macroeconomic implications. Such issues can also affect equity and growth and are fundamental to any strategy of poverty reduction. The primer highlights the appropriate roles for the state and market in health care financing and provision. It also suggests situations in which macroeconomists should engage health sector specialists in policy formulation exercises. Finally, it reviews the different health policy issues that confront countries at alternative stages of economic development and the range of appropriate policy options.


This primer aims to provide IMF macroeconomists with the essential information they need to address issues concerning health sector policy, particularly when they have significant macroeconomic implications. Such issues can also affect equity and growth and are fundamental to any strategy of poverty reduction. The primer highlights the appropriate roles for the state and market in health care financing and provision. It also suggests situations in which macroeconomists should engage health sector specialists in policy formulation exercises. Finally, it reviews the different health policy issues that confront countries at alternative stages of economic development and the range of appropriate policy options.

I. Introduction and Guide

A. The Need for a Guide for Macroeconomists

Whether working on a low-income country (LIC) or an advanced economy, it is important that macroeconomists are aware of issues in health economics and health policy. Health care has gained prominent recognition in development. The UN Millennium Development Goals (MDG) set 10 specific targets to be achieved by 2015, of which three explicitly pertain to health. Research studies document that millions of households in developing nations are impoverished each year by health expenditures, retarding poverty alleviation efforts, and an emerging body of research shows that investments in health can have a significant effect on economic development (Fogel, 2004; Bloom and Canning, 2000; and Bloom, Canning, and Sevilla, 2004). HIV/AIDS has undermined the development prospects of a number of African countries and threatens to weaken the growth momentum of several important Asian economies. For middle-income, transition economies, and industrial countries, the challenges posed by the health sector for macroeconomists differs, but is no less daunting. Increasingly, pressures emerging from the health sector—in part due to the aging of populations and in part due to the rapid pace of technological change in the medical sector—are affecting fiscal sustainability, inflation, and possibly even the current account of the balance of payments.

For those working in the health sector, it is also obvious that macroeconomic policies can have a measurable impact on health care. Macroeconomic guidelines relating to public expenditure targets, inflation control, tax policy, and exchange rates will have effects on the provision of health care and ultimately on the health status of the population (Glied and Remler, 2002). Since a large share of health funding comes from the government, fiscal targets will constrain how much a government can spend on health. Tax policies relating to tobacco, alcohol, and firearms will influence people’s demand for these products and ultimately their health (Jha and Chaloupka, 1999). And the exchange rate will be a factor determining the cost of vaccines and drugs. Macroeconomists concerned with the fiscal balance will also influence decisions on the respective roles to be played by government and private markets in the health sector. Such decisions will influence the pace of health cost inflation, the efficiency and quality of health care, and the degree of equity associated with its financing.

This primer represents an effort to bridge the divide, enabling particularly macroeconomists (such as those who work at the IMF) to obtain at least a basic understanding of the key health policy and health system issues that may arise which are integral to their understanding of the macroeconomy. For those macroeconomists with limited time, who only want to have the most basic grasp of health economics and health policy, the major points of this primer are briefly summarized in this introductory chapter. Section B describes the unique characteristics of health and the health sector that have implications for policy. Section C follows with a discussion of the major challenges facing the health sector. Section D characterizes some key empirical research findings with important policy implications.

Finally, Section E provides a road map to the different chapters of the primer for those who wish to go further. The primer recognizes that the key health policy issues of concern to policymakers or macroeconomists in low-income countries will not be the same as those faced by their counterparts working on advanced, middle-income, or transition economies.

B. Unique Characteristics of Health and Health Systems

Put simply, there are a few important facts that are fundamental to an understanding of the role of health and the functioning of the health system.

  • Good health, broadly shared, is intrinsically valued in all societies. The concept of equity in health and equal access to health care is based on an ethical notion of fairness. Inequities are intrinsically repugnant; disproportionate illness burdens and suffering by selected groups of people offends our innate sense of justice. From this perspective, we can infer that, at the minimum, every individual should have access to basic services and medicines to relieve pain and suffering and to avoid untimely death. The most ambitious goal would be for every individual to be able to attain his or her full health potential regardless of age, gender, or socioeconomic status.

  • Health care as a good differs from other essential goods and services, such as nutrition, education, and housing. The likelihood of illness or the incurring of health expenses is subject to uncertainty. Individual households face only a small probability of having a major accident or illness. But most households would have difficulty affording the cost of treatment for a major illness. As Kenneth Arrow (1963) and John Nyman (2006) show, providing health insurance increases a society’s welfare. Insurance, however, causes moral hazard and results in a loss in economic efficiency.

  • Serious market failures exist in the health sector. The supply side dominates the demand side in the health services market. Professional dominance prevails due to the asymmetry of information between physicians and patients. If left unchecked, the medical profession can exercise its monopolistic power to induce demand and set high prices, leading to rapid health cost inflation and a deterioration in the quality of services. Insurance markets also experience serious market failures. Adverse selection poses a serious problem for voluntary health insurance and deters the pooling of risks between the healthy and less healthy. On the supply side, private insurance companies select the healthy and younger people to insure and leave the less healthy and poor uninsured. Thus, the good risks are not pooled with the bad, and government is left with a serious social problem and a large fiscal burden if it is left providing for the uninsured.

  • The cost of serious illness can be a major factor causing poverty for households in many LICs. The cost of modern medicine (e.g., diagnostic tests, surgery, and hospitalization) is simply not affordable for most LIC households. For example, the average cost of a hospitalization typically exceeds the annual median household income. Studies have found that for several LICs, 20-30 percent of households have had to borrow or sell assets each year in order to pay for medical expenses (Russell, 1996; Sauerborn, Adams, and Hien, 1996; Liu, 1995; Gu and Tang, 1995). Households either need medical insurance or access to subsidized health services to prevent financial bankruptcy.

C. Challenges and Issues

Across the world, one can identify the following key challenges facing the health sector.

  • Spending on health care strains both household and government budgets throughout the world. In many countries, health expenditure per capita has risen faster than the rise in GDP per capita. Consequently, health care costs have taken an ever-increasing share of government, employer, and household budgets and put pressure on those financing the burden of health care (through taxes or insurance contributions). Looking ahead, there are concerns in many industrial countries that an ever-increasing share of the government budget spent on health care (OECD, 2006) will crowd out resources for other important public goods and publicly provided services.

  • The aging of populations is a development now confronting both advanced economies and a number of emerging market countries (notably China, Korea, Thailand, Singapore) (see Australia Productivity Commission, 2006; OECD, 2006; European Commission, 2006; and Bryant and others, 2005). Illness and health expenses increase with age. The rapidly aging population in advanced economies will further exacerbate the pressures associated with a high health expenditure inflation rate.2 China in particular will, within the next few decades, face an increasing share of its population in the elderly group. Yet few countries have a coherent policy strategy to deal with the fiscal problems arising from an aging population.

  • A “double disease burden” and equity issues face middle-income countries (MICs). The epidemiological transition confronts most MICs. Such countries not only have to fund and deliver services to address the communicable diseases affecting the poor but also for the chronic diseases facing middle-and upper-income groups (see Reddy and others, 2005). This will inevitably force these countries to reform their health care financing and delivery systems. Equity in health also gains greater attention politically as an MIC becomes more affluent. Typically, only the rising number of upper-income households can obtain and afford to pay for expensive sophisticated health care, while others go without. Such disparity creates social and political tensions that governments recognize the need to confront. But they may not have the knowledge or resources to do so.

  • LICs challenged by HIV/AIDS are now the beneficiaries of a rising tide of donor assistance for prevention and treatment. But many countries are having difficulty absorbing this assistance and most confront a severe shortage of human resources. HIV/AIDS has weakened the economy of several LICs and strained their health care and social service capacity. Most simply lack the absorptive capacity—health care infrastructure and human resources—to prevent and treat HIV/AIDS patients. Perversely, the large inflows of donor assistance targeted to these diseases (through so-called vertical disease programs) have weakened the infrastructure and drained the human resources required for preventing and treating common diseases (such as diarrhea, and upper respiratory infections) that may kill many more people. Furthermore, multiple donors, each with their own priorities, bureaucratic requirements, and supervisory structures, have created waste and confusion with recipient nations. Lastly, an important concern is the sustainability of these vertical programs, since donors’ funds may not prove stable or longlasting. For recipient countries, these inflows have created difficult challenges in the management of the health sector.

D. General Findings and Policy Actions

Sound public policy should be based on scientific information, evidence, and solid analysis. Economic policymakers can inform themselves of several major lessons learned from research and countries’ varied experiences in organizing and financing health care. This accumulated knowledge has taught us which policies are sound and which are not. The following general findings and actions can be applied in most countries to improve health care.3

  • The good health of a population significantly contributes to human capital development and economic productivity. Numerous micro-studies have found that child’s health has a large impact on his or her ability to learn and retain knowledge (Jackson, 1993; Kramer, Allen, and Gergen, 1995; and Novello and others, 1992). Adult health status affects the size of the labor force, worker absenteeism, and worker efficiency (Mushkin, 1962). Recent macro studies have found that the health of a population can significantly influence a country’s rate of economic growth (Fogel, 2004, Bloom and Canning, 2000, and World Bank, 2004).

  • Health resources should be allocated to achieve three objectives: (i) an optimal level of health status distributed equitably; (ii) an adequate degree of risk protection for all; and (iii) the highest possible level of public satisfaction for the entire population. Achieving these objectives will require making difficult decisions about trade-offs, especially between equity and efficiency.

  • One size does not fit all. Nations are at different stages of socioeconomic development and have different epidemiological patterns. They differ in their resource capacity, knowledge base, human resources, and institutions. What works in the United Kingdom would not likely to work in Kenya. Few general health policy guidelines can apply to all nations and an universal performance standard does not exist.

  • Governments should establish institutions to finance health care and pool risk, rather than relying only on the free market. However, the way in which the market and government can work efficiently and appropriately varies by function, for example, financing versus the provision of health care. Although many countries have tried regulatory remedies to correct the market failures in the voluntary private insurance market, no country has succeeded. On the other hand, international experience shows that government-managed “free” public health services tend to be inefficient and non-responsive to patients’ needs. Market mechanisms can provide services that are more efficient and higher in quality than government-managed free services.

  • As market competition is capable of addressing only the efficiency issue, the government has to be responsible for the equitable financing and distribution of essential health goods. At a minimum, the government should: (i) finance and provide public and merit goods, for example, health education, immunizations, and maternal and child health services; (ii) target and subsidize primary care and hospital services for the poor; (iii) establish national or regional health risk-pooling (e.g., insurance) mechanisms for formal sector workers and their families; (iv) establish regulations to remedy market failures and monitor market performance; and (v) educate the public to be informed consumers of health services. In carrying out these responsibilities, the government may have to increase its health budget, build its institutional capabilities, and strengthen its human resources.

  • Because publicly financed health benefits in developing economies usually favor higher-income households, governments should shift their resource allocations to target their subsidies to the poor and to those in the greatest need.

  • Costly technology used by advanced economies to provide sophisticated medical treatments as well as clean water and sanitation is often unaffordable for LICs. Yet the potential for developing affordable technology is not exploited by industrial country researchers or pharmaceutical firms because it is not glamorous or profitable. To increase social benefits for the poor, international organizations should promote the use of affordable technologies and support investment in international public goods, such as the development of vaccines for malaria and HIV/AIDS.

E. Road Map to the Primer

This primer aims to provide macroeconomists with the essential information they need in order to understand the economics of the health sector. They need to know which health policies may improve the equity and efficiency of health care, as well as which policies will improve the level of health status, reduce poverty, and enhance social and political stability. As a primer, it does not provide in-depth information or complete evidence for the arguments made, but offers an extensive bibliography for those who desire further information. It also highlights situations in which macroeconomists should engage health sector specialists in policy formulation exercises.

In particular, subsequent chapters address six basic questions. Chapter II examines why it is critical for macroeconomists to understand health policy issues. Chapter III discusses what basic facts (and myths) that macroeconomists should know about the health system and the financing of the health care market. Chapter IV examines both the common health policy challenges confronting all countries as well as the challenges particular to countries at different stages of development. Chapter V explores what analytical framework should be used to assess the health care system.

Chapter VI provides ideas on guideposts that can be used in considering health policy options for countries at different stages of development. This particular chapter is lengthy because health issues and their economic considerations vary significantly across countries and to be relevant, it is necessary to discuss the health issues and policy separately for each stage of development (to help the reader, Figure 1 provides a road map to steer macroeconomists toward those sections most relevant for the type of country on which they are working). Finally, Chapter VII offers concluding thoughts on what specific advice macroeconomists can provide, given their normally peripheral role in health policy, to ensure that macroeconomic policy issues are taken into account.

Figure 1.
Figure 1.

A Road Map for Reading the Primer

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

II. Why Macroeconomists Must Understand Health Issues

As a general rule, issues of health care policy have not generally been seen as the domain of macroeconomists. Only in recent years, with the report of the World Health Organization’s (WHO) Commission on Macroeconomics and Health (CMH, 2002), has there been a greater focus on why health issues are relevant to macroeconomic policy makers and in particular, ministers of finance. That report also provided further support for the prominence of health goals (e.g., reduced infant and maternal mortality rates as well as reduced prevalence rates for HIV/AIDS, malaria, and tuberculosis) in formulating the Millennium Development Goals. The CMH initiative principally sought to demonstrate that progress in improving health in LICs could be a critical factor influencing the growth potential of a country. In particular, the CMH report explored the various ways in which better health status could improve the quality of the labor force; enhance productivity, both in the short and long run; limit the extent to which catastrophic illnesses can lead to households falling into poverty; raise household savings rates; and reduce fertility rates.4

In what follows, a broader set of arguments is laid out to further strengthen the case for macroeconomists to put issues of health care policy on their agenda as they seek to understand the functioning of the macroeconomy. Such arguments pertain not only to LICs but also to middle-income and advanced economies as well. The principal focus will be on how issues of health influence the macroeconomy.

A shorthand version of the argument can be graphically shown in Chart 1. One starts with the basic recognition that the health status of a population is fundamentally influenced by its age structure, its exposure to various epidemiological vectors (in part due to geographic factors), its degree of affluence, its behavior (concerning nutrition and exposure to adverse epidemiological factors), and its demographic characteristics (e.g., high or low fertility). This basic starting point will obviously influence the demands placed on a country’s health care system. And, as noted by the CMH, the population’s health status is likely to have an important influence on various microeconomic labor market and savings variables that can influence the state of the macro economy.

Chart 1:
Chart 1:

Channels through which Health may Influence Macro and Microeconomic Variables

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

But the health status of a population is also influenced in part by the nature of the health policies pursued by a government—the provision of public goods (such as immunizations and vaccinations); the quality of the regulatory policies with respect to pharmaceuticals; and the extent of activism in the control of public “bads” (such as antidrug or tobacco policies)— and by the quality and quantity of the medical services available to the population (whether from the public or private sectors). In general, it is reasonable to assume that the health status of individuals is positively influenced by the activities of a country’s health care system.

Yet how a society organizes itself in terms of the implementation of its health policies and in the financing of the provision of health care is also likely to have a direct and independent impact on macroeconomic variables, recognizing that the extent of impact will differ across countries (depending on the size and relative importance of the health care sector). And of course, the state of the macroeconomy—the level and distribution of income in particular— will influence the capacity of a government and the private sector to provide health care and implement health policies.

The channels through which health policies, and the organization of the medical sector and its financing, can influence macroeconomic variables include but are not limited to the following relationships:5

  • Pressures for the introduction of new medical technologies and drugs: as new technologies and drugs became available to address medical problems, one can expect that doctors and medical practitioners will wish to prescribe them and that patients will demand their availability. In a government-financed health system, or one where third-party payers (employer-financed insurance systems) bear the cost of health care, there will be pressures from the public or insured populations to accommodate these demands. This will at least give rise to budgetary pressures. The higher cost of such new products and procedures may ultimately be reflected in the consumer price index (see Lubitz, 2005).

  • Other underlying demand pressures for increased health spending: whether from the impact of an aging population or the effects of a high prevalence of a specific disease problem (e.g., HIV/AIDS), pressures for increased demand for health care will develop. Again, particularly when the government intermediates the financing of health care, pressures on the budget will emerge. Recent projections by the OECD (2006)6 of rising fiscal outlays on the health sector illustrate this phenomenon. For example, the OECD projects that for Korea and Mexico, health and long-term care spending will rise from 3.3 percent of GDP in 2005 to 11.9 percent by 2050 in the absence of cost containment policies (and still as high as 9 percent of GDP even with the implementation of such policies). Smaller but not nevertheless substantial increases (on the order of 40-100 percent) in the share of health spending in GDP are projected for many other industrial countries.7

  • The “Baumol effect” on the relative cost of the health care sector: if there is less capacity in the medical sector for increased productivity relative to that in the rest of the economy (given its labor intensity), one would observe relative price increases in the sector as sectoral wages, rising at the rate of national productivity growth, outpace sectoral productivity gains.

  • Pressures on health financing may give rise to a need to raise tax or insurance rates or product prices: governments may seek to address the fiscal imbalances associated with higher health spending by raising tax rates (e.g., the payroll tax rate), with potential adverse effects on efficiency (reflecting the excess burden created by higher tax rates). Companies that provide insurance coverage for their employees or retirees may find that rising health care costs constitute an increasingly large share of compensation costs, putting pressure on product prices and raising competitiveness concerns. It may also lead to an increase in the copayment rates borne by employees.

  • The organization of how a country arranges the financing of health care will influence key macroeconomic variables: the relative balance struck between out of pocket (OOP) financing by households, social health insurance (with alternative copayment provisions as between employee, employer and government), and publicly financed provision (through general tax revenues) can have obvious differential effects in terms of the level of tax rates and the savings rate. It can also influence the potential for health care costs to be a factor influencing whether serious health incidents cause households to fall into poverty (whether through the cost of care depleting assets or from the loss of income experienced as a consequence of the illness episode).

  • Prospects of higher medical costs may be a factor influencing household savings decisions: there is some evidence in the United States suggesting that the elderly may be saving more than would be expected, given their stage in the life cycle, in order to ensure the availability of resources to finance catastrophic or long term care in later years. In countries reliant on household savings to finance health care, one may observe the introduction of 401K types of savings incentive schemes or even compulsory savings mechanisms (e.g., Medisave in Singapore).

  • “Externality effects” of spending in the health sector: many LICs are now the recipients of significant external grants to finance expanded health service delivery in relation to HIV/AIDS treatment. In the short-run at least, the need to substantially increase salaries to attract and retain medical sector workers may create pressures for higher wages for skilled workers in other parts of the public sector.

  • Capital market issues: if a country’s future fiscal sustainability appears to be jeopardized by the prospect of the coincidence of an aging population and rising health care costs, sovereign risk questions may arise in financial markets, leading to a higher risk premium on government borrowing.

  • Possible current account effects of spending in the health care sector: there are a number of ways in which the health sector may have effects on the current account of the balance of payments. For some advanced countries, the health care and pharmaceutical sectors may be a source of export receipts (through the export of drugs or the purchase of health care services from local providers). Medical tourism and the export of medical personnel may also be a source of foreign exchange receipts for some LICs and MICs. For countries where medical sector spending is a significant share of GDP, one could speculate as to whether it is more or less import-intensive than other forms of spending.

  • Political economy dynamics arising from the health care sector: policies in the health sector may give rise to important political economy effects. In countries with social health insurance mechanisms, one can envisage businesses attempting to shift a higher share of the cost of financing health care provision on to the government.

  • Health status issues may limit the capacity of government to implement other policy reforms: if there is a high incidence of disability among the older members of a country’s work force, this may constrain a government’s capacity to raise the formal retirement age of its public pension system.

It is not easy to be definitive about the strength of the respective roles of government and the private sector in the financing and provision of health care in terms of intermediating these relationships. On the one hand, if the government is heavily engaged, there may be political economy pressures for higher spending on health care. In contrast, it might be thought that if the private sector is the principal source of financing of health care (with only a limited role for government), then while there may be pressures for higher spending, these may be constrained by the capacity of the private sector to bear these costs. But the empirical evidence suggests otherwise because of market failure. Certainly in LICs and MICs where the private sector plays a dominant role, the pressures for spending remain strong. One observes households going into debt or depleting both their own and their relatives’ assets in order to finance the purchase of medical care. For example, in China, less than 15 percent of national health expenditure is financed by tax revenue. Yet that has not prevented the real health expenditures rising by 15 percent annually, substantially in excess of GDP growth.

The role of macroeconomists in relating to government policies in the health care sector is also a challenging question. The above discussion suggests that both the health status of a population and health care delivery systems can influence key macro variables—the fiscal balance; tax rates; wage rates and competitiveness; prices; and even possibly interest rates and the current account. Again, one could argue that in a system where the government does not intermediate in the financing of the health care sector, then the decision of households as to the share of their income devoted to health care should not be distinguished from the decision of households to allocate their income to other forms of consumption. If individuals attach a high value to being healthy, to living a longer, healthier life, and if health care interventions can deliver these “goods,” it should be a matter of indifference to macroeconomists as to whether the share of national income devoted to health care is 10 percent or 25 percent (see Cutler, 2004). Yet the role of market failure in the health sector suggests that the pressure for higher spending derives from more than demand factors, such that any adverse macroeconomic effects from the expansion of the sector cannot be downplayed as simply the unfortunate consequence.

But in most advanced countries, and indeed in many MICs, governments do heavily intermediate the financing of health care. Who bears the burden of financing of health care matters (particularly if it leads to impoverishment of families) as does the possibility that such spending may have macroeconomic effects. These are particularly problematic issues since the benefits of health care will inevitably accrue to different segments of the population (say, retirees) than to those who bear a disproportionate share of the financing (say, wage earners or general taxpayers) or to those who may be affected by the macroeconomic effects of higher spending on health care. These issues become even more difficult if questions are raised as to the relative effectiveness of alternative approaches to organizing the delivery or financing of health care or of the value of different interventions in influencing health status. Macroeconomic policy makers (or the IMF in the context of exercising its surveillance responsibilities) cannot wholly be indifferent to the question of why some countries allocate significantly greater shares of their output to health care and yet not observe commensurately better levels of health status (say as measured in quality-adjusted or disability-adjusted life years (QALYs or DALYs)?

III. Facts and Myths about Health Care and Health Sector

A. Basic Facts about the Health Sector

Certain basic facts about the health sector and health care are not widely known. This section explains what macroeconomists should know on this subject as they participate in the formulation of health policies.

  • Trade-off between equity and efficiency. Equity becomes a paramount consideration when everyone needs basic health care to maintain life and relieve pain and suffering. Without insurance, health expenses can also be a primary cause of falling into poverty. Therefore, basic health care and risk-protection have to be equitably distributed and price should not be used as the primary rationing tool. This implies a significant trade-off between equity and efficiency. A society’s social values and political philosophy influence how a country approaches this tradeoff.

  • Resource allocation within the health sector also involves complex trade-offs. The trade-off goes beyond equity and efficiency. Health systems are developed to achieve multiple outcomes. Contrary to simplistic belief, the allocation of resources in the sector cannot be based solely on cost-effectiveness, where effectiveness is measured only as health gains. The uncertainty of potentially large financial burdens arising from serious illness creates a legitimate demand for insurance against expensive hospital services. In public and private financing of health care, resource allocation has to aim at three common objectives: improving the population’s health, protecting people from financial catastrophe, and meeting the public’s expectations as to the availability of health care services. These multiple goals inevitably imply difficult trade-offs.

  • Markets alone cannot produce efficient outcomes in the health care sector. The health care sector consists of more than a dozen markets, most of which suffer serious failure due to an asymmetry of information, imperfect agency relationships, barriers to entry, and moral hazard. Evidence shows that the supply side (technology and induced demand) drives health cost inflation more than consumer demand. Specific market failure examples such as adverse selection (Rothschild and Stiglitz, 1976; Cutler, 1996) and risk-selection8 (Luft, 1986; Holahan, 1997), seriously impair the efficient operation of insurance markets. Moral hazard from insurance also produces inefficiency. In the service-provision market, physicians have the market power to practice price discrimination (Kessel, 1958) and induce demand (Yip, 1998). In factor markets, patent law protections offer monopolistic profits for pharmaceutical products. Licensing laws restrict free entry and competition. These market failures cause inefficiency, high health expenditure inflation, and inequity. International experience has taught us that some of these market failures can be corrected, but others are beyond our current capability to address. In summary, a blanket policy to allow the health sector to operate fully on a free market basis will not yield efficient outcomes. Market competition can be used only selectively for the benefit of a country’s health and welfare.

  • The distribution of health expenditure is highly skewed. In rich and poor countries alike, approximately 20-25 percent of a country’s total health expenditure in any year is spent on one percent of the population, and approximately 50 percent of expenditure is spent on five percent of the population. For 20-25 percent of the population, there is no spending for health care in a given year. Table 1 gives the contingency table of US health expenditure (i.e., percent of health expenditure by percent of the population), which is fairly typical of most countries. But our ability to predict which individuals are at highest risk in any given year is very limited. Thus, this skewed distribution has at least three important economic implications: (i) health insurance is necessary, as shown in the seminal paper by Kenneth Arrow (1963); (ii) adverse selection inhibits the establishment of a stable health insurance market, as shown by substantial empirical evidence (Rothschild and Stiglitz, 1976; Cutler and Zeckhauser, 1998); and (iii) risk-selection by insurers leaves the burden of covering the high-risk population to the government (Davis, 1975) and reduces the quality of medical services (Newhouse, 1992).

  • The supply side has a greater impact on health care efficiency, quality, and spending than does the demand side. Moral hazard on the demand side is well known. What is less understood and measured is the fact that monopolistic power on the supply side has a greater impact on efficiency, quality, and spending. A US government-funded ($100 million) study by the Rand Corporation in the early 1970s measured the price elasticity of demand for medical services in the US and found the elasticity of health expenditure to be about 0.2 (Newhouse, 1977). Other studies have found an elasticity range of 0.1 to 0.4 for LICs. It is, however, important to note that the elasticity could be greater than 1.0 for poor families in LICs (van der Gaag, 1991; and Gertler and van der Gaag, 1990).

Table 1.

United States: Contingency Table of Health Care Expenditure, 2002

(For all age groups)

article image
Source: Yu and Ezzati-Rice, 2005.
Table 2.

United States: Health Expenditure for Five Most Costly Conditions, 2002

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Source: Olin and Rhoades, 2005.

On the supply side, the asymmetry of information between the physician and the patient as well as the urgency of some medical conditions give physicians the power to induce demand and set prices. The elasticity of induced demand (viz., the elasticity of prescribed demand to price) has not been rigorously measured because of data limitations. Nonetheless, the US government accepted the value of 0.5 for policy-planning purposes. For LICs, the stylized facts show that this elasticity is much higher than in the US, because professional ethics and quality regulations are less developed. It is well known that physicians in LICs can drastically change the type of drugs prescribed, tests ordered, and length of hospital stay ordered in response to price changes that affect their income. The vast number of case studies indicate that the elasticity of inducement would be near 1.0 in these countries. In summary, the elasticity of induced demand is comparatively larger than the price elasticity of demand.

In advanced economies, where there is an adequate stock of physicians, an increase in the aggregate supply of physicians raises total health expenditure. This is because disease etiologies provide almost endless opportunities for specialization. An increase in the number of physicians usually leads to growth in subspecialties, which leads to a greater number of referrals. Consequently, the quantity of services and health spending rises. This has happened, for example, in the US, further fragmenting health care with questionable benefit for many patients. In summary, to promote efficiency and manage expenditure inflation, it is more important to control the supply side than to regulate demand.

  • Per capita health spending increases with age. Figure 2 shows that, in the US, those between ages 65 and 74 typically spend three times more on health care than those aged 18-64. This ratio increases to four times for the group aged 75-84. Other advanced economies show similar relationships.9 By the year 2010, most advanced economies will begin to experience an accelerated rate of increase in the elderly dependency ratio, with the ratio tripling for many by 2030. MICs and LICs are experiencing similar demographic transitions, though starting a decade or two later (Heller, 1998). As a country’s population ages, pay-as-you-go (PAYG) methods of public financing for health care will place an increasing tax burden on the working age population. This burden will have an impact on both the labor market and the national saving rate.

Figure 2.
Figure 2.

US: Average Health Care Expenditure by Age Group, 1999

(In dollars)

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Source: U.S. government, Center for Medicare and Medicaid Services 2005

B. Myths about Health Care Systems

As discussed, health policy deliberations are hampered not only by ignorance about the basic facts, but also by the prevalence of several widely-held myths. Some of these are based on standard neoclassical economic theory that is itself unsupported by empirical evidence. Nonetheless, these myths have strongly influenced policy debates around the world, particularly in the US. Five such myths are debunked below, in the hope that policymaking can be based on solid evidence:

  • Myth #1: National or social insurance restricts patients’ choice of providers; private insurance gives much greater choice.

This myth is widely held in the US and has distorted the public’s understanding of social insurance. In fact, Canadians, covered under social insurance, have total freedom to choose providers under their national health insurance; and Germans have a much greater freedom of choice under their social insurance than do Americans under private insurance and managed-care plans.

  • Myth #2: Health expenditure inflation cannot be managed because it is driven by the demand for services produced by new, cost-increasing technology.

Health expenditure inflation rates have indeed increased since the late 1960s. Economists have hypothesized two reasons for this trend. First, three decades ago, most US economists believed that expenditure inflation was caused by the moral hazard arising from increasing insurance coverage. This hypothesis turned out to be unfounded when insurance coverage in the US remained level or declined in the 1980s and health expenditure inflation continued unabated. Second, many argue that high health expenditure inflation can be attributed to the rapid advance in, and increasing availability of, expensive medical technologies. Economists argue that new technology is endogenously determined by health insurance (Weisbrod, 1991). This hypothesis is not valid for all types of health insurance, though it might be valid for the US, which relies largely on private insurance. In OECD countries with extensive insurance coverage, however, wide use of new medical technology still coexists with much lower rates of expenditure inflation.

Evidence shows that all major advanced economies except the US have been able to manage their health expenditure inflation since the mid-1970s. Prior to the mid-1960s, advanced economies spent 4.0-5.5 percent of GDP for health care and experienced similar health expenditure inflation. In the late 1960s, all advanced economies experienced rising rates. Countries have tried different methods to control and manage this problem. By the mid-1970s, all major advanced economies except the US were able to keep the total share of national health expenditure in GDP under control. As shown in Figure 3, the rise in expenditure share for the major advanced economies became less steep, while the slope of that for the US remained basically unchanged. These other advanced economies have, however, been adopting new medical technology just as rapidly as the US. Thus, international experience demonstrates that the main cause of health expenditure inflation is not new medical technologies. The cause is something more fundamental.

Figure 3:
Figure 3:

Selected Countries: Total Health Care Expenditure, 1960-2003

(Percent of GDP)

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Source: OECD 2005
Figure 4.
Figure 4.

United States: Concentration of Health Care Expenditure Over Time

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Sources: Berk and Monheit, 2001, and Yu and Ezzati-Rice, 2005

Other advanced economies have been able to manage health expenditure inflation pressures by establishing an effective budget constraint over the entire health sector. A “closed” budget encourages greater efficiency, including the curtailing of less cost-effective medical practices. Health expenditure inflation rates differ because most major advanced economies have been able to break the endogenous link between medical technology and health insurance by deciding exogenously on the level of overall health insurance expenditure. The US health financing system provides an “open” budget to the health sector. This gives providers the ability to shift costs from one plan to another. In other words, the US does not have a hard budget constraint for its health sector.

Americans argue that other countries have been able to manage their inflation rates by under-investing in health care, which has resulted in long waits for certain tests and surgical procedures. However, patients in most advanced economies—the United Kingdom (UK) and Canada are the two exceptions—have not had to wait long for non-emergency tests and surgeries. Recently, the UK has sought to eliminate long waiting lists by increasing its health spending from 6.8 percent of GDP to about eight percent of GDP (see Aaron, 2006). Canada has waiting lines since the late 1980s due to the drastic cuts made in health budgets during the economic downturn, but that situation is improving after the economy revived and the federal government increased the health budget.

  • Myth #3: Government-financed health services inevitably become underfunded, resulting in shortages, inferior quality of services, and long waits.

Besides the public good elements of the health sector, most countries use general revenue to finance health services for reasons of equity and risk-protection. Most countries also accept the principle that health care is a basic need—that it is inappropriate to use price to ration health care according to people’s ability and willingness to pay. Because governments of LICs and MICs are financially unable to meet all demands, their public health services are usually underfunded. Consequently, these services are rationed by other means, such as long waits for treatment. However, this is not the case for advanced economies. Most have been able to balance supply with demand. The notable exception is the UK, which relies on the political process at the central government level to set its national budget for health. UK health care has to compete with other national priorities, such as education, social security, and national defense. The public, acting through the political market, seems to be willing to accept wait-rationed treatment.

  • Myth #4: All preventive care is cost-effective.

Often policymakers make the erroneous assumption that the cost of preventing a disease is always less than the cost of treatment. This is not so. Besides the cost of supplies, effective prevention programs often require the identification of the population at risk and that a high proportion of that population complies with the preventive regimen. These efforts can be very costly. For example, studies show that it is more cost-effective to treat TB cases rather than to prevent it (Borgdorff et al, 2002). Influenca vaccination is not cost-effective for healthy working adults (Bridges et al., 2000). In addition, some preventive measures produce serious side effects that result in permanent disability. Preventive policy should thus be judiciously based on cost-effectiveness analysis, not on impressions.

  • All private sector providers are more efficient than public sector providers.

Similarly, often macroeconomists assume erroneously that private sector production of health insurance and health services is more efficient than public sector production. This is not so. Studies consistently have found that the cost of private insurance is higher than public insurance because of the difference in marketing cost. In the provision of health services, studies in the US have found that private sector production could be more efficient if there were sufficient competition. On the other hand, Singapore has found that the private sector hospitals charge much higher prices for hospital services that are of the “same” quality as those provided by public hospitals.

C. Basic Health Economics: Health Markets and Market Failures

As noted above, empirical studies of the past three decades have confirmed the presence of serious market failures in the health sector. Most of these failures are caused by factors pervasive to the various markets of the health sector, viz., an asymmetry in information, imperfect agency relationships, and moral hazard.

  • In the financing market, the asymmetry of information between the consumer and insurer about the former’s health condition results in significant adverse selection. The fact that health risks are concentrated in a small portion of the population results in serious risk-selection efforts by insurers. Although insurance is needed to cover the uncertainty of future illness, insurance creates moral hazard.

  • In the health service provision markets, one would not expect competition to work when patients suffer from urgent or life-threatening medical problems. In such situations, patients are unlikely to “shop around” given the absence of sufficient information to discriminate among sources of supply. Moreover, asymmetry of information gives health practitioners strong monopolistic power to set prices and induce demand. Regarding the supply of health practitioners, to assure patients’ safety, the government and the medical profession have erected high barriers of entry as to who can practice medicine.

  • In the pharmaceutical and medical-device markets, patent laws give monopolies to new drugs and new medical technologies in order to encourage research and development. Although these barriers to entry and monopolies have been established for sound social and economic reasons, they have nonetheless impaired the competitiveness and efficient operation of markets.

Recognizing these serious market failures (or the absence of the prerequisite conditions for a workable competitive market), many countries have turned to the government to finance and provide health services. The last 50 years have shown both the benefits and limitations of state action, especially in the promotion of health. Governments have helped to deliver substantial improvements in education, health, and economic security. Without this government role, sustainable development, both economic and social, would have been impossible (see World Bank, 1997:2). However, not all experiences with state action in the health sector have been encouraging. Government decisions are, of course, mostly based on bargaining among political alliances. Thus, the relative powers of different interest groups can greatly affect decisions on resource allocation and on those who benefit from and pay for public programs. Often, a disproportionate amount of public health services goes to the affluent and the urban middle class rather than to the poor. Moreover, curative hospital services are favored over cost-effective primary and preventive services.

Because most governments operate by “command and control”—using bureaucratic rules to manage operations—and public facilities usually operate as a monopoly, even the best-intentions of bureaucrats can atrophy from a lack of information and insulation from patients. Health practitioners’ interests often begin to supersede those of patients and the general welfare. Politics can then dominate public health services, turning them into major centers for patronage employment, particularly when labor unions become bases of political support. In many LICs and MICs, because of the absence of appropriate checks and balances, corruption, fraud, kickbacks and under-the-table payments to physicians and nurses have become widespread. Hence, public health services often become unresponsive to the needs of patients, and the efficiency of public health services deteriorates.

How a country finances and provides health care depends on the objectives that a country pursues. Because there are serious market and government failures, the policy question is not one of either market or government, but rather the relative degree of each and how to harmonize them. The respective roles of the government and of the market are ultimately decided by societal objectives set for the health system, with these objectives shaped by the values embraced by the society. For instance, markets normally cannot produce equitable health or health care because of income, gender, and racial inequalities in a society. If a country gives priority to equity, then the government has to take a primary and strong role in financing health care. In sum, a country’s social values and priorities determine the extent to which a country relies on the market as opposed to the government. Nonetheless, it will enhance rational policymaking if objectives are clearly set forth and both market and government failures are well understood.

When there are serious failures of both market and government, sound public policy becomes much more difficult to develop. Policymakers may then choose a strategy that will produce a better, but not the best, outcome—in essence, a second-best solution.

IV. Health Policy Challenges and Issues Confronting Nations

A. Major Issues Confronting All Nations

While specific issues confront nations at different stages of development, several issues confront all nations throughout the world. We first present the universal issues, then the ones for each stage.

Most nations, rich or poor, face the problem of per capita health care costs rising faster than per capita GDP. Consequently, health care outlays are absorbing an increasing share of government, employer, and household incomes. This constant fiscal pressure forces nations to confront two basic questions: how to finance this rising burden and how to contain the pressures for health expenditure growth.

Several common factors on the demand and supply sides have caused the rapid rise in health care costs globally. On the demand side, the HIV/AIDS pandemic and people’s heightened expectations and demands are the principal causes. Influenced by worldwide distribution of medical news, sensational headlines on medical breakthroughs, and aggressive drug advertisements by pharmaceutical companies, people are bombarded with new information about diseases and their treatments. We have become much more conscientious about our health and illnesses and expectations are raised about medicine’s ability to treat and cure. Some new expensive technologies may yield only small marginal benefits, but news of their discovery distorts consumer perceptions. On the supply side, medicine and the medical profession itself have become more commercialized. Profit has also become a strong motivating force in biomedical research. Driven by the profit motive and protected by patent laws, new medical science and technology produce mostly cost-increasing new treatments. Concomitantly, hospitals and physicians who adopt new sophisticated medical technologies gain in both reputation and profit.

Another driver increasing costs involves the socialization of medical practices throughout the world. The US has become the dominant force in medical education and research. Its emphasis on specialty medicine and expensive high-technology treatments has profoundly influenced global medical practices, and this is reinforced by regular education and continuing education programs, role models, and telemedicine. In effect, foreign physicians have been socialized to adopt the “American practice standard,” regardless of whether their country has the resources to pay for it.

The balancing of the demand and supply for health services and drugs is another critical issue confronting all nations. Few nations have the resources to satisfy people’s needs and wants in health care. Consequently, health care has to be rationed. Instinctively, economists would argue for a rationing by price. However, reasonable health care is a necessity of life, so that equity concerns must also be a key factor in policy decisions. Also, illnesses are uncertain and income is inequitably distributed in most countries. Thus, price rationing favors the affluent, while lack of insurance impoverishes most families that have large medical expenses. For those reasons, most nations provide nearly free basic health services or cover their citizens under social health insurance programs. As a result, price is not used as the primary rationing tool. Queues, waiting time, travel distance, lesser quality of service and outright unavailability, frequently serve as effective rationing tools. But when carried too far, rationing can generate public dissatisfaction and political whiplash. This was the experience in the UK and Canada and, more recently, in the US with respect to managed care. Bedside counseling by physicians to induce patients to demand less services has been used successfully in many advanced nations, but the internet and the popularization of medical information have weakened this constraining influence. Most recently, the followers of free market ideology have continued their push to ration by price, labeling it as “consumer-driven” health plans. This approach is not likely to work because the asymmetry of information places providers in a dominant market position and individual patients’ choice is not likely to exert much competitive force. Rapid health cost inflation is unlikely to be contained under this strategy. How to ration scarce health resources will thus remain a critical issue.

Finally, a health system is a dynamic organism. All nations confront the medium-term challenge of adjusting their health systems to meet changing epidemiological and demographic conditions. Disease patterns do change with socioeconomic development, demographic change (e.g., with aging, the prevalence of chronic diseases such as Alzheimer’s will increase), and, in the future, possibly with climate change. New infectious diseases can emerge, as illustrated by the recent emergence of SARS and Avian flu. The prevention and health service delivery systems will thus have to change accordingly. New more effective technologies and drugs, typically more costly, present a continuing challenge to governments and insurance companies forced to decide whether to sanction (and finance) their use.

Are these insoluble problems? To deal with health cost inflation, authorities may consider: (i) placing an effective global budget for the health service sector so providers have to lower costs and compete for patients. Limiting price increases encourages the providers to adopt new cost-reducing technologies and new management tools, and reform their organizational structure for efficiency gains; (ii) mandating that households save a portion of their wages annually in order to prefund the fight costs of health care that will be incurred later in life; (iii) offering incentives with public funding to develop cost-reducing technologies; (iv) altering the payment system to promote cost-reducing technology; (v) evaluating new technologies in terms of their cost-effectiveness (do they produce better clinical outcomes? how do new and established technologies and drugs compare in terms of cost and relative effectiveness?) and (vi) establishing an effective long-term budget for the prevention of HIV/AIDS, allocating a specific portion of budget for this goal.

To control the pressures of new technologies, medical education programs of advanced economies should seek to take account of the differences in the economic status of countries by: (i) developing medical standards varying by nations’ economic status and introduce these different standards into the medical curriculum; and (ii) efforts should be made to identify role models who practice appropriate medicine for different stages of socioeconomic development and publicize them.

Balancing Supply and Demand: authorities may seek to influence the expectations and demand for health care by: (i) promoting truth in advertising for drugs and medical devices; (ii) providing government funding for social marketing programs to balance the role of private advertising; (iii) establishing standard protocols of treatment that take into account resource constraints; (iv) capping medical insurance benefits to exclude coverage for “heroic” and experimental medical services; (v) establishing mandatory medical saving accounts (MSA) for long-term care and catastrophic medical expenses after a given age (such MSAs could be used to purchase insurance in order to pool the risks); and (vi) establishing reverse mortgage and low-interest loan programs for catastrophic medical expenses.

B. Challenges Facing Advanced Economies

Advanced industrial countries also face several issues of their own. First, most high-income countries confront the prospect of an aging population. People are living longer while fertility rates are declining. The elderly dependency ratio is projected to increase rapidly in the next two decades. Under any PAYG system for health insurance, population aging will have profound implications for the fiscal burden placed on future generations of workers, labor market conditions, and saving and consumption patterns. Table 3 shows how the shares of the elderly and support ratios will evolve through 2050 for selected advanced and middle income economies.

Table 3.

Selected Countries: Projected Shares of Elderly and the Support Ratio 2000-2050

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Source: United Nations, Department of Economic and Social Affairs, Population Division (2006)Note: The support ratio is defined as the ratio of the population aged 15-64 to the population aged 65 and over.

Population aging, combined with a changing epidemiological pattern, will pose two other issues: pressures for a change in the health care delivery system and the likelihood of a more rapid rise in health care costs. Chronic diseases have increased dramatically and these particularly afflict the elderly. The elderly also demand different kind of health services, especially those who suffer from functional disability, dementia, and Alzheimer’s disease. The organization of health care delivery will inevitably have to be reformed. Housing, social services, and nursing home care will need to be integrated with medical services. Also, as noted above, the growing share of the elderly may lead to a more rapid increase in health expenditure, as health spending rises with age.

A new pattern of medical expenditure has also emerged from changes in the prevalence of chronic illnesses and their treatments. Medical expenditure is becoming less concentrated on a small number of acutely ill patients. Previously, researchers found that the last episode of illness consumed a huge share of an individual’s lifetime health expenditure, as costly medical technologies were used to prolong lives (though for only a short time). As a result, aging may have had only a modest effect on the rapid rise in health care costs. Recent trends now suggest that the concentration of medical expenditure on a minuscule group of the population has been reduced, perhaps because new, though costly, medical technologies have been developed that prolong lives rather than rescue patients from immediate death.

Moreover, affluence has changed diets and lifestyle. As a result, obesity has emerged as a serious health problem, and may prove to be a factor leading to widespread and serious long term chronic medical problems such as diabetes, high blood pressure, and cardiovascular illness (see Olshansky et al, 2005; Olshansky, 2005; Daviglus, 2005; and Lakdawalla et al, 2005).

C. Challenges Facing Middle-Income Countries

Most MICs are faced with a “double disease” burden. As a nation’s economy develops and matures, it has more knowledge and resources to address problems of clean water, sanitation, malnutrition, communicable diseases, and basic health care. As infectious diseases and infant and maternal mortality decrease in a nation, middle and higher income urban households suffer more from chronic illnesses while lower-income households and the rural population continue to suffer primarily from infectious diseases. Moreover, as a nation’s economy grows larger, policymakers and the public become more aware of the disparity in the availability of health care and the reality that the burden of unforeseen health expenditure has been a critical factor leading to impoverishment.

MICs thus increasingly recognize that they have to confront this double disease burden. They must transform their preventive and curative care delivery systems to deal with chronic diseases, while at the same time maintaining vigorous efforts to address the burden of infectious diseases. The double disease burden has serious implications for resource allocation, health costs, medical education, and the organization of health care delivery.

Also characterizing developments in MICs is the increasing demand by formal sector workers and upper middle-class citizens for health insurance. There is growing pressure to rationalize and reform the fragmented health financing schemes that normally characterize LICs. There is demand for the elaboration of a more universal system whereby all citizens can have access to basic health care and equitable risk protection. To meet these demands, MICs will have to increase their investments in health care. Tax revenue can be a source of financing. However, most nations will probably look to social health insurance as a potentially more desirable and politically viable approach. Either approach will have macroeconomic implications.

Another critical issue confronting MICs is that public health facilities are increasingly seen as inadequate as a consequence of the emergence of for-profit private sector providers. Public health service providers tend to be slow in responding to socioeconomic change and in raising the quality of health services to meet the demands of a rapidly emerging middle class. Typically, such facilities are under-funded, with resources allocated more on the basis of planning formulae rather than demand factors. Management operates under out-dated bureaucratic rules, and health workers are often organized in strong public service unions (e.g., in Latin America.) Consequently, a quality-of-service gap develops between supply and demand.

The for-profit private providers move in to deliver services that meet the demands of the middle class. Besides high returns to investor-owned private facilities, physicians in private practice can earn much higher incomes from fee-for-service payment paid by upper income and middle class patients. As a result, many public sector-employed physicians set up a dual practice, operating private clinics during off-duty hours. This can lead to a further decline in the quality of the public health service as physicians’ absenteeism rises to a high level and many highly qualified senior physicians leave for full-time private practice. Health care becomes a markedly two-tiered system, with the public health services losing the political support of the upper and middle classes. The inequity in the health system becomes apparent, creating social and political unrest.

Aging is also likely to pose a problem for some MICs in Asia, particularly China. The demographic transition—longer life expectancy and lower fertility rate—would eventually create an aging problem for any nation in the long-term. When a nation goes through an accelerated demographic transition, the time horizon of the aging process becomes considerably shortened. By adopting a one-child policy, China created an aging problem which should intensify by 2030. China and other accelerated-aging Asian middle-income countries now have to begin planning for how to finance the future high costs of long-term care and transform their health care delivery systems to meet the needs of the elderly (see Heller, 2006).

D. Challenges Facing Low-Income Countries

LICs are not progressing very well in the health arena. Prospects are poor for meeting the MDG goals. To meet the MDG of reducing under-five mortality would require mortality rates to fall on average by 4.3 percent per annum, in contrast to the recent experience of annual reductions of 2.3 percent. The maternal mortality rate in LICs is falling by only 2.4 percent a year compared with the 5.4 percent annual reduction that would be required to achieve the MDG target.10 In sub-Saharan Africa, no country appears on track to attain the MDG targets for under-five mortality or maternal mortality. Low-income countries face several common issues. Among them are: HIV/AIDS, inadequate fiscal space, and limited human resources for health.

Many LICs have been particularly affected by HIV/AIDS, with profound macroeconomic effects on labor supply, human capital, foreign investments and economic growth. Currently, African nations suffer the most from HIV/AIDS (UNAIDS (2004, 2006), Haacker (2004)). A human tragedy, HIV/AIDS pandemic has created havoc in the health system of many nations, particularly in Africa. Financial and human resources have been drawn away to treat and prevent this disease and the emphasis on addressing the illness has in some cases severely diminished countries’ capacity to provide basic health care services to its population. A summary of studies described the macroeconomic impact of HIV/AIDS is provided in Table 4.

Table 4.

Summary of Studies of the Macroeconomic Impact of HIV/AIDS in Africa

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Sources: UN Economic and Social Affairs Department, Population Division (2004).NOTES: References to effect on GDP growth or per capita GDP growth rates refer to average annual growth rates for the period mentioned, expressed as percentage-point differences from a “No AIDS” scenario.

For ‘extreme” assumption about future AIDS prevalence.

Table 5.

Progress on MDGs in Fragile States Compared to Other Poor Countries, 2000

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Source: DFID (2005)“..” indicates that data are not available.Note 1: DFID’s definition of fragile status covers those “countries where the government cannot or will not deliver core functions to the majority of its people, including the poor.”

By virtue of the fact of low per capita incomes, LIC governments also lack the financial resources to provide a minimal package of health care services. The CMH report sought to establish a reasonable estimate for the minimum amount of spending required to provide basic preventive and curative services. Compared to its estimate of around $30 per capita, one can find few LICs that annually spend even half this amount on health on a per capita basis, and most governments annually spend only $6-10 per capita. While there may be some room for additional government spending on health—by rationalizing unproductive expenditure, by commercializing some government services, by raising the government revenue share to at least 15-18 percent of GDP, and by some additional borrowing, the amount of effective “fiscal space” for health created by such measures is limited because of competition with other pressing priorities in other sectors (Heller (2006), Foster (2005)).

The stark reality is that to minimally provide basic health services, most LICs will need external assistance for some time (preferably through long-term sectoral budget support in the form of grants). While recent years have seen a dramatic increase in funding for health by the donor community, much of these resources have been targeted to vertical disease programs—through the efforts of bilateral donors to finance the Global Fund to Fight HIV/AIDS, Malaria, and Tuberculosis as well as from recent US government initiatives with respect to HIV/AIDS and malaria initiatives. As noted above, these vertical initiatives have, in anything, actually reduced the available fiscal space for spending on other preventive and basic curative services.

The recent surge in funding for HIV/AIDS has also highlighted the severe limitations of LICs in terms of available human resources for health. The recent report of the Joint Learning Initiative (2004) suggested that sub-Saharan Africa is short approximately 1 million health workers (largely doctors, nurses, and midwives, but also including laboratory workers, pharmacists, and trained community health workers) to provide basic health services. LICs are bedeviled by limits in their capacity to train doctors and nurses as well as by poor conditions of services—low salaries, poor opportunities for medical training, severe and risky working conditions in health clinics (in part because of the AIDS epidemic), and difficult living conditions for doctors and nurses posted with their families to rural health clinics. They also find that many of the doctors that they have trained have emigrated to either industrial countries or to externally-funded clinics in other LICs (to work at higher than public service salaries in AIDS clinics).

Besides these common issues, there are many fragile states among the LICs. The World Bank identifies 34 such countries as ‘Low Income Countries Under Stress’ (LICUS), representing 418 million people. The populations of these countries suffer from poor health and the failed health systems of these countries typically result in households, when struck by serious illness, being forced into impoverishment as they deplete their meager resources in seeking health care. The causes for their health problems and policy remedies defy generalization, but include:

  • countries in armed conflict or in the early stages of a peace process;

  • countries with a history of political instability and military coups;

  • new or emerging states;

  • countries under international sanctions;

  • countries with closed political systems.

Not only are LICUS countries failing to meet MDG targets but, as conveyed in Table 6, they are about 25-35 percent worse off than low-income countries in terms of per capita income, per capita total expenditure on health, infant and maternal mortality rates, and the incidence of TB.

Table 6.

The Objectives of a Health System

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V. A Conceptual Framework for Classifying Health Systems

Like other socioeconomic systems, a health system is structured by state action or non-action to serve certain social purposes. A state makes conscious decisions in structuring the system to achieve certain objectives or takes no action, allowing the system to become a laissez-faire free market system. Simply put, a health system is a means to an end. It exists and evolves to serve societal needs. Under this paradigm, a health system is a set of relationships in which the means—structural elements of the system—are causally connected to the ends or goals.

A health system can be conceptualized on at least two levels: macro and micro. At the macro level, the focus is on the overall dimensions of health sector performance. These dimensions include the extent of equal access to basic health services; the improvement in the quality and distribution of the population’s health status; the adequacy of protection for all against impoverishment caused by catastrophic medical costs; and the efficiency of the system in producing these aggregated outcomes. In other words, this level looks at the total size, shape, and functioning of the “elephant,” that is, the health sector, rather than at micro-level behavior and the dynamics of individual firms and households (Ackley, 1961). Ideally, a microeconomic theory of individual households and firms would explain macro-level phenomena, and the aggregated behavior of individual households and firms would add up to the overall result. That has not, however, been the case. Moreover, microeconomic theory has not been able to offer adequate explanations for major structural features that are common to most health systems and that influence macro-outcomes.

In what follows, a simple conceptual framework is elaborated which can be used to describe and analyze the functioning of a health system. This framework is used in Section VI in characterizing the different types of health system prevailing at different stages of development.

A. Ends: Objectives

The objectives of a national health system can be ascertained from a country’s legislative history and policy documents. There is a convergence of views around the world about the goals, viz., to improve people’s health, prevent health-related impoverishment, and gain public support and satisfaction. The equitable distributions of these benefits have to be considered along with their average levels. At the same time, since resources are scarce and nations are constrained to optimize these goals subject to a budget constraint, affordability is often stated as an important health system goal. These objectives can be decomposed into their equity and efficiency dimensions, in effect going beyond the usual economic concerns that exclusively focus on efficiency (Okun, 1974). Table 7 provides a summary of these multiple objectives and also illustrates the possible trade-offs between them.

Table 7.

Health Care Financing and Service Provision, by Stage of Economic Development

(Percentage shares relate to proportion of population in each category of coverage)

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2004 GNI, using the World Bank’s Atlas method, which smoothes exchange rate fluctuations by using a three-year moving average, price adjusted conversion factor.

Achieving multiple goals under a budget constraint requires difficult trade-offs. Each nation has to wrestle with two types of trade-offs: inter-sectoral and intra-sectoral. In deciding how much to spend in total on health (i.e., the budget constraint for the whole sector), governments also have to consider the relative benefits produced by spending on nonhealth sectors—education, housing, environmental protection, research, and defense both in term of improved health outcomes as well as other societal objectives.

Intrasectoral tradeoffs must also be considered in choosing how to achieve different goals within the health system. For example, at the margin, there is a tradeoff between improving the average level of a country’s health status and achieving an equitable distribution of health status. Often the major policy debate may overlook key tradeoffs. For example, the common argument given by economists—that increasing direct OOP by patients will improve economic efficiency—ignores the possible consequence of a greater inequality in health status for the poor. But rarely are these tradeoffs explicit or obvious to citizens of a country. The implicit boundaries to trading off among different objectives exist in deeply rooted historical processes as well as in fundamental social values, which limit the range of available reform options. The health systems of European countries, for example, are deeply rooted in egalitarian traditions, and policy proposals violating this basic foundation of equity have little overall appeal regardless of how much they would enhance efficiency (Saltman and Figueras, 1997). On the other hand, the health care system of the US is rooted in libertarian traditions. Compulsory health insurance to cover all Americans remains elusive after more than 60 years of public debate (Marmor and Barr, 1992).

The most frequent debate is about the trade-off between efficiency and equity within the health system. For examples, at the margin, every nation has to trade off between excluding coinsurance to advance equal access to health care and imposing coinsurance to promote efficiency; or between investing in the most advanced expensive cancer treatments to improve the average level of health and building hospitals in remote areas to improve equity in health.

B. Means: Structural Elements

In the architecture of a health system, there are five major causal structural elements (the means), as identified by previous research, to achieve these goals: financing, organization, payment, regulation, and persuasion (Hsiao, 1999, Roberts et al. 2003.) We provide a brief summary of each:

1. Financing and its institutional organization

Financing refers to the way in which money is mobilized and how it is used. It is a major structural element that affects outcomes, such as health status and its distribution, and risk protection. Financing consists of at least four principal instruments: financing methods, allocation of funds, rationing, and institutional arrangements for financing (See Gottret and Schieber, 2006).

There are five financing methods for health care of which a national (or social) health insurance (NHI) system is one. Other methods include general revenue, private insurance, community financing and out-of-pocket payment. The choice among the major methods of financing determines the amount of funds available for health care, who bears the financial burden, and who controls and allocates the resources.

The method chosen to finance health care largely determines the type of organization (i.e. public, quasi-public, non-profit private or for-profit private) that has to be established to administer the financing programs and allocate the resource. The transaction costs, political influence and governance vary by the different forms of organization. For example, public organizations (e.g., national health service agencies) are influenced more by politics while quasi-public organizations (e.g., independent social insurance fund agencies) are less so. The allocation of resources and chances for corruption are affected accordingly.

Once mobilized, financial resources then have to be allocated for different types of health care. Allocation criteria consider factors such as equal access to health care for all citizens, health gains, insurance protection and satisfaction of the public’s demands. Whatever reasonable health services that a publicly- or community-provided health system can’t offer free of charge (or supply in sufficient quantity to satisfy patients’ demand because of the budget constraint), they have to be rationed through such methods as price, waiting time, or inferior quality.

2. Organization for delivery of health care

Organization refers to the broad structure used to organize health care provision. It primarily affects how individual health providers are organized and managed. International experience shows that decisions on organization significantly impact the efficiency and quality of health services and availability. These outcomes in turn affect health status, total health expenditure, and the level of public satisfaction.

The organization of how services are provided involves four choices: competition, ownership, decentralization, and integration. Perhaps the most critical choice is whether to rely on publicly-funded government facilities or to allow private providers to play a major role in health care delivery. International experience tends to show that public health service facilities are, in general, less efficient and less user friendly. Alternatively, a nation can create competition among public and private providers. However, as noted above, serious market failures are common in the health services market. For-profit facilities can engage in cream-skimming, price gouging, and demand inducement. Remedying these market failures and maintaining effective competition require sound payment systems and regulations.

3. Payments or Incentive Structure

Payment refers to the methods by which the resources raised by financing are paid out to individuals and organizations. Payment is the principal instrument for establishing incentives, and can thus have a measurable impact on the efficiency and quality of the health services provided. A payment system for health providers has two parts: the method of payment, and the amount of payment per unit. The former creates two different kinds of incentives for patients and providers—financial reward and risk bearing. Different payment methods shift financial risk to different players in the system (see Gottret and Schieber, 2006).

The incentive structure established for providers affects cost, efficiency, and the quality of health services. Providers can be paid by different payment methods (e.g., fee-for-service, salary, capitation, per admission adjusted for case-mix, etc.) and each method affects providers’ behavior differently. How physicians (or nurses) are paid also influences what treatment modality physicians will select, how services will be produced, how many hours practitioners will work, and how many qualified physicians will enter the market to supply services. Payment also has a powerful impact on hospitals in terms of how they organize and manage their activities and staff; whether they integrate together preventive, primary and tertiary services; and the quality of the health care they provide.

4. Regulation

Regulation refers to the government’s use of its coercive power to impose constraints on organizations and individuals. An effective regulation requires good design and wording as well as the ability of a government to ensure enforcement. There can be many failures in establishing and executing regulations. Also, regulators can be captured—instead of advancing the public interest, the “captured” regulatory agency can promote the interests of the regulated.

In health systems, regulations are established for four major purposes: (i) to provide safety protection to improve the health of the general population; (ii) to set the rules of the game for transactions and exchanges in order to improve efficiency and quality of health services; (iii) to enhance social equity by assuring that everyone has access to basic health care; and (iv) to correct market failures in order to enhance efficiency and the quality of health care and insurance products.

5. Persuasion

The private sector and the government have one additional and powerful means to achieve health system goals: influencing people’s beliefs, expectations, lifestyles, and preferences through advertising, education, and information dissemination. Private commercial firms have long used advertising to inform the population and to sell their products. Our beliefs and preferences are shaped substantially by these advertisements (Galbraith, 1967). Governments also influence our beliefs, expectations, likes, and dislikes through education, information and indoctrination. A good example is the anti-tobacco campaign pursued by governments around the world or the nutrition and exercise campaigns in the US. Similarly, Taiwan’s government carries out major public education programs in health education, prevention and promotion. Their impacts, however, have not been systematically evaluated with evidence. Professional ethics continue to be a neglected area in Taiwan.

Persuasion also has a powerful impact on the supply side. Professional ethics is taught in medical schools and instills beliefs about some noble purpose for which physicians should balance social benefits with their self-interest. The internet is proving to be a powerful means for persuasion, both actively by governments and the private sector, and passively, as individuals learn about health risks and treatment possibilities.

Summary of Ends and Means

Chart 2 illustrates the relationship between the structural elements (means) and outcomes (ends.) We can use this analytical framework to analyze and explain how the change in outcomes arising from the introduction of a NHI system are likely to be influenced by the characteristics of its structure in terms of the five means described above.

Chart 2.
Chart 2.

Means, Intermediate, and Final Ends of a Health System

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

C. Control Knobs for Policy

1. Control knobs for equitable health care

Many factors determine the health status of a population and its distribution. Health care is only one of these factors, albeit a major one. Several other determining factors lie outside the dominion of health care, for example, the education level of women, the degree of environmental pollution, and the availability of sanitation. However, the relative impact of the multiple determining factors is still unclear. Also, we do not know the relative effectiveness of policy instruments in producing equitable health. In contrast, we do have some understanding of how to alter people’s access to health care and how to provide risk-protection.

Equity in health care has four parts: equity in financing, equity in access to health care, equal level of health status, and equitable risk-protection. Equity in access to health care is largely determined by the financing method. The method chosen determines who bears the cost and how it is distributed among income groups. The financing method chosen vests the financial power with different parties, and decides how the funds will be used and allocated. For example, the targeting of public funds through the budget determines who receives health benefits. The design of insurance benefits and how risks are pooled affect who can afford expensive medical services. The rationing method chosen determines who has access to what services. For example, rationing health care by price means the poor have less access than the rich, while rationing by waiting time means the rich will be less favored because their opportunity cost of time is generally higher.

2. Control knobs for efficiency (cost-effectiveness)

There are two kinds of efficiency to consider: allocative and technical. Allocative efficiency depends on who controls financial resources and has the power to allocate them. This allocation has to balance at least two objectives—the cost effectiveness of improving risk-protection and the level of health status. Allocative efficiency is also affected by the incentive structure. Patient demand for health care is affected by the amount they have to pay when they demand services, both in terms of monetary price and time. Similarly, payment mechanisms for physicians create incentives that determine whether they provide the most cost-effective services.

Technical efficiency is affected by how health services are organized and by the incentive structures facing the provider organization. For example, the organizational arrangement in which the government finances and directly manages hospitals has been shown to be relatively inefficient. Furthermore, technical efficiency is also influenced by regulations, such as those governing the use of generic drugs.

3. Control knobs for consumer satisfaction

Consumer satisfaction depends in part on the quality of service delivered and the price consumers have to pay. Quality of health care consists of two kinds: technical and personal. The technical quality of health services is largely affected by organization, regulation, and incentives. While the technical quality of service depends on the education and training of health practitioners, these inputs are not sufficient to assure a good technical quality of services. The actions of health practitioners are also significantly affected by professional ethics, the standards of practice in a community, the effectiveness of peer review, and payment incentives. International experience shows that assuring the technical quality of medical services may be the most complex and difficult issue in health care. Self-regulation has seldom worked adequately. External regulations have not fared much better and often are legally complex and expensive to administer. It appears that the most effective way forward may be to organize health practitioners into practice groups with internal peer review and external accountability.

The factors that affect the personal quality of services (i.e., quality as assessed by patients) include the organizational structure, the payment incentive structure, methods of rationing (such as rationing by waiting time), and choice of physicians or medical practitioners.

4. Control knobs for managing health expenditure inflation

Steadily rising per capita health expenditure, exceeding the growth rate of per capita GDP, has exerted pressure on government budgets and household incomes. In the past twenty-five years, all advanced economies have tried to constrain the level of health expenditure inflation to some socially acceptable level. With the exception of the US and Switzerland, the major advanced economies have, at least to date, found effective ways to manage health expenditure inflation. The methods of financing and organizing health care seem to be the key. Two approaches have proven effective when financing is through multiple insurance plans. One is to establish a global budget covering all the plans, with a single channel of payment to providers. The other approach is to finance health care with general revenue. General revenue financing requires the health budget to compete with other social and economic priorities in the political arena. At present, the advanced economies are principally wrestling with the question of how to control expenditure inflation in such a way that demand and supply are in reasonable balance, while improving the efficiency of services and the quality of care.

VI. Stages of Health System Development and Their Performance

A. Characterizing Different Stages of Health System Development

This chapter presents an analytical framework to help macroeconomists understand health systems and assess health policy for countries at different stages of development. To state the obvious, the same health system structure cannot be applied to all countries. Systems differ enormously among countries, due to variations in socioeconomic development. What works in the UK, say, may not work in Kenya. On the other hand, must every country be treated differently? Or can they be grouped into somewhat homogenous categories, and general conclusions drawn for each?

Using cluster analysis, we can identify three “distinct” groups of countries. For ease of understanding, we distinguish the groups of countries by per capita GDP. Of course, the boundaries between these groups are artificial, because the distribution of countries by income is continuous. Thus, although we term each grouping a “stage of health development,” this term should not be misinterpreted as referring to discrete stages. The health system also evolves because as income and disease patterns change, so does the health system gradually change. Table 8 presents examples of countries in each of the three stages of health development and summarizes the financing and service provision in each stage. A more detailed description for each stage follows the table.

Table 8.

Economic Development Stage I. Three-Tier Health Care System

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For each stage of development, it is important to understand the history behind the variations in level of health status and risk-protection. Most non-Western countries’ governments paid little attention to health care until Western medicine was introduced—largely by missionaries and colonial governments. After World War II, colonial powers (the UK, France, Germany, the US, and the USSR) introduced their systems of health care financing and organization into their colonies and spheres of influence. However, these systems were used only in the application of Western medicine (e.g., in the training and certification of health practitioners, the regulation of drugs, and the provision of government-financed services). Patients continued to use indigenous medicine in combination with Western medicine.

B. Stages I and II: Low-Income and Lower-Middle-Income Countries

Low income countries (per capita GDP below $826). The 59 countries in this group include inter alia, Bangladesh, Haiti, India, Kenya, Mali, Nigeria, Peru, Senegal, Tanzania, Vietnam, and Yemen.

Lower-middle income countries ($826-$3,255 per capita GDP). The 54 countries in this group include, inter alia, China, Ecuador, Egypt, Indonesia, Morocco, Peru, Philippines, and Tunisia.

In the early stage of health system development, before state action, people rely on their own knowledge of hygienic and preventive practices. When they become ill, they largely rely on self-care, including self-medication. Patients also seek services from indigenous health care practitioners and pay out-of-pocket. As Western medicine enters a country, the government plays an ever-increasing role in health care. Stage I countries share many of the following characteristics with, of course, several glaring exceptions.

1. General description

Disease patterns
  • For LICs, communicable and infectious diseases are prevalent and are the major cause of death. A large portion of the population has no access to clean water and latrines. A high percentage of infants and children suffers from malnutrition, and many pregnant mothers are anemic. Other characteristics include a high rate of infant mortality (ranging from 70 to 130 per 1,000 live births) and a low life expectancy (ranging from 45 to 65 years).

  • For LICs, the urban population begins an epidemiological transition; limited public resources have to deal simultaneously with communicable and chronic diseases.

Health spending, the use of resources, and health outcomes
  • In LICs and lower MICs, the government finances a large portion of national health expenditure, but a significant share—often close to half—is paid directly by patients. However, government statistics on national health expenditure usually understate the amount spent, because they omit or underestimate private spending. Figure 5 shows the difference between actual national health expenditure and official/government statistics.

  • In general, Stage I countries allocate only a small portion of their government budgets (less than $2 per capita, on 1997 PPP basis) to public health and prevention. Two-thirds or more of the public health budget is spent on hospital services. The principal medical center, which is usually located in the capital city, receives half the total hospital budget. Although most of the population lives in rural areas, most of the public health budget is spent on services used by the urban population.

  • Health outcomes vary greatly among these countries. For example, although India and Sri Lanka are neighbors, their infant mortality rates are respectively 73 and 17 per 1,000 live births, respectively. The difference does not reflect the level of lie in health spending since Sri Lanka spends less of its GDP on health than India. China also spends less of its GDP on health than India, yet its rate of 42 per 1,000 live births is substantially better than that of India.

Figure 5:
Figure 5:

Selected Countries: Comparison of Actual National Health Expenditure and Government Statistics on Health Expenditure

(As percent of GDP)

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Source: Berman and others, 1999.
Government capacity and performance
  • In all Stage I countries, central government revenue (as a percent of GDP) is relatively low—typically below 15 percent. These governments, therefore, have very limited resources to fund health care (see Figure 6).

  • Health issues are usually given a low priority by Stage I countries, resulting in a lack of national strategy for health development. For example, governments usually divorce their policies with respect to medical education and the pharmaceutical industry from their policies for the health sector. Health spending by ministries of education are often as large as those of ministries of health, because the former funds and manages the medical centers that provide clinical training to medical graduates. This spending, however, may have little impact on improving the level of a population’s health status.

  • Public health services are inefficient: excess capacity is often found at lower-level facilities. Using quantitative and econometric models, studies of several LICs have found the inefficiency to be between one-third and one-half of spending (Osei et al, 2005 and Zere et al., 2006).

Figure 6.
Figure 6.

Government Revenue as a Fraction of GDP, by Average per Capita Income Level

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Source: IMF 2002
Supply and use of services
  • Although public health and disease prevention programs sponsored and funded by donors may be especially effective, other public health programs are often underfunded and poorly managed.

  • For minor illnesses, most of the population relies on self-care and self-medication. In rural areas, most of the governments in these countries establish and fund health stations, staffing them with modestly trained health practitioners or recent medical school graduates. However, in fact, these primary care services exist only on paper. Those that do exist offer a poor quality of service, inadequate drug supplies, and inconvenient clinical hours. Many health stations are staffed with two health practitioners and see only three or four patients on an average day. Patients often prefer to go to an indigenous medical practitioner and pay out-of-pocket. In urban areas, patients generally go to private practitioners. Surveys commonly find that urban patients obtain more than half their outpatient services from the private sector.

  • For serious illnesses, the affluent seek hospital services from the private sector, when available. Most, however, use the free (or heavily subsidized) government hospital services. These serve as de facto health insurance for most people. These services, however, are rationed by waiting time and by poor service quality. Frequently, the experienced hospital medical staff hold two jobs—in a hospital and in a private fee-for-service practice. In many of these countries, physicians earn the vast majority of their income from private practice, spending only a modest amount of time at the public hospital, the rest at their private practice. In public hospitals, physicians self-refer the more affluent patients to their private clinics.

2. A three-tier system in terms of access

This section describes the common characteristics of health care for countries in the first stage of development in order to give policymakers a general understanding of health care systems. However, as with any generalization, there are exceptions and variations.

Stage I governments accept responsibility for providing all necessary health care for their citizens. But do these governments allocate sufficient funds for health programs? And how effectively are these services delivered?

Most of these countries attach insufficient priority in the allocation of budgetary resources to public health, disease prevention, and maternal and child health services. When international donors support these programs, most governments establish vertical programs to deliver the specified services. Common donor-funded preventive or primary services include programs for extended disease prevention and immunization, maternal and child health, family planning, and treatment for malaria, TB, and HIV/AIDS. Each vertical program creates its own bureaucracy, clinics, and supply system. These programs often overlap, competing for the limited number of trained health practitioners and equipment. The sustainability of these programs is therefore in jeopardy once the donors withdraw their funding.

On paper, many of these governments also take responsibility for organizing, managing, and delivering primary, secondary, and tertiary curative services to all citizens. However, few governments can fund and deliver these services adequately. Consequently, the financing and provision of health services is effectively segmented across three tiers of the population, depending largely on a patient’s ability to pay for services.

The first tier consists of affluent households who pay directly and demand services from better-qualified, private sector physicians.11 These affluent households also demand secondary in-patient hospital services from private hospitals (both for-profit and not-for-profit). Since private physicians and hospitals charge high fees for their services—these services are therefore rationed by price. However, affluent households demand sophisticated and expensive tertiary services from public teaching hospitals, which charge very low fees. These services are delivered by public hospitals partly because of the lack of private capital to invest in this level of facility and partly because the few qualified medical specialists are on the faculty of the medical schools. For other services, affluent households demand care from private sector providers rather than obtain the almost-free services from public providers because in the private sector there is greater availability of drugs and supplies, shorter waiting times, more choice of physicians and better personal attention and other amenities.

The second tier consists of middle-income households, which are covered by the government’s essentially limited pay-as-you-go social insurance system. This insurance system typically covers only civil servants and workers employed by large enterprises. The social insurance plan selects and contracts with public and private facilities to provide services. These facilities charge the plan on a fee-for-service basis. The fee schedule may be negotiated between the parties or set by the insurance plan. Tertiary services are contracted from medical centers. Services are rationed by waiting time and poor service quality (e.g., unfriendly health practitioners). Some large enterprises have their own hospitals and clinics, which are built to assure cost control and the availability of high-quality services.

The third tier consists of poor and low-income households (most of the population), which rely on public facilities for health services. Most poor households reside in rural areas or in urban slums. Although public health services are nearly free, the waits are often long, physicians are not on duty, clinic hours are inconvenient, facilities are dilapidated and crowded, drugs and other supplies are unavailable, and providers unfriendly. Therefore, when the problem is not life-threatening, such households often resort to self-care, self-medication, or indigenous practitioners. As a result, household expenditure surveys consistently find that poor and low-income households spend a significant portion of their income on drugs and indigenous medicines. Table 9 summarizes this three-tier system.

Table 9.

Selected Low-Income Countries: Health Expenditure and Results by Model

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Source: World Bank 2006Note: L, M, and H denote low, medium, and high, respectively.

3. Generic models of health care financing and organization

Three generic models of health care financing and organization can be observed in Stage I and II countries: government-oriented, market-oriented and central-planning. A three-tier health care system is prevalent in countries that follow the government-oriented and market-oriented models. A two-tier system typically operates in countries that follow the central-planning model (reflecting the absence of a middle class in communist societies).

a. Government-oriented model (e.g., Bangladesh, India, Kenya, Nigeria, and Sri Lanka)

Financing. Under this model, the government focuses almost exclusively on the financing and delivery of public health services. It takes a position of benign neglect toward other forms of health financing, such as social insurance or community financing, which are free to develop on their own without government policy and support. As a result, these other forms of health financing are usually insignificant and underdeveloped.

Macro-organization. The government organizes, funds, and operates a network of health facilities at three levels: sub district, district, and provincial. Health practitioners, employed by the government as civil servants, are assigned to the facilities, the number and staffing of which are based on “needs” criteria that ignore demand considerations. The facilities at each level have specific assigned duties to provide preventive services, primary care, and hospital services. Everyone has equal access to these services.

In most countries, government facilities are underfunded, poorly managed, and short on drugs and supplies. Public health and preventive services are also poorly managed. Therefore, for primary care services, most patients either resort to self-care or make use of indigenous providers on an out-of-pocket basis. As a result, the supply of public health services usually far exceeds demand at the sub district level. In contrast, the hospital services provided at the district and provincial levels are typically overcrowded, with demand far exceeding supply. These services are rationed by waiting time, poor service quality, and supply shortages. Patients often have to buy their own drugs and surgical supplies for operations. In many cases, services are rationed by under-the-table payments.

Incentives. At the district and provincial levels, underpaid physicians supplement their government salaries by establishing private practices, to which they self-refer affluent patients from the public facilities. Physicians can charge high fees in the unregulated private market. The more qualified physicians earn most of their income from their private practices. The high financial reward offered by a private practice leads to high absenteeism and other abuses.

Regulation. With a limited capacity to establish and enforce reasonable regulations, the government usually adopts a laissez-faire policy toward private sector providers, leaving them to practice without having to be licensed or regulated. Private pharmacies dispense (often potent) drugs without prescription, and pharmacists’ assistants advise patients on what drugs to take. Private insurance also operates in a laissez-faire environment. However, few private insurance plans survive in Stage I and II countries, because there is little safeguard against fraud and abuse by patients and providers.

b. Market-oriented model (e.g., Indonesia, Morocco, the Philippines)

Financing. Under this model, the government still finances a large share of health expenditure, but plays a more active role in developing social and private insurance. The government establishes, through legislation, a compulsory social health insurance program for formal sector employees and civil servants. The government may use tax incentives to promote private insurance and subsidize private hospitals directly or through tariff policies on imported equipment and supplies.

Private insurance companies usually charge high premiums which are affordable only by the affluent. Equally, only the affluent and privately insured populations can afford private hospitals.

Macro-organization. The state plays the major role in organizing, funding, and operating a network of health facilities at three levels, based on “needs criteria.” Everyone has equal access to services provided by government-funded facilities. However, as with the government-oriented model, these facilities are usually poorly managed and underfunded, provide poor quality services, and suffer a pervasive imbalance between supply and demand.

Frequently, private insurance plans establish their own clinics, employing physicians and selecting and contracting with private hospitals to service their insurance coverage. This form of integrating the financing with the provision of services is akin to staff model health maintenance organizations (HMOs) in the US (where the HMO employs its own physicians). In LICs, they are called prepaid medical plans. The private insurance plans employ their own physicians and operate their own clinics to avoid fraud and abuse. There is little competition between private and public hospitals because they serve different client groups. In essence, the private hospitals serve a niche market.

Incentives. As under the government-oriented model, the underpaid physicians in the public sector hold two jobs. In the private sector, private insurance may pay its contracted general practitioners by capitation and establish a fee schedule for specialists and private hospitals. Many private providers “balance bill,” viz., they charge patients an additional amount beyond what the private insurance plan pays.

Regulation. The government often uses regulations to promote private insurance and hospitals. For example, in the Philippines, the government allows private prepaid medical plans to form an informal cartel to set prices and inhibit new insurance products.

c. Central-planning model (e.g., China before 1985, Cuba, Vietnam)

In this model, the government emphasizes public health and disease prevention. It promotes community initiatives and mobilizes resources at the community level, deploying modestly trained health practitioners to deliver health education and primary care to the rural communities. It also makes essential drugs available at modest cost.

Financing. Under this model, countries typically spend a smaller portion of their GDP on health care than under the other two models yet deliver significantly better health outcomes for their populations. The government directly finances only a small portion of national health expenditure, but organizes and manages social insurance for formal sector workers and community financing for primary care in rural areas. The government deploys trained personnel to provide health education and primary care services, and makes available essential drugs at modest cost. Public hospitals are funded by payments from social insurance and community health funds, user fees, and government subsidies.

Macro-organization. Health care is delivered by a three-level network, with the government subsidizing and managing only the two upper levels of services—at district health centers and hospitals. The local communities fund and manage the lowest level, usually at primary care stations. The government also operates a centrally controlled vertical program for public health, disease prevention, and family planning. Programs such as health education, immunization, and maternal and child health are often quite effective. A central drug distribution system assures the availability of essential drugs for most people. Private practice is forbidden, except for retired physicians. Private hospitals, pharmacies, and insurance plans are also prohibited.

For most of these countries, demand exceeds supply for hospital services. In contrast, at the two lower levels—health centers and primary care stations—supply exceeds demand. Tertiary hospitals are extremely crowded, whereas lower-level facilities frequently are idle.

Incentives. All government physicians and health practitioners are salaried and given lifetime job guarantees. Promotions are based on seniority. As a result, the personal quality of service is usually abominable and patients are put on long waiting lists to see senior specialists. Because under-the-table payments and private practices are forbidden, political power and personal connections are often relied upon to bypass queues.

4. Differences between LICs and lower MICs

The major differences between LICs and lower MICs relate to (i) the size of the affluent population, (ii) the share of the population employed in the formal sector; and (iii) the ability and capacity of the countries to manage social insurance efficiently. These differences influence public resource allocation and the effectiveness of social insurance.

As development occurs, the growing importance and size of the affluent population affects the allocative efficiency and equity of the health sector. The impact is most pronounced for countries that adopt the market-oriented approach (e.g., the Philippines, Morocco, and Indonesia). The affluent and powerful populations—most of whom live in the capital— demand the most modern medical services from the public hospitals. They also demand that the government fund new medical centers—heart institutes, transplant centers, and oncology centers are the most requested—and provide high-technology treatments. On the supply side, US medical schools are eager to export their latest knowledge and technology, partly due to the country’s surplus of specialists.

The global market for new medical technologies has placed a particular strain on the treasuries of both groups of countries, resulting in reduced public funding for the poor and for public health services, and implying a decrease in the quality of services. The private market for primary and secondary services expands rapidly to meet the demand of an increasing number of affluent and middle-income households. This thus leads induces a greater number of public sector physicians to establish private clinics and laboratories, charging high fees for their services. The high cost of private medicine leads affluent households to demand insurance coverage. At this point, most market-oriented countries offer tax incentives for the development of private insurance. Large corporations also begin to provide self-administered health insurance benefits to their employees.

With development, the growing number of formal sector employees offers an opportunity for a country to expand the scope of its social insurance system. Most Latin American countries established their embryonic Bismarkian social health insurance systems at this stage. At the same time, with an increasing knowledge base and managerial expertise, the social insurance plans of LICs frequently establish direct provision of health services. Under direct provision, the insurance plan organizes and manages its own hospitals and clinics, employing physicians on salary and centralizing the purchase of drugs and other supplies. Insured patients must obtain their health services from the facilities run or contracted by the insurance plan. Usually, these facilities offer a relatively high quality of services—lower than what is offered in the private sector but higher than that offered by government facilities. The direct provision of services for the insured creates a clearly definable new tier of financing and provision of health care. By establishing a separate institution to finance and deliver health services, the social insurance plan also creates a new political interest group.

5. Comparison of performance

Table 10 shows the outcomes by model for selected LICs. In terms of cost-effectiveness, the central-planning model clearly outperforms the other two models. The countries that adopted the central-planning model spent less of their GDP on health care but achieved better health outcomes and risk-protection for their citizens. Table 11 shows how well the three models performed in attaining health objectives.

Table 10.

Low-Income Countries: Comparison of Health Care System Performance

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F, O, I, and R denote financing, macro-organization, incentives, and regulations, respectively.L, M, and H denote low, medium, and high, respectively.
Table 11.

Input and Output Indicators of a Best-Performing Low-Income Country: Sri Lanka

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Source: World Bank Word Development Indicators 2006.

6. Guideposts for macroeconomists

In general, macroeconomists should rely on the guidance of the World Bank and WHO in appraising the performance of a country’s health care system and should support the policy advice offered by these institutions. A particularly useful source to draw upon is the work of the Disease Control Priorities Project, which has drawn on the expertise of a team of researchers drawn from the World Bank, academia, and the National Institutes of Health. Their recent report (Jamison et al, 2006) examines the key intrasectoral policy choices in the health sector of LICs, the choice of interventions to be delivered to the target population based on cost effectiveness criteria, and the relevance of policy choices in other sectors.12 Some broad background, however, is useful for macroeconomists to be aware of:

  • In assessing a health care system’s performance, macroeconomists can compare a country’s input and output indicators with those of a best-performing country and a median-performing country. The input indicators could be health care spending, available facilities, and human resources. The output indicators could be the level of health status, risk-protection, and the equity and efficiency of both. Table 12 gives a benchmark country for Sri Lanka—which we characterize as a “best” performing country and Table 13 gives a benchmark for Belize, which is more of a “median” performing country among these two stages of development.

  • Broad recommendations: A country should take the following important policy measures in order not to repeat other countries’ mistakes:

    • Formulate a rational and coherent overall health sector policy, so that the allocation of resources can be rationalized and health-related programs in various ministries coordinated;

    • establish a cabinet-level committee, chaired by the deputy prime minister, to review and monitor health policy implementation;

    • formulate a list of essential drugs, so bulk purchases can be made through an international bidding process, and so that an organized, nationwide distribution system can be established;

    • Avoid a fee-for-service payment system for social and private insurance. This type of payment system increases health care cost inflationary pressures;

    • be cautious about accepting donor assistance for tertiary hospitals. Because the operations and maintenance costs at this level can absorb a significant portion of a country’s health budget, a careful assessment of the costs and benefits of accepting such assistance should be made; and

    • avoid situations whereby a ministry of health and/or social insurance plan funds and manages its own facilities. Ministries can easily become “captured” by ministry-employed health practitioners, resulting in their interests dominating that of patients.

Sri Lanka: A Country with Exceptional Performance

Among the Stage I countries, Sri Lanka stands out for its health achievements under the government-oriented health service model. In 1996, other countries in this category had infant mortality rates of 61-114 per 1,000 live births, while Sri Lanka had a rate of 17 per 1,000 and a life expectancy of 73 years, and spent only $2 per capita (on a 1996 PPP basis) for health care. These enviable accomplishments seem to be the result of two key factors. First, Sri Lanka has created a professional culture for its health care practitioners: they place professional commitments first, self-interest second. Despite low pay and poor working conditions, they are dedicated to their public health duties. Although most experienced public sector physicians have private practices on the outside and earn most of their income from these, they still work their full shift for the public facilities and perform their duties faithfully. They do so voluntarily, without tight management. Second, Sri Lanka has established a well-organized system at the village level, staffed by midwives who provide effective health education and basic primary care for mothers and children.

  • Some elementary policy strategies—certain policy strategies will improve health care system performance, including the following:

    • introduce or increase excise taxes on tobacco;

    • avoid across-the-board cuts in health programs. If cuts are necessary, they should be made in tertiary and university hospitals, which are less cost-effective and do not offer risk-protection to low- and middle-income households; and

    • develop a coherent health financing plan that includes: developing social insurance to fund tertiary and hospital services for the urban population; shifting current government funds in order to subsidize the urban poor and rural populations; developing community-level financing for rural residents; targeting hospital subsidies to ward services; charging user fees for A-class services, based on their full cost plus a profit margin; and using the profits of such a system to cross-subsidize ward services.

Table 12.

Input and Output Indicators of a Median-Performing Low-Income Country: Belize

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Source: World Bank, 1999a.
Table 13.

Upper-Middle-Income Countries: Health Care Expenditure and Results by Model

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Source: World Bank 2006

WB classifies these as lower-middle income

Note: L, M, and H denote low, medium, and high, respectively.

C. Stage III: Upper-Middle-Income Countries (per capita GDP Incomes of $5,001-12,000, on 1997 PPP basis)

1. General description

For Stage III countries, health care financing and provision systems are more distinct. As the size of affluent and middle-class populations increases with economic growth, access to different parts of the health system become more clearly segmented into two or three tiers, depending on whether a country has developed a strong social insurance program. In the first tier, private insurance usually covers the top income group, which may consist of 10-20 percent of the total population. These privately insured obtain their health care largely from private clinics and hospitals. For the rest of the population, financing and provision depend on which of three models the country uses.

2. Generic models

a. National health service model (e.g., Malaysia and Turkey)

Financing. Under this model, the government gives priority to developing the public health service and funding it adequately. Health practitioners receive reasonable salaries; drugs and medical supplies are available; and everyone has equal access to these public services. However, the demand for hospital outpatient and inpatient services exceeds supply, resulting in rationing (e.g., long waiting time, lack of physician choice, and unfriendly practitioners). Consequently, for minor illnesses, middle-class patients still seek private sector services and pay out-of-pocket. In fact, health care becomes a two-tier system: private sector services and public health services.

Macro-organization. The government operates the public health services as a three-level system—hospitals, health centers, and primary care clinics. However, as these countries have become more urbanized, most people at the district level live close to a city, and bypass the district-level facilities and go directly to the city’s public hospitals. At this stage of health development, private sector providers expand beyond their previous niche market and the private hospitals and clinics actively compete with the public facilities by offering better quality services. Although the public health services are free or nearly free, many middle-income households are willing to pay out-of-pocket for these higher-quality private services.

Incentives. With an increase in the number of middle-class and affluent households, private sector physicians can charge high fees and earn top incomes. The higher income potential in the private sector attracts many experienced and well-qualified physicians from the public sector. Unless the government increases physicians’ salaries, the public health service loses its most qualified and experienced physicians. This competition for health practitioners exerts substantial pressure on the health budget.

Regulation. The government usually continues its policy of benign neglect toward private insurance and health providers, who therefore operate very much in a laissez-faire environment.

b. Social insurance model (e.g., most Latin American countries)

Financing. Under this model, the government’s compulsory social insurance plan covers workers in the formal sector. This plan is usually financed by a payroll tax, although the government continues to fund and operate a three-level public health service. The uncovered, nonaffluent households rely on public hospitals for inpatient services. However, when they have minor illnesses, they pay out-of-pocket and seek services from the private sector.

Macro-organization. Social health insurance plans establish a separate system of clinics and hospitals. The insured have to obtain their services from these facilities. Although this monopolistic power reduces the incentive for these facilities to be efficient and offer quality services, they are usually fairly well funded, their staff is adequately paid, drugs and supplies are available, and the quality and availability of services are much better than for public health services. These countries therefore have a distinct three-tier system: private, social health insurance, and public health service. These tiers operate independently of each other, without much crossover or competition.

Incentives. Physicians and health practitioners are salaried when employed by social insurance plans or the public health service. Labor disputes and strikes are frequent. Patients have little choice regarding where they can obtain services. In effect, public and social insurance hospitals can operate much like monopolies since insured patients have to use their services or else pay large sums out-of-pocket.

Regulations. In most of these countries, the regulation of health care providers, private insurance plans, and private hospitals is inadequate. Most of the private sector operates in a laissez-faire environment. Few countries have adequate accreditation programs for health practitioners or for monitoring service quality.

c. Market-oriented model (e.g., Thailand)

Financing. Under this model, the government uses various policies to encourage the development of private and social insurance which can cover a majority of the population. The government either establishes a separate insurance plan for poor and low-income households and subsidizes their premiums (e.g., Thailand’s health card system) or pays for their health services (e.g., in Lebanon). To be eligible for the government subsidy, the household must satisfy a means test. These households can also choose to go to private sector providers.

Macro-organization. These countries continue to fund and operate a network of public health facilities that provide low-cost services (e.g., Thailand), but the supply of such services is far less than demand. De facto, such facilities serve as insurance for the uninsured. In contrast, the majority of health services is delivered by private hospitals and clinics, which compete actively both with the public sector and each other for patients. For patients who are insured, their insurance pays for these private services.

Incentives. The insurance funds usually pay hospitals and clinics on a fee-for-service basis. Although fees are negotiated between payers and payees, private providers can induce demand, can increase the quantity of services, and can—and often do—charge patients additional amounts above the fees received from the insurance funds (i.e., balance billing). Consequently, these countries face high rates of health expenditure inflation. In short, they experience what the US went through in its earlier years of insurance development. To address these pressures for health expenditure inflation, some countries (e.g., Thailand) have moved to pay by capitation.

Regulations. The government often establishes favorable regulations to promote private insurance and private hospitals. These regulations may include tax subsidies, land grants, and laissez-faire policies toward monopolistic practices and pricing.

3. Comparison of performance

Table 14 compares the performance under the three models. The public health service model (e.g., Malaysia) seems to outperform the other two. The high spending and low outcome under the social insurance model may be particular to Latin America because social insurance has often proven to be very politicized in that region. Consequently, social-insurance-managed health facilities appear very inefficient and at times a source of corruption.13

Table 14.

Upper-Middle-Income Countries: Comparison of Performance by Model

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F, O, I, R denote financing, macro-organization, incentives, and regulations, respectively.L, M, and H denote low, medium, and high, respectively

Table 15 compares the performance of the three models and analyzes how they affect the level and distribution of health status and risk-protection, as well as the cost-effectiveness of their systems. As for equal access to health care, the upper middle-income countries have the economic capacity to provide equal access to only “reasonable” health services. The affluent and upper-middle-income households do pay out-of pocket for services that provide better personal quality, such as convenience, amenities, and physician/hospital choice.

Table 15.

Input and Output Indicators of Two Best-Performing Upper-Middle-Income Countries

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Source: World Bank World Development Indicators 2006a.

4. Guideposts for macroeconomists

  • Useful data—in assessing health system performance, three types of data should be sought: the National Health Account (NHA), compiled according to international standards; the latest statistics on the infant mortality rate, the under-age-5 mortality rate, and life expectancy, and per capita public health spending for the poor. The NHA should reveal what share of the public health budget is allocated to public health, disease prevention, and maternal and child health. This share should at least be 10 percent.

  • In assessing performance—macroeconomists should make a quick assessment of the health care system’s performance by comparing a country’s input and output indicators with those of a best-performing and a median-performing country. The input indicators could be health care spending, available facilities, and human resources. The output indicators could be level of health status, risk-protection, and the equity and efficiency of both. Tables 16, 17, and 18 provide benchmarks for Stage III countries (covering two best performing countries, Malaysia and Costa Rica, and one median-performing country, Colombia.)

  • In reviewing policy programs, it is important to determine whether public resources are misallocated. A poor level of health status, especially a high infant mortality rate, indicates that the country either underfunds public health and preventive programs or is ineffective in the delivery of these services. These problems are likely to occur for poor and low-income communities, particularly in the rural areas and urban slums.

  • If poor health status is due to inefficiencies in the public health and social-insurance-operated facilities, poor management (or corruption) can be remedied by separating the financing function of the social insurance fund from the health-service-provision function. Using the principles of competition to improve efficiency and quality of services, patients should be given a choice as to where to seek services— from the public or private sector—and the payment for the services should follow the patient. In other words, the public or social-insurance-operated facilities should not automatically receive a budget—they should have to compete for patients.

  • Targeting public funds—For the countries operating under either the social insurance or the free market-oriented models, most of the public budget should be allocated to subsidize poor and low-income households.

Table 16.

Input and Output Indicators of a Median-Performing Upper-Middle-Income Country: Colombia

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Source: World Bank, 1999a.Note: L, M, and H denote low, medium, and high, respectively.
Table 17.

High-Income Countries: Health Expenditure and Results by Model

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Source: World Bank 2006.
Table 18.

Comparison of Performance: Advanced Economies

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D. Stage IV: Advanced Economies 14

1. General description

All advanced economies try to contain health expenditure inflation while achieving their health care objectives. They try different approaches in financing, organization, payment systems, and regulation of health care, yielding different outcomes. Five generic models have survived. Although the model structures vary, the basic driving forces, incentives, and constraints are similar because their objectives are similar (except in the US). The first objective—equal access and universal coverage—has been achieved in all advanced economies other than the US. Because adequate health care is often essential to survival, most advanced economies consider equal access to reasonable health care a fundamental right.

The second objective—cost-containment—is a priority in health policy, driving the health care reform process of many advanced economies. Health expenditure is consuming an increasing share of national income. Most countries are struggling to establish effective budget constraints on the health sector and to limit the government’s burden in financing health expenditure. By the early 1980s, Canada and most western European countries did so by establishing global budgets and a single source of payment for providers. However, constraining resources has meant the introduction of mechanisms for rationing health and medical services. Countries have used different such mechanisms, including price, limited choice of providers, and increased waiting time. It has also led to efforts to influence the professional culture of physicians, in effect asking them to practice more conservatively rather than aggressively.

The third objective—efficient and high-quality health care—has become another driving force in health sector reforms in advanced economies. In line with the increased emphasis on market processes and competition since the 1980s, sluggish performance of public health care provision has come under scrutiny. The main question is how to organize the health care delivery system and how to structure incentives to obtain maximum efficiency and quality of care (see Cutler (2004) and Porter and Teisberg (2006)). Several experiments have been undertaken to enhance the efficiency of public sector operations, such as greater use of contracting procedures, greater reliance on incentives to alter behavior, and increased emphasis on regulation.

2. Generic models

a. National health service model (e.g., the UK)

The principal health care objective of the UK is to provide universal and equal access to health care. To achieve this, the government funds its health care system primarily out of general tax revenues. The health budget is apportioned to each region according to a formula that takes into account population need. Total health expenditure is managed through the political process, where funding for health care competes against other national needs, such as education and defense. Every citizen has equal access to the services provided by the National Health Service. Primary care is readily available, but less cost-effective procedures, such as hip replacement, are rationed by waiting time. As a result, 13 percent of the population purchases private insurance allowing them to bypass queues. A 1989 reform introduced an internal market to improve efficiency and the quality of health care. This reform is now being refined to make the internal market work more effectively (see Wanless, 2002, 2004.)

b. National health insurance model (e.g., Canada)

Canada also gives priority to universal and equal access to health care. This is accomplished through a national health insurance scheme which offers every citizen free medical services (dental and outpatient drugs are excluded). The federal government and provinces jointly fund the cost of national health insurance but the program is established and administered by the provinces. The provincial health insurance plan must meet certain standards set by the federal government: coverage must be universal, comprehensive, portable, and include “all medically needed services.” Patients are free to choose physicians and hospitals, but must see a general practitioner to be referred to specialists. Physicians are paid on a fee-for-service basis. Expenditure inflation is managed by establishing global budgets for hospitals and for physicians’ services. Physicians’ fees are set by the provincial medical associations through an internal bargaining process. This process is designed to satisfy the global budget cap. To manage the volume of services, each province monitors the quantity of services delivered by each physician. Because all claim payments are paid through one centralized agency, the provinces keep a practice profile on each physician and hospital. Medical associations are responsible for monitoring and disciplining aberrant physicians.

c. Social insurance model (e.g., Germany)

Germany’s health care system can be characterized by “social solidarity,” whereby the financial risks are pooled through a mandatory insurance system. Every worker with earnings below a specified level ($45,000, in l996) must enroll in a sickness fund. Premiums are set as a percent of wages. A basic benefit package incorporating co-payment features is uniformly defined for all sickness funds. Patients are free to choose providers. Until July 1, l998, expenditure inflation was managed by global hospital budgets and regional global budgets for physician services and pharmaceuticals. These global budgets were established through negotiations between the sickness fund association and medical association of each region. The changes made in July 1998 replaced the regional budgets for physician services with a fixed fee schedule and service volume targets. Regional budgets for pharmaceuticals were replaced by practice-specific soft targets. At present, it is not clear how these 1998 changes will manage health expenditure inflation. Many experts expect Germany to revert to its previous strategy of global budgeting for this purpose.

d. Voluntary health insurance model (e.g., US)

The US emphasizes individual freedom and choice, and gives low priority to equity. As a result, it relies on voluntary private health insurance to finance health care. To prevent adverse selection, most private health insurance is sold to employees through their place of employment, which leaves the elderly, unemployed, and the poor—those who tend to need more health care—without coverage. The government has had to finance these uninsured groups: Federal Medicare coverage is available for the elderly, and the states fund Medicaid to cover the poor. This pluralistic system still leaves approximately 44 million uninsured. The existence of numerous private health insurance plans weakens the plans’ bargaining power with providers, yet enhances the ability of the medical providers to earn monopolistic profits, which accelerates health expenditure inflation. To balance the market power of the purchaser and seller, most large businesses support managed competition (an approach designed and advocated by Alain Enthoven (1994)). Managed competition requires complex and sophisticated organizations to manage medical practices, and the administrative costs can be substantial. Furthermore, it is not clear that managed competition can contain health expenditure inflation in the long run, despite its success in the 1990s in reducing the oversupply of hospital beds in the US.

e. Individual savings accounts (Medisave) with catastrophic insurance model (e.g., Singapore)

Singapore emphasizes individual reliance and responsibility, which is reflected in the structure of its health system. The government mandates that every worker save 6-8 percent of his or her annual wages for inpatient hospital and expensive outpatient procedures. This amount is deposited into an individual savings account (Medisave). Because these savings are not sufficient to cover hospital expenses, the government has also established a catastrophic insurance plan, for which the premium is paid from the Medisave account. To ensure that everyone has access to basic health services, government hospital wards are divided into classes A, B, and C. The government heavily subsidizes the cost of B and C ward services, with the patient paying a modest amount. To control health expenditure inflation, the government sought to introduce market competition—competition between public and private hospitals. Since this did not moderate the expenditure inflation rate, the government reverted to planning and regulation to achieve this objective (Government of Singapore, 1993).

3. Comparison of performance

Table 19 presents a statistical comparison of the performance of the five models. The data clearly indicate the poor performance of the voluntary insurance model. Table 20 compares the structural elements and the performance of the five models. Three main conclusions emerge from this comparative analysis: (i) to ensure equity, a government must play a strong role in financing health care; (ii) the efficiency and quality of health care can be improved with competition, incentives, and macro-organization; and (iii) health expenditure inflation can be managed by establishing a “hard” budget constraint for the health sector. Competition and demand-side measures (such as direct patient payments) have proven to be ineffective in controlling health expenditure inflation.

Table 19.

Input and Output Indicators of Best-Performing Countries Among Advanced Economies: Canada

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Source: World Bank Word Development Indicators 2006.
Table 20.

Selected Transition Countries: Social Insurance Arrangements

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Note: Legislation was passed in 1997 but scheme became effective in 1999.

China had established social insurance in 1953 and expanded coverage in 1997.

4. Guideposts for macroeconomists

All advanced economies except the US assure their citizens equal access to reasonable health care and risk-protection. But all advanced economies are confronted with three questions: (i) Are the health systems structured in the most cost-effective way? (ii) Do countries have strategic plans to deal with health care costs for their populations? (iii) Do they have effective “hard” budgets for their entire health sectors to help manage health expenditure inflation and promote efficiency?

  • In requesting data, it is useful to obtain a copy of the NHA; statistics on the country’s infant mortality rate and health expenditure inflation rate for the past 15 years; and a 25-year projection of national or social insurance program costs as a percent of GDP.

  • In assessing performance, a quick assessment can be made of the health care system’s performance by comparing the country’s input and output indicators with those of a best-performing country and a median-performing country. The input indicators could be health care spending, available facilities, and human resources. The output indicators could be the levels of health status and risk-protection, and the equity and efficiency of both. Table 21 gives the benchmarks for a Stage IV country—Canada.

  • In reviewing policy programs, it is useful to compare the access to and use of health services by the bottom and upper-quartile income groups, as well as by rural and urban populations.

  • The cost-effectiveness of the country’s health care system depends on the availability of information on the quality of its services. Macroeconomists should request and review the outcome data on the quality of medical services.

Table 21.

Middle-Income Transition Economies: A Summary of Common Health Sector Problems, Reform Measures, and Consequences

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Evidence shows that the quality of health care and health expenditure inflation rates are correlated with the number of physicians per capita as well as the mix of family physicians and specialists. Assessments are desirable as to whether the government has a rational medical manpower policy that is compatible with the country’s health objectives.

E. Transition Economies

This group of countries does not fit into the stages of development analytical framework. These former socialist countries were founded upon different ideologies. Their social, economic, and political systems were structured very differently, with the state directing and controlling most social and economic activities. The radical changes since the early 1990s have fundamentally altered the role and capacity of the state and profoundly impacted the health sector and the health of the people. Health policies are, like these economies, moving from centrally planned to market-oriented, and from autocratic politics and governance to pluralistic (or democratic) politics and decentralized governance. Although the pattern, intensity, and speed of change has varied among these economies, common themes and experiences have emerged.

1. Impact of economic transition on the health sector

Economic transition has drastically changed the state’s role and caused a sharp drop in government revenue. Moreover, this transition has widened income disparities, which has affected the demand for health services and thus the income expectations of physicians. Government revenue as a percent of GDP dropped sharply for all transition economies during the several years of initial transformation. The Chinese experience, after 1980, is most illustrative (see Figure 7). From 1980, when China began its transition, to 1996, government revenue dropped from 33 percent of GDP to 14 percent. Under such circumstances, a government is also pressured by an increase in fiscal demands: price inflation causes health practitioners to demand higher wages and the cost of medical supplies and drugs to increase. The government has to maintain its funding for social programs, such as health care, but also to provide financial support for the increasing number of unemployed. Therefore, governments have often had to reduce funding in real terms for public health services.

Figure 7.
Figure 7.

Selected Transition Countries: Government Revenue, as Percent of GDP

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Almost all transition economies have experienced widening income disparities, which have significantly affected the health sector. Affluent households are willing and able to pay much higher prices for health services, but others cannot afford to pay. The affluent frequently offer under-the-table payments to government-employed practitioners to obtain higher quality services or shorter waiting times. Many senior physicians at public hospitals may be attracted by and leave public employment for the financial incentives of private practice. To retain them, the government has to offer higher wages and benefits, which further increase costs. The same market dynamics occur for hospital services: for-profit hospitals respond to the demands of the affluent by supplying expensive high-technology services. To compete, most public hospitals then demand the same.

Widening income disparities have another impact on the health sectors of transition economies. Health practitioners can quickly become dissatisfied that their incomes are no longer in the country’s highest ten percent. Many then turn to corrupt practices, such as asking for under-the-table payments from patients and accepting kickbacks from pharmaceutical companies. To avoid these problems, many governments have chosen to allow government-employed physicians to have private practices in the evening hours so they can earn additional income. However, private practice income can be several times greater than the government wage, which creates new problems for the public clinics. Physicians refer their affluent patients from the clinics to their private practices and then reduce their public clinic hours in order to have more time for their private practices. This causes public health services to deteriorate such that only the poor use them.

2. Background on centrally planned health systems

Under socialism, countries used the Soviet model for the financing and provision of health care. These systems were supplier-dominated; the availability of resources constrained production. The provision of services was organized into two levels: provincial and county. Disease prevention and public health care were the state’s responsibility and were often organized as vertical programs. The state financed and owned urban health care facilities, which provided free services to patients. In rural areas, communes were responsible for financing and providing primary care. The state also financed medical education.

Under central planning, supply exceeded demand for hospital beds, physicians, nurses, and other health practitioners (see Figures 8 and 9). As for state enterprises, when public facilities were privatized, large-scale layoffs caused social unrest. In the Eastern European transition economies, the central government transferred the problem by decentralizing public hospitals and clinics to the municipalities, even though most local governments lacked the funds to support the excess of hospital beds and redundant health practitioners.

Figure 8.
Figure 8.

Selected Transition Countries: Number of Physicians (per 100,000 inhabitants)

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Source: WHO HFA database for CEE countries and EU
Figure 9.
Figure 9.

Selected Transition Countries: Number of Hospital Beds (per 10,000 inhabitants)

Citation: IMF Working Papers 2007, 013; 10.5089/9781451865776.001.A001

Source: WHO HFA database for CEE countries and EU

At present in these former socialist countries, many government facilities are underutilized. Wages for health practitioners are set low relative to other professionals, in order to keep costs low. Public hospitals operate inefficiently under a “soft” budget: the government sets performance targets and makes up any deficits hospitals may have. As a result, public hospitals have little incentive to be efficient or to offer quality services. These inherited problems are further exacerbated by the new socioeconomic conditions of transition.

3. Major health policy problems confronting transition economies

For the socialist economies, the health care compensation system was structured very differently from that of market economies. For the former, economic and social security were given greater priority than current cash compensation. The compensation package for workers and collective farmers consisted of: low cash wages; deferred compensation, in terms of high pension and guaranteed health care after retirement; housing, sickness, and disability pay; health care during working years; child allowances; and job security. Deferred compensation obligations were not prefunded. Governments during transition were thus faced with these large social and moral obligations—and liabilities—as they sought to restructure these systems for health care financing and provision.

Another health policy problem has derived from the shift from direct government-financed health facilities to social insurance systems. How should the social insurance program pay the hospitals and clinics, and how much they should pay? Under the new insurance systems, governments have relied on the marketplace to set prices. However, if physicians and hospitals are able to use market power to set high monopolistic prices, social insurance plans can go bankrupt, as happened in the Czech Republic and Hungary.

Moving from socialism to capitalism also has entailed the opening up of the economy to foreign trade and investments, which has also significantly impacted the health sector. Although the inflow of foreign capital, pharmaceuticals, and medical technology has improved medical services, it has also increased health care costs, because all major hospitals want to be equal in technical sophistication. Affluent households may be able to pay the higher prices associated with imported drugs and new medical technologies but the poor cannot afford them. The government then faces a dilemma: either the government or social insurance system finances these increases in health care costs, or the health care system must de facto develop in terms of two tiers of access.

4. Initial transformation of the health sector

For the health sector, the first impact of the economic transition was felt when the government became unable to finance public health services. Most governments, following the advice of international financial institutions (IFIs), promptly introduced three measures to generate new sources of revenue: they established user fees, introduced compulsory social insurance plans, and encouraged foreign investment in new medical facilities and technologies. Most also legalized private medical practices. Unfortunately, the IFIs did not advise health policymakers on the prerequisites for successful revenue mobilization for the health sector. These prerequisites included creating new organizations, developing management know-how, and setting up information systems and regulatory measures to set the rules for market competition. (The lack of competition allowed public hospitals to continue to operate inefficiently under obsolete bureaucratic rules and to retain its monopoly.)

All transition economies have introduced or expanded their compulsory social insurance systems as a new source of financing for health care. Table 22 shows five examples. Risks are usually pooled on a regional basis. However, because tax evasion is a serious problem, an effective tax collection system is needed which can take years to establish. In the absence of effective collection, only about one-half to two-thirds of the expected social insurance contributions are collected, and the government must make up the shortfall. This has been the case in the Czech Republic, Hungary, and China.

The level of health status in most transition economies has suffered from all these changes in health care financing and provision. These setbacks were partly due to a decline in preventive programs and a shortage of drugs and medical supplies, both of which resulted from inadequate public funding for health care. These problems were further exacerbated by the use of the limited budget to first pay health practitioners. Meanwhile, the need for health care has increased. For example, the incidence of mental illness has risen due to unemployment and job insecurity. The experience of Russia is most illustrative. It has suffered an unprecedented reversal in the level of health status, especially among middle-age males, and overall, the life expectancy of Russians has dropped.

5. Generic models

In this section, transition economies are divided into two groups: middle- and low-income countries. The first group includes Eastern European countries, which are highly urbanized and have a relatively high per capita income. The second group includes China, Vietnam, and some Central Asian countries, which have predominantly rural populations. In transforming their economies, the low-income countries have experienced less economic contraction and unemployment. However, they have faced a greater demand for resources to address communicable diseases and malnutrition among rural households, and chronic illnesses and aging in the urban areas.

a. Middle-income transition countries (e.g., Poland, Czech Republic, Hungary, and Baltic countries)

Financing. In these countries, a major problem has been to find new ways to finance existing government facilities and staff. Most countries have established compulsory social insurance to replace general-revenue financing. Tax evasion, however, has been a serious problem. Risks are usually pooled at the regional level or by industry or occupation. To reduce moral hazard, social insurance plans contract providers and pay them on a fee-for-service basis. The insurance benefits package usually requires patients to pay co-insurance. The benefits cover a “reasonable” level of health services to all insured. Those wishing services beyond this level may purchase private supplementary insurance, which pays for a “higher-quality” of services. This creates two tiers of health care.

Macro-organization. To address oversupply, inefficiency, and bloated bureaucracy in hospitals, most of these middle-income countries have decentralized their hospitals to the regional and municipal levels. Local governments are now responsible for managing them, although these governments are in no better a position to deal with the excess of staff and facilities. Nor do they have better managerial capabilities. Often, greater managerial autonomy is given to the hospitals and clinics. Governments often encourage private investments to modernize the hospitals. These hospitals then attract more patients and further private investment. Sometimes the government-owned hospital will form a joint venture with a private investor to offer a new service, such as an on-site radiation therapy. Hospital staff are paid at a much higher rate when they give patient care in the private service. The growth of private hospitals has been rather slow in most transition economies. Some countries have privatized their general practitioner services, allowing them to rent the government’s clinical facilities and receive a capitation payment for every patient registered.

Incentives. Transition economies face the greatest difficulty in structuring health care incentives. Two major problems arise: Who should set health service prices? And how should the volume of services be controlled? Some countries have let physicians and hospitals set prices, but this has caused other problems. Some have let insurance plans set prices, but this has also proven problematic. For example, insurance plans in the Czech Republic went bankrupt and the government had to bail them out. When insurance plans try and set the fees under a fee-for-service system, the volume of services has significantly increased. Only now are countries beginning to learn from the positive experience of some Western European countries that have used hospital global budgets and DRG payment systems.

Regulations. Most of these countries are still weak in their capacity to effectively regulate private and social insurance, ensure the qualifications of health providers, and provide minimal assurances as to the quality of services, pharmacies, and pharmaceuticals. Even if appropriate laws/regulations do exist, they are not enforced, due to a lack of information and control. Furthermore, the legal systems and courts of these countries are still at an early stage of development.

In summary, the middle-income transition economies are trying to reverse their formerly socialist welfare policies. However, the state had incurred excessively costly obligations to workers and their families. In lieu of paying high cash compensations, the state had promised high fringe and deferred benefits. Moreover, the health care system was being shifted from being supply-side to demand-side dominated. In effect, these countries have had to try and implement 30 years of health care reform in a few years. It is thus not surprising that all have encountered severe difficulties, caused by their lack of understanding of potential market failures and the difficulty of linking the public and private components of the system. Table 23 shows the major problems confronting transition economies, the reform measures introduced, and consequences.

b. Low-income transition countries (e.g., Cambodia, China, and Vietnam)

In the urban areas, low income transition countries have faced problems similar to those of more developed transition economies, have implemented similar reforms, and experienced similar consequences. In addition, these countries have had problems in financing and providing basic health care to their large rural populations. Again, the transformation of the economy caused the collapse of the funding base for rural health care. Without adequate funding, the government has usually allowed physicians to establish private practices and patients to pay for care on a fee-for-service basis. In government facilities, under-the-table payments have become widespread. The funding base for rural health stations, staffed by modestly trained health practitioners (e.g., village doctors), also collapsed. These practitioners then established their own private practices and relied on selling medications and giving injections for their livelihood. Public health care, disease prevention, and the technical quality of primary health care all declined. Rural households have had to pay directly for their hospital costs, throwing many into poverty.

6. Guideposts for macroeconomists

Transition economies are special cases. The tidal wave of a country’s social and economic transformation can overwhelm its health care system. Macroeconomists have to focus on the larger issues such as economic stability and growth, high unemployment, and corruption. Perhaps the most helpful and productive role they can play in the health sector is to educate the country’s economic leaders and suggest specific policies.

In transition economies, economic policymakers often do not have a good understanding of what the government’s role in the health care sector should be. In the allocation of public resources, policy makers should give priority to public health and disease prevention, and to subsidies for poor and low-income households, instead of seeking to maintain the jobs and protect the incomes of government-employed health practitioners. Policymakers often assume that the health sector can follow the same policies as in other economic sectors, because they don’t recognize the serious market failures that exist in health care markets. They typically don’t recognize that the government must play a significant role in ameliorating these market failures. For example, the fee-for-service payment system is highly inflationary and often encourages physicians to prescribe inappropriate tests, treatments, and medications.

Regarding specific policies, the government must have a coherent health policy that links all the components of the health care system, that is, the public and the private sector health care services. Otherwise, the transition economies will continue to face rapid health care cost inflation, increasing inequality in access to health care, and inefficiency. Moreover, tobacco excise taxes should be instituted, and the use of generic drugs should be strongly encouraged, following these practices in the US.

VII. What Role Can Macroeconomists Play?

A. Low-Income Countries

The CMH was initiated by the WHO as a means of providing an evidence base for economic and financial policy makers in LICs on why spending on health was more than simply a consumption good. It sought to make the case that higher spending on health could have significant economic benefits—in fostering higher productivity and growth, both in the short and long term; in making greater use of both available labor resources and even natural resources (where disease vectors may be limiting the capacity to utilize land or resources effectively); as a key instrument in addressing high rates of poverty; and in influencing critical demographic variables (in particular fertility rates) that may be a source of low productivity, dissaving, and low human capital formation.

The CMH report was important in its effort to put health forcefully on the agenda of macroeconomic policy makers and in underscoring the importance of health in setting budgetary priorities. For macroeconomists working on LICs, the work of drawing on analyses that demonstrate these points will continue to be an important priority, helping to ensure that spending on health care is appropriately valued when budgetary tradeoffs are considered relative to potential spending decisions in other sectors.

However, in LICs, a fundamental obstacle to macroeconomists and country policy makers seeking to formulate sound health policy, monitor sector performance, or establish a health safety net is the systematic lack of information on many issues relating to the health sector. Currently, an information gap is the major barrier preventing IMF or country macro-economists from helping country officials to function effectively and rationally in situations where they may need to consider the impact of health on macroeconomic policy (or vice versa). Most non-OECD countries have not gathered the basic data on the inputs and outputs of their health system, for example, total health spending; the poor’s access to health care; the efficacy of resources used; operations in the private market; the proportion of households that may be driven into poverty by the need to incur large medical outlays; and consumer satisfaction. This information gap is a major obstacle to the formulation of an appropriate policy for the health sector.

To allocate public resources, we need to know, for example, how much health care contributes, in general, to health or economic growth or well being, and the relative marginal benefits derived from additional spending on health care compared to spending on education, sanitation, and rural development. This knowledge is largely absent.

The IMF, as a macroeconomic institution, can do little in the short term to improve health system performance of most low- and middle-income countries. The reason is simple: these countries lack sufficient information, institutional capacity, and human resources to make systemic changes. Also, the IMF staff should be selective in covering this and other social issues, doing so only when these issues have a sizable and direct effect on macroeconomic developments. In the short run, the IMF should support WHO and World Bank efforts to help countries build a better foundation for formulating an appropriate health policy framework. Some actions are however possible:

  • Action/Step #1: Ensure the availability and collection of crucial health information. The IMF can play an important supportive role in this regard. Although it is not the role of the IMF to advise countries on what specific health data to compile, the IMF is in a unique position to influence government decisions on what broad information is important to collect for informed public policy decision-making. Compared to most other international organizations working in the health area (with the possible exception of the World Bank), the IMF has a much closer working relationship with countries’ economic decision makers. Health officials are more likely to collect the necessary information if the ministry of finance mandates and finances the collection. Each year, the national health accounts (NHA) should be compiled, and a report issued on the health (and education) outcomes of the poor. These outcome data can be collected with Rapid Field Assessment instruments. Despite intense efforts made by WHO and WB, most low and middle-income countries are not compiling NHA on a regular basis.

  • Action/Step #2: Warn policymakers of market failures in the health sector. IMF economists should be aware of, and when the situation arises, advice economic decision makers that health care markets have many anomalies. Health policy cannot automatically follow the free market strategy often used in economic development for economic goods. A health sector consists of more than a dozen markets, most of which are susceptible to serious market failures (Evans, 1984; Hsiao, 1995b; and Massaro, et al. 1994).

  • Action/Step #3: Promote rational health policies. Health sector development requires a distinctive policy strategy that recognizes that it has to deal with both equity and efficiency of health care, and the existence of serious government and market failures. Sound health policy requires a well-designed combination of regulation and competition, public and private financing, and institutional capacity building. In most low- and middle-income countries, taxes on tobacco, alcohol, and firearms should be increased as a preventive health measure, and as fiscal measures, may be relevant for IMF economists to consider. For other health policies, the IMF can reference the strategy for the health sector15 developed by the World Bank.

B. Middle-Income, Transition, and Advanced Economies

For macroeconomists working on middle-income and advanced economies, the issue may be less one of inadequate spending on the health sector and more that of reconciling the benefits from higher spending with the costs that may be implied for the macroeconomy. The agenda for macroeconomists with respect to the health sector would appear at least five-fold:

  • To understand better how the organization of health care in a country may be influencing macroeconomic variables: Some of the issues described in Section II below may be particularly germane, others not, and seeking greater clarity would help to focus where policy interventions may be necessary;

  • To encourage governments to obtain greater transparency in understanding how health resources are allocated in an economy (through the establishment of national health accounts) and who bears the burden and obtains the benefits of current health spending programs;

  • To achieve a better understanding of how countries may differ both in their spending in the health sector and in the results obtained in terms of various indicators of health status;

  • To galvanize a focus by ministries of finance in obtaining greater clarity on the factors influencing health spending in their country; to put pressure on the relevant government agencies involved in spending on health care to clarify major differences that may pertain to their approach to health care provision relative to other countries; and

  • To understand the broad approaches that different countries have used in controlling health care costs, while staying clear of more specific policy proposals (e.g., controlling prices or wages or entry into the medical profession) for which macroeconomists may be ill-suited in terms of understanding potential unintended consequences.

A larger challenge for macroeconomic policymakers is the enormous gap that exists between the recognition of the need to achieve more effectiveness in the use of resources to achieve quality health outcomes and the knowledge base available to implement good policies to achieve these outcomes. For example, one would think that policymakers in the health care sector of a country would vitally need to understand how their counterparts in other countries are addressing similar problems and the differences in results obtained. Similarly, and perhaps even more powerfully, with rapid technological changes, physicians are confronted with the need to decide which new drugs or medical techniques are best able to effectively treat and improve the quality of life of patients. From a financial perspective, governments or health insurance schemes have an equally germane interest in knowing whether to finance the provision of these new drugs and technologies, and which are likely to prove more expensive than earlier treatment approaches. Is there a sufficient evidence base that allows these decisions, which will have ramifications for cost and ultimately macroeconomic variables, to be sensibly based (see Cutler (2004).

Clearly, these are gaps for which macroeconomists are poorly suited to provide guidance on their closure. But ultimately, the better these knowledge gaps are filled, the less the need to rely on blunt policy instruments (e.g., rationing, limits on wage rates, controlling prices, global budget constraints) to close budgetary financing gaps and the more likely that high quality outcomes can be obtained for the resources invested in the sector. What is interesting is that all countries face the same challenges in this regard in seeking to answer these questions and yet all, perforce, are making key financial decisions independently on the same limited evidence base. This suggests that one might be observing the underfunding of the global public good of “evidence-based health care” in a world of rapid technological change in the medical and pharmacological areas. There would be considerable value if there was an agency charged with carrying out such analyses which could be commonly financed and to which all countries would benefit from results obtained.


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