Sources and References

Primary texts — Folland, Goodman, and Stano, The Economics of Health and Health Care, 8th ed. (Routledge). Drummond et al., Methods for the Economic Evaluation of Health Care Programmes, 4th ed. (Oxford).

Supplementary texts — Phelps, Health Economics, 6th ed. (Routledge). Getzen, Health Economics and Financing, 6th ed. (Wiley). Gold et al., Cost-Effectiveness in Health and Medicine, 2nd ed. (Oxford).

Online resources — Canadian Agency for Drugs and Technologies in Health (CADTH) methods guidance. WHO-CHOICE cost-effectiveness resources. MIT OCW 14.13 Economics and Psychology. NBER working papers on health economics (open). OECD Health Statistics database.

Chapter 1: Health as an Economic Good

1.1 Why Health Care Is Different

Textbook competitive markets require many well-informed buyers and sellers, free entry, and full rationality. Health care violates each: information asymmetry between providers and patients, externalities (vaccines, infectious disease), uncertainty over incidence of illness, non-profit and public providers, and paternalistic regulation. Arrow’s 1963 paper remains the canonical diagnosis; modern analysis extends it with behavioural and institutional detail.

1.2 Demand for Health and Health Care

Grossman’s model treats health as a durable capital good that depreciates and is augmented by investments (medical care, time, healthy behaviour). Demand for medical care is derived from demand for health. Elasticity of demand — responsiveness to price — is notably low but non-zero; RAND Health Insurance Experiment quantified price elasticity around −0.2.

Chapter 2: The Market for Medical Care

2.1 Physician and Hospital Behaviour

Physicians operate under payment systems that create different incentives: fee-for-service encourages volume, capitation encourages efficiency but risks under-provision, salary decouples effort from pay. Hospitals under Diagnosis-Related Group (DRG) prospective payment face fixed per-case revenue, incentivizing cost control; activity-based funding similarly bundles payment to case complexity.

2.2 Supplier-Induced Demand

When providers hold informational advantage and are paid per service, they may influence demand beyond what informed patients would choose. Empirical work finds mixed evidence; the ethical and regulatory response includes utilization review, clinical guidelines, and shared decision-making. Biomedical engineers should recognize that device-utilization patterns reflect these incentives, not only clinical need.

2.3 Pharmaceutical and Device Markets

Patent-protected innovation faces monopolistic pricing; genericization produces sharp price drops. Device markets differ from drugs: incremental innovation, physician-specific learning curves, and hospital-level purchasing change the competitive dynamics. The “gray” market between device innovation and generic entry can last decades because device design is often tightly coupled to consumables and training.

Chapter 3: Health Insurance

3.1 Why Insurance Exists

Risk aversion and uncertainty over medical expenditure make pooling welfare-improving. Insurance transforms uncertain high-variance loss into a certain premium. Expected utility theory gives a demand for insurance when

3.2 Moral Hazard and Adverse Selection

Moral hazard — insured consumers use more care than they would if paying full price — is moderated by cost sharing (deductibles, copayments). Adverse selection — higher-risk individuals more likely to buy insurance — is addressed by underwriting, community rating, employer-based pooling, and mandates. These failures motivate public provision and regulatory design.

3.3 Canadian Public Insurance

Under the Canada Health Act, medically necessary hospital and physician services are publicly funded with no cost sharing at point of service. Prescription drugs, dental, vision, and private rooms fall outside the CHA basket, covered by private or provincial programs with wide heterogeneity. Parallel private insurance for CHA-covered services is constrained, distinguishing Canada from many OECD peers.

Chapter 4: Economic Evaluation of Health Technology

4.1 Cost-Effectiveness Analysis

Comparing alternatives A and B, the incremental cost-effectiveness ratio is

Effectiveness \( E \) may be life-years gained, cases avoided, or quality-adjusted life-years. Decisions follow a willingness-to-pay threshold \( \lambda \): adopt A if ICER < λ. Canada’s CADTH typically considers thresholds of $50,000/QALY implicit, with newer approaches avoiding explicit hard limits.

4.2 QALYs and Utility Weights

QALYs combine quantity and quality of life:

with \( Q \in [0,1] \), 0 = dead, 1 = perfect health. Utility weights are elicited by standard gamble, time trade-off, or multi-attribute utility instruments (EQ-5D, SF-6D, HUI).

4.3 Cost Components and Perspective

Costs include direct medical, direct non-medical (travel, home modification), indirect (productivity loss, informal care), and intangible. The chosen analytic perspective — health system, societal, patient — defines which costs are counted. Discounting at typically 1.5% (Canada) or 3% (U.S.) converts future costs and effects to present value.

Chapter 5: Innovation, Regulation, and Financing

5.1 The Economics of Innovation

R&D costs for a new drug or Class III device range in hundreds of millions to billions of dollars, with high failure rates. Patents confer temporary monopoly to recoup costs; shorter effective patent life in medical products (filing to market entry delays) incentivizes pricing disputes. Value-based pricing, outcomes-based contracts, and advance market commitments attempt to align payment with clinical value.

5.2 Technology Assessment and Reimbursement

CADTH, INESSS, NICE (UK), ICER (U.S.), and IQWiG (Germany) each synthesize clinical and economic evidence to inform coverage decisions. Manufacturers increasingly engage in early scientific advice to align trial design with future HTA expectations. Real-world evidence complements RCTs for post-launch decisions.

5.3 Government Role

Government intervenes through direct provision, financing, regulation, information provision, and research funding. Trade-offs between efficiency, equity, innovation incentives, and cost containment are inherent and politically negotiated. Biomedical engineers contributing to device development should understand how policy decisions shape the market their products enter.

Chapter 6: Applied Analysis

6.1 Decision Trees and Markov Models

Decision trees model sequential decisions and probabilistic outcomes. Markov models add time, representing disease states and transition probabilities:

with transition matrix \( \mathbf{T} \). Expected costs and QALYs are computed by accumulating state-specific values over cycles. Discrete-event and individual-level simulation extend this to heterogeneous cohorts and memory-dependent transitions.

6.2 Uncertainty

Parameter uncertainty is propagated by probabilistic sensitivity analysis: sample parameters from distributions, simulate the model, produce cost-effectiveness acceptability curves showing the probability of cost-effectiveness across thresholds. Scenario and structural uncertainty require narrative and comparative analysis, not just PSA.

6.3 Equity and Distributional Analysis

Average cost-effectiveness hides who benefits and who bears cost. Distributional cost-effectiveness analysis quantifies effects across socioeconomic groups, adding equity weights to capture fairness concerns. Extended cost-effectiveness analysis incorporates financial risk protection alongside health gains, central to low- and middle-income settings.

6.4 Firms, Finance, and Markets

For a startup developing a Class II imaging device, the economics of innovation — equity, runway, reimbursement codes, payor engagement — shape product decisions as firmly as physics does. A device with beautiful specifications and no reimbursement pathway will not reach patients. Entrepreneurial biomedical engineers treat economics as part of engineering design, not an afterthought.