Solution Manual for The Economics of Health and Health Care, 7th Edition

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The Economics of Health and Health Care
Seventh Edition
Instructor's Answers

FGS7 Answers - 1
Chapter 1 - Introduction
3. From 1960 to 1980, Spain’s share increased from 1.5% to 5.3%, an increase of 253%, the largest
percentage increase. Canada’s share increased from 5.4% to 7.0%, an increase of 30%, the smallest
percentage increase.
From 1980 to 2009, Korea’s share increased from 3.4% to 6.9%, an increase of 102.9%, the largest
percentage increase. Sweden’s share (from 1980 to 2009) increased from 8.9% to 10.0%, an
increase of 12.4%, the smallest percentage increase.
5. From 1960 to 2009, the CPI grew from 82.4 to 214.5 or by 160.3%. From 1980 to 2009, the
Hospital and Related Services index grew from 69.2 to 567.9 or by 720.7%. From 1960 to 2006 the
Physician Services index grew from 76.5 to 320.8 or by 319.3%.
6. From 1970 to 2009, Private Health Insurance grew by a multiple of 50.87 or 4,987%; Medicare
by 64.56 or 6,356% ; and Medicaid by 69.14 or 6,814%.

FGS7 Answers - 2
Chapter 2 - Microeconomic Tools for Health Economics
1. An improvement in the technology of producing health would increase the health intercept. An
increase in available productive resources would increase both intercepts (i.e. the entire curve
would shift outward).
2. Inefficiency will be shown by an interior point (A) in a production-possibility diagram (Figure
E2-1).
Two efficient combinations are shown by B and C.
The cost is the decrease in production of other goods (opportunity cost), moving from point B to
point C. The amount of other goods given up is shown by BD.
3. a. Increase in supply leads to lower equilibrium price and higher equilibrium quantity.
b. Same as (a).
c. Decrease in demand leads to lower equilibrium price and lower equilibrium quantity.
d. No effect on equilibrium price and quantity, but if the ceiling price is below the equilibrium price
there will be excess demand.
4. a. This curve is linear.
b. This curve is curvilinear.

FGS7 Answers - 3
5. The Food axis (horizontal) shows the maximum quantity of Food if all income is spent on food
(i.e. none on health services). The reverse holds for the OG axis (vertical).
The budget constraint will be unaffected if the income level and both prices double.
6. Elasticity is -1.5 x (300)/1050 = -0.43. The parameter -1.5 is the coefficient of the demand
relationship.
7. This problem should refer to the Table 2-5. The slope is -17.2, i.e. the reduction in the amount of
capital.
8. As noted in the Figure E2-2, the equilibrium price does not rise by as much as the tax. A firm
will move up the MR curve by the amount of the tax, but this does not lead to an equal price
increase. With a linear demand, the slope (
ΔP/
ΔQ) of the MR curve is twice the numerical value of
the slope of the demand curve. Thus the price increase will be 50% of the tax.
9. Qd = 1810 - 10 ps.
Qd = 1910 - 10 ps.

FGS7 Answers - 4
Chapter 3 - Statistical Tools for Health Economics
1. Age 35 or less; mean = 2.39
Over age 35; mean = 4.83
2. Age 30 or less; mean = 2.00
Age 30 - 45; mean = 3.14
Over age 45; mean = 8.25
3. Q = 5.32 - 0.92P
R2 = 0.189
Q = 1.54 + 0.08Y
R2 = 0.095
Q = -2.80 + 0.17A
R2 = 0.536
4. Q = -1.63 - 0.55P + 0.03Y + 0.15A
(2.04) (1.01) (5.04)
R2 = 0.620
(t-statistics in parentheses)
P and A are significant at 5% level; Y is not.
Elasticity at means Mean Elasticity
Mean P 2.116666 -0.332
Mean Y 21.75862 0.217
Mean A 36.60714 1.592
Mean Q 3.48148
5. Assuming G = 0, Elasticity
P 2 -5.86
Y 20 3.57
Po 3 6.86
Q 1.4

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FGS7 Answers - 5
6. Elas (P) Elas (Y)
Qa 19 -0.263 0.211
Qb 29 -0.172 0.138
Elasticities for group (b) are smaller, because 1 unit
increase is a smaller pct of a larger amount.
7. If price rises by $1, demand decreases by 3.3.
Initial Q is 350
Percent Change -0.94%
If income rises by $1, demand increases by .001.
Percent Change 0.0003%
8. Good Z is a substitute. An increase in the price of Z leads to an increase in the quantity
demanded of X.
We cannot be confident about good X as a normal good, because the income coefficient is
statistically insignificant.
9. a. Cigarette consumption decreases as income rises, although the impact does not differ
significantly from zero. By this criterion cigarettes are a “necessity” and might be considered as an
“inferior good.”
b. Multiply the coefficient -0.67 by 3, that is (12 – 9). This indicates that college graduates
consume 2.01 cigarettes less than high school graduates.
10. The answer to this question depends critically on what seems to be an outlying, but apparently
correct, value for Luxembourg, with a PPP-adjusted income of 91,377 and PPP- adjusted
expenditures of 4,808.
Including Luxembourg in the regression gives,

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FGS7 Answers - 6
Mean GDP per capita 35248.93
Mean expenditure per capita 3361.356
Regression
Expenditure = 607.2947 + 0.078 * GDP per capita
Elasticity = 0.078 * (35248.93/3361.356) = 0.82
This would show health expenditures as a “necessity,” because the elasticity is less than 1.0. An
increased income would imply a reduced share.
Excluding Luxembourg,
Mean GDP per capita 33244.35
Mean expenditure per capita 3309.698
Regression
Expenditure = -1483.81 + 0.144 * GDP per capita
Elasticity = 0.144 * (33244.35/3309.65) = 1.45
This would show health expenditures as a luxury, because the elasticity exceeds 1.0, with an
increased income implying an increased share.
Instructors can use this example, if they wish to explain to students the importance of outliers.

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FGS7 Answers - 7
Chapter 4 – Economic Efficiency and Cost Benefit Analysis
1. At that point, the marginal social cost exceeds the marginal social benefit.
2. Assume that all costs and benefits are incurred at the end of the period.
Project 1 Project 2
Year Costs Benefits Net@6% Net@12% Year Costs Benefits Net@6% Net@12%
1 5000 2000 -2830.19 -2678.57 1 5000 0 -4716.98 -4464.29
2 0 2000 1779.99 1594.39 2 0 0 0.00 0.00
3 0 2000 1679.24 1423.56 3 0 0 0.00 0.00
4 0 2000 1584.19 1271.04 4 0 0 0.00 0.00
5 0 0 0.00 0.00 5 0 0 0.00 0.00
6 0 0 0.00 0.00 6 0 2000 1409.92 1013.26
7 0 0 0.00 0.00 7 0 2000 1330.11 904.70
8 0 0 0.00 0.00 8 0 2000 1254.82 807.77
9 0 0 0.00 0.00 9 0 2000 1183.80 721.22
10 0 0 0.00 0.00 10 0 2000 1116.79 643.95
Sum 2213.23 1610.41 Sum 1578.47 -373.39
Project 1 is preferable in each case.
The project with the later returns is more competitive the lower the discount rate.
3. a. Using the criterion of marginal benefit equaling marginal cost, the efficient level of abatement
is 50. The marginal benefit (40) of going from level 50 to level 60, is exceeded by the marginal
cost, which is 45.
b. Yes, because total benefits exceed total costs. It is not efficient.
c. Even the total costs exceed the total benefits. Moreover, any level above 50% is not
economically efficient.
4. Project
Year Costs Benefits Net@6% Net@5% Net@ 4%
0 10000 0 -10000.00 -10000.00 -10000.00
1 0 4000 3773.58 3809.52 3846.15
2 0 3500 3114.99 3174.60 3235.95
3 0 3500 2938.67 3023.43 3111.49
Sum -172.76 7.56 193.59
Not approved at 6% discount rate.
Approved at 5% discount rate.
Approved at 4% discount rate.

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FGS7 Answers - 8
5. Average Cost/Cancer
Stage 1 - $2,000
Stage 2 - $2,476
Stage 3 - $2,830
Marginal Cost/Cancer
Stage 1 - $2,000
Stage 2 - $12,000
Stage 3 - $40,000
Stage 1 is the optimal level of screening.
6.
a. $1000
b. $600
c. $750
d. $400
e. $1150
7.
a. CS = ½ x 15 x 100 = 750; PS = ½ x 8 x 100 = 400; Total surplus = 1150
b. You're looking at the loss of CS. If Q is limited to 90, the WTP (inverse demand) is 11.5 (90% of
the linear distance between 25 and 10). So, the loss of surplus is ½ x (11.5 - 10) x 10 = 7.5. CS
falls from 750 to 742.5.
Total loss in surplus includes loss of PS as well. Loss of PS (calculated similarly) is
½ x (10-9.2) x 10 = 4, so PS falls from 400 to 396.
Total surplus falls from 1150 to 1138.5.

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FGS7 Answers - 9
Chapter 5 - The Production of Health
1.
E=10 E=15
HC HS MP HC HS MP
0 0.000 0 0.000
1 56.054 56.054 1 63.305 63.305
2 79.273 23.218 2 89.526 26.222
3 97.089 17.816 3 109.647 20.121
4 112.108 15.020 4 126.609 16.962
5 125.341 13.233 5 141.553 14.944
6 137.304 11.963 6 155.064 13.511
7 148.305 11.001 7 167.488 12.424
8 158.545 10.240 8 179.052 11.564
9 168.162 9.617 9 189.914 10.861
10 177.259 9.096 10 200.187 10.273
11 185.911 8.652 11 209.957 9.771
12 194.177 8.267 12 219.293 9.336
13 202.106 7.929 13 228.248 8.954
14 209.735 7.629 14 236.864 8.616
15 217.097 7.361 15 245.178 8.314
Health Production
0
50
100
150
200
250
0 5 10 15
Health Care
Health Status
HS(E=10)
HS(E=15)

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FGS7 Answers - 10
2. For blacks, every factor except BCHS.
For whites, WIC, abortion, and prenatal care.
These may reflect lower incomes and educations.
5. The plot confirms the Prichett and Summers finding.
GDP per capita v. Life Expectancy (in years)
0
10
20
30
40
50
60
70
80
90
0 10,000 20,000 30,000 40,000 50,000 60,000 70,000 80,000 90,000
GDP per capita
Life Expectancy (in years) Life Expectancy (in years)
Afghanistan
Nigeria
Ethiopia
India
Russian Fed.
Bangladesh
Albania Germany
Brazil
US
NorwayChina

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FGS7 Answers - 11
Chapter 6 - The Production and Cost of Health Care
1. Figure E6-1 shows a family of isoquants with varying elasticities of substitution.
2. In Figure E5-1:
Slope of 0A = initial K/L ratio for both.
Slope of 0B = new K/L ratio with limited substitutability
Slope of 0C = new K/L ratio with high substitutability.
The isoquant with the higher substitutability shows a greater change in the K/L ratio, and hence it
has a higher elasticity of substitution.
3. Elasticity of substitution is zero.
4. a. Constant returns to scale. Costs/unit of output are constant.

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FGS7 Answers - 12
b. Increasing returns to scale. Costs/unit of output decrease.
c. Yes, because the costs of producing goods 1 and 2 jointly are less than the costs of producing
goods 1 and 2 individually.
5. Nothing will happen to the expansion path because the slopes of the isocost curves do not
change. The average cost curve will double.
6. Examine, for example, point 8. Input reduction distances would be the distance (dashed) along a
ray to the efficient isoquant (Q = 100). Output distance would be the measure of output available
with the given amounts of labor and capital under efficient production (dashed isoquant at Q′ >
100).
7. Increased communication does not necessarily imply adoption. Communication may encourage
or discourage innovation. The key issue is whether the innovation is more profitable more efficient,
or more acceptable to the provider’s professional image.
8. We derive the average costs by measuring the slopes of rays from the origin to the total cost
curve. These rays decrease in slope(increasing returns to scale) up to Q of approximately 125, and
then increase in slope (decreasing returns to scale) as Q increases above 125.
E
7
9
6 8
10
K
L
Q = 100
Figure E6-2 – Exercise 6
Q
′ > 100

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FGS7 Answers - 13
Chapter 7 - Demand for Health Capital
1. Figure E7-1 shows the limiting cases of perfect substitution (negatively sloped straight line) and
no substitution (right angle).
2. Figure E7-2 shows how the individual would spend all of his or her income on health (that is, a
corner solution at E).
3. Refer to Figure 7-65 (text), with an increase in demand, due to higher wage. The cost of capital
must be lowered due to the decreased depreciation rate.
Figure E7-1 – Exercise 1
Figure E7-2 – Exercise 2

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