3.3.1 Medical Care and Administration: Charges vs.

Costs

Unlike prices for other goods, most medical prices are overstated to cover
related

expenses for education, research, community outreach, and care for patients
who

cant pay. Health economists use three methods to determine the direct costs of

medical care5:

Adjusted charges: Adjusted charges for U.S. hospital care are usually

estimated by multiplying billed charges by the Medicare cost-to-charge

ratio (see Section 8.1). The actual cost of hospital services is, on average,

only about 60 percent of billed charges. The cost of some services, such

as laboratory work and drugs, may be as little as 15 percent of charges,

while for ER and obstetric services, actual costs may be as much as 125

percent of billed charges. Per-unit costs are always estimates and are subject

to interpretation.

Cost accounting: Cost accounting for CBA uses the same principles as

job costing in other industries. Resources (e.g., nursing hours, technician

time, space, supplies) are estimated from direct observation, and their

costs are estimated using prevailing wages, prices, and so on. An overhead

charge is then applied for administration, utilities, and other central

services.

Extrapolation from comparable services: Extrapolation from comparable

services is used when charges arent available and cost accounting is

too time-consuming. For example, the cost of keeping patients in the

hospital when they need only custodial care could be extrapolated from

the cost of a day in a nursing home.

3.3.2 Follow-up and Treatment

While direct costs are almost always counted when determining the price of
medical care, most medical care creates secondary treatment costs, which arent

always counted. In screening for colon cancer, for example, the largest cost
might

not be the screening test itself but the additional laboratory work done on those

who never had the disease but whose initial tests indicated a false positive.
Similarly,

the surgical cost of a knee operation for a 70-year-old widower may be

much less than the cost of postoperative admission to a nursing home for weeks

of recovery because he cant climb the stairs of his apartment. With surgery, its

usually necessary to include as a cost the possibility of serious complications and

death, which are worse than the condition being treated. The point is that most

medical care (and other human attempts to do good) involves many secondary

or unintended effects that must be included to ensure that the cost accounting

3.3.3 Time and Pain of Patient and Family

The time patients lose and the pain they suffer often outweigh direct medical

costs. Its common to value patient time at the average wage rate for all

employed workers. Pain, suffering, anxiety, and death are most appropriately

3.3 MEASURING COSTS 61

valued according to a persons willingness to pay. An economist doing a CBA

might not consider a particular patients point of view and his or her specific

pain and time costs, which could explain why people dont take advantage of

many beneficial treatments.is comprehensive.

3.3.4 Provider Time and Inconvenience

Some medical activities arent undertaken because providers arent

compensated

for their time and inconvenience. For example, while there is a tremendous

need for organ donations, the physicians who must obtain the families
consent are the ER doctors, neurosurgeons, and internists present at death who

find it burdensome to speak with the families and try to get them to agree to

donate their loved ones organs. Taking time to explain the issues, dealing with

emotional distress, and facing frequent refusals are costs for which they obtain

no direct benefits. Such hassle costs are a disincentive that greatly reduces

the number of organs made available for transplant. Similarly, the requirement

that every hospital admission or referral to a specialist be documented imposes

a hassle cost on the primary physician and leads, predictably, to a lower number

of hospital days and specialist referrals. This reduction in services may

make it look as if managed care plans ration the number of services to reduce

costs and make profits. However, its important to remember that the services

forgone are those that the patients physician was unwilling to write a letter or

make a phone call to support and, therefore, are unlikely to have been
considered

critically important.

3.4 The Value of Life

Isnt health priceless? Some patients and physicians protest that its impossible

to measure the priceless benefits of medical care with the crude yardstick of

money. Regardless of whether people think its right or proper, their actions place

a dollar value on human life when they make a decision to provide or deny
treatment.

If an 87-year-old patient in heart failure is transferred from a nursing home

to a cardiac care unit for 10 days, the physician affirms through his or her actions

that living another 6 months in a nursing home is worth more than $15,000.

Immediately discharging this patient with instructions to take four aspirin every

6 hours affirms the physicians belief that its not. Our actions place a dollar
value

on life, even if we choose not to recognize this fact. We live in a world of scarce
resources and must make decisions within these limitations. We use money to

place a value on (and a limit on the value of ) health, whether we wish to or

not. Perhaps the most important role of economists in the CBA of health care is

pointing out this reality.

The task of putting a value on human life is difficult, to say the least. Its

relatively easy to tie specific dollar amounts to goods and services that are

traded in the market, such as medical care, work time, drugs, and transportation.

The process isnt so clear-cut when it comes to putting a dollar

value on life and death or pain and suffering. Because theres no organized

market like the New York Stock Exchange for postoperative pain and mortality,

economists must find a way to reflect the value that people place on

these events. By choosing to buy a car that is less expensive but less safe than

another, a person is making an implicit trade between money and the risk of

dying. People also make this trade when buying smoke detectors, choosing

to accept a more dangerous job assignment for higher pay, refusing to fill a

prescription because it costs too much, and flying to a distant facility to get

the best possible treatment for a rare disease. In other words, people buy and

sell health all the time, but they dont do so in an organized market like the

New York Stock Exchange. Economists dont put a value on life or illness;

3.5 CBA Perspectives: Patient, Payer,

Government, Provider,
and Society
How much has to be paid for treatment and
how much the treatment is worth
depend on whose perspective the cost
benefit analyst is taking. From the patients
point of view, treatment that makes an
infectious disease less communicable is of
no direct benefit, and medical costs may be
relatively unimportant if the person
has insurance. From a group perspective,
reducing communicability to neighbors