Health Insurance Raises Demand and Supply
The various components of health care cost increases are not independent but interact. Because of this, allocating shares of cost increases to particular causes is an oversimplification. But a main culprit of the increased cost of medical care is clearly the growth of third-party payments, including private insurance and various government programs, of which Medicare and Medicaid are the most important. Third-party payments affect all the other culprits.
Insurance coverage increased demand for medical care without concern for price; it allowed increases in fees and prices that would not have been feasible otherwise. The combination of greater demand and higher prices increased the incomes of physicians. Higher incomes attracted more candidates into the medical profession and lured immigrant physicians. The excess supply of physicians resulted in an excess supply of medical services. The larger market at higher fees and prices encouraged research and development of new equipment, drugs, and facilities that improved and expanded the supply of services available and increased spending on advertising, further increasing excess demand. The combination of new treatments and high medical incomes proved an irresistible lure for malpractice lawyers. The multiplicity of insurers raised administrative costs. In the long run insurance coverage may have even affected the age distribution of the population by prolonging lives among the elderly, who are large consumers of medical services.
Health insurance does not lead to these results unaided; a second necessary condition is a fee-for-service system that encourages an oversupply of services at higher prices. A third contributory, although not necessary, condition is technological progress, which provides many new tests, new equipment, new treatments. Without technological progress, third-party