Thoughts, essays, and writings on Liberty. Written by the heirs of Patrick Henry.

October 20, 2008

Is Free Market Medicine Heartless?le

by tarran

Recently I had an interesting conversation with someone who leveled the following accusation:

“You libertarians don’t care if people die from lack of medicine, or if someone can’t afford a doctor.  Libertarianism is the freedom to die from a cold while the doctor who could treat you is doing a checkup for a rich guy who has nothing wrong with him.
You guys are so wrapped up in hating the government that you don’t see the good it can do.”

This is a frequent charge leveled against those who oppose some government intervention.  The assumption contained within the accusation is that if someone opposes the state performing some task, then one is in effect opposing anybody performing that task. There are two possible ways that this accusation could be correct:

1) The task can only be done by the state.  Regardless of our desires to see the task done, it won’t happen without state action. Therefore by opposing state action we are opposing any action that could attain that goal.

2) The task could be done by others, but we believe that it shouldn’t be done at all.

While I am sure one could find the occasional libertarian who is opposed to the broad mass of the people having access to good medical care, this is not true of the vast majority of libertarians.  Unsurprisingly like non-libertarians, most libertarians are fans of good health.  So clearly the second statement is not correct and we are left with the first one as the accusation.

But, is this correct?  Is the state the only entity capable of accomplishing this goal?  It’s actually trivial to demonstrate that the state can’t assure people the highest quality of medical care.  But can it do a better job than other organizations?  The answer is that it can do a “better” job, but at a cost that will wreck the economy.

Why Involve the State?

The notion that the state is required to ensure that people have access to medical care is, itself, predicated on several assumptions:

1) It is bad when someone is allowed to die or goes unhealed when the means to save his or her life or health is available.

2) People who cannot afford to hire a doctor or purchase medicines will go untreated.

3) People are unwilling to voluntarily support others who are unable to pay for their own care.

4) Only the state can amass the funds needed to ensure that all are treated, since it can extract more money than people are willing to give up.

Can the state do it all?

Unfortunately, while these assumptions at first seem reasonable, item number 4 is problematic in ways that supporters of state provisioning ignore at their own peril.  The first is that while state action can alleviate scarcity of medical care, it cannot eliminate it entirely.  Consider Paul Newman.  Paul Newman was a wealthy man.  He had a personal doctor who was well paid.  This doctor probably had no more than 50 patients under his care.  Can state action provide a doctor for every 50 people?  In the United States alone, this would require training 1,000 doctors for every doctor practicing today.  There would be more doctors than the combined population of plumbers, farmers, factory workers and shopkeepers.  Such an action, would take millions of workers out of working in other trades, trades where they paid taxes and put them in the position of consuming taxes.

Clearly this is untenable, at some point, the administrators of any system of providing medical care have to say “no more” and to stop providing additional care that may be technically possible, but economically unfeasible.

Thus we see that even a government-administered program will have to accommodate scarce resources, permitting people to suffer who otherwise could be treated.

Is the state the one who does a better job?

Even if the state can’t treat everyone, can it still do a better job than every other conceivable organization?  To answer this question, we need to examine how medical care is provided on a free market.

Free market provisioning – simple

The simplest way that a person gets medical care in a free market is by waiting until he or she gets sick.  The sick person then goes to a store and purchases the medicines he or she needs or visits a doctor, paying for these services out of their cash balance.  Of course, if the person lacks the money to pay the doctor or the medicine owner, the illness won’t be treated.

The prices under such a scenario are set as follows.  Doctors and medicine makers charge whatever the market will bear.  If they set their prices too high, they won’t be paid at all.  Furthermore if their profits are sufficiently high, they will attract competition, more people choosing to become doctors.  These additional providers will compete for customers, charging whatever the market will bear for their services as well.  Eventually, an equilibrium will be reached where the supply of doctors is sufficient to supply all the patients who are willing to pay them sufficiently well for treatment.

Free market provisioning – Insurance

Illness is a stochastic process that visits people randomly.  The rates of illness in a large population are, however, predictable to a reasonable degree of accuracy.  This makes it quite possible for insurance companies to provide health insurance; people pay a monthly or annual fee for coverage, and the insurance company pays for their illnesses.  People who get very sick benefit because the cost of care exceeds the premiums they pay to the insurance company.  The insurance company profits because the premiums they charge exceed the costs of the treatments they pay for.  The people who don’t get sick may lose money, but should they get sick in the future, they are in a position to become benefactors.

The introduction of medical insurance, of course, results in higher prices in the short term as people who previously could not afford treatment are now able to afford treatment.  However, as in the previous simple scenario, the rise in prices would attract even more people to become providers.

Free market provisioning – Charity

Under the previous two methods, there is still a class of people who seek treatment who don’t get it: people who cannot afford insurance.  The plight of this group will not go unnoticed; some segment of their neighbors will be moved by their plight, and will want to help.  These neighbors make a gift of money, their services, or their non-money property to the needy, either by paying for services directly, giving gifts to the needy, or by giving gifts to organizations, known as charities, that distribute the gifts to the needy.

The supply of charitable gifts is dictated by how much the gift givers are willing to give in return for the psychic benefit they get for giving gifts.  These people choose how much they will give, and to whom based on what they are a) able to spend, b) how ‘deserving’ they feel the benefactor to be, c) the predicted effect of the gift.

These benefactors are thus examining the need of the beneficiaries, the resources available to donate to the problem and how effectively those resources will solve the problem in choosing how much money to give.  Again, initially the action of charities will increase the demand for medical services and bid up prices.  Again, these higher prices will attract more providers to provide services, until once again prices have stabilized at a level where the number of providers is constant.

Deviation from Free Market – Medical Licensing

The free market provisioning of medical care assumes that anyone who wishes can hang a shingle form their door and go into business as a doctor.  It provides severe downward pressure on prices: any time doctors in a particular branch of medicine start making sufficient amounts of money to make the training profitable, it attracts more people to take up the profession.

The medical industry has reacted to this downward pressure by calling for the state to restrict the pool of practicing doctors.  This eliminates downward pressure on prices. If the number of doctors is restricted, then the bidding war as patients fight for the few available slots will result in prices rising dramatically.  The more entry is restricted by these laws the more dramatic this phenomenon is.

Deviation from the Free Market – Subsidies

Earlier, we showed how charitable contributions tend to push prices higher.  This phenomenon becomes more dramatic once medical licensing is in place.  To understand this phenomenon, we must examine how prices are set at a free market.  Imagine an economy where A, B, C and D are interested in visiting a doctor.  This doctor can see 2 patients per day.

The prices they are willing to pay to see a doctor are:

Actor Willing to Pay
A $110.00
B $ 80.00
C $ 60.00
D $ 50.00

To maximize his profits, the doctor must fill up his schedule.  If he posts a price of less than or equal to $80.00 per visit, he can fill his schedule with paying patients.  Thus, we can expect that the doctor will charge $80.00.

Now let us examine what happens if some entity offers a $50.00 subsidy for patients wanting to visit the doctor but can’t afford it.  Now the demand schedule looks like this:

Actor Out of pocket + Subsidy = Payment to Doctor
A $110.00 $0.00 $110.00
B $ 80.00 $0.00 $80.00
C $ 60.00 $50.00 $110.00
D $ 50.00 $50.00 $100.00

At this point the doctor finds himself deluged with patients.  Eventually, he finds himself wanting new equipment, or to hire more staff, and so he experiments with raising his price.  He raises his prices to $90.00, then to $100.00 or more.  When his prices reach $110.00, once again he is maximizing his income.  Any higher, and he will have empty slots in his schedule and lose business.  The effect of the subsidy, in the presence of significant barriers to entry for new providers is to increase prices.  The higher the subsidy, the more people it is offered to, the more dramatic this effect is.

If one looks at all the asset bubbles in recent history, all the sectors of the economy where prices are climbing faster than the rate of inflation, one finds generous government subsidies coupled with significant barriers to entry for new providers.

Of course, patient B, having been able to afford a doctor in previous days now finds himself out in the cold.  He is not offered a subsidy, but cannot afford to see a doctor.  Unless he is very aware of economics, he will ask the subsidizer to include him in the subsidy as well.  This expansion in subsidy will result in still higher prices, creating another wave of people who no longer can hire a doctor.  The people in this wave then lobby for the expansion of the subsidy to include them.  If the cycle continues long enough, nobody will be able to afford the subsidy.

Deviation from the Free Market – Monopoly Customer

Another option is to establish a monopoly that takes over all payment to doctors.  This monopoly can avoid the phenomenon of competing consumers bidding up prices by taking over all payment decisions.  It sets a price, and a doctor who attempts to charge above the price is simply not paid.  This authority then sets prices according to its whim.   The entity can offer doctors below market wages, resulting in patients flooding the system.  Or, it can establish above market prices, leading to it having to outlay huge amounts of money.

The latter becomes a significant problem.  The monopoly must somehow acquire (or create) the money needed to pay for all these treatments.

However, unless this entity can increase the supply of doctors, it cannot expand medical care.  Unless more doctors are permitted to go into practice, the number of patients that can be treated remains the same as under the Free Market + Medical Licensing.

This problem can be easily solved, by having the monopoly guarantee all doctors above market wages, as follows:

In the scenario above, every day four patients sought medical treatment.  The single doctor was only able to treat two.  So the monopoly arranges to pay two doctors $80.00 per visit, resulting in a greater capacity than exists under Free Market + Medical Licensing.  At this point, the monopoly is obligated to pay $320.00 per day to treat all four patients.  The total number of dollars people were prepared to part with for medical care was $110 + $80 + $60 + $50 or $300.00 total.   Thus, the monopoly has to extract $20.00 from someone to pay for the extra medical care, diverting that money from other, more highly desired ends from some actor somewhere in the economy.

The State

The state is well positioned to act as such a monopoly.  It can, though taxes, extract as many resources as the economy can supply in order to maintain the monopoly payments. Just as the state could, if its officers desire, land men on the moon, something that no organization depending on making a profit or voluntary donations will be able to do in the foreseeable future, the state could ensure that everyone gets reasonably good medical care.  However, this will come at significant cost.  The resources commandeered to pay these above market wages will necessarily impoverish the public.  In our scenario above, we had the state demanding that one or more people be forced to give $20.00 more than they would have liked to to cover the medical care of all actors.  This is money that would otherwise go to satisfying other consumer demands, such as food, better housing, beer or factories.

Additionally, the use of taxation to acquire the money needed generally means that patients pay $0.00 out of pocket.  This means that there is no cost (other than the lost time and inconvenience) for visiting the doctor.  This results in a massive spike in demand as people rush to visit the doctor more often.  Again, absent the lifting of the restriction on the number of practicing doctors, such a system will be plagued by long wait times and rationing via queues.

This power is also the state’s Achilles heel.  Unlike a charity that depends on voluntary donations, the state does not have to do a good job to get money.  Even if the state spends the money in a lousy, inefficient manner, the money will continue to flow into its coffers; people are denied the choice to withhold their money from the state.  Furthermore, for a government official, challenging inefficiency or generating efficient ideas requires effort.  The worse the problem being confronted the more effort the official must exert. Such efforts are often psychically unpleasant.  Thus a significant number of officials will find the disutility associated with the effort to do better will far outweigh any possible personal benefit they accrue.  Again, we see this phenomenon demonstrated in countless government offices.  for example a significant portion of Medicare funding is consumed by fraudulent charges.  Government officials turn a blind eye to the fraud since they run no risk of being bankrupt by excessive claims.  As an aside, the proponents of state provisioning of medical services love to cite the low administrative costs of Medicare as a good thing, whereas it is precisely the skimping on administrative oversight which causes the overbillers to be able to perpetrate their fraud with impunity indefinitely.

It is not surprising that numerous studies analyzing private (dependent on payments or voluntary donations) ventures with public ones (funded by force) performing similar tasks found that, on average, the private ventures delivered the same service at only 75% of the cost.

The importance of innovation

Having found that government provisioning of medical care is no panacea in the present, we should look at what is really required to make health care better for more people.

What is the engine driving improvements in medical care?  In the end, it is the desire of doctors to do a better job, whether from professional pride or from a desire for more revenue.  In a free market, an innovation requires only a doctor and a patient agreeing to try it out.  In an environment where the state pays for medical care, the doctor or patient must convince the state to permit the test being tried.  For very innovative ideas, especially ones that are likely to trigger an episode of creative destruction, where whole branches of the field will be rendered obsolete or redundant, it is possible that the state will refuse to permit the innovation to take place.

Medical treatments that are available to the poorest among us today were not available to kings two centuries ago.  Two centuries ago no economy could have afforded to extend even the pitiful medical care that kings received to the entire population.  It is only through innovation, the discovery of new and cheaper ways of doing thing, that the care afforded by the wealthy can become available to the basic population.

Let us see how this works in a free market.  Let us consider some case where a doctor invents a new procedure that allows him to treat a condition at one-tenth the cost of the current treatment in vogue.  Of course, he starts providing this treatment, and pocketing the massive profits that accrue to him as a result.  The news of his procedure gets out.  Other doctors also adopt the practice.  Initially all who adopt the practice make unusually high profits.  These high profits attract additional providers to try to treat people with this procedure.

As the number of providers treating patients increase, the market-clearing price starts to fall.  New providers offer lower and lower prices in an attempt to fill their schedules.  This process continues until the profits to be earned by treating patients with the new treatment is too low to attract additional providers.  The result is that many more people are having their condition treated than were before.

Any regimen that slows or short circuits this process of innovation has the effect of denying the poor access to future medical care.

The important thing is that state regulation does hamper innovation.  It can do no other.  The result, present state regulation is harmful to future patients, and past regulation is harmful to patients in the present.

Must We Lean on the State?

From the above analysis we can come to several conclusions:

1) It is impossible to make high quality medical care available to the most number of people while restrictive medical licensure laws make it difficult for new people to enter the medical profession.
2) While government action can expand the amount of care available today, it does so at an expense of less medical care in the future.
3) The government will either have to ration care, or heavily tax people to accomplish the goal of expanding medical care to more people in the short term.
4) The function performed by the state can be done more cost effectively by charities funded by donations.

Thus we see that the earlier assumption 4, that only the state can amass the needed resources, is not correct.

Additionally, we can question the applicability of assumption 3, given that most governments that provide medical care or subsidize it are representative ones, where the population picks the lawmakers.  Obviously, since government provisioning on health care is voted into law by representatives selected in popular elections, it is safe to say that a sizeable portion of the population are willing to donate money to care for those who are unable to afford care.

We can clearly see that the state is neither the only organization that can provide medical care, nor is it very efficient in doing so.

Conclusions

We can see that far from being heartless, the supporter of free markets is really attempting to make medical care cheaper and more widely available, and that the advocate of government involvement is inevitably arguing for a system that is inefficient,  not innovative and that in the long term will do a poor job of extending quality care to the poor who cannot afford it today.  While in the short term, the state can commandeer impressive resources and make massive strides towards acheiving some goal, in the long term such actions can be very detrimental.

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  • VRB

    If health care were only about doctor’s visits; “Life would be a bowl of Cherries.”

  • http://mrigmaiden.blogspot.com Mahndisa

    10 20 08

    “Illness is a stochastic process that visits people randomly”

    Generally that is true, except your model doesn’t take into account the Black Swan events of mass illness (on the order of the flu of 1918). In those events, who is to provide medical care when a large segment of the population is affected by a contagious and possibly deadly disease?

    These events are a public health nusuiance so the free market’s ability to turn away a person if they cannot afford to pay would further contribute to the spread of such illnesses.

    From a libertarian perspective, how can we handle PUBLIC HEALTH crises?

    Thanks:)

  • http://pith-n-vinegar.blogspot.com/ Quincy

    Mahndisa –

    Unlike a lot of libertarians, I believe that the government does have a role when it comes to protecting the public from diseases that are highly communicable and highly harmful. And you’re right to call it public health.

    What I object to is things like individual cholesterol and diabetes risk being monitored under the rubric of public health. If what I’ve got can’t cause another random person I come in contact with physical harm, it’s not *public* health. Period.

    —————————–

    tarran –

    As usual, top notch work.

  • http://mrigmaiden.blogspot.com Mahndisa

    10 20 08

    Thx Quincy:
    Yes, the nanny state is so lame! If they had their way we would not smoke cigars for special occasions or drink liquor at all! Now, perhaps I will do a post about this, but I do wonder what the libertarian response to a public health crisis should be. And the categorization of illness to public health issue can be fuzzy, I am thinking of AIDS in the early eighties and what role government should or should not have had in addressing that crisis.

    This is a great website and Tarran your work is readable for a simple gal like myself thanks.

  • http://pith-n-vinegar.blogspot.com/ Quincy

    AIDS is an interesting one. It’s communicable, but not in the same way that something like smallpox or the flu is. I’m really on the fence about it…

    Fellow contributors/commenters, what do you all think?

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  • http://www.no-treason.com Joshua Holmes

    tl;dr

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