Lecture 5 Cos Benefits Methods

1. Health Economics
Lecture 5
Cost and Benefit
Evaluation Methods

2. Rational
Never intentionally
choose to be worse
off

3. Choices
What is life worth?
How do we measure?
Costs and Benefits?

4. Cost Benefit Analysis
(CBA)

5. Type of Costs
Direct Medical Costs
Direct Non-Medical Costs
Indirect Costs

6. Direct Medical Costs
Hospitals
Physicians
Nursing Homes
Tests and Examinations
Drugs

7. Direct Non-Medical
Costs
Transportation
Home Heath Care
Diet
Family Members

8. Indirect Costs
Time
Opportunity Costs
Lost Productivity

9. Benefits
(Diverted Costs)
Prevent Illness
Postpone Death
Restore Health
Increase Utility

10. 10
9
8
7
6
5
4
3
2
1
0
Net
Benefit
Cost
Benefit Less Cost
= Net Benefit

11. 10
9
8
7
6
5
4
3
2
1
0
A B C D E
Cost Benefits
Marginal
Costs
Marginal
Benefits

12. 10
9
8
7
6
5
4
3
2
1
0
Objective: Maximize Net Benefits
Just
Right
too
little too much
Marginal Costs Marginal Benefits

13. Expected Value
Probability of several
events

14. Expected Value
Identify events and outcomes
Assign probabilities
Must equal 100%
Outcome x Probability
Total of all

15. Expected Value
Event Probability Outcome Expected
A 50% 100 50
B 30% 50 15
C 20% 20 4
Total 100% 69

16. Expected Value
Event Probability Outcome Expected
A 80% 100 80
B 10% 50 5
C 10% 20 2
Total 100% 87

17. Expected Value
Event Probability Outcome Expected
A 80% 120 96
B 10% 80 8
C 10% 10 1
Total 100% 105

18. Discounting
Present Value
of the Future

19. 100
75
50
25
0
500
410 Discount Rate = 7%
71
Amount
Present Value
100 100 100 100 100
76
82
87
93
2014 2015 2016 2017 2018

20. Present Value or PV
1
(1+r)N
r = rate
N = number of periods

21. N PV
r = 10%
PV =? 1 .909
(1+r)N
2 .826
3 .751
4 .683
5 .621
1

22. Value of a Life
Human Capital Approach
Willingness-to-Pay Approach

23. Human Capital
Approach
Present value of all
production in a life

24. Human Capital
Approach
100,000 a year
30 years
Total = 3,000,000
10% discount
Present Value = 942,691

25. Human Capital
Approach
Only considers money
no leisure
no income = no value

26. Willingness-to-Pay
Approach
How much are you willing to
pay to reduce the probability
of dying?

27. Willingness-to-Pay
Approach
Value of Life =
Cost divided by
probability

28. 10 riyals to reduce
your chance of
dying by
1 in 100,000?
Value of Life = Cost ÷ Probability
Cost = 10
Probability = .00001
Value of Life = 10 ÷ .00001
Value of Life = 1,000,000

29. 500 riyals to
reduce your
chance of dying by
1 in 4,000?
Value of Life = Cost ÷ Probability
Cost = 500
Probability = .00025
Value of Life = 500 ÷ .00025
Value of Life = 2,000,000

30. Willingness-to-Pay
Approach
Usually higher than
human capital
approach estimate

31. What is one year of
your life worth?
Compare to the cost
of getting it

32. New Technology
Surgical diagnostic devices
Pharmaceutical,
Biomedical research
Information technology

33. Health
Health and Medical Costs
Medical Costs
New Innovation
New Innovation
More health for same cost
Same health for lower cost

34. Cost Effective Analysis
CEA
Compare the cost
effectiveness of two
or more options

35. Cost Benefit Analysis
What is the the dollar value of
the costs and benefits?
Cost Effective Analysis
Given an objective, what are
the costs of various
alternatives to achievement?

36. Incremental Cost
Effective Ratio
ICER
--
Cost new
Effectiveness new
Cost old
Effectiveness old
--
C1
E1
C2
E2

37. Cost
Less
Cost
More
More
Effective
Less
Effective

38. Option Cost
Effectiveness
Life Years
Cost
Effectiveness
Current 20,000 2 10,000
A 100,000 12 8,333
B 5,000 1 5,000
C 50,000 4 12,500
D 15,000 1 15,000

39. Life?
Quantity
versus
Quality

40. Quality-Adjusted
Life-Years
QALYs
Quantity x Quality

41. Higher
Quality
Lower
Quality
More
Years
Fewer
Years

42. Human Utility Index
Measure Quality
Scale
0 to 1
0 = death 1 = perfect

43. QALY Analysis
Life
Years Quality QALY
1 0.75 0.75
10 0.5 5.0
5 1 5.0
10 0.1 1.0

44. Human Utility Index
Rating Scale
Standard Gamble
Time Trade-off

45. Rating Scale
Individuals are
surveyed
Results = HUI

46. Standard Gamble
Two choices
A. Live with less than perfect
condition
B. Procedure with probability of
perfect health or
(one minus probability) of death

47. Standard Gamble
Two choices
A. Blind
B. Cure blindness or death
Probability on procedure = HUI

48. Time Trade-Off
Two choices
A. Live X years with perfect health
B. Live Y years with condition
X÷Y = HUI

49. Cost Utility Ratio
--
Cost new
QALYs new
Cost old
QALYs old

50. CEA versus CUA
Option Cost
Life
Years CEA
Health
Utility
Index
QALY CUA
Current 20,000 2 10,000 0.7 1.4 14,286
New 110,000 12 9,167 0.4 4.8 22,917
Gain 90,000 10 9,000 3.4 26,471
New 2 110,000 12 9,167 0.8 9.6 11,458
Gain 90,000 10 9,000 8.2 10,976

51. Summary
Scarcity requires choices
Cost-Benefit Analysis - CBA
What is a life worth?
Human Capital vs. Willingness-to-Pay
Cost Effectiveness Analysis - CEA
Life Year Saved - LY
Ratio Comparisons
Cost Utility Analysis - CUA
Health Utility Index - HUI
Survey, Standard Gamble, Time Trade Off
Quality-Adjusted Life Year - QALY
Ratio Comparisons