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Market Failure in Healthcare

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Economics

Imagine that we didn’t have doctors during the Covid-19 pandemic. Even the mere thought of it makes us sad. How would we handle a pandemic without them? What about Nurses, carers, pharmacists, and other healthcare staff? If they were off duty, things would have been much worse.

The healthcare system is the heart of our very well-being and living. If it collapses or even if the system is disrupted, it will affect the whole market and the overall sustainability of our economic system.

Market Failure in Healthcare The NHS and its importance during the pandemic StudySmarterOne of the many messages thanking the NHS during the Covid-19 Pandemic, Unsplash.

Definition of market failure in healthcare

As you might know, market failure occurs when there is an inefficient distribution of goods and services in the market.

The healthcare market has always been considered an imperfect market. This is due to the availability of limited information and resources.

A good example of the limited information is the current situation with vaccines:

Vaccinations against Covid protect individuals against the virus and reduce the chances of one person infecting others. However, the vaccine hasn’t been understood and accepted by an important percentage of the population. This results in lesser consumption as compared to the actual need or supply in society. This results in Market Failure.

Market failure in healthcare: economics

We know the market runs on the concepts of demand and supply. The healthcare market is also about the demand and supply where consumers (patients) demand, and producers (doctors, pharmacists, medical research teams, nurses. etc.) supply.

However, the healthcare market has other features and agents that make it more complicated and that can cause a market failure.

The consumers (patients) are unaware of what illness they may have and what treatments they will need. That is why there are third parties like insurance agencies and the government. The insurance companies usually determine the allocation of the resources as they often pay the prices to the healthcare providers.

Causes of market failure in healthcare

The factors that can result in market failure are positive and negative externalities, monopoly power abuse, oversupply of demerit goods and undersupply merit goods, and lack of public goods.

To learn more about these topics, check out our explanations on Externalities, Monopoly and monopoly power, Merit and Demerit Goods, Public Goods, and Market Failure.

Healthcare also requires proper investments for research and a proper allocation of resources as it is considered a scarce service worldwide. Scarcity in the availability of healthcare resources, uneven distribution of knowledge about diseases, ill health, and medicines also result in market failure in healthcare.

Another cause of market failure is the undersupply of merit goods.

Let’s assume that the rate of increase in cancer is at 27% worldwide. However, the rate of supply of cancer curing vaccination is only at 15%. Hence, the undersupply of vaccination leads to a depletion of resource availability and a market failure.

Types of market failure in healthcare

Market failure in healthcare, like all market failures has four types: -Under-provision of merit goods and services -Imperfect information about the goods and services. -Externalities -Market Power

Underprovision of merit goods and services in healthcare

Even though we know that healthcare is a right and that it shouldn’t be denied to anyone on the basis of their age, sex, income, geographical areas, or any other reasons, there are times when people don’t receive timely healthcare.

In developing countries, where the healthcare system is weak, patients may not receive the treatment they need due to their hard-to-access location or due to resources not being available.

When there is a huge disparity between the availability of public and private healthcare services and the prices charged for those services, a few illnesses may be treated in private hospitals at very high prices, which makes services inaccessible to most people.

Low-income patients with chronic diseases may require interventions from private hospitals if government hospitals are not able to provide them with adequate care. The issue of affordability, however, means they may not receive the treatment they need if they can’t pay for it.

This results in a shortage of services in healthcare and then in a market failure.

Imperfect information about the goods and services

In this internet age, people are flooded with information about everything. However, wrong/incomplete and imperfect information can lead to adverse selection and moral hazard.

A person having a stomach ache may not always have just indigestion. It can be something more dangerous. If the person treats this pain by themselves and decided to take some homemade remedy without consulting an expert, this might lead to other health problems.

This lack of information or incomplete information about our health problems leads to market failures.

Another example of imperfect information is the overconsumption of fizzy drinks. These sugary drinks can lead to heart disease, diabetes, or high cholesterol. However, until recently many people didn’t know about these dangerous effects.

That is why, in certain countries, governments are now making it mandatory to mention the sugar units in these drinks to try to reduce the indirect impact they have on the healthcare system.

Externalities

Another factor leading to market failure in healthcare is the externalities. For example, passive smokers. They don’t smoke, but they inhale the smoke in the air, which can lead to health problems for them. Hence, this increases the pressure on the healthcare system as more people are developing lung diseases, asthma, etc.

This results in an inadequate supply of healthcare as compared to the estimated, as passive smokers weren’t taken initially into account. This leads to a market failure in the healthcare supply.

Market power

Market power is yet another factor that can affect healthcare. Let's say a neurologist is the best in the country and has a monopoly in treating particular brain diseases. They may be able to charge the fees they want and will enjoy the market power.

This might be unfair for the patients, but due to the availability of extraordinary talent and enjoying a monopoly, the surgeon will benefit.

Reasons for market failure in healthcare

Let’s study in more detail the reasons for market failure in the healthcare systems.

Inefficient allocation of resources

There is demand for healthcare all around the world. However, the demand may differ from country to county due to climatic differences, pollution levels, food consumption habits, etc. Hence, the demand for medications may differ.

However, if the same medication is provided worldwide at the same rate, it will not serve its purpose and result in a waste of useful resources which may be needed in another country. This inefficient allocation of resources can result in market failure in healthcare.

Limited competition due to limited entry

The entry into the healthcare market is limited and hence results in limited competition. One of the reasons for the limited entry is that there are standards to maintain. However, this has resulted in an undue advantage for some companies that can increase the cost of supplies.

Government intervention

Government intervention may be in the form of taxation, subsidies, or even regulations.

Taxations may result in an increase in the price of healthcare services or medicines, which can affect the purchasing power of the consumers. This results in market failure.

Another factor is subsidies. If the government grants tax subsidies in a few associated public healthcare sectors, the demand-supply gap between the public and private health sectors will increase. Public sector healthcare will be more demanded and services may be over-utilised.

In this case, the private insurance companies would also fail as they can’t compete with the public sector due to the subsidies.

Market failure in the UK’s healthcare system

The National Health Service (NHS) is the core of the UK's healthcare system. The NHS is considered one of the most reliable sources of healthcare. The NHS is guided by the principle that good healthcare should be available to all, regardless of their payment ability. The NHS is funded by the public.

Therefore, if anything goes wrong with the NHS service, it will lead to market failure in the UK's healthcare system.

Some examples of what could lead to market failure are:

Pharmacists go on strike: if pharmacists go on strike, this may affect the availability of medications and cause market failure.

Medical staff denies service: if all doctors, nurses, and social care workers deny their services, patients would be abandoned and this would cause market failure.

Ambulance drivers stop working: if ambulance drivers stop going to work, many people in the UK will not be able to reach the hospitals if they have a health emergency.

Market failure in Healthcare - Key takeaways

  • The healthcare market has always been considered an imperfect market. This is due to the availability of limited information and resources.
  • Like any market, the healthcare market has demand and supply. Consumers (patients) demand and producers (doctors, pharmacists, medical research teams, nurses, etc.) supply.
  • Besides demand and supply, other features of healthcare make the market prone to failure.
  • Market failure in healthcare, like all market failure, has four types:

    1. Underprovision of merit goods and services.
    2. Imperfect information about the goods and services.
    3. Externalities.
    4. Market power.
  • Scarcity in the availability of healthcare resources, uneven distribution of knowledge about diseases, ill health, and medicines result in market failure in healthcare.

Market Failure in Healthcare

Even though we know that healthcare is a right and that it shouldn’t be denied to anyone on the basis of their age, sex, income, geographical areas, or any other reasons, there are times when people don’t receive timely healthcare. 


For example, in developing countries, where the healthcare system is weak, patients may not receive the treatment they need due to their hard-to-access location or due to resources not being available. 


Underprovision of merit goods and services

Imperfect information about the goods and services

Externalities

Market power

The causes of market failure are: 

Inefficient allocation of resources

Limited competition due to limited entry

Government intervention (taxation, subsidies, regulations)

If the government implies tax subsidies on a few associated public healthcare sectors, the demand-supply gap between the public and private health sectors will increase. Public sector healthcare will be more demanded and services may be over-utilised. In this case, the private insurance companies also fail as they cannot compete with the public sectors due to the subsidies and the demand for public sector insurance is larger than that for private companies. 

The healthcare in the UK is provided by the NHS, which is funded by the public.

Final Market Failure in Healthcare Quiz

Question

The healthcare market is usually a perfect market.

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Answer

False

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Question

What are the factors that result in market failure?

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Answer

The factors that can result in market failure be it any form of markets are positive and negative externalities, monopoly power abuse, over or undersupply of demerits and merits goods respectively, and lack of public goods. 

Show question

Question

What can be some of the reasons for the market failure in healthcare?

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Answer

Scarcity in the availability of healthcare resources, uneven distribution of knowledge about diseases, ill health, and medicines result in huge market failure in healthcare. 

Show question

Question

What are the four types of market failure in health care?

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Answer

There are four types of market failure:

  1. Under-provision of goods and services.

  2. Imperfect information about the goods and services. 

  3. Externalities.

  4. Market power.

Show question

Question

What is imperfect information?

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Answer

Imperfect information occurs when the economic agents lack information about a good or any other information relevant to the transaction. 

Show question

Question

How do externalities lead to market failure? 

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Answer

Both positive and negative externalities can lead to market failure. Due to information failure, goods that cause both externalities are consumed inefficiently. 

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Question

How can the inefficient allocation of resources lead to market failure in healthcare?

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Answer

Healthcare is demanded worldwide. However, the demand may differ from country to county due to climatic differences, pollution levels, food consumption habits, etc. If the same medication is provided worldwide at the same rate, it will not serve its purpose and result in a waste of useful resources which may be needed in another country. Hence, inefficient allocation of resources can result in market failure in healthcare.

Show question

Question

How can government interventions lead to market failure in healthcare?

Show answer

Answer

Government intervention may be in the form of taxation, subsidies, or even regulations. Taxation may result in an increase in the price of healthcare services or even medicines, which can affect the purchasing power of the consumers resulting in market failure. 


Another factor is subsidies. If the government implies tax subsidies on a few associated public healthcare sectors, the demand-supply gap between the public and private health sectors will increase. Public sector healthcare will be more demanded and services may be over-utilised. 

Show question

Question

State an example of market failure in the healthcare system.

Show answer

Answer

In developing countries, where there is no single government system for healthcare, the patients may not receive the needed treatment due to their location and unavailability of enough resources. 


When there is a huge disparity between the availability of public and private healthcare services and the prices charged for those services, a few illnesses may be treated in private hospitals at very high prices and are inaccessible to all. 


Low-income patients with chronic diseases may require interventions from private hospitals if government hospitals are not able to provide them with adequate care. 


The issue of affordability, however, means they may not receive the treatment they need if the amount is not paid. In turn, this results in a shortage of services in healthcare, and then in market failure.

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