Law of Demand and supply
Introduction
In economics, the law of demand and supply is one of the essential theories governing an economy. The theory of demand and supply determines price, accessibility, and the demand for a given service or product. Demand definition is the willingness of consumers to purchase a certain good or service in the market. The cost of the service or good reflects the consumer’s buying decision. The demand for an item is high when its price is lower than other supplementary goods. The curve of demand theory slopes downward due to the inverse relationship.
Alternatively, supply is the willingness of a firm to produce a certain amount of services and goods over an episode of time. Firms’ main aim is to maximize profits; hence, the higher the price of a service or good, the higher the revenue. The law of supply states that, under constant conditions, the higher the price of goods and services, the higher the quantities supplied. The curve of supply slopes upward due to the direct relation between price, and quantities supplied.
Equilibrium results when the supply and demand curves intersect. This is the point where producer supply and consumer demands intersect each other. When this happens, an equilibrium price and quantity is the result. Shortage occurs when the price of a good is below equilibrium. This is because demand becomes higher than the capacity the suppliers can produce. Price should increase until it reaches equilibrium to eliminate shortage. Alternatively, surplus occurs when the price of a good is higher than the equilibrium. In order to curb surplus, the price of the good falls until it reaches equilibrium (Tucker, 2010).
Demand and supply curves
price
supply
KEY
P3 C P1-equilibrium price
P1
Equilibrium (A) Q1-Equilibrium quantity
P2
B
Demand
Q1 Q2
Quantity
Overview of Medicare
Congress founded Medicare in 1996 to guarantee access to high medical attention by the aged. It is evident that Medicare is the principal health assurance plan in the nation. It guarantees insurance for disabled people below sixty five years, old people above sixty five years, and people with fatal kidney failure (Wolfson & Tuohy, 1980). There are two sections under the benefits of this program. Section A is the hospital insurance while section B is the Supplemental Medical Insurance. Part A helps for inpatient medical need, hospice care, and trained nursing capacity services of a hospital stay. Initially, it was available to a person above sixty five years, but later it became available for to people adequate for old age, Disability and Survivor insurance retirement advantages. Other people can enter in the program after a payment of premium. Part B assists to pay for outpatient hospital, selected physician, laboratory, and several services. This part is voluntary and requires monthly payment of premium.
Medicare goes through many transformations. This is because there is a requirement to keep in contact with the changing health services and private sector practices. The lack of dollar boundaries on recipients cost sharing responsibilities positions beneficiaries with widespread health care necessitates at danger for extremely large expenditure on Medicare-covered services. Medicare’s shortage of coverage for some services such as outpatient drugs can make beneficiaries have extensive financial risk (Moon, 2004).
There is call for attention for the rising cost of Medicare services in the health sector. People spend an enormous amount of money so as to get medical attention. The law of demand and supply can be used to understand many Medicare related issues. Medicare costs continue to rise despite the efforts made by the policymakers to constrain the costs. Previous plans to limit costs may be suitably demarcated into attempts to constrain supply side aspects considered to cause a rise in costs of Medicare, and efforts to restrain demand side factors.
Causes of Medicare increased spending
Many people blamed the rising in Medicare costs on the increase in the costs of hospital services and physician. Early attempts to control this raise focused on philosophy that constrains on physician discretion or reimbursement in using hospital services, or both, could yield the preferred outcomes. Despite the repeated efforts to manage Medicare expenditure, inclusive of freezing physician payments, expenditures persist in growing. A growth of this expenditure was seventeen percent annually between 1967 and 1985.
Three explanations outline the increased expenditure in Medicare. The first clarification is that there exists distinction in illness. This difference of illness is due to short term misfortune, environmental hazards, long term illness or genetic factors. The second explanation focuses on different demand of medical care conditional on sickness. Demographic issues like income and race may influence medical expenditure in controlled researches. Indemnity coverage can also affect spending. The third hypothesis is that exogenous variations in the organization of Medicare markets have an effect on cost.
Impact of Insurance
There is no exception for health care services when it comes to demand. Therefore, there is a downward sloping curve for goods and services in the industry. Customers are remarkably predictable for they respond to adjustments of price of health care. We assume that units of health care measures health care services. Without insurance, consumer purchases Q1 of health units at a price of P1 per unit. Taking assumption that the supply curve represents quantity supplied and demand curve represent the quantity demanded their intersection yields the equilibrium. At this time, the total cost of health services can be calculated by multiplying the price of health care with the quantity demanded, that is, P1QI. It can also be calculated geometrically by the rectangle P1Q1.
Demand of health care is hard to analyze since a third party finances it. Medicare and Medicaid are the health organizations that pay bills for health care. The price of health care, therefore, is dependent of copayment rate. This is the percentage of the health cost that a consumer pays out of their pocket.
Assuming that patients pay twenty percent of the total bill, the quantity of health services demanded increases to Q2 due to lowered price of P2. At this point, the consumer pays the total amount of BP2Q2, and Medicare pays CP3BP2. With insurance paying some bill for patients, the quantity of services supplied increases. The increase in the quantity supplied is from point A to C along the supply curve, where the quantity supplied equals the quantity demanded. The main reason there is the lack of shortage in health care sector is that, the payment paid by both consumer and insurance is the total payment necessary for an upward movement in the supply curve.
Individual health care sectors make the entire market be a failure. For instance, if there were constant prices in the sector, there would be no competition. Distribution of the health care services is also a paramount concern. This is the reason why Medicare focuses on helping the unfortunate people in the community.
Demand in Medicare
Health status- Consumers make a comparison of insurance plans and make difficult exchanges between services and prices. People use the theory of demand and supply to make decisions concerning insurance policy. Health status attributes to purchase of Medicare insurance. Health status is a normal, good showing how people purchase insurance and their risk patience due to their sickness possibilities. A crucial determinant of insurance ownership is the health status of an individual. People with less health hazards are not likely to purchase insurance while those with many health problems are likely to buy insurance.
Expected cost of health care- The expected cost of health care is a determinant of whether the consumer will purchase insurance or not. People’s preference is on the certainty risk they would easily supplement incase of higher costs. People may be willing to buy Medicare insurance if the cost is affordable. Otherwise, they may tend to look for supplement insurer like Medigap if Medicare cost is high (Nyman, 2003).
Premium- Premium analysis is highly crucial when it comes to demand of insurance. The main aspect in the theory of demand and supply is the determination of price. One chief contender in health reform is the controlled competition approach. This seeks to regulate cost and market motivation by making people encounter the full cost discrepancy between less or more expensive health strategies. This encourages cost-awareness shopping by consumers and thus competition plans. Consumers have price sensitivity when it comes to purchasing of insurance. Old people (sixty five years and above) have a privilege of receiving health care services free of charge. The less fortunate members in the society also receive free Medicare services. However, normal people pay a certain amount of premium for them to receive Medicare services.
Demographic features- Demographic factors can be defined as the individual features that yield differenced in the propensity to make a decision on certain purchases. This includes education, age, race and gender. These characteristics ultimately reflect the consumer’s aversion to risk. This predicts the insurance company the consumer will choose. People aged above sixty five years have a free insurance from Medicare services. In addition, people with disabilities are also beneficiaries of Medicare services. However, normal people purchase insurance after paying a premium.
Changes in initial wealth- Income increase increases the purchase of insurance. Wealth and income rise increases the probability of making a choice of the provider who offers most beneficial and quality insurance. Therefore, an increase in income will raise the demand of Medicare insurance.
Tax treatment- Health Insurance raises healthcare expenditure to the extent that it lowers the cost of services to people. Payments reserved by employers to pay for insurance do not incur to income tax. Therefore, more money is available for insurance for there is no taxation. This makes an individual purchase richer health insurance benefits (Chang, 1996).
Shift in demand
Primarily, the change in price causes movement along the demand curve. However, other factors cause a shift in the demand curve. These factors do not depend on price of health care and include (Santerre & Neun, 2009):
Insurance Impact- When there is no insurance policy applied, the market attains equilibrium at point A, with a quantity of Q1 and price of P1. The total spending sums to Q1AP1. With insurance payment, consumer pays a lower price of P2 and the quantity demanded add to Q2. Total cost of heath care rises to P3CQ2, with BP2CP3 paid by the insurer and P2BQ2 paid by the patient. This results to an increase in quantity supplied from A to C, where it equivalent the quantity demanded Q2 (Sorkin, 1992).
Demand for Medicare Insurance- The satisfaction maximizing policyholder will make a choice of the risks involved in the price of insurance and fractional coverage. People buy insurances due to uncertainties of life. That is the explanation why people change their standard utility theory when it comes to the purchase of insurance. For example, when a consumer has two choices to make like to choose between losing and getting nine hundred dollars instantly of having a ninety percent of winning one thousand dollars, the consumer makes a choice that yields the highest utility. This is the consumer preferences. Utility represents the preferences that a consumer has over a set of services and good. There are two main types of utilities namely; cardinal and ordinal utility. Cardinal utility measures the magnitude of utility while the ordinal utility measures through ranking. In Medicare, people choose the insurance policies that meet their satisfaction.
Income-Health care is an example of a normal good. Rise in inflation-regulated income of a consumer causes demand curve shift to the right. If the income of the consumer falls, there is left shift of the demand curve for health care. If revenue remains constant, there is no shifting in the demand curve.
Preferences and taste- Consumer’s choice of healthcare services has an effect on the change in demand of insurance. For instance, magazines, movies, television, and advertisements may be accountable for changes in consumer’s choice for cosmetic surgery. Doctors may play an enormous role of influencing consumer’s preferences by prescription of treatment. People believe that some doctors order more office visits or tests than needed so that they can boost their income. Estimates show that abuse and fraud account for more than ten percent of total spending in the health care market. Many procedures are also inappropriate according to research (Aaron, 1994).
Price of substitutes good-when the price of substitute medical services and goods change, the demand for other medical services also changes. If the Medigap organization lowers its premium rate, people prefer Medigap insurances to Medicare ones. This makes the Medicare demand curve to shift to the left. Back problem treatment by a chiropractor is an alternative for the back treatment given by orthopedic doctors. In this case, when the price of orthopedic remedy increases, people may switch to the treatment by a chiropractor. The demand curve for chiropractic treatment shifts on the right due to increase in services offered (Henderson, 2011).
Factors that affect supply of insurance
These are the factors affecting the type and quantity supplied to the patient. They include:
Supplier-Induced demand- this is the change in demand for health care in relation to influence of health providers over patients. Physicians tend to take advantage of the situation so that they can earn an added income. This induced demand may increase supply of health services therefore, increase the supply of Medicare insurances.
Company’s Regulations- Insurances companies have their rules and qualifications that an individual should satisfy before their entrance in the company (Feldstein, 2011). Medicare specifies that an old person (sixty years and above) receives free insurance. Therefore, one has to prove that he or she is of the required age before entry. In addition, physically unfit people should also prove themselves to be unfit so that they can have free insurance.
Government regulations and policies- Like any other normal goods, government policies have an effect on the supply of insurances to individuals. Government interferences can be felt in terms of health and environmental regulations, taxes and wage laws. This might affect the supply of Medicare insurance for it is a public organization.
Shift in supply
Some factors other than price can cause a shift in the supply of health care. They include;
Resource prices- increase in the price of the resources used in health care sector shifts the supply curve of insurance to the left. Without a doubt, the solitary most significant factor behind mounting health care expenditure is the technological change. Extensive use of new technological innovations in surgical, therapy and diagnostic equipment leads to higher costs in the healthcare industry. Salaries, wages and other fixed costs also affect the supply curve. For example, if health centers are paying high value for inputs exploited to generate healthcare, the supply curve shifts to the left. This is because the quantities produced supply is at a higher cost to meet the cost of production.
Conclusion
Theory of demand and supply is highly crucial when it comes to determining the kind of insurance one would purchase. These theories are effective in prediction purchasing power of people at a certain period of time. Medicare should use these principles to set the premium of their insurances in such a way that they become affordable to all classes of people in the community. What Medicare should understand is that there exist other insurance companies which offer good services with fewer premiums. Therefore, it should reduce for better service to the public.
Aaron, H. (1994). Thinking straight about medical costs. Health affairs 13,5.
Chang, F. (1996). Uncertainity and investment in health. Journal of health economics.
15, 369-376.
Feldstein, P. (2011).Health care economics. New York: Cengage Learning.
Henderson, J. (2011). Health economics and policy. New York: Cengage Learning.
Santerre, R. & Neun, S. (2009). Health economics. New York: Cengage Learning.
Moon, M. (2004). How beneficiaries fare under the new medicare drug bill. New York:
Commonwealth fund.
Nyman, J. (2003). Theory of demand for health insurance. New York: Stanford
Sorkin, A. (1992).Health economics: an introduction. New York: Lexington Books
Tucker, I. (2010) .Microeconomics for today. New York: Cengage Learning
Wolfson, A. & Tuohy, C. (1980). Opting out of Medicare: private medical markets in Ontario. Canada: University of Toronto Press
