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Investment In Hospital Care Technology Under Different Purchasing Rules: A Real Option Approach

  • Rosella Levaggi
  • Moretto Michele

In this article, we analyse the optimal investment decision in a new health care technology of a representative hospital that maximises its surplus in an uncertain environment. The new technology allows the hospital to increase the quality level of the care provided, but the investment is irreversible. The article uses the framework of the real option literature to show how the purchasing rules might influence the level of investment. We show that the investment in new technology is best incentivate within a long term contract where the number of treatments reimbursed depends on the level of investment made in the period when the technology is new. In this way, asymmetry of information does not affect the outcome of the contract. In our model in fact the purchaser can verify the level of the investment only at the end of each period but the purchasing rule has an anticipating effect on the decision to invest.

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Article provided by Wiley Blackwell in its journal Bulletin of Economic Research.

Volume (Year): 60 (2008)
Issue (Month): 2 (04)
Pages: 159-181

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Handle: RePEc:bla:buecrs:v:60:y:2008:i:2:p:159-181
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  1. Gaynor, Martin & Vogt, William B, 2003. " Competition among Hospitals," RAND Journal of Economics, The RAND Corporation, vol. 34(4), pages 764-85, Winter.
  2. Chalkley, M. & Malcomson, J.M., 2001. "Cost Sharing in Health Service Provision: An Empirical Assessment of Cost Savings," Economics Series Working Papers 9969, University of Oxford, Department of Economics.
  3. Abel, Andrew B., 1952-, 1995. "Options, the value of capital, and investment," Working papers 3843-95., Massachusetts Institute of Technology (MIT), Sloan School of Management.
  4. Bos, Dieter & De Fraja, Gianni, 2002. "Quality and outside capacity in the provision of health services," Journal of Public Economics, Elsevier, vol. 84(2), pages 199-218, May.
  5. Rossella Levaggi & Michele Moretto & Vincenzo Rebba, 2007. "Investment decisions in hospital technology when physicians are devoted workers," "Marco Fanno" Working Papers 0048, Dipartimento di Scienze Economiche "Marco Fanno".
  6. Chalkley, M. & Malcomson, J.M., 1998. "Government purchasing of health services," Discussion Paper Series In Economics And Econometrics 9821, Economics Division, School of Social Sciences, University of Southampton.
  7. Frank A. Sloan & Gabriel A. Picone & Donald H. Taylor, Jr. & Shin-Yi Chou, 1998. "Hospital Ownership and Cost and Quality of Care: Is There a Dime's Worth of Difference?," NBER Working Papers 6706, National Bureau of Economic Research, Inc.
  8. Gravelle, Hugh & Masiero, Giuliano, 2000. "Quality incentives in a regulated market with imperfect information and switching costs: capitation in general practice," Journal of Health Economics, Elsevier, vol. 19(6), pages 1067-1088, November.
  9. Chalkley, Martin & Malcomson, James M, 1998. "Contracting for Health Services with Unmonitored Quality," Economic Journal, Royal Economic Society, vol. 108(449), pages 1093-1110, July.
  10. Elizabeth Docteur & Howard Oxley, 2003. "Health-Care Systems: Lessons from the Reform Experience," OECD Health Working Papers 9, OECD Publishing.
  11. Gary Biglaiser & Ching-to Albert Ma, 2000. "Price and Quality Competition under Adverse Selection: Market Organization and Efficiency," Papers 0102, Boston University - Industry Studies Programme.
  12. Baker, Laurence C., 2001. "Managed care and technology adoption in health care: evidence from magnetic resonance imaging," Journal of Health Economics, Elsevier, vol. 20(3), pages 395-421, May.
  13. Pindyck, Robert S, 1991. "Irreversibility, Uncertainty, and Investment," Journal of Economic Literature, American Economic Association, vol. 29(3), pages 1110-48, September.
  14. Ellis, Randall P., 1998. "Creaming, skimping and dumping: provider competition on the intensive and extensive margins1," Journal of Health Economics, Elsevier, vol. 17(5), pages 537-555, October.
  15. Bergstrom, Theodore & Blume, Lawrence & Varian, Hal, 1986. "On the private provision of public goods," Journal of Public Economics, Elsevier, vol. 29(1), pages 25-49, February.
  16. Ching-to Albert Ma, 1994. "Health Care Payment Systems: Cost and Quality Incentives," Papers 0047, Boston University - Industry Studies Programme.
  17. Gravelle, Hugh, 1999. "Capitation contracts: access and quality," Journal of Health Economics, Elsevier, vol. 18(3), pages 315-340, June.
  18. Levaggi, Rosella, 1999. " Optimal Procurement Contracts under a Binding Budget Constraint," Public Choice, Springer, vol. 101(1-2), pages 23-37, October.
  19. Rosella Levaggi, 2007. "Regulating internal markets for hospital care," Journal of Regulatory Economics, Springer, vol. 32(2), pages 173-193, October.
  20. Rosella Levaggi, 2005. "Hospital Health Care: Pricing and Quality Control in a Spatial Model with Asymmetry of Information," International Journal of Health Care Finance and Economics, Springer, vol. 5(4), pages 327-349, December.
  21. repec:tpr:qjecon:v:115:y:2000:i:2:p:577-615 is not listed on IDEAS
  22. Avinash Dixit, 1992. "Investment and Hysteresis," Journal of Economic Perspectives, American Economic Association, vol. 6(1), pages 107-132, Winter.
  23. Rosella LEVAGGI & Lise ROCHAIX, 2007. "Exit, Choice Or Loyalty: Patient Driven Competition In Primary Care," Annals of Public and Cooperative Economics, Wiley Blackwell, vol. 78(4), pages 501-535, December.
  24. Palmer, Stephen & Smith, Peter C., 2000. "Incorporating option values into the economic evaluation of health care technologies," Journal of Health Economics, Elsevier, vol. 19(5), pages 755-766, September.
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