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Estimating the price elasticity of expenditure for prescription drugs in the presence of non-linear price schedules: an illustration from Quebec, Canada

  • Paul Contoyannis
  • Jeremiah Hurley
  • Paul Grootendorst
  • Sung-Hee Jeon
  • Robyn Tamblyn

    (Department of Epidemiology and Biostatistics, McGill University, Canada)

The price elasticity of demand for prescription drugs is a crucial parameter of interest in designing pharmaceutical benefit plans. Estimating the elasticity using micro-data, however, is challenging because insurance coverage that includes deductibles, co-insurance provisions and maximum expenditure limits create a non-linear price schedule, making price endogenous (a function of drug consumption). In this paper we exploit an exogenous change in cost-sharing within the Quebec (Canada) public Pharmacare program to estimate the price elasticity of expenditure for drugs using IV methods. This approach corrects for the endogeneity of price and incorporates the concept of a 'rational' consumer who factors into consumption decisions the price they expect to face at the margin given their expected needs. The IV method is adapted from an approach developed in the public finance literature used to estimate income responses to changes in tax schedules. The instrument is based on the price an individual would face under the new cost-sharing policy if their consumption remained at the pre-policy level. Our preferred specification leads to expenditure elasticities that are in the low range of previous estimates (between −0.12 and −0.16). Naïve OLS estimates are between 1 and 4 times these magnitudes. Copyright © 2005 John Wiley & Sons, Ltd.

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File URL: http://hdl.handle.net/10.1002/hec.1041
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Article provided by John Wiley & Sons, Ltd. in its journal Health Economics.

Volume (Year): 14 (2005)
Issue (Month): 9 ()
Pages: 909-923

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Handle: RePEc:wly:hlthec:v:14:y:2005:i:9:p:909-923
Contact details of provider: Web page: http://www3.interscience.wiley.com/cgi-bin/jhome/5749

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  1. Keeler, Emmett B & Newhouse, Joseph P & Phelps, C E, 1977. "Deductibles and the Demand for Medical Care Services: The Theory of a Consumer Facing a Variable Price Schedule under Uncertainty," Econometrica, Econometric Society, vol. 45(3), pages 641-55, April.
  2. Gerald Auten & Robert Carroll, 1999. "The Effect Of Income Taxes On Household Income," The Review of Economics and Statistics, MIT Press, vol. 81(4), pages 681-693, November.
  3. Zweifel, Peter & Manning, Willard G., 2000. "Moral hazard and consumer incentives in health care," Handbook of Health Economics, in: A. J. Culyer & J. P. Newhouse (ed.), Handbook of Health Economics, edition 1, volume 1, chapter 8, pages 409-459 Elsevier.
  4. M Ryan & S Birch, 1991. "Charging for Health Care: Evidence on the Utilization of NHS Prescribed Drugs," Centre for Health Economics and Policy Analysis Working Paper Series 27, Centre for Health Economics and Policy Analysis (CHEPA), McMaster University, Hamilton, Canada.
  5. Van de ven, Wynand P.M.M. & Ellis, Randall P., 2000. "Risk adjustment in competitive health plan markets," Handbook of Health Economics, in: A. J. Culyer & J. P. Newhouse (ed.), Handbook of Health Economics, edition 1, volume 1, chapter 14, pages 755-845 Elsevier.
  6. Moffitt, Robert, 1990. "The Econometrics of Kinked Budget Constraints," Journal of Economic Perspectives, American Economic Association, vol. 4(2), pages 119-39, Spring.
  7. Leibowitz, Arleen & Manning, Willard G. & Newhouse, Joseph P., 1985. "The demand for prescription drugs as a function of cost-sharing," Social Science & Medicine, Elsevier, vol. 21(10), pages 1063-1069, January.
  8. Randall P. Ellis, 1986. "Rational Behavior in the Presence of Coverage Ceilings and Deductibles," RAND Journal of Economics, The RAND Corporation, vol. 17(2), pages 158-175, Summer.
  9. Hausmann, J. A. & Kinnucan, M. & McFaddden, D., 1979. "A two-level electricity demand model : Evaluation of the connecticut time-of-day pricing test," Journal of Econometrics, Elsevier, vol. 10(3), pages 263-289, August.
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