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Demand Uncertainty and Hospital Costs: an Application to Portuguese NHS Hospitals

Author

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  • Alvaro Almeida

    () (CEF.UP and Faculdade de Economia, Universidade do Porto)

  • Joana Cima

    () (Faculdade de Economia, Universidade do Porto)

Abstract

In this paper, we evaluate the effect of demand uncertainty on hospital costs. Since hospital managers want to minimize the probability of not having enough capacity to satisfy demand, hospitals have to build excess capacity since demand is uncertain, and incur on the associated costs. Using panel data that comprises information for 43 Portuguese NHS hospitals for the period 2007 to 2009, we estimate a translog cost function that relates total variable costs to the usual variables (outputs, the price of inputs, some of the hospitals’ organizational characteristics) and an additional term measuring the excess capacity related to the uncertainty of demand. Demand uncertainty is measured as the difference between actual and projected demand for emergency services. Our results indicate that the cost function term associated with the uncertainty of demand is significant, which means that cost functions that do not include this type of term may be misspecified. For most of our sample, hospitals that face higher demand uncertainty have higher excess capacity and higher costs. Furthermore, we identify economies of scale in hospital costs, at least for smaller hospitals, suggesting that a policy of merging smaller hospitals would make a significant contribution to the reduction of hospital costs.

Suggested Citation

  • Alvaro Almeida & Joana Cima, 2013. "Demand Uncertainty and Hospital Costs: an Application to Portuguese NHS Hospitals," FEP Working Papers 499, Universidade do Porto, Faculdade de Economia do Porto.
  • Handle: RePEc:por:fepwps:499
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    File URL: http://www.fep.up.pt/investigacao/workingpapers/wp499.pdf
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    References listed on IDEAS

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    1. Mike Smet, 2007. "Measuring performance in the presence of stochastic demand for hospital services: an analysis of Belgian general care hospitals," Journal of Productivity Analysis, Springer, vol. 27(1), pages 13-29, February.
    2. Vitaliano, Donald F., 1987. "On the estimation of hospital cost functions," Journal of Health Economics, Elsevier, vol. 6(4), pages 305-318, December.
    3. C. A. Knox Lovell & Ana Rodríguez-Álvarez & Alan Wall, 2009. "The effects of stochastic demand and expense preference behaviour on public hospital costs and excess capacity," Health Economics, John Wiley & Sons, Ltd., vol. 18(2), pages 227-235.
    4. Hughes, David & McGuire, Alistair, 2003. "Stochastic demand, production responses and hospital costs," Journal of Health Economics, Elsevier, vol. 22(6), pages 999-1010, November.
    5. Duncan, Gregory M, 1990. "The Effect of Probabilistic Demands on the Structure of Cost Functions," Journal of Risk and Uncertainty, Springer, vol. 3(3), pages 211-220, September.
    6. Gaynor, Martin & Anderson, Gerard F., 1995. "Uncertain demand, the structure of hospital costs, and the cost of empty hospital beds," Journal of Health Economics, Elsevier, vol. 14(3), pages 291-317, August.
    7. Baker, Laurence C. & Phibbs, Ciaran S. & Guarino, Cassandra & Supina, Dylan & Reynolds, James L., 2004. "Within-year variation in hospital utilization and its implications for hospital costs," Journal of Health Economics, Elsevier, vol. 23(1), pages 191-211, January.
    8. Smet, Mike, 2002. "Cost characteristics of hospitals," Social Science & Medicine, Elsevier, vol. 55(6), pages 895-906, September.
    9. Vita, Michael G., 1990. "Exploring hospital production relationships with flexible functional forms," Journal of Health Economics, Elsevier, vol. 9(1), pages 1-21, June.
    10. Breyer, Friedrich, 1987. "The specification of a hospital cost function : A comment on the recent literature," Journal of Health Economics, Elsevier, vol. 6(2), pages 147-157, June.
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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. #HEJC papers for September 2013
      by academichealtheconomists in The Academic Health Economists' Blog on 2013-09-01 04:01:38

    More about this item

    Keywords

    hospitals; demand uncertainty; cost function;

    JEL classification:

    • D24 - Microeconomics - - Production and Organizations - - - Production; Cost; Capital; Capital, Total Factor, and Multifactor Productivity; Capacity
    • I11 - Health, Education, and Welfare - - Health - - - Analysis of Health Care Markets

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