Medical Innovation and Pareto Optimality

Vilfredo Pareto

Vilfredo Pareto

Via Kevin Drum, Connor Friesersdorf raises something I’d been thinking a bit about lately: namely the theory that one of the key drivers of medical innovation is America’s willingness to spend significantly more on health care than other countries, thus creating a free-loader problem. More to the point though, the argument implies that if the U.S. implements a universal system that controls costs through non-market mechanisms (i.e., top-down rationing), medical innovation will shrink on the margins, thus reducing the likelihood of future groundbreaking treatments. In theory, the argument appears to make a lot of sense, and what’s more, being non-falsifiable in the present, is hard to rebut. Kevin Drum says this:

This is actually the only objection to national healthcare that I find sort of interesting.  But here’s the problem: the reason it’s hard to find a convincing rebuttal is because the argument itself is purely speculative in the first place.

Well, sort of (as Johnathan Cohn argues in depth here). But for the sake of discussion, let’s consider this in the realm of theory and think about the assumptions required to reach the conclusion of “lowered costs will reduce medical innovation”:

  1. “Medical Innovation” is a purely market good
  2. “Medical Innovation” is an elastic good
  3. “Medical Innovation” is at Pareto optimality*

Without being presumptuous, I think it should be pretty uncontroversial to remark that these three assumptions don’t resemble the reality we inhabit. For one, “Medical Innovation” is not a purely market good. In fact, a great deal of medical breakthroughs are made by academic researchers (to name a few: polio vaccination, penicillin, the MRI, human genome mapping, and stem cell research emerged or are being led by non-profit institutions). Second,”Medical Innovation” is not a highly elastic commodity, at least insofar as we can safely assume most people value their health. People need insulin, lower cholesterol, high t-cell counts, cancer treatment, etc. Even treatments for things like droopy-dick-disease and crazy-head restless leg syndrome aren’t particularly elastic. There’s just no substitute good for a boner.

But, let’s throw out these sensible objections and remain in the world of theory.

The most problematic part of this argument is that it’s grounding assumption provides that the current level of medical innovation is not Pareto optimal. Thus, proponents of the argument that universal health care will reduce innovation have a dilemma. On the one hand, they can hold the assumption of a “free-loader problem.” If this is the case, a slackening in demand in the United States should be picked up by increased demand elsewhere, and the free-loader problem is solved. On the other hand, it’s also possible that demand will not be picked up elsewhere, which would essentially expose the “free-loader problem” as a massive de facto subsidy for profit-seeking companies. And that, is a bad argument for profit-seeking companies to make, which, I imagine, is why you don’t hear the argument taken much further than platitudes about “preserving innovation.”

*UPDATE: I want to explain my reasoning here a little bit, because there are plenty of non-Pareto optimal situations where it’s possible, and in fact normal, to see a decline in production result from a decline in demand. However, if “Medical Innovation” were at such a level, you’d see pharmaceutical companies and other such medical innovators making the argument that current profitability levels are too low, and that explicit subsidy — direct or otherwise — would be required to meet demand for innovation. Because this proposition is on its face risible (as it happens, estimates of wasted care range from 10 to 30 percent of spending), the only other scenario in which a decline in demand would necessarily lead to a decline in innovation would be a point of Pareto optimality.


One Response to “Medical Innovation and Pareto Optimality”

  1. My Arguments in Charts « Repartay Says:

    […] Medical Innovation and Pareto Optimality […]

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