NOTE: This article is the third in a series of 10 articles and is part of our Health Economics 101 course. You can find a course overview and links to all 10 course modules here:
- Health Economics 101: Course Overview
- Module 1: Introduction to Health Economics
- Module 2: Demand and Supply of Health Care
- Module 3: Health as an Economic Good
- Module 4: Health Insurance and Risk Management
- Module 5: Economic Evaluation in Health Care
- Module 6: Health Systems and Health Care Financing
- Module 7: Market Competition and Provider Payment Mechanisms
- Module 8: Equity and Efficiency in Health Care
- Module 9: Health Policy and Regulation
- Module 10: Current Issues and Future Directions in Health Economics
Health as an Economic Good
Health is a fundamental aspect of human well-being, but it is also a complex and often misunderstood economic good. Unlike typical commodities traded in markets, health and health care possess unique characteristics that challenge conventional economic analysis. Health cannot be bought or sold in the usual sense, and health care markets exhibit several forms of market failure. These failures necessitate government intervention to ensure that health systems function effectively, equitably, and efficiently.
Unique Characteristics of Health and Health Care
Health, in economic terms, can be seen both as a consumption good (because it contributes to individual well-being and quality of life) and as an investment good (because it enhances productivity, reduces absenteeism, and extends lifespan). However, health differs significantly from typical goods in several ways:
- Intangibility and Measurement Difficulty: Health itself is difficult to measure precisely. Unlike goods such as food or clothing, health status is a latent construct often inferred through proxies such as life expectancy, morbidity rates, or functional ability
- Derived Demand for Health Care: Health care is not demanded for its own sake but because it contributes to health. This derived nature makes health care demand contingent on beliefs about effectiveness, which may or may not reflect actual benefit
- Uncertainty and Risk: The onset of illness and the effectiveness of medical treatment are both inherently uncertain. This makes insurance and risk pooling essential components of health systems
- Inelasticity of Demand: In many cases—such as emergencies or chronic disease—patients will seek care regardless of cost, making demand less responsive to price compared to other goods
- Provider-Patient Relationship: Health care involves complex interpersonal dynamics and trust. Providers (physicians) often act as agents for patients, leading to potential imbalances in information and decision-making power
These features distinguish health care markets from traditional competitive markets and make health a unique economic good.
Market Failures in Health Care
Market failure occurs when free markets, left to their own devices, fail to allocate resources efficiently or equitably. Health care is characterized by several key market failures:
1. Externalities
Health and health care often produce positive externalities, meaning that the benefits extend beyond the individual consumer. For example, vaccinations protect not only the individual but also the broader population through herd immunity. Similarly, early diagnosis and treatment of infectious diseases reduce transmission risks.
Negative externalities can also arise—such as the public health burden caused by antibiotic resistance due to overuse. In both cases, private markets may under- or over-supply health care services unless corrective policies are enacted.
2. Asymmetric Information
One of the most significant failures in health care markets is information asymmetry. Patients typically lack the medical knowledge to assess the need for or quality of care and must rely on providers, who possess more information. This creates a “principal-agent problem,” where providers may influence demand in ways that serve their own interests (e.g., supplier-induced demand).
Insurers also face information gaps: patients often know more about their health risks than insurers, leading to problems like adverse selection (sicker individuals are more likely to seek insurance) and moral hazard (insured individuals may consume more care than necessary).
In addition to lack of clarity around quality and/or the need for health care, consumers have limited to no information about prices. In contrast, functioning markets deliver adequate information about quality and prices of their offerings.
3. Public Goods
Some health interventions qualify as public goods—they are non-rivalrous (one person’s use does not reduce availability to others) and non-excludable (no one can be prevented from benefiting). Examples include disease surveillance systems and public health education campaigns. Because markets have little incentive to provide such goods, public provision or subsidy is necessary.
Role of Government in Health Care Markets
Given the market failures described, government intervention in health care is both necessary and justified on efficiency and equity grounds. The government can perform several vital roles:
1. Regulation and Quality Assurance
Governments regulate the licensing of professionals, approve pharmaceuticals and medical devices, and monitor the quality and safety of care. This addresses information asymmetries and protects consumers from harm.
2. Financing and Insurance
In many countries, the state plays a central role in financing health care, either through tax-funded national health services (e.g., the UK) or through social health insurance systems (e.g., Germany). Public financing pools risk and promotes equity, enabling access regardless of income or health status.
3. Provision of Public Goods and Services
Governments are uniquely positioned to provide or finance public health goods, such as immunization campaigns, sanitation, and epidemic response systems. These services are critical to population health but often underprovided by private markets.
4. Redistribution and Equity Promotion
Markets tend to allocate resources according to ability to pay, not need. The government can redistribute resources through progressive financing mechanisms, subsidies, and safety nets to ensure equitable access to health care. This is essential in safeguarding the principle of health as a human right.
5. Stewardship and Planning
Governments act as stewards of the health system, setting strategic priorities, planning the health workforce, and investing in infrastructure. Long-term planning is especially important in aligning supply with evolving population health needs.
Conclusion
Health as an economic good defies simple categorization. It embodies both private and public characteristics and interacts with market forces in complex and often unpredictable ways. The unique nature of health and health care—combined with the prevalence of market failures—necessitates active and thoughtful government involvement. Effective health policy must navigate these complexities to ensure that health systems are efficient, equitable, and resilient.
References
- Arrow, K. J. (1963). Uncertainty and the Welfare Economics of Medical Care. American Economic Review, 53(5), 941–973.
- Culyer, A. J. (2010). The Dictionary of Health Economics (2nd ed.). Edward Elgar Publishing.
- Phelps, C. E. (2017). Health Economics (6th ed.). Routledge.
- Musgrove, P. (1996). Public and Private Roles in Health: Theory and Financing Patterns. World Bank Discussion Paper No. 339.
- Drummond, M., et al. (2015). Methods for the Economic Evaluation of Health Care Programmes (4th ed.). Oxford University Press.
