Drivers of Healthcare Expenditure: What Role does Baumol's Cost Disease Play?

Carsten Colombier

Social Science Quarterly, 2017, vol. 98, issue 5, 1603-1621

Abstract: Objectives We devise an instrument to test for Baumol's cost disease in healthcare. Baumol's cost disease is a price effect that is assumed to be a major determinant of the secular rise in health†care expenditure (HCE). Methods This price effect is notoriously difficult to estimate as the construction of medical price indices is flawed. However, our instrument—the adjusted Baumol variable—avoids this problem as we do not rely on medical price indices. We apply this instrument to a panel data set of 20 OECD countries ranging from 1970 to 2010. Results Baumol's cost disease partly affects healthcare. We estimate that the cost disease exerts from 15 to 40 percent of its potential full effect on HCE. Conclusions Policymakers have more leeway to curb ever†increasing HCE than is suggested by the literature. Our instrument is also well suited to investigate other possibly affected sectors such as the government or education.

Date: 2017
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