Volume 9, Issue 2

Approximately 100 million elderly will enter Medicare over the next 25 years. We consider the potential benefits of interventions that would reduce or eliminate the most important risk factors for disease and spending. Effective control of hypertension could reduce health care spending $890 billion for these cohorts while adding 75 million disability-adjusted life years (DALYs). Eliminating diabetes would add 90 million life-year equivalents at a cost of $2,761 per DALY. Reducing obesity back to levels seen in the 1980's would have little effect on mortality, but yields great improvements in morbidity (especially heart disease and diabetes) with a cost savings of over $1 trillion. Smoking cessation will have the smallest impact, adding 32 million DALYs at a cost of $9.045 per DALY. While smoking cessation reduces lung disease and lung cancer, but these are relatively low prevalence compared to the other diseases. Its impact on heart disease is negligible. The effects on overall social welfare are unknown, since we do not estimate the costs of these interventions, the costs of any behavioral modification, or the welfare loss due to providers from lower medical spending.

We analyze the value to the labor force of improvements in survival and health over the years 1970 to 1999. We find that survival gains and reductions in the number of work-days missed due to poor health have added about 8 percent to the remaining labor force value of black males, and about the same to the value of 60 year-old white males. This is almost as large an effect as a full year of schooling. Gains for younger white males appear to be approximately 5%, and gains for women are around 2%. Overall, health improvements have added $1.5 trillion to the value of labor market human capital over this period.

The social value of an innovation is comprised of the value to consumers and the value to innovators. We estimate that for the HIV/AIDS therapies that entered the market from the late 1980's onwards, innovators appropriated only 5% of the social surplus arising from these new technologies. Despite the high annual costs of these drugs to patients, the low share of social surplus going to innovators raises concerns about advocating cost-effectiveness criteria that would further reduce this share, and hence further reduce incentives for innovation.

This paper studies the interactions between health insurance and the incentives for innovation. Although we focus on pharmaceutical innovation, our discussion applies to other industries producing novel technologies for sale in markets with subsidized demand. Standard results in the growth and productivity literatures suggest that firms in many industries may possess inadequate incentives to innovate. Standard results in the health literature suggest that health insurance leads to the overutilization of health care. Our study of innovation in the pharmaceutical industry emphasizes the interaction of these incentives. Because of the large subsidies to demand from health insurance, limits on the lifetime of patents and possibly limits on monopoly pricing may be necessary to ensure that pharmaceutical companies do not possess excess incentives for innovation.