Question

Suppose a physician receives a fixed payment () for providing health care services to a patient and there is a probability of the patient incurring iatrogenic injury (θ) that causes monetary loss to the patient (). Assume that the patient’s monetary loss is fixed once the injury has occurred. However, the probability of injury depends on the physician's level of care (e, for effort). That is, θ = θ(e). The probability of injury decreases as the level of physician care increases (i.e., θ′(e) < 0). In addition, the effort involved in increasing the level of care is costly to the physician in terms of time, stress, and nonphysician inputs the physician employs in his or her practice. Thus, the physician faces a cost function C, which also depends on the level of care. C = C(e). C′(e) > 0; cost increases with the level of care. Moreover, let S represent the physician’s revenue (or sales). Using this information, answer the following questions.

a. With the level of care (e) on the horizontal axis and the profit ($) on the vertical axis, show graphically how the physician determines the optimal level of care under no liability and under strict liability.

b. Use a graph to show how to decide what the socially optimal level of care is.

Answer 1