Appendix For Input and Technology Choices in Regulated Industries: Evidence from the Health Care Sector (Not for Publication)

In this appendix, we present the details of the neoclassical model of regulation described in the text (Acemoglu and Finkelstein, 2008). Our approach is based on four simplifying assumptions. The …rst is that hospitals maximize pro…ts. Clearly, non-pro…t or public hospitals have other objectives as well, but starting with the pro…t-maximizing case is a useful benchmark. It is also consistent with a large empirical literature that …nds essentially no evidence of di¤erential behavior across for-pro…t and nonpro…t hospitals (see Sloan, 2000, for a recent review of this literature). Second, we assume that hospitals are price takers in the input markets, facing a wage rate of w per unit of labor and a cost of capital equal to R per unit of capital. Third, we assume that hospitals are price takers for Medicare patients. Finally, and to start with, we assume that, at least at the margin, there is considerable fungibility between labor and capital inputs used for Medicare purposes and labor and capital inputs used for non-Medicare purposes; descriptions of how Medicare reimbursement operates in practice suggest that this is a realistic assumption (OTA, 1984, CBO, 1988). This allows us to model Medicare input reimbursement as taking a simple form in which hospital i is reimbursed for a fraction mi of its capital and labor costs, where mi is the “Medicare share”of this hospital. The next section in this appendix extends the framework to investigate the implications of the impact of a change in regulation regime continue without fungibility. Our analysis there shows that the major qualitative predictions highlighted in the model with fungibility also hold when there is limited fungibility.