Wednesday, December 23, 2009

Galama and Kapteyn: Grossman's Missing Threshold

Grossman’s Missing Health Threshold 

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Author Info
Titus J. Galama (RAND Corporation)
Arie Kapteyn (RAND Corporation)

We present a generalized solution to Grossman’s model of health capital (1972), relaxing the widely used assumption that individuals can adjust their health stock instantaneously to an “optimal” level without adjustment costs. The Grossman model then predicts the existence of a health threshold above which individuals do not demand medical care. Our generalized solution addresses a significant criticism: the model’s prediction that health and medical care are positively related is consistently rejected by the data. We suggest structural and reduced form equations to test our generalized solution and contrast the predictions of the model with the empirical literature.

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