Econometrics Economics - General

Which inflation index should I use?

Many studies use data on health care costs from multiple time periods.  To make costs comparable over time, researchers often use an inflation index to translate previous years costs to current dollars.  The first question is, what inflation indices are available to make this adjustment.  A paper by Dunn et al. (2018) reviews the potential indexes and makes some suggestions.

Overall Inflation

  • Gross domestic product (GDP) implicit price deflator.  Created by the Bureau of Economic Advisors (BEA), this adjust based on inflation in the overall economy.
  • Consumer Price Index (CPI).  Created prepared by the Bureau of Labor Statistics (BLS) and the Personal Consumption Expenditures, this metric looks at the prices of goods and services consumed by household.  The CPI for urban consumers (CPI-U) measures changes in prices for a bundle of over 200 products and services.  CPI price change estimates are generally higher than PCE, likely because CPI is a Laspeyres index.
  • Personal Consumptions Expenditure (PCE) price index. Prepared by BEA, it also measures changes in goods and services consumed by households.  Whereas the CPI is a Laspeyres index, PCE is a Fischer index. The approach uses an identical method to the GDP deflator, but PCE excludes expenditures made by businesses, governments, and foreigners. “About one-quarter of PCE included in the PCE is excluded from the CPI, notably personal health care expenditures by employers and governments (e.g., Medicaid and Medicare Part A).”

Medical Inflation.

  • Personal Health Care (PHC) deflator.  Calculated by CMS, it is a Fischer index that includes spending on hospital, physician and clinical, dental, other professional, home health care, nursing care, and other health, residential, and personal care services, as well as sales of retail medical products, for example, over-the-counter drugs.  The approach uses sector specific producer price indices.
  • PCE health-by-function (PCE health) price index. Created by the BEA, it is its index for health care consumption.  Like PHC, it uses both the producer and consumer price indices to estimate changes in health care prices. The results are similar to the findings in the National Health Expenditure Accounts (NHEA).
  • Medical Care CPI (MCPI).  Like the CPI, it is a Laspeyres index, but it only measure the cost patients pay out-of-pocket.
  • National Health Expenditures (NHE) index.  Created by CMS, it measures changes in health spending not only by consumers but also spending on government administration, net administrative and other costs of private and public health insurance plans, government public health activities, noncommercial biomedical research (commercial research is already implicitly included in PHC spending), and expenditures by health care establishments on structures and equipment.
  • Producer Price Index (PPI).  Produced by BLS, some of the PPI components measure changes in inflation for specific health care service types (e.g., hospital or physician services).

The authors also briefly touch on disease based price indices which–rather than measure the cost specific goods or services–measure changes in the overall cost of treating specific diseases.

So which index should you use?  The authors recommend the following:

  • To adjust health expenditures in terms of purchasing power, use the GDP implicit price deflator or overall PCE measure. The PCE measure is suitable for personal consumption. The GDP deflator is more appropriate for the societal perspective.
  • To adjust overall consumer out-of-pocket spending in terms of consumer purchasing power or out-of-pocket burden relative to income, the CPI-U can be used.
  • To convert average expenditures to care for a specific disease for price changes from 1 year to a different year, either the PHC deflator or the PCE health index can be used. Because of exclusions of some payers in its weights, the MCPI may not be appropriate to adjust all-payer expenditures or payments by employers, Medicaid, and Medicare Part A for medical inflation.
  • To convert average consumer out-of-pocket health care expenditures from 1 year to a different year, the MCPI can be used.
  • To adjust estimates of costs of inpatient services from different years, the PPI for inpatient services appears currently to be the best option.

And now you know how best to adjust for inflation depending on your specific research question.

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