Paying marginal cost is good except …

Inspired by a comment, I thought I should remind folks that paying marginal cost for something is good (and is the price in a perfectly competitive market), except in one circumstance.

Suppose you don’t want the product. Or, in economics terms, suppose the consumer surplus (personal value) you’d get from it is less than marginal cost or whatever the going price is. In that case, you shouldn’t buy the thing, even at marginal cost (ignore an arbitrage opportunity).

Turn to Medicare. Suppose Medicare’s prices were marginal costs.* Does that imply Medicare is doing the best it can? That depends what it is buying and for whom, and what value those individuals obtain for what they get.

No doubt, Medicare could get very good prices for bloodletting services. Should Medicare buy them? What about something else with arguably more health value? How much more health value per dollar is necessary to make it a “good deal”? Lest you think this is devoid of practical application, I encourage you to consider the content of David Leonhardt’s 2009 column on prostate cancer treatment.

*This is not likely as it would mean the government can determine prices as they’d be set by a perfectly competitive market. Who believes that?

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