Health Before Wealth: The Economic Logic

Hard as it is to imagine, at this moment, some US politicians are framing the type of pandemic response as a trade-off between public health and economic health. Some economists are fuelling this debate.

“We put a lot of weight on saving lives,” said Casey Mulligan, a University of Chicago economist who spent a year as chief economist on Mr. Trump’s Council of Economic Advisers. “But it’s not the only consideration. That’s why we don’t shut down the economy every flu season. They’re ignoring the costs of what they’re doing. They also have very little clue how many lives they’re saving.”

However, even in normal times, there is a strong argument, recently voiced by Paul Romer, that, economists at least, should stay away from trying to trade-off economic costs with lives lost. To be sure, trade-offs (especially at the margin) are the economist’s bread and butter. So this really shouldn’t surprise us to see it being voiced during pandemic age.

However, this misses a critical issue: pandemics are not the time where trade-offs at the margin are appropriate. In this post, I am going to argue this using economic tools. There is an underlying formal model to all of this but I am going to do this as an Econ 101 level analysis with graphs. You should just be clear that this represents the integration of the most simple epidemiological model (the so-called SIR model) with basic economic analysis.

My contention here is that a pandemic (like COVID-19) fundamentally changes the production possibilities set for the economy. A production possibilities set tells us what we can produce with the resources at hand. It doesn’t tell us what we should produce; you would need a model of preferences (in this case, social preferences) to get that. I am just going to focus on production possibilities here as this is all I need to do to point out the floor in marginal (or trade-off) based thinking.

To keep things simple, here is the production possibilities set during ‘normal’ times when we have a choice between how much public health we want and how much of other stuff — which I will label ‘the economy.’

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The black line is the production possibilities frontier (or PPF for short) and it shows the upper limit of the combinations of the economy and health we can achieve. We can, of course, obtain lower levels of the economy and health than this but why would we want to. If we can, we want to choose a point (like the blue dot) that is on the frontier which gives us a certain amount of economy and a certain amount of health.

The key feature of the textbook PPF is that it is concave. What this means is that if you start from a very low level of health and want a bit more, the amount of economy you have to give up to get that bit of health is much lower than the amount you would have to give up if you started from a high level of health. This is the law of diminishing returns. Put simply, it is harder to produce more of something when you already have a lot of it.

The Bite

These are not normal times. We now have a pandemic. What a pandemic does to the PPF is something like what is depicted next.

There are two big changes illustrated by the red line. First, the pandemic PPF lies below the normal PPF. That means we can’t produce as much economy or health as before. In particular, we can no longer produce the blue dot even if we can have the same amount of health or the same amount of economy as before. This is the logic many have when thinking of why we face a trade-off in a pandemic when we didn’t before.

Second, there is a ‘bite’ taken out of the PPF. In particular, there is now a convex portion to the PPF. That arises out of the nature of a pandemic. To consider this, suppose that we started from our original level of the economy (at a point like E, the black dot). Then if we want more health during a pandemic, we need to give up a lot of the economy to get it. This is the social distancing argument — we need a lot of social distancing in order to halt the spread of infectious disease and a little bit won’t have much effect. The same logic applies if we start from our original level of health (at a point like H, the green dot). In that situation, if we look to give up a little health for a better economy we find that we cannot do that. Even to achieve a level of health remotely close to what we previously had, we have to employ lots of social distancing which means that the only way to get a better economy is to give up a ton of health. (Notice that, the less virulent is the infection, the smaller this bite is likely to be.)

The point is that if we take the epidemiologists seriously then that has an economic interpretation that we can reflect in the resulting PPF. Critically, when there are non-convexities in the PPF our usual marginal thinking about trade-offs does not work.

The first thing to note is that it is highly unlikely that we want to choose a point in the ‘bite.’ There we have lower health or economy than we could achieve at either end.

The second thing is that there is a certain logic to the idea that you might choose to give up entirely on trying to slow or contain a virus and instead choose a point like E where you have the economy you had before but with much lower public health (aka people surviving). The logic here is that it is really, really hard to preserve public health because the economy really has to suffer.

Of course, the same logic applies to a point like H. If you want to preserve public health (save lives) you have to accept that you will harm the economy in a large way.

In other words, the bite forces us into a big either/or situation — that is a choice between H and E.

The Dark Recession

The above graph assumes that we can achieve the same level of economic performance even if we have low public health. That is very unrealistic. This is because, like a war or natural disaster, we lose resources if we have much lower public health. Thus, if we let a pandemic run its course without mitigation that lowers economic activity, what happens is something more like this.

If this is the case, you can see that a point like E will be far less desirable than H.

Now, it could also be the case that a point like H is not achievable as health care capacity may not be high enough and would require a set jump reduction in the economy to achieve. What this highlights is that the choices depend precisely on where the pandemic PPF lands.

The Drift

The epidemiological models tell us another thing. This choice between E and H is one that can only be made prior (or just as) the pandemic is emerging. The reason is that attempts to choose a lower level of health than implied by point H — which is what countries in Europe and North America did for COVID-19 — change the PPF going forward. In particular, try to maintain the economy initially and accept a lower level of health and the resulting PPF looks like this:

You can see that the PPF contracts and it is no longer possible to achieve the old level of health. Put simply, the longer you take to enact social distancing, the fewer options you have. In other words, you can no longer achieve the existing level of health and must accept less.

This is the drift. The PPF changes during the pandemic unless you commit to holding the line on health. Consequently, the choice between H and E (and E is drawn here without a dark recession but if there is one the same logic holds), tips towards E.

Notice that the drift only goes in one direction. You could choose to not do anything and go to point E. In that case, your PPF would soon look like this.

The Cliff means you no longer have a choice to maintain public health and end up at point E. This is not an issue if your plan was to go to point E anyway. But if there is the possibility of a dark recession that is not what you would likely want to do.

Instead, holding the line on health initially is the better way to go. It is the only direction that gives you the option of making a choice once you have learned more information regarding what the pandemic PPF actually looks like. Consequently, from an economics perspective, the fact that supporting the economy makes the decision irreversible by changing the pandemic PPF means that you should be biased towards sacrificing the economy and maintaining the line on public health.

HEALTH BEFORE WEALTH!

Testing

Before leaving this post, I want to make a final remark about testing. Alan Garber and Paul Romer proposed that the economic pain associated with achieving a high degree of public health in combating COVID-19 could be reduced by having cheap, widespread and available testing. This would make it possible to identify people who have to coronavirus (or immunity should a test for that arise) and allow them to return to normal life.

In terms of the framework here that weakens the trade-off between the economy and public health. It means that we can increase economic activity without compromising public health and thus moves us towards a normal trade-off. Testing has the ability to make the H choice more palatable in terms of economic harm required and so supports that outcome. By contrast, if you have chosen point E, it appears that testing would not be of assistance.

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Skoll Chair in Innovation & Entrepreneurship at the Rotman School of Management, University of Toronto and Chief Economist, Creative Destruction Lab.

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Joshua Gans

Skoll Chair in Innovation & Entrepreneurship at the Rotman School of Management, University of Toronto and Chief Economist, Creative Destruction Lab.