Quantifying Health Shocks Over the Life Cycle

TL;DR

This paper introduces a second-order Markov chain model to better analyze health expenditure dynamics over the life cycle, revealing age-related patterns in health shocks and their persistence.

Contribution

It demonstrates the importance of using a second-order Markov model for health expenditure analysis and uncovers new age-related insights into health shock probabilities and persistence.

Findings

Health shock probability decreases until age 10, then increases after age 40.

Older age groups have health shock distributions that first-order dominate those of younger groups above the median.

Health shock persistence shows a U-shaped pattern across ages.

Abstract

We first show (1) the importance of investigating health expenditure process using the order two Markov chain model, rather than the standard order one model, which is widely used in the literature. Markov chain of order two is the minimal framework that is capable of distinguishing those who experience a certain health expenditure level for the first time from those who have been experiencing that or other levels for some time. In addition, using the model we show (2) that the probability of encountering a health shock first de- creases until around age 10, and then increases with age, particularly, after age 40, (3) that health shock distributions among different age groups do not differ until their percentiles reach the median range, but that above the median the health shock distributions of older age groups gradually start to first-order dominate those of younger groups, and (4) that the persistency of health shocks also shows a U-shape in relation to age.