Is there evidence against the induced demand hypothesis? Explaining the large reduction in cesarean rates

The induced demand model postulates that physicians respond to adverse income shocks by electing to perform more remunerative procedures. Recent work verifies the predictions of this model, finding a strong shift away from natural deliveries to the more highly reimbursed cesarean delivery in response to exogenous reductions in the fertility rate between 1970-1982. In light of this, the 10.1 percent reduction in fertility rates and contemporaneous 13.3 percent decline in cesarean rates between 1989-1996 appears to contradict the induced demand hypothesis. This paper reconciles the observed phenomenon by examining the role of the dramatic growth in managed care activity in this time period. We argue that while the inducement effect of declining fertility was pervasive in this period, its effect on cesarean rates was offset by the dramatic growth in managed care beginning in the late 1980s. Central to our argument is the removal of physician financial incentives in delivery choice under managed care. Using county-level data for a subset of this time period and instrumental variables estimators, we find a strong negative association between managed care growth and cesarean rates that persists despite controls for fertility, birth severity, risk factors, demographics, state fixed effects and hospital characteristics.