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Indiana University Bloomington

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Journal Articles

Quality Choice and Market Structure: A Dynamic Analysis of Nursing Home Oligopolies

2014, forthcoming International Economic Review

Haizhen Lin


This paper develops a dynamic model of entry and exit to analyze the quality choice and oligopoly market structure in the nursing home industry. The model contains four key features. First, it endogenizes firms' quality decisions. Second, it incorporates private information to capture idiosyncratic sources of profitability. Third, it allows for different cost structures and flexible competition patterns between low- and high-quality firms. Finally, the model employs a two-stage fixed effects approach to control for unobserved heterogeneity across markets. This model is estimated using a hybrid two-step estimator. I find significant heterogeneity in the competitive effects across market structures: firms of similar quality levels compete more strongly than dissimilar firms. Sunk entry costs are extremely large, and quality adjustment behavior is governed by significant fixed adjustment costs. Based on the model estimation, I have done three counterfactuals. The simulation predicts that the overall quality of care deteriorates given an increase in the elderly population. The proposal to eliminate low-quality nursing homes has caused a large supply-side shortage, and lowering entry costs has offered a perverse incentive to provide low quality of care as competition narrows the gap in pay rates between private-pay and Medicaid patients.


Lin, Haizhen (2014), "Quality Choice and Market Structure: A Dynamic Analysis of Nursing Home Oligopolies," International Economic Review, forthcoming.