1. In the US, the Social Security Administration (SSA) runs a government-paid insurance program for retired workers and their spouses called Medicare. In 1983, Medicare changed the way it reimbursed hospitals for treating Medicare patients. Originally, Medicare paid hospital fees that for each patient covered a portion of the hospital’s total cost including both capital (equipment and space) and labor expenses. Under the new Prospective Payment System (PPS), the government reimbursement was made up of a payment computed proportionally to the hospital’s capital expenses (equipment and space) and a flat rate based on a patient’s diagnosis that did not take into account the hospital’s actual use of labor inputs. 
2. Effectively, the shift to PPS left the hospital’s opportunity cost from using equipment and structures the same while significantly increasing the opportunity cost of using labor services. 
3. 
   
4. With the aid of an iso-cost-isoquant diagram, explain how the shift to PPS might have affected hospitals’ relative use of capital and labor when treating incoming Medicare patients.

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In an isocostisoquant diagram the isocost line represents the various combinations of capital and la... View the full answer