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This divergence between social and private benefits may lead to an underinvestment in quality.
In order to understand the impact of health IT on hospital productivity, we estimate the
parameters of a value-added hospital production function where we decompose the hospitals’ key
productive inputs into conventional and IT categories. In our analysis, the productive inputs are
labor, capital, health IT labor, and health IT capital.

A well-known challenge to estimating production function parameters is that inputs are endogenous to unobserved (by the econometrician)
productivity shocks (Marschak and Andrews, 1944; Ackerberg et al., 2007, Ackerberg, Caves, and
Frazer, 2006). Over the last decade and a half, several different approaches have been proposed to
correct for the endogeneity of input choice, including Olley and Pakes (1996), Blundell and Bond
(1998), Levinsohn and Petrin (2003), and Ackerberg, Caves, and Frazer (2006). These approaches
are differentiated regarding assumptions on the evolution of multifactor productivity (MFP) and
in the timing of input choices. We employ each of these strategies but emphasize parameter
estimates generated using the dynamic panel data (DPD) approach (Arellano and Bond, 1991;
Arellano and Bover, 1995; Blundell and Bond, 1998, 2000). By using a variety of approaches we
assess the robustness of our estimates. Ultimately, our primary conclusions are not sensitive to
our focus on the DPD approach.
These more recently developed techniques leverage additional sources of identification and
possess greater dynamic flexibility than traditional fixed effect strategies. However, in our setting
these approaches come at a cost as we cannot allow for differences in effects across IT applications.
This distinction is particularly important for studies of health IT and quality as clinical benefits
almost certainly depend on the presence of EMR and complementary technologies such as computerized provider order entry (CPOE). Efficiency gains, however, may be realized from a
wide range of IT inputs with both clinical and administrative functionalities. Although we believe
that this broader measure of IT inputs is appropriate for studies of hospital productivity, we do
explore the potential for the benefits from health IT to vary across investment levels, settings, and time

We employ data from California’s Office of Statewide Health and Policy and Development
(OSHPD) for the 11-year period encompassing 1997–2007. The OSHPD data are well -suited to
examine the productivity impact of health IT as they include detailed, hospital-specific information
on health IT expenditures and depreciation, which we use to construct measures of the dollar
value of health IT capital. We know of no other data set that has this detailed financial and health
IT expenditure information. This period saw a rapid diffusion of health IT, and, over the span of
our data, hospitals dramatically increased their IT investments. The average hospital expanded its
IT capital stock by approximately 220% over the 11-year span of our data. We supplement these
data with information on the specific health IT components adopted by hospitals from the Health
Information Management Systems Society (HIMSS).
In addition to its health policy relevance, hospitals are an attractive setting to study the
impact of IT investments on organizational productivity. Hospitals are one of the largest indus￾tries in the US, accounting for 5.3% of GDP and they are an industry in which technological
change has a large impact on costs and consumer welfare (Cutler, 2004). Hospitals are complex,
hierarchical, compartmentalized, and labor-intensive organizations where information creation
and dissemination is central to their operations. Inpatient care requires the coordination of ac￾tivities across many workers with diverse skill levels in which errors are potentially costly to both the hospital and the patient. Hospitals have well-documented challenges managing their information (Institute of Medicine, 1999). Because of this complexity, hospitals are an environment in which IT has the potential to significantly improve work flow, communication, and coordination.