This is the first study to specify a physician practice cost function with practice costs as the unit of analysis. Our study is based on the data of 3,706 physician practices for the years 2006 to 2008. We propose a model using physician practices as the unit of observation and considering the endogenous character of physician input. In doing so, we apply a translog functional form and include a comprehensive set of variables that have not been previously used in this context. A system of four equations using three-stage least squares is estimated. We find that a higher degree of specialisation and participation in disease management programs and gatekeeper models leads to a decrease in costs, whereas quality certification increases costs. Costs increase with the number of physicians, most likely because of the existence of indivisibilities of expensive technical equipment. Smaller practices might not reach the critical mass to invest in certain technologies, which leads to differences in the type of health care services provided by different practice types.
physician practice cost function three-stage least squares specialization economies of scale