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Cost-effectiveness analysis (CEA) compares the costs and health outcomes of alternative interventions by computing the incremental cost-effectiveness ratio (ICER): the additional cost per additional unit of health outcome (e.g., life-year gained, infection prevented, blood pressure point reduced). ICER = (Cost_new - Cost_comparator) / (Effect_new - Effect_comparator). An intervention is cost-effective if its ICER falls below a decision threshold representing the maximum amount society is willing to pay for one unit of health outcome. CEA informs resource allocation by identifying which interventions produce the most health per dollar spent, enabling comparison across different diseases and treatment areas. It explicitly does not tell you what to do — it provides information about tradeoffs that decision-makers must weigh alongside equity, political feasibility, and other values.
Healthcare resources are finite, but health needs are effectively unlimited — there will always be more beneficial interventions than money to fund them. Cost-effectiveness analysis provides a systematic framework for making allocation decisions by comparing what you get (health outcomes) to what you give up (resources that could be used elsewhere). It does not determine whether an intervention is "worth it" in some absolute sense — it compares alternatives and identifies which provides the best value.
The ICER is the workhorse metric. For two interventions A and B, ICER = (Cost_A - Cost_B) / (Effect_A - Effect_B). This represents the additional cost per additional unit of health outcome when choosing A over B. If A costs $100,000 more and produces 2 additional life-years, the ICER is $50,000 per life-year. The ICER is meaningful only when the new intervention is both more effective and more costly — a tradeoff exists. If the new intervention is more effective and cheaper, it dominates and should be chosen without further analysis.
The ICER is compared to a willingness-to-pay threshold — the maximum amount society considers acceptable for one unit of health gain. The UK's NICE uses £20,000-30,000 per QALY as its threshold. The WHO has suggested 1-3 times GDP per capita as a benchmark. The US does not use an official threshold but implicit thresholds range from $50,000 to $200,000 per QALY depending on the context. If the ICER falls below the threshold, the intervention is considered cost-effective — the health benefit justifies the cost.
CEA has important limitations. The perspective matters: a societal perspective includes all costs (direct medical, patient time, productivity losses), while a healthcare system perspective includes only direct medical costs. Different perspectives can lead to different conclusions. Discounting (reducing the value of future costs and benefits) is standard practice, typically at 3% annually, because a dollar today is worth more than a dollar in ten years. Sensitivity analysis tests whether the conclusion changes under different assumptions about uncertain parameters (treatment effect, costs, time horizon). And CEA says nothing about equity — a cost-effective intervention that benefits the wealthy may be less socially valuable than a less cost-effective one that benefits the poor. These are reasons CEA informs but does not replace decision-making.