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Scream this from the rooftops
We can't just bargain down the prices of pharmaceutical drugs without adverse consequences. It is hard to measure the effects here, but yesterday I came across this piece of serious empirical work:
EU countries closely regulate pharmaceutical prices whereas the U.S. does not. This paper shows how price constraints affect the profitability, stock returns, and R&D spending of EU and U.S. firms. Compared to EU firms, U.S. firms are more profitable, earn higher stock returns, and spend more on research and development (R&D). Some differences have increased over time. In 1986, EU pharmaceutical R&D exceeded U.S. R&D by about 24 percent, but by 2004, EU R&D trailed U.S. R&D by about 15 percent. During these 19 years, U.S. R&D spending grew at a real annual compound rate of 8.8 percent, while EU R&D spending grew at a real 5.4 percent rate. Results show that EU consumers enjoyed much lower pharmaceutical price inflation, however, at a cost of 46 fewer new medicines introduced by EU firms and 1680 fewer EU research jobs.
Here is the paper. Here is a non-gated copy. Here is my column on medical R&D. Here is a previous installment in the series "Scream this from the rooftops."
Posted by Tyler Cowen on November 15, 2006 at 06:40 AM in Medicine | Permalink
Comments
If I am reading this correctly, prices controls led to about a 30% drop in new medicines produced, although part of that is presumably a substitution effect of shifting new medicine creation to the US. Is that a fair reading?
I suspect that whether most people care is partially dependent on what those 46 fewer medicines might have been. While different versions of existing medicines are important to people who experience differing side effects, presumably the medicines foregone were the marginal ones. Would the typical new medicine be a statin inhibitor or a different version of Viagra? Still, it is hard to believe that you can drop 30% of new medicines without eliminating something valuable.
People may generally not care, because it is hard to feel the loss of something you never had. It is not as though drugs that people use were taken off the market; non-existent drugs have no constituency. We could say that one of them might have been a cure for cancer, but that sounds more than a little hyperbolic.
30% is the number I would want to scream from the rooftops, since 46 may or may not be a big thing without context. "You can have cheap drugs now, but you will lose 30% of future treatments every year, now and forever." I wonder how many people would call that a good trade, since the EU had about 45% cheaper drugs in the last period shown. Hey, 45 is bigger than 30!
Posted by: Zubon at Nov 15, 2006 8:13:05 AM
Wait, I said that wrong. The US had about 45% more expensive drugs. That means the EU had about 30% cheaper drugs.
Posted by: Zubon at Nov 15, 2006 8:16:22 AM
Isn't the real story that we won't lose them all, but will pay royalties to Indian and Chinese pharma companies (where the "high-paying jobs" have gone as well)?
Are the American people subsidizing the drugs, the jobs, or both? Why not, it's the American way?
Posted by: Chi at Nov 15, 2006 8:23:04 AM
I am going to cut and paste a bit here...I see no one answering the questions posed by Dean Baker regarding the efficiency of the patent system:
Go here: http://www.prospect.org/print/V12/2/baker-d.html (my apologies for the extended cut and paste, please read the rest at the link)
"Absurdly high prices have put lifesaving prescription drugs out of reach for millions of Americans and for hundreds of millions of people in developing countries. In large part, patent protection is to blame. The patent system is a trade-off: Consumers pay a monopoly price on a drug for 17 years to provide incentives for firms to undertake research that yields large profits. But the patent system is not the only way to support drug research. Alternatives that have a proven track record of success already exist--specifically, research supported by foundations, universities, and the government. Shortening patent terms and putting most pharmaceutical research in the public domain would cut costs for consumers as well as for government. And contrary to industry propaganda, doing so would not reduce innovation.
This idea may sound radical, but look at the numbers. The drug industry currently spends around $18 billion a year on socially useful research. If research spending grows at a real rate of 3 percent annually, expenditures would total about $240 billion over the next decade. By comparison, the prescription drug plan proposed by Al Gore would cost $250 billion. If the government just picked up the full tab for drug research and did away with patent protection, most seniors would end up paying less for drugs than if the Gore plan were put in place. The federal government would save $10 billion right off the bat, in addition to savings on drug costs incurred in Medicare or Medicaid. And the rest of the population would pay 75 percent less for prescriptions.
When the patent system for prescription drugs is challenged, or when price controls or liberalized importation rules are proposed, we're warned about the perils of stifling innovation and tampering with the market. But patents are themselves a market distortion--an explicit form of government intervention: The government grants a prize (a 17-year monopoly) to people who innovate. This monopoly in effect transfers income from consumers to pharmaceutical companies. But this is neither the only nor the most efficient way to promote innovation.
Pricing patterns in nations without effective patent protection, and on drugs after their patent has expired, suggest that the free market price for drugs averages about one-quarter of the monopoly price. In the United States, which spent approximately $106 billion last year on prescription drugs, consumers would save $79 billion if this patent protection were dropped.
What consumers get for this $79 billion in higher drug prices is $22.5 billion in domestic research from the pharmaceutical industry (another $4 billion is conducted abroad). Consumers pay more than three and a half dollars to the drug industry for every dollar of research induced by patent protection. Another two and a half dollars goes to industry profits and marketing--and to the legal costs, campaign contributions, and political lobbying needed to protect and extend the industry's patent monopolies.
Worse, much of the research conducted by the drug companies is directed not toward breakthroughs to better our lives but toward finding ways around the lucrative patents of competitors. When a drug company scores a big hit with a drug like Viagra or Claritin, competitors patent comparable but slightly different drugs so that they can enjoy a slice of the market. In a world with patent protection, this kind of limited competition can be beneficial to consumers. After all, some competition is better than none; also, a copycat drug may incidentally benefit people who react poorly to the original drug. In a competitive market, however, pure copycat research would be dropped in favor of research funded by public sources and likely to produce real improvements. [See Merrill Goozner, "The Price Isn't Right," TAP, September 11, 2000.] "
...continued at http://www.prospect.org/print/V12/2/baker-d.html
Posted by: theCoach at Nov 15, 2006 8:30:39 AM
I'm a bit confused by Tyler's argument. If there are high potential profits in the US, why aren't European pharmaceuticals doing R&D for drugs they can sell in the US?
Posted by: EclectEcon at Nov 15, 2006 8:42:24 AM
I'm a bit confused by Tyler's argument. If there are high potential profits in the US, why aren't European pharmaceuticals doing R&D for drugs they can sell in the US?
Posted by: EclectEcon at Nov 15, 2006 8:45:03 AM
Since the market for pharmaceuticals is an international market, with negligible shipping costs, I don't see how price controls in European markets can explain the relative shift in R&D between European and American firms.
Even if prices are controlled in Europe, drug companies, both European and American, have been able to sell their drugs in the US.
I would expect European price controls to have the same effect on drug companies profitability no matter where they were located.
Posted by: Brock at Nov 15, 2006 8:47:52 AM
I'm also a bit confused by Tyler's argument. The government is the largest buyer (in the US at least) of a number of products. Does Tyler expect that the number of models of cars will increase and the price of cars will decrease if the government ceased negotiating fleet sale prices?
Posted by: cactus at Nov 15, 2006 8:59:04 AM
The obvious point being that of course innovation will follow the relative money*, but did the extra money result in the most efficient incentives for innovation?
I have not read the paper in question, but from the excerpt this key question seems unaddressed.
For anyone interested in alternative ways of funding innovation consider the establishment of research prize for drugs that acheive some objective.
*Assume for illustration that innovation of drugs is constant. Assume that country A spends $100/year to companies developing drugs, and country B spends the same. Assuming also that there is some ability to work internationally, if country B were to up its payments to $200/year we would expect that more of the static amount of new drugs would come from country B.
Posted by: theCoach at Nov 15, 2006 9:01:42 AM
I'm with Brock. Tyler's argument here doesn't seem to make much sense. European companies can (and do) sell their drugs in the U.S. There are no formulary rules that bar drugs from abroad or give assistance to local drugs. And American companies, for that matter, sell their drugs in Europe (since even with price controls, drug prices in Europe are far above the marginal cost to the pharma companies). So where is the evidence -- or even the theoretical argument -- that demonstrates the connection between European price controls and European investment in R&D?
Posted by: William Goodwin at Nov 15, 2006 9:02:45 AM
TheCoach: "Alternatives that have a proven track record of success already exist--specifically, research supported by foundations, universities, and the government."
These institutions don't have a proven track record of bringing drugs to market. I'm also wondering whether any honest financial analysis has been done on the costs of academic "pure" research. I also genuinely doubt that gov't funding can effectively and efficiently replace private-sector research. Baker's solution is full of holes.
Posted by: jult52 at Nov 15, 2006 9:08:29 AM
Posts in this Blog frequently point out that the EU economy as a whole did not perform well over the time period studied in this paper. How much of the decline in the stock performance, profits, and R&D spending in the EU was due to general economic conditions?
Posted by: joan at Nov 15, 2006 9:10:50 AM
Isn't the real story that we won't lose them all, but will pay royalties to Indian and Chinese pharma companies (where the "high-paying jobs" have gone as well)?
"Have gone?" The jobs that have gone to Indian and Chinese pharma companies already are not the high-paying or particularly research-oriented jobs discovering new compounds. The big market that's already gone to India and China are things like "replicate lots of known compound X."
If there are high potential profits in the US, why aren't European pharmaceuticals doing R&D for drugs they can sell in the US? and
Even if prices are controlled in Europe, drug companies, both European and American, have been able to sell their drugs in the US.
From the first page of the paper itself, if anyone had bothered to read it:
"Although many pharmaceuticals are sold worldwide, EU (U.S.) firms typically sell proportionately more in the EU (U.S.) (see Vernon, 2005)." They also demonstrate a correlation between the proportion of drugs sold in the US and the rate of growth in R&D research among firms. The more a company sells to the European market compared to the US market, the slower the R&D growth.
Another story is how much of the R&D done by European pharmaceutical companies has switched to being located inside the United States, to be located closer to the target market. This paper measures by firms, so it doesn't account for how much of, say, Glaxo's research is being done in the US now.
Another two and a half dollars goes to industry profits and marketing--and to the legal costs, campaign contributions, and political lobbying needed to protect and extend the industry's patent monopolies.
Ridiculous to imply that companies wouldn't market or lobby if a different plan were implemented. In addition, marketing is designed to increase sales and profitability; good marketing pays for itself. Lots of drug marketing is designed at getting people who otherwise wouldn't know that their condition is treatable to go see their doctor and get a drug. (For "lifestyle" diseases like allergies or impotence that people might choose to live with rather than seek treatment.) In cases like that, marketing simply increases overall sales of the drugs, spurring investment into research.
[A]lso, a copycat drug may incidentally benefit people who react poorly to the original drug. In a competitive market, however, pure copycat research would be dropped in favor of research funded by public sources and likely to produce real improvements.
The author sounds completely ignorant when he pretends that we can a priori know that whether a "copycat drug" will have fewer side effects or benefit people who react poorly to the original drug. In reality, that tends to be discovered at the end of the long, expensive process of research. There is absolutely NO way that public sources could determine at the onset whether a drug would be helpful in that way. Thus, there is no way to guarantee that one would fund only "real improvments," and the inclusion of the comment convinces me that the author of the piece has no idea what he's talking about.
A suggested compromise: People who believe that federally supported research is the answer should concentrate on federally supporting research into drugs aimed at diseases with small or poor (or both) patient populations, diseases that it is often unprofitable to develop a drug for. Unfortunately, like any political process, federally supported research money goes towards popular diseases suffered by the middle class and up, so it's not really better than for-profit research as far as that goes.
Even in Europe, the track record of publically supported pharmaceutical research is very thin. Yes, there are plenty of stories of excellent basic research that does lead to drugs. But people constantly underestimate the amount of effort to take research demonstrated on a plate to a real drug.
Posted by: John Thacker at Nov 15, 2006 9:12:21 AM
How many of the new drugs in the US were for controversial illnesses for which pharmaceutical intervention is a new development? I'm not just thinking of the obvious case of Viagra, but also drugs to counteract behaviours that have recently been medicalised - think Ritalin, for example.
Posted by: h2o at Nov 15, 2006 9:14:02 AM
So where is the evidence -- or even the theoretical argument -- that demonstrates the connection between European price controls and European investment in R&D?
From the first page of the paper itself:
"Although many pharmaceuticals are sold worldwide, EU (U.S.) firms typically sell proportionately more in the EU (U.S.) (see Vernon, 2005)."
They demonstrate further a correlation between the rate of growth in R&D and the proportion of sales in the US as opposed to the EU.
There's your theoretical argument. I'm sorry that it wasn't contained in Professor Cowen's post, but required you to click on the free link.
Posted by: John Thacker at Nov 15, 2006 9:14:56 AM
From the paper: "Given the EU’s restrictive price regulations, one would expect EU firms to be more negatively affected than U.S. firms because proportionately more of their revenue is likely to come from the EU. Unfortunately, few firms report comprehensive data on the
geographic distribution of firm sales. Compustat Segments database includes sales by geographic area for firms that report it in their financial statements after 1997. Between 1998 and 2004, 43 (13) U.S. (EU) firms report separate U.S. and EU sales. These data cover only about 40 percent of the firms in our sample. Nevertheless, they show that on average U.S. (EU) firms generated 76 (53) percent of combined U.S. plus EU sales from the U.S. This proportion is stable across years for the U.S. firms, with 76 percent in both 1998 and 2004, and only slight variations in other years. But the proportion for EU firms
increases consistently from 43 percent in 1998, to 57 percent in 2004. This illustrates how EU firms’ sales have recently shifted toward the U.S., perhaps because the U.S. offered better pricing than the EU during the period."
Posted by: Tyler Cowen at Nov 15, 2006 9:17:22 AM
but also drugs to counteract behaviours that have recently been medicalised - think Ritalin, for example.
Ritalin's a bad example if you're talking about recent research or recently medicalized behaviors.
1) Not on patent, available generically.
2) Invented in 1954.
3) Invented by a Swiss company (Ciba, a precursor to Novartis.)
4) Prescribed for hyperactivity starting in the 1960s.
However, one will concede that prescription of Ritalin did greatly increase in the 1990s in the USA, but it hardly has to do with patents or research or anything.
A great deal of the advertising for drugs has to do with "lifestyle" diseases or illnesses for which pharmaceutical treatment is a new development, though, yes. That's because potential patients may not know that help is available. (If you have cancer, of course you're going to get whatevertreatment; advertising is unnecessary.) This effect probably biases perception; since most of the advertising is for this kind of drug, people may heuristically assume that most new drugs are this kind.
Posted by: John Thacker at Nov 15, 2006 9:21:06 AM
Also from the paper (regarding shift to US-based R&D):
"Consider that in 1990, European firms spent 73 percent of their R&D in Europe and 26 percent in the U.S. By 2002, they spent 58 percent in Europe and 34 percent in the U.S. Major European firms have moved their research or operational headquarters to the U.S., including Pharmacia in 1995, Aventis in 1999, GlaxoSmithKline in 2000, and Novartis in 2002... Indeed, Thiers, Sinskey, and Berndt (2006) show that the number of multinational clinical trials performed in England, Germany, and Italy between 2002 and 2005 has declined by over 15 percent, while the number in the U.S. has been stable."Spain and France set a price for Bayer’s second best-selling drug (Adalat) 40 percent below its price in England. When Bayer restricted supply to French and Spanish wholesalers who were reselling their supplies in England, the European Commission fined Bayer 3 million Euros in 1996, and ordered them to stop restricting supply. World-wide sales of Adalat, which had been growing strongly, subsequently fell by four (three) percent in 1998 (1999), mostly due to French and Spanish wholesalers reselling Adalat at relatively low prices. As a consequence, Bayer cut its European R&D spending by one percent in 1998 and by 14 percent in 1999. Conversely, Bayer increased its U.S. R&D spending by eight percent in 1998 and by 31 percent in 1999."
Posted by: John Thacker at Nov 15, 2006 9:31:25 AM
Perhaps this is addressed somewhere else in the paper, but the fact that EU companies sell more of their drugs (proportionally) in the EU is entirely unrelated to the relevant IP question: what *variety* of drugs is available in the EU.
Here's a thought experiment: Imagine the US is the only country with IP protection on drugs, and the protection is such that 100 drugs are profitably invented. Imagine another entity (call them the EU) decides to protect IP; they can either spend half what the US produces and incentivize the production of a further m<50 (diminishing returns of R&D) drugs, or spend the same as the US and incentivize n<100 further drugs. From the EU standpoint, they can get 100 drugs for free, 100<100+m<150 drugs for x amount of money, or 100<100+m<100+n<200 drugs for 2x amount of money. Sure, they miss out on some new drugs by not paying more, but international IP often allows a weak free rider problem.
The same logic applies to, for instance, China's decision not to enforce many IP laws; they're better off because of it!
Posted by: cure at Nov 15, 2006 9:36:42 AM
You do not need a 5th copy-cat version of Prozac.
Posted by: Oskar Shapley at Nov 15, 2006 9:41:58 AM
Sure, they miss out on some new drugs by not paying more, but international IP often allows a weak free rider problem.
I don't think that anyone disputes the free rider problem issue. It's absolutely there, and certainly in many cases it pays an individual country (especially a small one) to free ride on drugs. This merely demonstrates that price controls do have an effect on R&D, a contention often disputed. Also note that the EU has not "picked up the slack" with government-supported research, though again they may simply be free riding.
The free riding problem would only be magnified if all the European drug companies switch R&D production entirely to the USA. There would then be fewer political restraints on price controls there.
You do not need a 5th copy-cat version of Prozac.
Tell that to the person for whom all the other versions don't work, or produce horrible side-effects, such as a tendency to suicide. You do realize that some people have depression but that SSRIs cause really awful adverse side effects in them, right? So some research into better SSRIs is entirely appropriate. In any case, in a private system, you do not need to STOP a drug company from researching a copycat version of Prozac, either. It either pays for itself or it does not. It's not particularly hurting anything now since Prozac is off-patent and available generically.
Posted by: John Thacker at Nov 15, 2006 9:53:33 AM
Anyone know what the pharma companies spend on marketing and advertising in the EU versus the US?
Just curious.
Posted by: Kevin at Nov 15, 2006 9:59:30 AM
The only way to know if we need a 5th copy-cat version of Prozac is to see if people are willing to buy it.
Posted by: Brant at Nov 15, 2006 10:20:15 AM
John Thacker,
The most interesting point that Baker makes, I think is that the amount of R & D that we get for the monopoly-priced drugs.
"What consumers get for this $79 billion in higher drug prices is $22.5 billion in domestic research from the pharmaceutical industry."
That is a big number to overcome. The money allocated to marketing is beside the main point, but i would argue that you are at the very least overstating the benefit of these costs. Some marketing makes people aware of drugs, but there are also reports of patients demanding and getting advertised drugs that are not helpful to them. Regardless of that, the big question is patent-driven research money 3 times more efficient than some other mechanism?
Posted by: theCoach at Nov 15, 2006 10:27:35 AM
And the only reason Europe doesn't have its own Intel and Sun is because the GSA doesn't bargain when it buys servers? Isn't this just libertarians calling for industrial policy for a favored industry?
Posted by: bjak at Nov 15, 2006 10:29:56 AM
That sentence didn't read right. My point was that the US will have high tech industries like Intel and pharma regardless of industrial policy.
Posted by: bjak at Nov 15, 2006 10:34:06 AM
It's not realistic to suggest that changes in drug patent law would actually reduce prices by 75%. European and Canadian prices are not nearly that low and the US isn't likely to create a system more severe than Canada and/or Europe. Such a system is conceivable, but not likely.
The paper contains data showing that drug price increases are not market driven, at least in any conventional sense of the phrase. The election of Bill Clinton stopped all drug price increases for 5 years. As the 90s boom took off, political pressures on the drug industry eased and prices started going up again. They jumped as soon as Bush was elected.
I follow some of the broker analyst research reports on drug companies and the medical sector in general. A recurring theme after the 2000 election was “now we can raise prices”. Indeed, medical inflation took off after Bush won. This is evidence of an entirely non-market price determination mechanism.
This shouldn’t surprise anyone. Aside from the role of patents in drugs, much of the medical industry is non-competitive. Beyond that, the entire system amounts to producers (drug companies, doctors, hospitals, etc.) and patients “shopping with someone else’s credit card via third party payment systems (government and insurance).
A related point is that drug companies are not just raising prices but increasing volumes. I won’t go into the scandalous consequences of direct to consumer advertising. See the Boston Globe articles on the Nexium and Prilosec for a discussion of that fiasco. The larger point is that drug volumes are rising for standard demographic reasons (aging population, obesity, etc.). Since vast economies of scale exist in drug development and production, prices should be falling… But they are not.
I could also go into abusive lawsuits used to sabotage introduction of generic competitors to existing drugs as they go off patent. That would require a whole new post... Marketing misdeeds (ever meet a detail agent who didn’t look good in …) would require another post as well…
Nonetheless, it is wrong to be entirely critical of “me too” drug development. “Me too” drugs are similar enough to treat the same symptoms but different enough for patients to respond to them in diverse ways. Let me use a deadly serious example. Bextra, Celebrex, and Vioxx are all COX-2 NSAIDs. Yet they proved different enough for the FDA review committee to recommend keeping Celebrex on the market by a 31:1 margin versus 17:15 for Vioxx and 17:13 for Bextra. Conflict of interest issues have been raised about these votes. Note that only Celebrex would have survived if the 10 voters with (alleged) conflicts had recused themselves. The committee was apparently strongly influenced by patient testimony about differential effects of these drugs with some patients literally begging to have Vioxx returned to the market.
This is not to say that “me too” drugs are cost benefit justified. Perhaps they are not. They are very expensive to develop and don’t represent truly new science. Conversely they do provide a limited degree of competition within the patent system.
The overall point is that the existing US system is breaking down. Drug prices have reached the point where society has to consider its overall allocation of resources. We simply can’t sustain a model of where new cancer treatment drugs cost hundreds of thousands of dollars for a few months of miserable “life”. The true ImClone scandal isn’t what Martha Stewart did or did not do. The scandal is how little benefit the drug provides. One study found that it added two months to the lives of cancer patients. See http://pipeline.corante.com/archives/2004/07/22/another_shot_across_the_bow.php.
Posted by: Peter Schaeffer at Nov 15, 2006 10:38:40 AM
theCoach:
I'm unpersuaded by Baker's numbers, especially given his absense of citations. First off, it's not a question of "is patent-driven research money 3 times more efficient than some other mechanism," since that pretends that other mechanisms wouldn't have political lobbying and other expenditures. That's of course ridiculous; any scheme would have lobbying and advertising, ESPECIALLY a primarily federally funded system. If all the research was government supported, there would be a TREMENDOUS amount of lobbying by patient groups and others seeking to influence government decisions of which diseases to research drugs for. (The government is also directly involved in advertising consumer education, too.)
Merely because the added expense would go from consumer and disease lobbying groups to lawyers and lobbyists doesn't mean that it shouldn't be counted as a equal sort of deadweight loss. It's unfair to compare the real-world, imperfect market to an idealized perfect government-run system. (Or vice versa, of course.) The amount of additional lobbying spending could easily exceed that of the advertising and profit, once you consider that the profit represents some sort of consumer or producer surplus available to be captured. Patient groups should be willing to lobby a lot in order to get funds directed towards their favored projects, judging by how much they're willing to pay now for the drugs.
That doesn't even begin to address other efficiency concerns of whether the government could pick the right drugs to research effectively (and how much lobbying the researchers and scientists and their universities or companies would engage in).
Posted by: John Thacker at Nov 15, 2006 10:42:00 AM
The paper contains data showing that drug price increases are not market driven, at least in any conventional sense of the phrase. The election of Bill Clinton stopped all drug price increases for 5 years. As the 90s boom took off, political pressures on the drug industry eased and prices started going up again. They jumped as soon as Bush was elected.
I follow some of the broker analyst research reports on drug companies and the medical sector in general. A recurring theme after the 2000 election was “now we can raise prices”. Indeed, medical inflation took off after Bush won. This is evidence of an entirely non-market price determination mechanism.
So, in effect, Peter Schaeffer, you're arguing that industry reduced R&D (which went hand in hand with the lower price increases) in response to threats or expected imposition of price controls is precisely a reason to impose them? Of course there were non-market effects-- politicians threatened price controls, which caused drug companies to shift to a lower price/lower R&D strategy. That does absolutely NOTHING to prove the rest of your claims at all. One could credibly threaten price controls in a perfectly competitive market and see exactly the same effects-- producers leaving the market, temporarily price controls, then an increase in prices once the controls were not adopted.
Of course, your points about third-party payment are entirely reasonable as far the medical system as a whole goes, but certainly most of the EU also has third-party payment; the paper does a reasonable job of explaining the effects of price controls. Note that when drug prices have held flat, R&D spending has also decreased. It's a simple choice between cheaper drugs now or more drugs later. I don't morally condemn people for choosing one or the other, as they have different immediate interests.
My point was that the US will have high tech industries like Intel and pharma regardless of industrial policy.
Calling for the absence of price controls is hardly "industrial policy." And I guarantee you that there are levels of price controls at which the US would not have a particular industry. In any case, the paper that prompted this post demonstrated that much of EU pharma production has fled the EU and come to the USA because of "industrial policy."
Posted by: John Thacker at Nov 15, 2006 10:52:22 AM
Isn't what you call price controls what is also called "bargaining"? No manufacturer will be forced to sell at a mandated price, and Medicare can refuse to pay above a certain price. That's bargaining.
"Mr. WYDEN. If anybody is not sure what negotiating is, if anybody can't tell the difference between negotiation and price controls, I want to be specific about what constitutes negotiation. First, with negotiation, you simply sit down at the table. You say to the people you are negotiating with: I am one of your best customers. And third, you say: So, buddy, what are you going to do for me. . . .
It comes down to whether the Senate wants Medicare to be a smart shopper. I have said that Medicare purchasing of prescription drugs is like the fellow in Price Club buying toilet paper one roll at a time. Nobody would go out and do their shopping that way. Yet that is essentially what the country faces, if there are no changes at all."
http://thomas.loc.gov/cgi-bin/query/z?r109:S17FE5-0025:
Posted by: bjak at Nov 15, 2006 11:12:11 AM
I could be completely wrong in thinking this but,I think one reason that the US pharma companies do not buy the drugs from eu pharma companies is the a lot of the drugs that the EU pharma companies probablky would not meet the same FDA quality control levels the drugs that are produced in the United States meet. And the cost that it would take the drug companies in the US to get the drugs from the Eu pharma companies to be allowed for consumption in the US does not meet the profit that the US drug companies would make.
Posted by: John B. at Nov 15, 2006 11:22:35 AM
John Thacker,
If you don't buy the numbers than I guess we are at a loss, but the point is not that some other system would not have other inefficiencies, the point is that they have a lot of cushion (if you buy the numbers 3+ times) before they become less efficient.
Posted by: theCoach at Nov 15, 2006 12:21:01 PM
"Me-too" drugs should theoretically lower prices for treatment of a particular disease, because they offer competition to existing drugs. I'm puzzled by how anyone can simultaneously complain about "me-too" and high pharma prices, on a theoretical level. If "me-too" drugs don't lower prices in reality, then there is another type of market dysfunction. The allegedly "wasteful" effort spent on the "me-too" drug then would not be the problem.
Posted by: jult52 at Nov 15, 2006 1:00:05 PM
I am curious why libertarians support patents. Patents lead to government-enforced temporary monopolies that also operate as trade barriers. They are anti-competitive by design. OK, so you prefer a system where corporations control the price (patents always lead to price controls, since you don't have any competition) because you think it leads to more R&D. Why not just add a tax on pharmaceuticals and distribute the extracted money to the most promising innovations (that's what happening within the corporations anyway, but with less transparency) and get rid of patents?
What other government-regulated subsidizies are acceptable fo libertarians?
Posted by: Dan Karreman at Nov 15, 2006 1:23:16 PM
Lets end the 1st world drug price scandle . The USA can do this fairly and unilaterally . We are about the largest market . There is little reason to have different price in various 1st world markets if they are indeed fair and transparent.Congress inacts a law limiting the price of drugs in the USA to no greater than the lowest price in the G 7 nations plus X .X would be 0-10 % to cover any unique American costs i.e. tort .The prices references would be set at the distributor level .Retail markups would be free to float .The drug companys would benefit by increasing their bargaining position with individual countries.They would know that any deal they made in country XYZ would apply in the USA .
Posted by: Lowrie Glasgow at Nov 15, 2006 1:34:00 PM
A couple of quick points here. First the basis for determining the price reduction in the absence of patent protection should be the price that generics sell for currently ($4 per prescription for many at Wal-Mart). There is no reason to assume that, on average, brand drugs are any more expensive to manufacture than generics, so assuming a price reduction of 70-75 percent in the absence of patent protection is probably conservative. (I recall data from the chain drug store association that put the average brand prescription price at around $100 in 2004.)
Second, of course there would be lobbying and corruption in a system of research financed through the government, this would not all disappear the day we got rid of research financed through government patent monopolies. Of course there is no reason to beleive that this would be worse than under the current system.
My point is fairly straightforward, there are enormous efficiency gains from having drugs sell at their marginal costs -- read everything that trade economists say about the benefits of free trade and then multiply by about 100, a government finance system can be incredibly far from perfect and still hugely superior to the existing system.
Perhaps even more amazing is how little economic research there is on the topic. There are volumes of papers examining the loss from having 10% tariffs on imported shoes. The papers that examine the efficiency of patent supported drug research relative to alternatives are few and far betweens. This is very hard to explain.
Posted by: Dean Baker at Nov 15, 2006 1:36:58 PM
On the libertarians and patents:
Most libertarians tolerate government when it solves a market problem. In this case the patent system generally is tolerated to reduce free riding that would occur due to the huge postive externality on innovation. I think most libertarians (like most people, really) would agree that the current implimentation of the patent system in the US is less than ideal.
Posted by: nelsonal at Nov 15, 2006 1:37:37 PM
"We can't just bargain down the prices of pharmaceutical drugs without adverse consequences." Is this really the position of a true believer in market forces? This sounds more like Ezra Klein writing about Wal-Mart. "We can't just bargain down the prices of consumer goods without adverse consequences."
Why is government monopsony power bad and Wal-Mart monopsony power good?
I'm a Swede so I trust government more than corporations (at least I can vote them out). What's the case for trusting corporations more than government?
Posted by: Dan Karreman at Nov 15, 2006 1:44:53 PM
If a drug has reasonable substitutes, the US will have alot of bargaining power. If a drug does not have reasonable substitutes, the US will not have alot of bargaining power. This can result in a shift in investments away from "me too" drugs. Not that the companies want to find "me too" drugs, it is just hard to find a cure for cancer.
Posted by: joeo at Nov 15, 2006 2:36:13 PM
A comment and a pointer.
Comment. I'm a bit disappointed at the less-than-subtle comments made by a few posters that gov't spending on medical research must necessarily be less efficient than private spending. If this question had never been explored empirically - then this presumption would suit me just fine. However, the studies that have examined this question (related to whose spending generates valued medical innovations)have come to different conclusions - most medically significant advances have come from publicly funded research (partly or wholly). The reseach-based drug companies play a very socially valuable role in getting those innovations cleared by the FDA, getting them to market, and getting the word out to providers (and more controversially, potential patients).
Pointer. Since many MR readers seem interested in some of the finer details of pharma pricing - but not fully conversant in the underlying (admittedly complex) health and institutional economics, I'd suggest readers take a look at the Health Affairs blog post by Jamie Robinson on Biotech: Value-based pricing in bio-technology. http://healthaffairs.org/blog/2006/10/23/biotech-value-based-pricing-in-biotechnology.
Posted by: april at Nov 15, 2006 2:38:43 PM
<"Although many pharmaceuticals are sold worldwide, EU (U.S.) firms typically sell proportionately more in the EU (U.S.) (see Vernon, 2005)."
This effect isn't going to be random either. If a drug does not have reasonable substitutes, EU (U.S.) firms won't have a hard time selling them in the U.S. (EU).
There is no free lunch; there will be a decline in R&D. But, this will be the result of market signals.
Posted by: Joe O at Nov 15, 2006 2:45:40 PM
<"Although many pharmaceuticals are sold worldwide, EU (U.S.) firms typically sell proportionately more in the EU (U.S.) (see Vernon, 2005)."
This effect isn't going to be random either. If a drug does not have reasonable substitutes, EU (U.S.) firms won't have a hard time selling them in the U.S. (EU).
There is no free lunch; there will be a decline in R&D. But, this will be the result of market signals.
Posted by: Joe O at Nov 15, 2006 2:46:48 PM
Drugs are so expensive BECAUSE of government creates laws that free drug makers from having to compete in a free market like other companies selling normal products.
Given that the high profitabiltiy of drugs companies is because of government interference in the free market in the first place, why is it wrong for government to step in and say "enough is enough with these high prices"?
Posted by: Half Sigma at Nov 15, 2006 2:57:10 PM
Drugs are so expensive BECAUSE of government creates laws that free drug makers from having to compete in a free market like other companies selling normal products.
What, do patents not exist in other markets? The 17 year patent length for pharmaceuticals is much more reasonable than, say, the copyright length in other fields.
Certainly there are "normal products" where patents are much less of an issue-- but those same fields require much less in the way of innovative R&D investment.
However, the studies that have examined this question (related to whose spending generates valued medical innovations)have come to different conclusions - most medically significant advances have come from publicly funded research (partly or wholly).
"Partly or wholly," eh? Pretty strong weasel words there. There's a enormous amount of difference between basic research demonstrating a potential mechanism in a lab and developing a drug. Huge sums are spent for years trying to develop drugs based on a mechanism that has been already been demonstrated in a lab. It's much harder than the academic press releases make it seem. "Partly or wholly," indeed.
"If you don't buy the numbers than I guess we are at a loss, but the point is not that some other system would not have other inefficiencies, the point is that they have a lot of cushion (if you buy the numbers 3+ times) before they become less efficient."
Not that much cushion. If there's that much profit, then there's that much extra value that consumers are willing to pay. Thus, there's that much value that consumer groups should be willing to spend on lobbying.
Isn't what you call price controls what is also called "bargaining"? No manufacturer will be forced to sell at a mandated price, and Medicare can refuse to pay above a certain price. That's bargaining.
It's not bargaining when the other guy has a gun to your head, and that's what governments have when they threaten to break patent protection. (And they do make those threats.)
Second, of course there would be lobbying and corruption in a system of research financed through the government, this would not all disappear the day we got rid of research financed through government patent monopolies. Of course there is no reason to beleive that this would be worse than under the current system.
There are plenty of reasons to believe that the lobbying and corruption would be worse when all the research was funded through the government. More money from the government simply means more reasons to lobby, since the rewards for successful lobbying are greater. Perhaps you mean that it's unclear whether the increase in lobbying would overcome the possible effects on profits and advertising. (Though I suspect that advertising would still be useful.)
Posted by: John Thacker at Nov 15, 2006 3:10:28 PM
Also, a shift to a government-funded research system does nothing to solve the free rider problem. We haven't seen European public investment in pharmaceuticals rise concomitantly with the price controls.
In fact, I'd argue that the free rider problem could be even worse with a system of price controls and government-funded research. Each government would still have a strong incentive to skimp on investment, since they would benefit from other governments' investments. If politics in general is unable to resist the lure of taking advantage of being a free rider now, it seems unlikely that governments will be able to resist the lure of being a free rider in a purely government-funded research scenario, and drug investment will be underfunded.
Posted by: John Thacker at Nov 15, 2006 3:18:56 PM
John Thacker,
I presented no information about R&D changes in the time period in question, nor do I have any R&D data. However, I would be inclined to agree that R&D probably did decline (or grow less) as a consequence of pricing pressure under early Clinton. Since it appears that much of the current generation of R&D is not cost/benefit justified, reducing R&D may well be a superior allocation of societal resources.
You state “That does absolutely NOTHING to prove the rest of your claims at all”. Since I am not sure what claims you are referring to, I am not able to respond to this statement.
In a normal market (say copper, wheat or crude oil), political pressures have no effect on prices. Supply and demand rule. Indeed, a threat of price controls (and presumably rationing) should raise prices relatively quickly as producers withdraw capital from production. However, drug prices were flat for several years after Clinton was elected. Of course, the period provides no evidence of capital withdrawl from drug production, drug shortages, output rationing, etc.
Beyond that, drug prices are a vast multiple of marginal cost. Price controls at any plausible level won’t make drug production unprofitable. They may result in lower profits, R&D, and marketing outlays. However, actual production won’t be impacted.
Posted by: Peter Schaeffer at Nov 15, 2006 3:43:02 PM
We can't just bargain down the prices of pharmaceutical drugs without adverse consequences.
OK, but is it fair to count only the adverse consequences? Let's say Europe has less R&D. Still, it's worth asking whether the extra money spent in the US is really socially beneficial. Suppose Europe spends that money on making health care more widely available, or that the lower prices themselves make the fewer drugs more widely available? Isn't it possible that these are better ways to improve national health outcomes?
Suppose Europe spends the money on better law enforcement, and has less violent crime as a result? Might that not do more for health than some new medicines?
In other words, even showing that "price bargaining=>less pharma R&D" does not show that "less pharma R&D=less social welfare."
Posted by: Bernard Yomtov at Nov 15, 2006 6:39:31 PM
Why is government monopsony power bad and Wal-Mart monopsony power good?
Walmart has monopsony power when it comes to buying standardized, generic consumer goods but not at all when it comes to innovative, high-end or niche products which are carried by specialized retailers.
For drugs that are sold almost exclusively to Medicare-eligible patients within the U.S., bargaining would be the same in effect as price controls. True, nobody is forcing pharamceutical companies to sell through the Medicare program but it is highly unlikely the companies could cover their R&D costs with relatively few sales to private individuals.
When there are multiple insurance companies bargaining over drug prices, there is less danger that one insurance company will drive too hard a bargain and endanger the profits that justify R&D or even the market for the drug. I think the question boils down to the relative levels of bargaining power on each side. Allowing the government to negotiate prices may shift bargaining power too much against pharmaceutical companies.
Posted by: Mark at Nov 15, 2006 8:46:24 PM
I also think that one must take into consideration how many new people are able to purchase the medicine at the lower price. For example, if 100,000 people were able to afford the medicine and because of this able to provide for their family. I think that the lower about of R&D and jobs is good. I feel that there is a high demand for researchers if they are willing to move or go where the job is.
Posted by: econstudent79 at Nov 15, 2006 11:11:39 PM
I think the question boils down to the relative levels of bargaining power on each side. Allowing the government to negotiate prices may shift bargaining power too much against pharmaceutical companies.
Patent-based monopoly on one side, Medicare (partial) monopsony on the other side. I don't see how the deck is stacked in the government's favor bargaining-wise, in this case. If we allowed Medicare to negotiate, presumably we could write the legislation so that the negotiation happened before there were large sunk R&D costs.
Posted by: Mitch at Nov 16, 2006 5:05:08 AM
http://knowledge.wharton.upenn.edu/createpdf.cfm?articleid=879
"the U.S. has one of the highest levels of generic drug use relative to total prescription volume [of eight countries], and that generic prices are lower in the U.S. than in all the countries except Canada, where the difference is 6%."
Also that all drug prices on average come close to following GDP per capita purchasing power paritiy (i.e. price discriminated for high-income countries on basis of income):
"when we compare those price differences to the differences in income, we find that other countries’ prices are not out of line relative to income. If we are going to measure paying our fair share in terms of prices relative to income, then most of the Europeans are paying their fair share."
Moreover,
"What we find is that yes, the prices for patented drugs in the U.S. are higher than in most other countries, but the generic prices are lower...The two are related. Generic prices are lower because we have a more competitive market."
Posted by: Mr. Econotarian at Nov 16, 2006 3:30:37 PM
"We can't just bargain down the prices of X without adverse consequences."
I suppose to that this goes for just about everything. If the US government was taxing US tax payers and extra 100 Billion a year and giving that money to software operating system companies based on their market share, there would probably be a few more advances in software operating systems (or whatever). Reducing that amount would not be without adverse consequences, but it would be the right thing to do.
Posted by: theCoach at Nov 16, 2006 4:24:44 PM
"We can't just bargain down the prices of X without adverse consequences."
True. The problem is to find a real market clearing price that isn't jerry-rigged by various types of regulatory interference.
Posted by: jult52 at Nov 17, 2006 9:14:46 AM
i don't care so much about the quantity, but rather the quality. If the lost R&D would have been spent on AIDS, malaria, TB, etc. then that is a shame. But if it the lost R&D, because grandma got cheaper meds, would have spend on Restless Leg Syndrome then i'm not concerned.
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