Pharmaceutical market failures

First, the pharmaceutical market failures mentioned above may be empirically inconsequential, which may either render their regulation unnecessary or make it advisable to use more flexible price control policies. For example, justifications for regulation that are based on the virtual absence of competition seem weak when one observes markets with products whose patent has expired. When a patent expires barriers to entry should disappear, since the composition of the active ingredient becomes public, and other companies should not have too many problems to reproduce the production process. The reasons brandished for price regulation when any company can manufacture a generic to compete with the brand product find no justification in theory. 

There is a long-standing habit in the health economics literature of supporting the need to regulate health care services in market failures such as information asymmetries, complexity and uncertainty, indivisibilities and externalities. These imperfections are also present in the market of a resource that is very important in the health service production process pharmaceutical products. However, the pharmaceutical market also presents certain specific characteristics that are of particular importance and have been used as arguments in favour of the need to adopt public policies of price intervention and regulation. 

For the marketing authorisation ( MA ) holder, there are numerous obligations and conditions attaching to the authorisation and, as with all authorisations held under pharmaceutical legislation, failure to comply will give rise to the imposition of regulatory sanctions. Enforcement measures are pursued at local level. 

The purpose of this book is to investigate public policy issues in pharmaceutical innovation. In Section II we first describe the important characteristics of prescription drugs. We emphasize that these characteristics deviate from the standard conditions in a competitive market. In Section III we discuss the current performance of the pharmaceutical market. In Section IV we investigate market failures that persist in allocating research and development (R D) resources and in the utilization of prescription drugs. In Section V we analyze the policy conflict between the economic and health sectors arising from pharmaceutical innovation. The final section discusses the structure of the book and the major content of the chapters. 

IV. The Performance of Pharmaceutical Markets Market Failure in Pharmaceutical Markets ... 

As we have already documented, a major market failure is the absence of incentives to develop some drugs that potentially have important social benefits, but that are not currently being developed, in large part because pharmaceutical manufacturers lack an adequate incentive to engage in R D to develop such socially beneficial products. Several types of vaccines are a case in point. Clearly the patent system has proven to be inadequate in providing a sufficient incentive. Perhaps other incentive plans can either replace or supplement existing incentives to correct this market failure. 

In Chapter 4 Aidan Hollis examines three proposals in considerable detail. The first is an Advanced Purchase Commitment by sponsors, who offer an explicit subsidy in advance for innovative products. The subsidy offer includes a fixed-dollar amount per unit as well as a commitment to purchase a specific number of units at that price. The second proposal is that sponsors pay annual rewards based on the therapeutic effectiveness of innovative drugs. The third approach is to offer a patent extension on patented products to pharmaceutical companies if they successfully developed a vaccine for a disease such as HIV/AIDS that is highly prevalent, particularly in some low-income countries. Hollis concludes that the third approach is an extremely inefficient way to reward innovation. By contrast, the second approach could correct the market failure directly by rewarding innovative drugs according to their therapeutic effectiveness, which is measurable by cost-effectiveness analysis, a topic discussed later in greater detail in Chapters 10 and 11. 

Given such large investment costs and risks, very little innovative pharmaceutical research would take place in a free market system. The reason is that an innovator would bear the full cost of its failures, but would be unable to profit from its successes because competitors would copy or retro-engineer its invention (effectively free-riding on its effort) and then drive down the price close to the marginal cost of production. This is a classic instance of market failure leading to a collectively irrational (Pareto-suboptimal) outcome in which medical innovation is undersupplied by the market. 

Cohen, J. C. 2003. Government and Market Failures in the Pharmaceutical System Partial Explanations... 

Before we get into an outline of the theory of pharmaceutical economics, we need to establish pure competition as a competitive process. Traditional microeconomics has assumed implicitly that the natural state is one that is depicted by pure competition. Deviations from the natural state occur as a disequilibrium, by the establishment of monopoly power, or through other often cited market failures. In cases of disequilibrium, the tatonne-ment will bring us to the equilibrium ideal of pure competition. Interestingly, the model of pure competition never really describes the process of the tatormement (equilibration) but only the conditions necessary for the process to operate and the final equilibrium to result when the process has worked itself out. 

One area that has been emphasized in economic theory is that price competition does not exist if a firm or group of firms can charge different prices to different segments of the market. In the pharmaceutical industry, this market failure has been emphasized relative to the prices charged to the elderly. It has been claimed that the elderly pay higher prices than the rest of the... 

Srinivas, S. (2011) Well Beyond Market Failure Development States in Indian pharmaceuticals and biotech, paper presented at the American Political Science Association annual meeting (APSA) 2011, Seattle, 1-4 September 2011. 

And third, given that regulatory intervention generates both benefits and costs, the benefits of price control might be more than cancelled out (welfare loss) by its costs in the form of administrative costs, transaction costs and distortions in incentives derived from the regulation itself.5 The costs of an imperfect market cannot be compared with those of a perfect one, and pharmaceutical price regulation failures must be taken into account. 

The national drag register functions as a technical barrier to trade. This conclusion is partly related to the fact that after eight years of efforts the pharmaceutical industry was considered to be the single European market s greatest failure. 

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