Private expected returns

CHAIRMAN SEGLIN I think the message has to filter somehow down to the government that private industry is profit-oriented, and I don t think anybody in private industry is about to commit hari-kari with their company. We re talking about the big bucks and with no expected return for the dollars that you are referring to. Maybe I missed the point. 

Viewed as a whole, the successful ones must more than pay for the unsuccessful. This is usually viewed in the private sector as "risk", and is thought of, not as an added cost, but rather as the expected return necessary to justify "taking the risk", i.e., making the investments in invention, development, and introduction. 

In the poorest countries, the "public" system is really a mixture of publicly funded staff and consumables funded privately through out-of-pocket spending by patients. In many countries, staff also expect informal "fees" in return for access to health care. As a result, the cost-effectiveness of service delivery is low, and services are consumed by relatively well-off patients with less urgent health needs, undermining both the efficiency and equity of the health system. 

The capital market in the United States is distorted by the corporate income tax which increases the before tax return to corporate capital and reduces the before tax return to capital in the remainder of the economy from the level which would prevail in the absence of the taoc. V/hile the private rates of return on capital are used to estimate the expected present value of private cost saving, the social opportunity cost of capital is used to evaluate the expected present value of the social cost savings. 

All of this underscore a fundamental problem The drug discovery industry increasingly seems to be caught between the hammer of private enterprise with its requirement for return on investment and the anvil of public health, which demands unrestricted access to necessary medicines. Society posits for the industry inconsistent standards of behavior, observes one commentator. On some occasions, lawmakers and the general public seem to expect pharmaceutical firms to behave as if they were community-owned, nonprofit entities. At the same time, the firms owners... always expect the firms to use their market power and political muscle to maximize their owners wealth. Caught between these inconsistent standards of behavior is an industry that naturally will never get it quite right.And as long as that remains the case, debates about R D costs are unlikely to end. 

Impossibility, of obtaining such data for innovations that were not carried out should be obvious.) But a limited amount of evidence can perhaps be derived on this score from the data concerning the 17 Innovations. For 9 of these innovations, we could obtain data concerning the approximate private rate of return expected from the innovation by the innovator when it began the project. In 5 of the 9 cases, this expected private rate of return was less than 15 percent (before teuces), which indicates that these 5 projects were quite marginal from the point of view of the firm, (indeed, the executives of the firms confirmed that they were marginal.) yet the average social rate of return of these 5 innovations was over 100 percent. 

Unless the social rate of return drops precipitously when the expected private rate of return falls from 10 or 12 percent to (say) 5 or 6 percent, this result seems to indicate that there may be many projects where the expected rate of return was a bit lower than for these 5 projects (with the result that they were not carried out), but where the social rate of return would have been quite high. Among the Innovations for which we have data, there is no significant correlation between an innovation s expected private rate of return and its social rate of return. Thus, unless there is a sharp discontinuity in the slope of whatever relationship exists between the expected private rate of return and the social rate of return, no evidence exists to suggest a precipitous drop in the social rate of return when the expected private rate of return falls from 10 to 12 percent to 5 or 6 percent. These results, like those discussed above, may point toward some under-investment in civili2m technology. 

While the US doesn t believe in the government negotiating prices with the pharmaceutical industry, the rise of formularies by Medicaid and by private insurers has played a similar role in cost contaimnent and has dramatically transformed the potential returns on research investment. The principle of tiered formularies is theoretically simple - insurers cover the cost of basic dmgs for an indication and the consumer then makes choices about how much additional value they want, and accepts the additional costs. Most formularies have three tiers, possibly four as shown in Table 11. Managed care formularies vary considerably in the co-payments expected for each tier, and the tiers assigned to a given dmg. 

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