TCS Daily

Study: Price Controls Harm Patients

By Kevin Hassett - December 24, 2004 12:00 AM

Yesterday, the Department of Commerce released a detailed and shocking study of the impact of the drug purchasing practices of our OECD trading partners on U.S. citizens. While academic economists always seem to be wishy-washy about making conclusions on the effects of such practices, the authors of this economic study had no such problem. Foreign price controls discourage research and new drug development. Foreign price controls harm patients. Our OECD trading partners are free riding on U.S. innovation. What is worse, our OECD trading partners are not saving all that much money in the process. The study catches them red-handed. They are steering monies away from the best drugs towards outmoded generic drugs that are sold by local companies at inflated prices.

This study will be big news in Washington for at least two reasons. First, the common practice of steering patients toward domestically produced and unacceptably expensive generics is clearly an issue that must be addressed in trade negotiations. Foreign countries could save as much as $30 billion annually if they just paid the same price for generic drugs as we do here in the U.S. If some of that money were then moved toward innovative medicines, patients in these countries would be better off, and the negative impact of price controls muted. Second, without explicitly extrapolating in this direction, the study puts to rest the notion that allowing drug reimportation would be a relatively benign cost reduction strategy here at home. If foreign price controls suppress innovation and harm the health of our citizens, then importing those price controls will do so as well.

The link between price controls and new drugs is drawn quite methodically in the study, and documented with extensive references to peer-reviewed academic papers.

The study's first step is to establish that price controls exist abroad, and that they reduce revenues that our drug companies otherwise would acquire. The chapter describing the price controls presents a veritable rogues gallery of intrusive government practices. Foreign governments, it seems, have lots of tricks up their sleeves. They explicitly set sales prices, and prohibit sales at any other price. While lower prices might lead to increased volumes, spendthrift governments have that covered too. Explicit volume controls are also often imposed, effectively rationing prescription drugs. In order to keep spending on foreign products down, countries are often very slow in approving new drugs as well.

All of this lowers the revenue that innovative manufacturers can expect to receive for their products. The Commerce team estimates that such practices decrease revenues in OECD countries by $18 to $27 billion annually, representing a 25 to 38 percent potential increase over 2003 revenues. That is a lot of money, but it is less than the amount that governments overpay because of their protectionist generic practices.

What does that lower revenue for patented medications mean? The literature is quite clear on this. When revenues drop, research does as well. Using standard industry relationships, the study shows that R&D in the U.S. would increase sharply if foreign price controls were relaxed. And the benefits to patients would be substantial. The number of new molecular entities hitting the market in the U.S. would increase in response to that R&D by about 10 percent.

What impact would the new drugs have on our citizens? The study indicates that there are two possibilities. First, many of the new drugs will be truly new products that address problems that were previously unaddressed. The health impact of these will be substantial. Second, even those that are "follow-on" drugs, that is, modifications of existing compounds, one can expect that these will benefit consumers as well. This is because follow-on drugs introduce price competition with existing patented products. Either way, patients win.

If reimportation were allowed, the same chain could be followed. Revenues would drop, research activity would slow, and new drug development would falter. Each step is supported by extensive research, all carefully documented in this new study. It might still be fashionable to support reimportation, but the study makes clear that it would be economically indefensible. Congress asked for this study, let's hope they use it.

Kevin Hassett is director of economic policy studies at the American Enterprise Institute. He has worked as an economic consultant for numerous pharmaceutical companies and organizations.


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