Broken market of the day: pharmaceuticals

By Felix Salmon
April 3, 2011

Two highlights of the Kauffman Bloggers Forum were the presentations on the broken nature of the pharmaceuticals market. And they came from opposite ends of the left-right spectrum: Megan McArdle went first, followed by Dean Baker.

McArdle’s talk was narrowly focused on antibiotics. The problem here is resistance: even before antibiotics start being tested, resistance to them starts showing up. McArdle’s thesis is that this isn’t just a problem of drugs and biological science, but is a market problem too.

The size of the problem of multi-drug-resistant bacteria is immense: more than a million cases a year, many of which end in death. And the cause of the problem, McArdle says, is that “all of the incentives are bad”.

For one thing, the suppliers of antibiotics — doctors and farmers — have no incentive to reduce the quantity of antibiotics they hand out. At the margin, for the individual patient or cow, there’s no great harm in feeding them antibiotics even if they don’t need them. Some patients even explicitly ask for antibiotics “just in case” the infection turns out to be bacterial. But in aggregate, this behavior is exactly what’s causing the rise of multi-drug-resistant bacteria. The way McArdle puts it, “pharmaceutical profits in Europe are marginal, and they’re volume-driven. And in antibiotics, the last thing you want is volume-driven profits.”

Taxing antibiotics would reduce their over-use, at least at the margin — but would also reduce the incentive to develop new antibiotics which can be used where old ones are useless. Stockpiling new antibiotics might also be useful — but again that reduces incentives to develop new ones.

And the patent system is very much part of the problem as well. The way it works, the clock start running out on a new drug the minute it’s invented, even before it enters hugely expensive and time-consuming testing. So drug companies have every incentive to sell as much of a new antibiotic as possible as quickly as possible, while they still have a few years left with their patent in effect. After that, generic copies come on the market, and the price falls dramatically — which again is not necessarily a good thing, in the realm of antibiotics.

Baker’s talk picked up on the problem of pharmaceutical patents, and looked at it more generally. We spend about $300 billion a year on prescription drugs, up from essentially zero a few decades ago. That brings drugs out of reach of people who can’t afford them, and results in people cutting their dosages. It encourages companies to spend billions of dollars developing copycat drugs in order to chase patent rents. It discourages companies from doing R&D on diseases which aren’t tractable to cure by pills. And it means that an enormous amount of valuable of scientific research is kept secret.

Baker’s alternative to all the distortions created by the patent system is simple direct public funding for medical R&D and education: the costs of such a scheme would be lower than the amount we’re already paying on publicly-funded prescription drug benefits, so it would save money on a fiscal basis. All patents and research results would go into the public domain, which would generate huge global benefits.

Both presentations raised more questions than answers: for one thing, it’s politically impossible to enact a wholesale restructuring of pharmaceutical patent rules. These things are path-dependent, and we’ve gone far too far down this particular path to be able to make the enormous leap to something completely different. But even pharmaceutical companies will concede the current system isn’t working: McArdle’s slides came from a researcher for Pfizer, who is desperate to get the word out about how screwed up the current system of discovering, manufacturing, and distributing antibiotics is. Something, clearly, must be done. But I fear that in reality, nothing will be.

More From Felix Salmon
Post Felix
The Piketty pessimist
The most expensive lottery ticket in the world
The problems of HFT, Joe Stiglitz edition
Private equity math, Nuveen edition
Five explanations for Greece’s bond yield
Comments
One comment so far

One small quibble – I think Dean Baker’s goal was to fund the research with the cumulative excess rents from all pharmaceuticals across the market, from both private and public payers.

Since the entire excess profit or “deadweight loss” could be recovered by eliminating patents, the bulk of those funds could be used to fund research.

So even if research costs were higher than the part of the loss that was paid for by public dollars, society would come out ahead overall.

Jim

Posted by magellannh | Report as abusive
Post Your Comment

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/