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  • Writer's pictureJennifer Light

Price Ceilings on Big Pharma: A Path to Destruction

In every other major market in the world, there is some form of price control in the pharmaceutical industry, except the US. So why haven’t we adopted one?

While the idea of lower prices may sound appealing to consumers, the consequences on the industry are far too great. A government-imposed price ceiling on pharmaceutical businesses would cause the market to collapse and innovation to practically disappear.

First, on innovation.

There are two major behaviors of a capitalist economy that will come into play here. Those being that 1) the market is often regulated by the laws of supply and demand, and 2) businesses will operate when and where it is most profitable. Of course, these are general rules, but they have specific applications in this context. The second rule is crucial because it establishes a relationship between high prices and high innovation. When prices are high, profits are high, and investors and researchers are encouraged to start looking into the product more. The tangible profit gives researchers a reason to improve the product in order to make more money. This directly leads to increased development. In fact, economists Joseph Golec and John Vernon estimated that if the United States had used a European-style price control on pharmaceutical drugs from 1986 to 2004, the US would have produced 117 fewer new medical compounds. If the government had set price controls during that time period, essential therapies would never have been discovered, nor would discoveries of life-enhancing or life-saving treatments for diseases such as Alzheimer’s and cancer have been made. That’s why the National Bureau of Economic Research finds that cutting prices by 40 to 50 percent in the United States will lead to between 30 and 60 percent fewer R and D projects being undertaken in the early stage of developing a new drug.

This may lead to orphan diseases may be deprioritized, as the returns under price controls would not warrant the investment. Complex diseases would also be deselected. Low prices induce drug makers to exit various markets, or at least to reallocate their manufacturing capacity toward more profitable, patented pharmaceuticals. Low prices also tend to eliminate the rationale for investments in better manufacturing technologies and processes, as shown in a 2009 study conducted by the author and published in the Journal of Management Science. While Alzheimer’s disease and diabetes have huge patient populations, the extremely high cost of conducting the difficult research and the need for huge and complex clinical trials would dissuade all but the largest companies from pursuing those illnesses if the potential pricing upside was to be significantly constrained. And when looking at other countries that have imposed price controls, we can obviously see these effects. The U.S. Department of Commerce calculates that price controls among countries in the OECD, a major economic organization comprising much of Europe, drive away $5 billion to $8 billion in potential pharmaceutical development investment every year. That prevents the creation of three to four new drugs annually. Advances in these areas will happen, and they will happen soon if these companies are able to acquire the proper amount of money without price controls blocking the road for innovation.

Not only this, but price controls would upset the current balance of the market.

For example, when the federal government restricted gasoline prices in the 1970s, long lines formed at gas stations, and only those motorists who waited long hours in line received the scarce gasoline. Consumers, in competing for a limited amount of the controlled product, may waste as much as they gain from getting it at a low price. For instance, the people who waited in the 1970s gas lines probably shouldered as much cost from the lost time queuing as they saved from the price controls on gasoline. When the government stepped in and restricted prices, the balance of supply and demand was upset. Demand spiked and supply couldn’t keep up, and we saw the industry suffer on a nationwide scale. If the government were to step in now, why wouldn’t the same thing happen? If we were to try this again, but with drugs, which many people’s lives are dependent on, wouldn't that cause major disaster? It is much more likely that prices of vital medicines and medications will decrease gradually as the competition seen in a laissez-faire capitalist economy forces businesses to adjust to the market.

The pharma industry has remained price-control free due to the weight of these consequences, and rightfully so. European markets often struggle to keep up and maintain the price of drugs, while the US remains consequence-free. The lack of price controls has protected our market, innovation, and medical stability.

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