Seeker Blog

Between 1996 and 2000, the FDA averaged about 153 new drug approvals. Between 2001 and 2005, the number was down to 55, with only 15 in 2005 and 29 in 2004.

This is a useful essay on the costs of regulation by Richard A. Epstein, a professor of law at the University of Chicago and a senior fellow at the Hoover Institution. Epstein consults for the pharmaceutical industry - nevertheless his arguments match up with what I know of the industry.

The above-captioned Epstein quote on what has happened to new drug releases is shocking.

…The truth is, the pharmaceutical industry is too heavily regulated. Its big problem today is not that it’s free to run roughshod over the needs of consumers, but that it operates in a hostile and excessive regulatory environment that frustrates sound business decision-making and keeps down pharmaceutical company share prices in the stock market.

Consider the following: Ever-tougher conflict-of-interest rules in the National Institutes of Health and such academic medical centers as the University of Pennsylvania, Stanford and Yale have reduced opportunities for fruitful collaboration between industry, government and universities. More stringent requirements for clinical drug trials — including rules that demand larger test populations and more extensive documentation — have reduced the flow of new drugs to market. (Between 1996 and 2000, the FDA averaged about 153 new drug approvals. Between 2001 and 2005, the number was down to 55, with only 15 in 2005 and 29 in 2004.)

In addition, the industry faces major liability risks. Consumer fraud legislation adopted in many states has generated massive, often eye-popping claims for refunds of the original purchase price — in some cases even for drugs that have worked as promised or on the part of people who have not taken the drugs at all.

Epstein describes some of the consequences of the industry’s high fixed cost, low variable cost structure, but doesn’t prescribe any solutions to the bargaining problem: nobody wants to pay the high fixed cost portion. I would like to see an objective study of the drug market, which would show how these negotiations play out in the real world. I’m fairly certain that the national health negotiators cut deals where they pay much less than their share of the fixed costs [we know Australian and New Zealand on-the-list pricing]. I suspect that big HMO’s also don’t pay their share. Then who pays more than their share? I think it is the US consumer.

The central challenge to drug pricing is to figure out, quite literally, who swallows (and in what proportions) that huge front-end cost. Unfortunately, no company has a precise method to fairly, reasonably and palatably allocate the cost of drug development among the varied classes of subsequent consumers — large HMOs, hospitals, full-service pharmacies and Medicaid for starters. Each buyer has a strong incentive to push as many of those costs as possible onto someone else.

The upshot is a rough-and-tumble bargaining game in which drug prices vary substantially across different market segments. But the corner drugstore doesn’t have the same leverage to play one drug manufacturer off against another, so it usually pays higher prices for its wares than a large HMO. The resulting confusion leads to loud calls for equitable, industrywide price controls. But price controls would have the same dire consequences as they would in any other industry. Investment dollars will quickly move elsewhere if the regulatory system does not allow manufacturers to maximize their revenues over the useful life of the drug (which, incidentally, never exceeds the 11 or so years of patent protection).

I can’t believe legislators are hawking price controls! Please keep an eye on this - we certainly will.