Differential Pricing for Pharmaceuticals: Reconciling Access, R&D and Patents

This paper reviews the economic case for patents and the potential for differential pricing to increase affordability of on-patent drugs in developing countries while preserving incentives for innovation. Differential pricing, based on Ramsey pricing principles, is the second best efficient way of paying for the global joint costs of pharmaceutical R&D. Assuming demand elasticities are related to income, it would also be consistent with standard norms of equity. To achieve appropriate and sustainable price differences will require either that higher-income countries forego trying to "import" low drug prices from low-income countries, through parallel trade and external referencing, or that such practices become less feasible. The most promising approach that would prevent both parallel trade and external referencing is for payers/purchasers on behalf of developing countries to negotiate contracts with companies that include confidential rebates. With confidential rebates, final transactions prices to purchasers can differ across markets while manufacturers sell to distributors at uniform prices, thus eliminating opportunities for parallel trade and external referencing. The option of compulsory licensing of patented products to generic manufacturers may be important if they truly have lower production costs or originators charge prices above marginal cost, despite market separation. However, given the risks inherent in compulsory licensing, it seems best to first try the approach of strengthening market separation, to enable originator firms to maintain differential pricing. With assured market separation, originators may offer prices comparable to the prices that a local generic firm would charge, which eliminates the need for compulsory licensing. Differential pricing could go a long way to improve LDC access to drugs that have a high income market. However, other subsidy mechanisms will be needed to promote R&D for drugs that have no high income market.

Tort Liability: A Minefield for Managed Care?

The restructuring of health insurance contracts and health care delivery systems under managed care is the result of competitive attempts to reduce the inefficiencies that developed in medical markets under traditional indemnity insurance. Liability rules that continue to apply norms of customary care threaten to undermine these potential efficiency gains. Liability rules under managed care should treat claims for denial of coverage as contractual disputes, to be brought against health plans as residual claimants. Where contracts are ambiguous, appropriate coverage should be determined using a cost-benefit criterion based on beneficiaries’ willingness-to-pay. Liability claims for negligent care should be permitted only against providers, not against health plans, except where the plan voluntarily assumes liability by contract. Extending liability for negligent care to health plans is likely to distort liability decisions and constrain the competitive evolution of delivery systems. These principles should apply equally to all plans, regardless of their status under the Employer Retirement Income Security Act