Who Benefits from New Medical Technologies? Estimates of Consumer and Producer Surpluses for HIV/AIDS Drugs

The social value of an innovation is comprised of the value to consumers and the value to innovators. We estimate that for the HIV/AIDS therapies that entered the market from the late 1980's onwards, innovators appropriated only 5% of the social surplus arising from these new technologies. Despite the high annual costs of these drugs to patients, the low share of social surplus going to innovators raises concerns about advocating cost-effectiveness criteria that would further reduce this share, and hence further reduce incentives for innovation.

Health Care, Technological Change, and Altruistic Consumption Externalities

Traditional economic analysis has proposed well known remedies to deal with consumption externalities and inefficient technological change in isolation, but lacks a general framework for addressing them jointly. We argue that the joint determination of R&D and consumption externalities is central to health care industries around the world generally, and for the pharmaceutical industry in particular. This is because technological change drives the expansion of the health care sector and altruism seems to motivate many public subsidies such as Medicaid in the US. We stress that standard remedies to the two problems in isolation are inefficient — Pigouvian corrections to consumption externalities are inefficient under technological change and standard R&D stimuli are inefficient because they focus only on consumer and producer surplus, not the altruistic surplus accruing to non-consumers. We provide illustrative calculations of the dynamic inefficiency in the level of US R&D spending due to the inability of innovators to appropriate the altruistic surplus. We find that altruistic gains amount to about a quarter of consumer surplus in the baseline scenario. Our analysis implies that total R&D could be under-provided by as much as 60 percent.

Surplus Appropriation from R&D and Health Care Technology Assessment Procedures

Given the rapid growth in health care spending that is often attributed to technological change, many private and public institutions are grappling with how to best assess and adopt new health care technologies. The leading technology adoption criteria proposed in theory and used in practice involve so called "cost-effectiveness" measures. However, little is known about the dynamic efficiency implications of such criteria, in particular how they influence the R&D investments that make technologies available in the first place. We argue that such criteria implicitly concern maximizing consumer surplus, which many times is consistent with maximizing static efficiency after an innovation has been developed. Dynamic efficiency, however, concerns aligning the social costs and benefits of R&D and is therefore determined by how much of the social surplus from the new technology is appropriated as producer surplus. We analyze the relationship between cost-effectiveness measures and the degree of surplus appropriation by innovators driving dynamic efficiency. We illustrate how to estimate the two for the new HIV/AIDS therapies that entered the market after the late 1980's and find that only 5% of the social surplus is appropriated by innovators. We show how this finding can be generalized to other existing cost-effectiveness estimates by deriving how those estimates identify innovator appropriation for a set of studies of over 200 drugs. We find that these studies implicitly support a low degree of appropriation as well. Despite the high annual cost of drugs to patients, very low shares of social surplus may go to innovators, which may imply that cost-effectiveness is too high in a dynamic efficiency sense.

Endogenous Cost-Effectiveness Analysis in Health Care Technology Adoption

Increased health care spending has been argued to be largely due to technological change. Cost-effectiveness analysis is the main tool used by private and public third-party payers to prioritize adoption of the new technologies responsible for this growth. However, such analysis by payers invariably reflects prices set by producers rather than resources used to produce treatments. This implies that the “costs” in cost-effectiveness assessments depend on endogenous markups which are, in turn, influenced by demand factors of patients, doctors, and payers. Reimbursement policy based on endogenous cost-effectiveness levels may therefore bear little relationship to efficient use of scarce medical resources. Using data on technology appraisals in the United Kingdom, we test for conditions under which adoption based on endogenous cost-effectiveness may lead to adoption of more inefficient treatments in terms of resource use.

The Value of Life in General Equilibrium

Perhaps the most important change of the last century was the great expansion of life itself -- in the US alone, life expectancy increased from 48 to 78 years. Recent economic estimates confirm this claim, finding that the economic value of the gain in longevity was on par with the value of growth in material well-being, as measured by income per capita. However, ever since Malthus, economists have recognized that demographic changes are linked to economic behavior and vice versa. Put simply, living with others who live 78 years is different than living with others who live only 48 years, so that valuing the extra 30 years of life is not simply a matter of valuing the extra years a single individual lives. The magnitude by which such valuations differ is overstated when there are increasing returns to population and is understated under decreasing returns. Focusing on the gains in life expectancy in the United States from 1900 to 2000, we find that a significant part of the value of longer life may be affected by these general equilibrium demographic effects.

An Economic Evaluation of the War on Cancer

For decades, the US public and private sectors have committed substantial resources towards cancer research, but the societal payoff has not been well-understood. We quantify the value of recent gains in cancer survival, and analyze the distribution of value among various stakeholders. Between 1988 and 2000, life expectancy for cancer patients increased by roughly four years, and the average willingness-to-pay for these survival gains was roughly $322,000. Improvements in cancer survival during this period created 23 million additional life-years and roughly$1.9 trillion of additional social value, implying that the average life-year was worth approximately $82,000 to its recipient. Health care providers and pharmaceutical companies appropriated 5-19% of this total, with the rest accruing to patients. The share of value flowing to patients has been rising over time. These calculations suggest that from the patient's point of view, the rate of return to R&D investments against cancer has been substantial.