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The Effect of Price Regulation on New Drug Development

By July 21, 2010Commentary

A new paper, funded by a drug company, examines government regulation of the prices of pharmaceuticals and the development of new compounds.   (ESMT Paper) The study was performed by the European School of Management and Technology and examined market pricing versus external price benchmarking and internal reference pricing, two methods widely used to set drug prices for reimbursement by European and other OECD countries.  The research is based on a model of decision-making in the context of various price schemes and those schemes effect on the profitability of a compound.

Drug development is acknowledged by all to be an expensive, lengthy and complex process; with many failures occurring in the late stages of clinical testing,  when tens or hundreds of millions of dollars may already have been spent on the product.  Companies are constantly evaluating the expense and risk against the potential revenues and profits if a product reaches the market.  Reducing revenues and profitability obviously lessens the likelihood that a company will continue to develop any particular product.  The researchers’ model effectively creates a net present value approach to evaluating the effect of price regulation on development.  As might be expected, the model reveals that fewer drugs will be developed if pricing is limited.

This is a complex subject.  In addition to price regulation, governments may explicitly or implicitly make it harder for new compounds to obtain approval for marketing, as a method of keeping their health spending down.  This is not necessarily good for patients or for long-term health spending, as some new drugs may cure as opposed to ameliorate a disease and many do seem to prevent hospitalizations and emergency room visits.  But drug companies have recently produced a lot of drugs with only marginal benefit and they are spending fortunes on marketing and sales; more than on research.  Ideally the firms would focus more on research for truly innovative compounds, limit their sales and marketing expenses and be able to charge less while still making healthy profits.

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