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Examining the link between price regulation and pharmaceutical R&D investment

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  • John A. Vernon

    (Department of Finance & Center for Healthcare & Insurance Studies, Graduate School of Business, University of Connecticut, Connecticut, USA)

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    Abstract

    This paper examines the link between price regulation and pharmaceutical research and development (R&D) investment. I identify two mechanisms through which price regulation may exert an influence on R&D: an expected-profit effect and a cash-flow effect. Using established models of the determinants of pharmaceutical R&D, I exploit a unique fact to quantify firm exposure to pharmaceutical price regulation: relative to the rest of the world, the U.S. pharmaceutical market is largely unregulated with respect to price. Using this fact within the context of a system of quasi-structural equations, I simulate how a new policy regulating pharmaceutical prices in the U.S. will affect R&D investment. I find that such a policy will lead to a decline in industry R&D by between 23.4 and 32.7%. This prediction, however, is accompanied by several caveats. Moreover, it says nothing about the implications for social welfare; therefore, these issues are also discussed. Copyright © 2004 John Wiley & Sons, Ltd.

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    File URL: http://hdl.handle.net/10.1002/hec.897
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    Bibliographic Info

    Article provided by John Wiley & Sons, Ltd. in its journal Health Economics.

    Volume (Year): 14 (2005)
    Issue (Month): 1 ()
    Pages: 1-16

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    Handle: RePEc:wly:hlthec:v:14:y:2005:i:1:p:1-16

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    Web page: http://www3.interscience.wiley.com/cgi-bin/jhome/5749

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    References

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    1. Bronwyn H. Hall, 1992. "Investment and Research and Development at the Firm Level: Does the Source of Financing Matter?," NBER Working Papers 4096, National Bureau of Economic Research, Inc.
    2. R. Glenn Hubbard, 1998. "Capital-Market Imperfections and Investment," Journal of Economic Literature, American Economic Association, vol. 36(1), pages 193-225, March.
    3. Steven Fazzari & R. Glenn Hubbard & Bruce C. Petersen, 1988. "Financing Constraints and Corporate Investment," NBER Working Papers 2387, National Bureau of Economic Research, Inc.
    4. Hausman, Jerry A, 1978. "Specification Tests in Econometrics," Econometrica, Econometric Society, vol. 46(6), pages 1251-71, November.
    5. DiMasi, Joseph A. & Hansen, Ronald W. & Grabowski, Henry G., 2003. "The price of innovation: new estimates of drug development costs," Journal of Health Economics, Elsevier, vol. 22(2), pages 151-185, March.
    6. Kenneth Arrow, 1962. "Economic Welfare and the Allocation of Resources for Invention," NBER Chapters, in: The Rate and Direction of Inventive Activity: Economic and Social Factors, pages 609-626 National Bureau of Economic Research, Inc.
    7. John Vernon, 2003. "The relationship between price regulation and pharmaceutical profit margins," Applied Economics Letters, Taylor & Francis Journals, vol. 10(8), pages 467-470.
    8. Henderson, Rebecca. & Cockburn, Iain., 1993. "Scale, scope and spillovers : the determinants of research productivity in ethical drug discovery," Working papers 3629-93., Massachusetts Institute of Technology (MIT), Sloan School of Management.
    9. Henry Grabowski & John Vernon, 2000. "The determinants of pharmaceutical research and development expenditures," Journal of Evolutionary Economics, Springer, vol. 10(1), pages 201-215.
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    Citations

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    Cited by:
    1. Volker Grossmann, 2011. "Do Cost-sharing and Entry Deregulation Curb Pharmaceutical Innovation?," CESifo Working Paper Series 3439, CESifo Group Munich.
    2. Brekke, Kurt R. & Holmås, Tor Helge & Straume, Odd Rune, 2014. "Price Regulation and Parallel Imports of Pharmaceuticals," Discussion Paper Series in Economics 1/2014, Department of Economics, Norwegian School of Economics.
    3. Nebibe Varol & Joan Costa-i-Font & Alistair McGuire, 2010. "Do international launch strategies of pharmaceutical corporations respond to changes in the regulatory environment?," LSE Research Online Documents on Economics 29972, London School of Economics and Political Science, LSE Library.
    4. Rosella Levaggi & Michele Moretto & Paolo Pertile, 2013. "The dynamics of pharmaceutical regulation and R&D investments," Working Papers 13/2013, University of Verona, Department of Economics.
    5. Patricia M. Danzon & Andrew Epstein & Sean Nicholson, 2004. "Mergers and Acquisitions in the Pharmaceutical and Biotech Industries," NBER Working Papers 10536, National Bureau of Economic Research, Inc.
    6. John A. Vernon & W. Keener Hughen, 2006. "The Future of Drug Development: the Economics of Pharmacogenomics," Working Papers id:589, eSocialSciences.
    7. Joseph Golec & Shantaram Hegde & John A. Vernon, 2005. "Pharmaceutical Stock Price Reactions to Price Constraint Threats and Firm-Level R&D Spending," NBER Working Papers 11229, National Bureau of Economic Research, Inc.
    8. Barrenho, E & Smith, PC & Miraldo, M, 2013. "The determinants of attrition in drug development: a duration analysis," Working Papers 12204, Imperial College, London, Imperial College Business School.
    9. Shin-Yun Wang & Chih-Chiang Hwang, 2011. "Application of options to the pharmaceutical markets: The solutions of corruption and counterfeit drugs in emerging markets," International Journal of Accounting and Information Management, Emerald Group Publishing, vol. 19(2), pages 169-181, June.
    10. John A. Vernon & W. Keener Hughen, 2005. "The Future of Drug Development: The Economics of Pharmacogenomics," NBER Working Papers 11875, National Bureau of Economic Research, Inc.
    11. Joseph H. Golec & John A. Vernon, 2006. "European Pharmaceutical Price Regulation, Firm Profitability, and R&D Spending," NBER Working Papers 12676, National Bureau of Economic Research, Inc.
    12. Joseph H. Golec & John A. Vernon, 2007. "Financial Risk in the Biotechnology Industry," NBER Working Papers 13604, National Bureau of Economic Research, Inc.

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