Friday, 4 July 2014

Drug deals gone bad

Or are they?

Donal Curtin writes at the Economic New Zealand blog that
I was shocked - shocked! - to read in the Economist last week that drug companies, faced with the prospect of superprofits on patented drugs evaporating when the patents expire and the off-patent drugs can be substituted by much cheaper 'generics', have been paying generics producers not to enter the market.
Is this so bad? Looks like it could just be the Coase Theorem in action. Transaction costs are low for the companies involved and so they bargain to a mutually profitable outcome. Whats not to like?

Well maybe the problem is that not all affected parties are at the bargaining table. Under the Coase Theorem it is (implicitly) assumed that all parties affected by the externality, or whatever, are able to bargain with each other. In the drugs case clearly consumers are not at the bargaining table. Transaction costs prevent consumers of the drug, who would gain most from a price reduction, from bargaining with the companies involved, so their voice is not heard. The outcome therefore may not be the socially efficient one.

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