At Tyler’s prompting I will have several posts this week on me-too drugs. It’s a difficult area but one that I have been thinking about. Why are me-too drugs bad, even though competition is ordinarily good? The reason is that when an industry is characterized by market power and price exceeds marginal cost the private returns to innovation may exceed the social returns.
Here’s a simple model. I own a profitable gold mine. You buy some land nearby and begin to dig but instead of finding your own gold you tunnel underneath my land and steal my gold – you undermine my profits. Now this may be very profitable to you but as far as society is concerned your digging is wasted effort. You expended resources not to increase production but simply to transfer profit from me to you. The prospect of stealing my gold attracts too much entry (and the threat of this may in turn cause me to invest less in the first place).
A patent on a blockbuster drug is like a gold mine. Me-too drugs undermine the profit from the blockbuster. The R&D that goes into the me-toos is thus a social waste.
The gold-mine problem is the economic case against me-too drugs.
The gold-mine model leads to some surprising insights. Me-too drugs are bad because resources are used to undermine someone else’s profits. But a firm won’t undermine it’s own profits. Thus, a firm’s own "me-too" drugs are not an example of the gold-mine problem.
AstraZeneca introduced Nexium just as their drug Prilosec was going off patent. Nexium is very similar to Prilosec and for almost all patients it offers few additional benefits – it is widely cited as a me-too drug. The Nexium problem, however, is quite different from the gold-mine problem. The Nexium problem is, Why do people buy the expensive brand when the cheap generic would be just as good? The Nexium problem is that customers think, or act is if they think, that Nexium is not a me-too drug.
In contrast, in the statin market there is Zocor, Lipitor, Pravachol, Lescol and Crestor. Even if consumers thought these drugs were me-toos, each of them would still have a market. Here the problem is, or appears to be, the gold-mine problem.
Solutions to the Nexium problem, such as better informed patients or getting consumers to pay a larger share of their drug purchases, do not necessarily solve the gold-mine problem.
In a future post, I will look at some solutions to the gold-mine problem. I will also look more closely at whether the pharmaceutical market fits the assumptions of the model.