Once intellectual property exists, economic logic says it should be passed out freely, grasshopper-like. In technical terms, efficiency is attained when prices are set at marginal cost, and the cost of distributing already-extant IP is small.
The hitch is in that “already extant.” Grasshopper logic contains no incentive to produce more IP. Setting the price at zero means feasting off your existing stock, then starving. For those with attention spans greater than grasshoppers, prices must cover costs of R&D as well as production and distribution.
Nowhere are these conflicts more intense than in connection with pharmaceuticals. The average cost to bring a new drug to market is about $500 million for research and testing. Once it exists, the manufacturing cost is usually pennies per pill. From the ant’s point of view, a share of the $500 million must be added to each one. From the grasshopper’s – hey, that pill should cost only a few cents.
The debate is complicated by the nature of our system of legal protection of intellectual property, which provides the mechanism by which the producer gets paid for the research. The drug is patented, for a maximum life of about 14 years. During this time the innovator has an exclusive, and must try to recover the cost of invention. Then the patent ends and the drug goes generic – any company can produce it. Prices tend to fall quite drastically.
It is a strange system, really: early purchasers feel aggrieved about paying all the development costs, thus subsidizing later users; the ubiquity of third party payments upsets market incentives; and international differences create strong tensions.
In 1984, Congress passed the Drug Price Competition and Patent Term Restoration Act (Hatch-Waxman), designed to promote generics while fostering research. It is complex, stripping pharmaceutical companies of trade secrets and extending patents in some ways while encouraging generics in others. It works pretty well; the market share of generics has expanded from 20 to 50 percent, and pharmaceutical companies investment in R&D rose from 14.7 to 19.4 percent of revenues between 1983 and 1995 and from $3.6 billion in 1984 to $30 billion in 2001. (See the 2000 report from the Institute for Policy Innovation, the 2001 House hearings, and the 1998 CBO study.)
Between 1984 and 2001, 8,259 generic applications were made to the FDA. 478 raised patent issues, and 58 resulted in court decisions. In three instances, the FTC alleges, innovator/generic settlements raised competition issues.
This is, naturally, a scandal. Public Citizen, for example, abhors “legal tricks” and “loopholes.” A year ago, Senators Schumer and McCain, soon joined by Johnson, introduced S. 812, the Greater Access to Affordable Pharmaceuticals Act, which would meddle piecemeal with the complexities of Hatch-Waxman. Nothing happened for a year – there is very little on Google – but now it is an election year. Since April 10 Senators Daschle, Durbin, Stabenow, Carnahan, Kohl, and Clinton have joined as sponsors. Hearings are scheduled for May 9.
There is a whiff of grasshoppery in the air, and this should worry not just the pharmaceutical ants but others as well, such as producers of copyrights, software, and telecommunications, not to mention consumers who enjoy the long-term benefits of IP. All intellectual property presents the same Aesopian dilemma, and who knows where the grasshoppers will go next.
Subscribe to C:\Spin
