Prizes, Not Patents For Drugs

Nobel Prize winning economist Joseph E. Stiglitz makes the case that we should use prizes rather than patents to fund research on new drugs.

Part of modern medicine’s success is built on new drugs, in which pharmaceutical companies invest billions of dollars on research. The companies can recover their expenses thanks to patents, which give them a temporary monopoly and thus allow them to charge prices well above the cost of producing the drugs. We cannot expect innovation without paying for it. But are the incentives provided by the patent system appropriate, so that all this money is well spent and contributes to treatments for diseases of the greatest concern? Sadly, the answer is a resounding “no.”

There is an alternative way of financing and incentivizing research that, at least in some instances, could do a far better job than patents, both in directing innovation and ensuring that the benefits of that knowledge are enjoyed as widely as possible: a medical prize fund that would reward those who discover cures and vaccines. Since governments already pay the cost of much drug research directly or indirectly, through prescription benefits, they could finance the prize fund, which would award the biggest prizes for developers of treatments or preventions for costly diseases affecting hundreds of millions of people.

Of course, the patent system is itself a prize system, albeit a peculiar one: the prize is temporary monopoly power, implying high prices and restricted access to the benefits that can be derived from the new knowledge. By contrast, the type of prize system I have in mind would rely on competitive markets to lower prices and make the fruits of the knowledge available as widely as possible. With better-directed incentives (more research dollars spent on more important diseases, less money spent on wasteful and distorted marketing), we could have better health at lower cost.

I think this is an interesting idea. I always find it ironic when people defend patents as being a free market solution. Patents and other forms of intellectual property rights are needed precisely because the free market fails to give the proper incentive for innovation. They are government issued limited time monopolies that allow the creator of a device to charge an artificially high price in order to recoup the expenses of the development. They are distortions from competitive free markets.

Applied to the pharmaceutical industry, this means that drugs under patent are priced much higher than their cost to produce. This higher price means that some people who would benefit from a drug at its competitive price will not purchase it at its monopolistic price (of course with insurance companies and Medicare picking up the bill the story becomes much more complicated with regards to pricing and availability of drugs).

If a prize system was used, then the inventor would be compensated up front, and then the drug would be priced like generics, based on how much the drugs cost to manufacture. Doctors and patients could decide which drugs to use based on their effectiveness and their cost, without this being distorted by artificially high prices. This system would have the government pick up the bill for new drug research, and then have patients and insurance holders pick up the tab for the manufacturing of the drugs.

Because pharmaceutical companies are able to price their drugs as they please in the US, but other countries have price controls, the US subsidizes the discovery of drugs for the rest of the world. If we switch to a prize system, we should get Canada and the European countries to contribute their fair share. No more free riding for other rich countries. This also solves the problem of how pharmaceutical companies should price their drugs in 3rd world countries. Without patents, the price will be based on the manufacturing costs rather than on a determination of what the most they can charge is. You don't have to worry about reimportation of drugs from 3rd world to 1st, or from countries with price caps to countries without them.

Another problem with the patent system is that it makes it difficult to combine drugs that are owned by different companies. India used to have intellectual property laws that did not allow for patents on drugs but rather just on the manufacturing process for the drug. One advantage to this system was that is allowed Indian drug manufacturers to create an AIDS drug that was a cocktail of three other drugs. With a prize system, more cocktails and tweaking of drugs would be available.

The biggest problem with prizes is that you need to know what you are looking for before it is discovered. If some random discovery occurs that has huge benefit but there is no prize for it, that inventor would not be compensated for the discovery. One way to handle this problem is to still have a patent system for drugs that aren't covered by the prize system and then the government could purchase that patent from the inventor and then make that information freely available for others to use. In fact this system of having the government purchase patents is available now and could be used to implement many parts of this prize system right away.

via Project Syndicate via Greg Mankiw