Funding Off-Patent Cancer Drug Development to Reduce Costs of Treatment

The average monthly cost of treatment with a new cancer drug is around $10,000, more than double the median income of a US household. On top of this, the benefits of these drugs, often offering only weeks or months of additional survival, do not appear to be commensurate with the price. This has raised the question, are drug prices too high?

Drug companies claim that high prices are simply reflecting the high cost of drug development. While development costs do need to be recovered, what also matters in setting prices is the degree of competition in the market and the consumers’ valuation of the product. In pharmaceutical markets, the lack of competition resulting from the patent system combined with consumers that are unresponsive to price can only lead to prices that are too high.

It’s important to distinguish between prices that are “too high” and prices that are just very high. Economists think of prices as being too high when the price is above the marginal cost of producing. This can happen as a result of, for example, the seller having market power. In the case of pharmaceuticals, companies do indeed have market power. Patents give them the right to exclusively sell a new pharmaceutical for a period of time after it has been developed.

Patents play an important role in drug development by providing an incentive to do so. It doesn’t cost very much too actually manufacture a drug but it costs a great deal to invent it and obtain approval to sell it. Since it is not very difficult for other companies to copy the molecule once it is out in the public domain, it would be impossible to recover the upfront investment costs of developing a new drug if the inventors were not protected from competition for a period of time.

The problem with the patent system is that the price the drug is sold for is not only dependent on the cost of developing the drug but also on consumers’ willingness to pay. In the case of cancer drugs, for example, insurers have demonstrated they are willing to pay a lot for these drugs and do not respond to prices by dropping coverage. This could be a result of completely rational behavior or a result of market imperfections on the consumer side. Regardless of the reason, a combination of price unresponsiveness and market power leads to very high prices.

There is no simple solution to this problem. The most commonly suggested is to allow Medicare to bargain or set prices on behalf of everyone. This is the approach used in many other countries. However, for it to be successful the bargainer, Medicare in this example, needs to provide a credible threat. Typically, this is in the form of refusing to cover the drug on the national health insurance plan if a price cannot be agreed upon. If the threat is carried out, it is damaging to the drug company because the market for the drug is severely limited – but it also limits the accessibility of it to patients. This kind of rationing of health care tends to be unpopular in the US.

Another option is to finance more research and development using means that do not need to recover the costs of development through a patent.  One way to do this could be to raise the money through donations or invest more public money into the development process. It may sound infeasible to raise money through donations. However, the money is out there – it is estimated that each year $6 billion is donated to breast cancer charities alone. While some of this money does go towards research, it goes towards research that is or eventually will be owned by drug companies. If this money was instead used to bring drugs completely to the market, assuming it costs about $1.2 billion to bring a drug to market (including the money spent trying to discover it and failed attempts) it could in theory finance 5 new drugs to come to market off-patent each year (as a reference point in the past ten years, on average 8 new cancer drugs have been approved each year). 

While it may be the case that the difference in what pharmaceutical companies charge and what is needed to recover costs are reinvested in drug development – or are providing an incentive to develop drugs that consumers value highly (which is a good thing) – this is impossible to verify. In the absence of this knowledge, should we just hope that the system is working in our favor? Surely when it comes to health care it would be worthwhile seeking solutions that move us in the direction of prioritizing social benefit, as subjective as this is, rather than relying only on a profit motive.

Rebecca McKibbin is a graduate Policy Fellow at ISPS and is pursuing her PhD in Economics at Yale.