Competition and misbehavior

Published 11:07 pm Thursday, October 1, 2015

Turing Pharmaceuticals recently made headlines by raising the price of a drug called Daraprim from $13.50 to $750 a pill. The company’s CEO Martin Shkreli vigorously defended this action, tweeting that the 5000% price increase for a life-saving drug was “a great thing for society.” Many observers have characterized the price increase as greedy, anti-social, and worse.
The price hike to my mind qualifies as anti-social. That businesses will sometimes misbehave should come as no surprise. Free enterprise after all involves freedom, and with over one million businesses in America, they will sometimes do anti-social, greedy, and stupid things.
The more important question involves how to limit the cost of business misbehavior. Democratic presidential candidates Hillary Clinton and Bernie Sanders have used the headlines to offer their plans for government to fight high drug prices. Instead of turning to government, we should recognize that competition – the ability to take our business elsewhere – provides the best defense against misbehavior by business.
Two systems of Federal control strictly limit competition in pharmaceuticals. The two levels of control are the Food and Drug Administration’s (FDA) approval process for drugs and the prescription system for pharmaceuticals. Both restrict competition, unnecessarily increase drug prices, and prevent Americans from being able to make important life decisions for themselves.
Competition will always be somewhat limited for pharmaceuticals. The value in drugs resides in the knowledge that a certain combination of chemicals yields a treatment for cancer or other illnesses. This knowledge requires costly research and testing, and yet others can copy the formula once discovered. Patents grant exclusive control over the formula’s intellectual property so innovators can earn back the millions of dollars spent on research and testing. And profits from successful drugs must also cover the costs of research that yields only dead ends.
The FDA approves drugs for sale on the United States. New drugs must be proven safe and effective to the FDA’s satisfaction. Research demonstrates that most of the cost from FDA review stems from having to prove effectiveness. And yet the economic case for FDA effectiveness regulation is extremely weak. For example, Congress imposed the effectiveness requirement in 1962 in response to birth defects caused by the morning sickness drug Thalidomide in Europe. But Thalidomide had not been approved for use in the U.S. then, so Congress “fixed” a regulation that was working.
Patent extensions and the approval process for generic drugs further reduce competition. Drug companies can extend a patent by testing new uses for existing drugs. Yet few drugs ever get formal approval for new uses, and the tests often seem designed simply to prevent competition. Generic drugs are equivalents of drugs whose patents have expired. The FDA still requires extensive testing for generic drugs, resulting in a three year delay for approval today.
A lack of competition enabled the Daraprim price hike. Daraprim was first approved in 1953, but today only one company has FDA approval to produce it. Turing acquired these rights in August and then immediately hiked the price. Only regulatory barriers prevent other companies from bringing a generic drug to the market to undercut Turing’s price. But it gets worse. Generic equivalents of Daraprim are available today in Europe. As George Mason University economist Alex Tabarrok notes, if the FDA merely allowed importation of European generic drugs, Daraprim’s sales would plummet with the price hike.
The prescription system further raises costs by requiring a doctor visit for access, which is sometimes an unnecessary cost. And medical professionals and ultimately politicians impose their decision on us regarding the treatment of illnesses and ailments. If politicians decide to restrict access to the best sleep aids, for example, Americans are left to count sheep.
Free enterprise inevitably involves misbehavior by businesses. Instead of looking to government to punish the offender, we should recognize that competition and economic freedom offer a more effective response. Competition, if allowed by the FDA, would quickly render Turing’s Daraprim price gouging as irrelevant as the CEO’s tweets.
Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. Respond to him at and like the Johnson Center on Facebook.

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About Dan Sutter

I am the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University.

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