Economics Commentary on Market Structure

ECONOMICS COMMENTARY

Commentary number: 2

Title of extract: Govt begins work on 3 more compulsory licences

Source of extract: Business Standard

Date of extract: March 30, 2013

Word count: 750 words

Date the commentary was written: 1/04/2013

The commentary relates:

Candidate name:

Sushmi Dey | New Delhi March 30, 2013

Govt begins work on 3 more compulsory licences

DIPP wants foolproof case on anti-cancer drugs of Roche, Bristol-Myers

The department of industrial policy and promotion is actively considering the grant of compulsory licences for three new anti-cancer drugs.
The department, a wing of the commerce ministry, which also looks at intellectual property-related issues, has sought details regarding prices, efficacy levels and size of the patient pool in need of such treatment from the health ministry, a government official said.
The proposal, initially mooted by a panel formed under the health ministry, recommends invoking the compulsory licence rule for three drugs— trastuzumab, ixabepilone and dasatinib — sold by multinational companies. While trastuzumab is manufactured and patented by Roche, ixabepilone and dasatinib are patented products of Bristol-Myers Squibb.
“We have written back to the health ministry, seeking more details on these drugs…We have sent a list of around 21 queries,” the official, privy to the developments, told Business Standard. “It is important to have these details before we move forward because such decisions can be challenged in a court of law. So, we have to be prepared to face the outcomes and sustain the decision.”
The panel, chaired by R K Jain, additional secretary in the health ministry, suggested invoking Section 92 of the patent law for these three medicines. This section allows the government to grant a compulsory licence “in circumstances of national emergency or in circumstances of extreme urgency or in case of public non-commercial use”. Once the government invokes this section, generic drug manufacturing companies can directly apply to the patent controller for permission to manufacture and sell these drugs at a lower price.
The health ministry’s move is prompted by concerns over the prices of the three drugs. According to trade sources, each of the three costs over Rs 1 lakh for a month’s dose. A vial (of 40 mg) of Trastuzumab costs Rs 1.24 lakh and 60 tablets of 20 mg each of Dasatinib are priced at Rs 1.17 lakh.
The key queries from DIPP include the number of cancer patients in India that can be treated through these medicines, prices of these three products in the domestic and international markets, whether there are alternative medicines or treatment for these drugs and the potential generic manufacturing companies, the official said.
If allowed, this would be a major step of the government towards encouraging compulsory licensing in India for making essential medicines affordable. However, the move is bound to upset multinational pharmaceutical companies, which claim spending billions of dollars on research and development of innovative medicines. A patent period of 20 years allows such innovator companies a monopoly in the market, while the price of the drug remains high in the absence of generic competition. Though a compulsory licence would not disrupt the patent period of the original drug, even entry of select generic players in the market with a significant price differential is bound to hurt the revenues and margins of the innovator company.
This is the second instance when India is considering issuing a compulsory licence to make an anti-cancer drug affordable. Last year, the patent controller granted a compulsory licence to Hyderabad-based Natco Pharma against Bayer’s patented anti-cancer drug, Nexavar. The German firm appealed against the patent controller’s order at the Intellectual Property Appellate Board but the latter agreed with the compulsory licence. While Bayer’s Nexavar was priced at Rs 280,000 a month, the compulsory licence is allowed to Natco Pharma on the condition that it will sell the medicine at Rs 8,800 for a month’s therapy and pay seven per cent royalty to Bayer on the total sales.

The article is about the Indian government permitting compulsory licensing which is allowing generic pharmaceutical companies to bypass patents, providing essential drugs affordably. The issue is controversial as some producers who are negatively affected by such rulings but, without it most consumers cannot access such drugs at their original price.

Before compulsory licensing the industry for the particular drug was a monopoly (Sole provider of good or service) but the government took away the legal (Authorized rights to stop other firms from making the product) barrier to entry (Obstacles that prevents firms from entering an industry) breaking the monopoly. After implementation, there is price competition that exists as the generics are only allowed to bypass patents if they are significantly cheaper than the original drug. Cheaper medicines allow more people to access these essential medicines but the real problem is that it is a disincentive to dynamically-efficient (a firm that balances a short term focus with a long term focus) firms which carry out research and development. The main lost incentive is the supernormal profit (SNP, profit above normal profit when TR (Total revenue)>TC (Total cost)) the company could have earned. The massive difference in the price also has non-price determinant affects such as in marketing and packaging.

With government mechanisms such as compulsory licensing, the market structure is changed from a monopoly of the particular-drug industry to a market structure where there are few firms with differenced products and differenced prices.

The first diagram illustrates the firm before generic firms were allowed to enter. The Average revenue (AR, Total revenue per unit output) is equal to the demand and is a downward sloping curve as if the price is reduced, the quantity demand will increase. Also at this time as the firm is the industry they have the option to either be price makers (firms that dictate the price of a product) or price takers (firms that determine prices with market trend). As they charge substantially higher prices an assumption can be made that they produce at the profit maximization point which is where the Marginal cost (MC, extra cost to produce an extra unit of output) =Marginal revenue (MR, extra revenue from selling an extra unit of output). Here the quantity demanded is Q at the price of P, this leads to a SNP in the box abPc.

The second diagram illustrates the firm after generic firm were allowed to enter. The concept of AR remains the same but as it is also the demand curve, with the increase of firms in the industry, it shifts to the left as the demand would be divided among the increased number of firms in the market. With the increase in close substitutes, the previously inelastic good becomes more elastic. As the pharmaceutical sector in India is in the private sector they would also produce at the profit maximization point. Here the quantity demanded is Q at the price of P, this leads to a loss (where the TR