How Does Pharmaceutical Spending Drive Innovation in Europe?

Article by: Dimitrios Kourouklis and Isobel Firth

A new paper co-authored by OHE’s Dimitrios Kourouklis adds to the evidence on the relationship between pharmaceutical revenue and innovation by looking at the elasticity of early-stage innovation in Europe. An ‘elasticity’ measures the relationship between two factors, i.e., how much y responds to changes x. The paper uses data from 21 EU/OECD member states over a 21-year period from 1999-2019 to measure how the number of pharmaceutical patent applications changes when spending on pharmaceuticals increases. They find that pharmaceutical spending in Europe has a significant impact on patent applications.

Why do we care about the cost of innovation?

Health economists have spent years trying to understand how much innovation costs. Specifically, how much a pharmaceutical company needs to generate in revenue to develop a new medicine that is approved for use in patients. The answer is, of course, that it depends. However, understanding the relationship between revenue and innovation is important to policy makers who want to limit pharmaceutical spending while maintaining incentives for companies to develop the next generation of life saving medicines. OHE’s recent blog series on the US price regulation policy H.R. 3 analyses in detail the tightrope that policy makers walk on when they try to contain pharmaceutical spending without damaging incentives to innovate.

Pharmaceutical innovation is a global activity impacted by revenues from different markets. The US is the most important market for many pharmaceutical investors because revenues in the US are higher than in Europe. European markets use more price-regulation than the US with most European countries using some form of cost-containment policy as reference pricing or value-based pricing for medicines (OECD, 2008, Gandjour, 2013; EFPIA, 2014; Toumi et al., 2014; Panteli et al. 2016). These cost containment policies have drawn criticism from analysts in the who say that other high-income countries are free-riding off the incentives to innovate generated by the US market (Yin 2008; Sood et al., 2009; Dubois et al., 2015; Eger and Mahlich, 2014).

Incentives in Europe matter for pharmaceutical innovation

In the new paper by Kourouklis and Gandjour, the elasticity of early-stage innovation with respect to pharmaceutical spending in Europe is 2.2. This means that a 1% increase in pharmaceutical spending increases the number of patent applications by 2.2%. This estimate is close to the range of elasticities found in other studies looking at early stages of innovation (Blume-Kohout and Sood, 2013) but higher than the elasticities reported by studies looking at a later stage of pharmaceutical innovation, e.g., market launches (e.g., Dubois et al., 2015), when other factors are likely to influence the relationship between revenue and innovation (e.g., firm decisions on R&D strategy).

Kourouklis and Gandjour (2022) also show that European pharmaceutical spending has an impact on pharmaceutical innovation taking place within Europe. Interestingly, they also find that US pharmaceutical industry R&D investments have a negative effect on patents in EU countries, which suggests that collaboration between groups in Europe and the US is rare during early-stage research before a patent has been granted. This backs up previous research establishing that proximity is very important for the kinds of collaborations that take place during early-stage pharmaceutical research (Bignami, Mattsson, and Hoeckman, 2020).

What does this mean for policy makers?

These findings have two implications for policy makers in Europe interested in pharmaceutical innovation. Firstly, it suggests that European counties cannot rely on the US market generating all the revenues needed to incentivise the early-stage pharmaceutical innovation. Secondly, the amount that Europeans pay for medicines impacts on Europe’s ability to attract early-stage research to Europe who can stimulate national economies.

The full paper was published in Industry and Innovation. If you are interested in reading more about the cost of innovation, OHE’s recent 5-part blog series on the US price containment policy H.R. 3 walks you through the evidence. 

The link to the publication.

Citation

Kourouklis, D. and Gandjour, A., 2022. Pharmaceutical spending and early-stage innovation in EU countries. Industry and Innovation, pp.1–30. 10.1080/13662716.2021.2021864.
 

Related Research

Kourouklis, D., 2021. Public subsidies for R&D and public sector pharmaceutical innovation. Applied Economics, 53(32), pp.3759–3777. 10.1080/00036846.2021.1885614.

Shaikh, M., Del Giudice, P. and Kourouklis, D., 2021. Revisiting the Relationship Between Price Regulation and Pharma-ceutical R&D Investment. Applied Health Economics and Health Policy, 19(2), pp.217–229. 10.1007/s40258-020-00601-9.

Berdud, M., Drummond, M. and Towse, A., 2020. Establishing a reasonable price for an orphan drug. Cost Effectiveness and Resource Allocation, 18(1), p.31. 10.1186/s12962-020-00223-x.

Mestre-Ferrandiz, J., Sussex, J. and Towse, A., 2012. The R&D Cost of a New Medicine. [online] Office of Health Econom-ics. Available at: https://ideas.repec.org/b/ohe/monogr/000135.html [Accessed 27 Feb. 2021].

Towse, A. and Sharma, P., 2011. Incentives for R&D for New Antimicrobial Drugs. International Journal of the Econom-ics of Business, 18(2), pp.331–350. 10.1080/13571516.2011.584434.

Danzon, P.M. and Towse, A., 2003. Differential Pricing for Pharmaceuticals: Reconciling Access, R&D and Patents. In-ternational Journal of Health Care Finance and Economics, 3(3), pp.183–205. 10.1023/A:1025384819575.

Posted in Drug Development/R&D, Innovation, Other Public Policy | Tagged External publications