Research Funding and Price Negotiation for New Drugs

This paper analyzes the negotiation process, which leads to basic research funding and price setting for new drugs in regulated health insurance markets. Its results bring answers to the following questions: Should basic research be privately funded, publicly funded, or produced by an independent lab? Under which conditions is public integration of basic research efficient? How do pharmaceutical prices respond to different organizations of basic research? We show that efficiency and prices are higher when basic research is integrated in the firm that commercializes the drug as compared with independent basic research. In both organizations, the higher the negotiation power of the research labs relative to the one of the public health authority is, the higher the prices and the efficiency are. We thereby confirm the traditional trade-off between price containment and dynamic efficiency. We identify one important exception to this trade-off. Indeed, public integration of basic research can result in lowest prices and highest efficiency, as compared with the other possible organizations, in particular when basic and applied research are highly complementary.