Understanding Effects of Pharmaceutical Price Control on Firms’ R&D Expenditure and Impacts on Social Welfare

Abstract

Many studies have examined price regulations in the pharmaceutical industry in developed countries and found a negative relation between price control and pharmaceutical research and development (R&D). Nevertheless, the further impact of reduced pharmaceutical R&D spending on drug innovation has been less thoroughly studied. It is unclear whether the public benefits more from the controlled price or loses more from the reduced drug innovation in the future. Therefore, we are led to examine how the tradeoff between price cap and pharmaceutical R&D affects social welfare. By understanding price control's impact on future innovation and the market's demand, this research seeks to continue discussing whether the government should implement strict price control policies in the drug industry. Methodology: Based on 1084–2020 data for the U.S. pharmaceutical industry, we investigate the impact of price on the industry's R&D intensity. We estimate an aggregated R&D spending elasticity with which the industry responds to the pharmaceutical price level. We also establish a causal link between controlled pharmaceutical prices and consumer surplus in the market. A conceptual model is then used to compare drug innovation in the future with consumer savings at the current time and to discuss social welfare concerning the drug industry.