Pharmaceutical Exhaustion

In 2017 the United States Supreme Court adopted a regime of international exhaustion of U.S. patent rights. Henceforth, the authorized sale of a patented item anywhere in the world exhausts U.S. patent rights in that item, and the patent holder may not use patent law to prevent the resale or importation of that item into the U.S.1 In arguing against the position ultimately adopted by the Court, the pharmaceutical industry cautioned that under a regime of international exhaustion it would not be able to engage in price discrimination for patented medicines “in a socially optimal way.”2 This would be bad policy, according to the industry, because “[d]ifferences in pricing can provide patients in lowerincome countries access to important drugs, while also providing the opportunity for pharmaceutical companies to recoup their costs and continue further research and development.”3 Allowing for parallel imports of pharmaceuticals from lower priced countries would force the drug companies to abandon these markets or raise prices there in order to maintain high prices in the U.S., according to PhRMA.4 In fact, international exhaustion of U.S. patent rights has not prevented the pharmaceutical industry from engaging in geographic price discrimination. This is likely due to the fact that U.S. law prohibits the importation or reimportation of pharmaceuticals into the U.S. without the manufacturer’s consent independently of any intellectual property regime in statutes and regulations that are enforced by the U.S. government. Despite these efforts, there is some illegal importation of branded pharmaceuticals into the U.S., but it has not affected the industry’s ability to price discriminate. The pharmaceutical industry continues to engage in price discrimination, but it is not the type of price discrimination that is “socially optimal.” Geographic price discrimination has strong support in economic theory when prices are set based on the ability or willingness to pay in each country, as determined by some appropriate measure such as per capita income or gross domestic product. But geographic price disparities in the pharmaceutical industry are based on no such thing. First, drug prices are astronomically higher in the U.S. than they are in any other country without regard to relative per capita income. Most strikingly, U.S. drug prices are some two to six times higher than drug prices in European countries and Canada, despite the fact that most of these countries have comparable or higher per capita incomes than the U.S. The reason for this disparity is instead based on the fact that Canada and most European countries have comprehensive government health coverage allowing for a single payer (the government) to negotiate or even impose caps on drug prices; the U.S. system, by contrast, is composed of a patchwork of private insurers and government programs that cannot or will not negotiate effectively to lower prices and have no ability to impose price controls. The result is that the U.S. effectively subsidizes lower pharmaceutical prices in Europe and Canada. Absent the U.S. adopting a radical change to its health care system (such as a single payer system), allowing for parallel imports of drugs from Europe or Canada could have a major effect on equalizing prices between among these regions. This is demonstrated by the fact that drug prices within the European Union have largely equalized across countries as a result of parallel imports being allowed within the E.U. This inequity between the U.S. and Europe would be easier to swallow if it were also facilitating the provision of medicines to least-developed nations at affordable prices; but it is not. There continues to be a problem with access to affordable medicines in least developed nations for a variety of reasons and it is not being solved by price discrimination. First, pharmaceutical companies largely target drug prices to high-income individuals in least developed countries, not to middle or low income individuals. This demonstrates how geographic price discrimination is often too blunt of a tool to ameliorate wealth gaps within countries. Second, much of the crisis with drug access in least developed countries is caused by the fact that pharmaceutical companies decline to develop and manufacture the particular types of medicines that are most urgently needed in those countries, focusing instead on the drug needs of wealthier countries. Hence, the problem is often with production, not pricing. Nonetheless, inducing the drug companies to lower prices in least developed nations is a worthy goal. One model for how this might be achieved is through the imposition of compulsory licenses to manufacture or import patented drugs into least developed countries, which may inspire pharmaceutical companies to lower prices in those countries. When the World Trade Organization amended the TRIPS Agreement5 in 2005 to 2-Apr- 19] The Pharmaceutical Industry’s Broken Price Discrimination System 3 allow for compulsory licenses to HIV/AIDS drugs, the pharmaceutical industry responded by lowering the prices for these drugs in developing countries in exchange for promises to prevent parallel imports out of those countries. Hence, a more effective and “socially optimal” system of price discrimination was developed for these drugs. Such a solution should be more widely adopted.

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