Therapeutic reference pricing and drug innovation incentives

Abstract

Therapeutic reference pricing (TRP) of pharmaceuticals is widely thought to steer drug innovation incentives away from ‘me-too’ innovations with little therapeutic benefit. However, the present paper shows that, if the feasible scope for innovation is to develop drugs with different degrees of differentiation from existing drugs within the same therapeutic class, TRP reduces innovating firms’ incentives for therapeutic differentiation and leads to entry of drugs that are less differentiated from the existing drugs in the market. In this case, the pro-competitive effects of TRP are reinforced by changes in innovation incentives. On the other hand, TRP leads to lower health benefits unless incentives for therapeutic differentiation are excessively strong in the first place.