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Microeconomic theory implies that the demand for prescription drugs should be inversely related to drug prices and directly related to marketing expenditure. Changes in market structure due to patent expiration or other factors is likely to reduce both the average price of a drug and marketing expenditure, so the effect of increased competition on total utilization of a drug is theoretically indeterminate. We use longitudinal, molecule-level data on virtually all prescription drugs sold during the period 2000–2004 to analyze the impact of changes in market structure (primarily resulting from patent expiration) on U.S. drug prices, marketing, and utilization. Price and marketing expenditure both decline by about 50–60% in the years immediately following generic entry, but the number of prescriptions remains essentially constant during those years. The two effects of increased competition on utilization – positive (via price), and negative (via marketing) – almost exactly offset one another, so the net effect of patent expiration on drug utilization is zero.

U.S. patent law is based on Article I, Section 8 of the Constitution, which states that “the Congress shall have power to promote the Progress of Science and useful Arts, by securing for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries.” The framers of the Constitution believed that, unless inventors were granted a monopoly on their discoveries, they would lack the incentive to pursue them. But this monopoly, the framers believed, should last for only a limited time, since inventions that enter the public domain are likely to be produced by more than one supplier, thereby benefiting the public by bringing down their price and increasing their availability. U.S. patent law thus explicitly stands on the idea that, in accordance with economic analysis, despite the need of a “right to exclude” as incentive to innovate, the eventual change of market structure from monopoly to competition is socially beneficial.1 In other words, market exclusivity granted by the law must be only temporary in order to reconcile a high level of innovation with adequate diffusion

In general, increasing competition in a market, due to expiration of a patent or for other reasons, might be expected to reduce price and thus to increase demand for a good and thus its total production and consumption. However, this need not be the case if the demand for the good is sensitive to factors other than price (e.g. marketing), and if patent expiration has an important impact on these other factors. This study examined the impact on U.S. drug prices, marketing, and utilization of changes in market structure (changes in generic drugs’ market share) primarily resulting from patent expiration, using comprehensive data on virtually all prescription drugs sold during the period 2000–2004. We excluded a small number of molecules that were available over the counter because we do not have any information about utilization of such products. We hypothesized that utilization is inversely related to price and directly related to marketing expenditure. Due to marketing spillovers, whereby the promotion of a drug by a manufacturer increases the total number of prescriptions for that drug and not just those of the marketer, the advent of competition from generics following patent expiration reduces the incentive to maintain marketing expenditures at their former levels. Because a decline in marketing expenditure produces a decline in demand, just as a decline in price increases demand, the net effect of increased competition from generics on utilization is indeterminate, a priori. We conducted two types of analyses. First, we computed the age profiles of generic market share, average price, marketing expenditure, and number of prescriptions, where age was defined as the number of years since the drug was first marketed. We found that there is little competition from generics in the first 12 years of the product life cycle, but that generic market share increases sharply and suddenly in the next four years. This is quite consistent with previous evidence that the average period of marketing under patent protection after enactment of the Hatch-Waxman Act and the Uruguay Round Agreements Act of 1994 is about 11.5 years. Price and marketing expenditure both decline by about 50–60% during years 12–16, but the number of prescriptions remains essentially constant during those years. This finding may imply that the effect on utilization of declining price is approximately offset by the effect of declining marketing, and that increased utilization of generic prescriptions after patent expiration is approximately offset by reduced utilization of branded prescriptions. It implies that, although faster generic entry (e.g. due to shorter effective patent life) would reduce expenditure on pharmaceuticals (due to lower prices), it would not increase utilization of prescription drugs. Reducing patent length to accelerate and intensify generic competition would not increase social welfare, since utilization will not increase and investment in pharmaceutical R&D would be likely to decline.32 We also obtained estimates of a prescription-drug demand function – the relationship between changes in utilization and changes in average price and marketing – and of models of the effect of generics’ market share on price, marketing, and utilization, using longitudinal molecule-level data. Consistent with our expectations, the effect of price on demand was negative and highly significant, and the effect of advertising on demand was positive and highly significant. The estimated effect of price appeared low; this may be due, to an important extent, to “mismeasurement” of the price of drugs. Patients’ demand for drugs presumably depends on the average price that they pay, not on average revenue received by manufacturers and wholesalers. Using data from the Medical Expenditure Panel Survey, we showed that the change in the average price paid by patients is correlated across drugs with the change in the average proceeds received by manufacturers, but it is not perfectly correlated. We found a strong inverse relationship between changes in generics’ market share and changes in average manufacturer–wholesaler revenue. The slope of the estimated relationship was quite consistent with the age profiles of generics’ market share and manufacturer price. There is also a strong inverse correlation between changes in generics’ market share and changes in marketing expenditure. We found no evidence of a relationship across molecules between changes in the total number of prescriptions and changes in generics’ market share. The two hypothesized effects of increased competition from generics – increased utilization due to falling prices, and decreased utilization due to reduced marketing – appear approximately to offset one another. Competition from generics does not appear to have any effect on utilization independent of its effects on price and marketing. Even if expiration of a drug's patent(s) does not affect the number of (branded + generic) prescriptions for that drug dispensed by pharmacies, it could still affect drug utilization, for two reasons. First, it could affect the number of free drug samples patients obtain from physicians. We found that the number of free samples declined sharply after patent expiration, and therefore that the effect of patent expiration on the total number of prescriptions for a drug (prescriptions dispensed by pharmacies plus free samples) is lower (more negative) than its effect on the number of prescriptions dispensed by pharmacies. We estimated that if patent expiration had no effect on the number of pharmacy prescriptions, it would reduce the total number of prescriptions by 3.5%. Second, a change in market structure may have spillover effects, i.e. it may cause utilization levels of other drugs in the same therapeutic class to change. These spillover effects can go in both directions. We attempted to account for potential spillovers by estimating the relationship between changes in utilization and changes in generics’ market share at the level of the therapeutic class rather than the molecule level. We did not find a statistically significant relationship. Increases in generics’ market penetration do not appear to affect levels of drug utilization, whether or not potential spillovers to other drugs in the same therapeutic class are taken into account. Improving public health depends on both the creation and use of new medical goods and services, such as new drugs. As we discussed earlier, there is a continuing debate over the optimal length and breadth of patents, including whether patents – particularly in the health-care context – limit utilization of important medical products. Our findings suggest that, at least in the United States, patent expiration (and the consequent large declines in price) does not significantly increase utilization. Although patent expiration causes a large decline in price, high levels of prescription-drug insurance coverage prevent this price decline from stimulating consumer demand as much as a price decline by itself would otherwise. Moreover, patent expiration causes a sharp reduction in marketing activity, which reduces demand. Concerns have been expressed regarding the role of industry marketing to physicians (physician detailing) and direct-to-consumer advertising. While this study does not address any claims as to the medical appropriateness of such activity (which is, at a minimum, regulated by the U.S. Food and Drug Administration), we do note that marketing has a significant impact on utilization. Insofar as increasing the utilization of medical innovations improves public health, limitations on advertising may unduly diminish it and therefore should not be undertaken without inquiring into their ancillary effects. Questions surrounding patents, marketing, and access are at the forefront of policy debates at both the state and federal level. In the past decade, the U.S. Supreme Court has issued several decisions that have weakened patent protection. In 1999, the Court granted states immunity from claims of patent infringement (Chartrand, 1999). In 2007, the Court, in its most important patent ruling in years, raised the bar for obtaining patents on new products that combine elements of pre-existing inventions (Greenhouse, 2007). As a result, judges now have more leeway to dismiss lawsuits for patent infringement without requiring a jury trial, and patent examiners, who generally grant patent applications unless they find prior references to the same invention, now feel freer to deny claims. These decisions have not reduced patent length, but they have reduced the value of patent protection, and in the long run, weaker patent protection, like shorter patent protection, is likely to reduce the amount of medical innovation-the rate at which novel medical goods and services are created. In principle, the adverse effect of less innovation on public health could be offset by greater access to existing products. However, our findings imply that, in practice, weaker (or shorter) patent protection would not increase Americans’ access to prescription drugs, most of which have been developed and marketed under a regime affording greater patent protection than some are now proposing. Due to broad prescription-drug insurance coverage and the role of marketing in increasing awareness of both the efficacy and availability of pharmaceuticals, weaker patent protection would not increase utilization of prescription drugs. To a certain extent, our results reflect the insurance arrangements and the legal framework that exist in the U.S. If there were no prescription drug insurance, the price elasticity would undoubtedly be larger, so the positive effect of the price decline on demand might outweigh the negative effect of the marketing decline on demand, and thus there might be an increase in utilization from generic entry. Also, if there were price controls, as there are in many European countries,33 the effect of competition on price and utilization could be different. Therefore our results might not apply to other countries. It would therefore be useful to conduct similar studies of other pharmaceutical markets. They could shed additional light on the effects of pharmaceutical market regulation on utilization, health outcomes and social welfare.