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The African AIDS pandemic has drawn international aid organizations, governments and

pharmaceutical companies into a global debate on whether rich countries should pay more for
drugs than less developed nations.

This system of differential pricing makes sense on social-justice and economic grounds, but it
is difficult to administer in the real world, experts told a Wharton conference on
Pharmaceutical Innovation in the Global Economy.

Among the panels at the conference, sponsored by Wharton s health care systems department,
was one titled Differential Pricing: Reconciling Less Developed CountriesAccess to
Medicines with Incentives for R&D. Panelists included Patricia Danzon, professor of health
care systems, Robert Humenrick, vice president, global pricing and reimbursement strategy at
GlaxoSmithKline, and Adrian Towse, director of the Office of Health Economics, an industry
think tank based in London. The panel was moderated by health care systems professor Mark
Pauly.

From an economic standpoint, differential pricing promises to be the magic bullet that helps
square the circle of policy objectives, commented Danzon during the panel discussion. Under
this pricing system, wealthy nations underwrite the bulk of costly research and development
for new drugs while poorer countries pay for just the cost often only pennies a pill of making
the drugs they use. Differential pricing among countries in Europe has been common practice
for years.

Danzon said that for the system to expand and benefit patients in developing countries,
pharmaceutical companies must be able to maintain patent protection. Patent protection
allows manufacturers to charge premium prices to pay for new drug development, although
many patient advocates contend the scope of the developing AIDS crisis warrants suspension
of patent rights so that generic manufacturers can make low-cost copies.

According to Danzon, manufacturers also need assurances that low-priced products will not
find their way back into high-priced markets, thereby reducing demand and prices in those
markets. In other words, there must be no spillover effect.

Differential pricing will not solve the problem of financing research into diseases that plague
poorer nations for which there is no market in the developed world, Danzon stressed: Some
public subsidies need to be available to make that happen. A strong argument, however, can
be made for differential pricing on the basis that it would provide more efficient use of
existing drugs, Danzon said. This is possible because so much of the cost of a drug, at least
30%, is tied up in the initial research. The cost of actually producing the medicine itself is
very small. If differential pricing allows people to consume products at their marginal cost,
there is no harm to people in high-income countries,she pointed out.

Although there is the sense in the United States that this is unfair, the reality is that if
[differential pricing] opens up markets, the people in the affected countries are better off and
were no worse off, said Danzon, noting that differential pricing should not be viewed as cost-
shifting. The cost of research and development of a drug should be considered a joint cost,
not attributable to specific countries. If poor countries pay any amount over manufacturing
costs, prices in high-income countries could be less.

Meanwhile, as the discussion about differential pricing heats up, market segmentation is
breaking down. In Europe, differential pricing has existed for some time, although the pricing
spreads are not as wide as those being discussed in connection with the developing world.

The biggest threat to differential pricing in the United States, Danzon said, is legislation that
would allow the re-importation, or parallel import, of drugs made in the United States and
sold in other countries for less than their U.S. price. Already, informal markets have been
established as U.S. residents order drugs from Canada and Mexico. I think the United States
is more than likely to become one of the chief offenders in this area.

In addition to physical cross-border leakage, countries undermine the economic basis for
differential pricing if they use prices charged in foreign markets as a reference for their own
price negotiations, she said.

The reference may not even be direct. For example, Danzon suggested that if Brazil
references to South Africa and Mexico references to Brazil, U.S. customers who point to
Mexican prices are actually arguing for South African prices. What is needed is the
willingness of high- and middle-income countries to ban parallel imports and referencing.If
governments cannot provide credible promises to cease parallel imports and referencing, the
private sector could look to rebates, or other business practices, outside the view of
government.
One problem, however, is that even in developing countries there is often a subset of rich
people who can pay full price. According to Danzon, there needs to be some ability to do
some segmentation in those developing countries. The easiest way is to do it by private and
public sector.

GlaxoSmithKline s Robert Humenrick whose company is one of the largest manufacturers of


HIV/AIDS drugs and vaccines pointed to the many barriers that exist to providing treatment
to people in the developing world, including inadequate healthcare delivery systems. We dont
believe the issue is purely a price issue,he said, adding that GlaxoSmithKline has been
involved in differential pricing schemes since the 1980s with vaccines and in the late 1990s
with drugs for HIV/AIDS. The company has 116 programs in 50 countries.

Humenrick, too, cited obstacles that hinder differential pricing. First, he said, differential
prices must be sustainable. This means setting prices that meet our costs and assuring we can
sustain a high quality of products for as long as needed. He also said that if rich countries
reference lower prices in the developing world during their own price negotiations, that will
undoubtedly undermine the industrys willingness to extend differential pricing across the
developing world.

Less developed countries also have responsibilities to make the scheme work, said
Humenrick. Countries must be vigilant in ensuring that drugs marked for use in a poor
country are not resold into more developed countries at a profit. In early October European
news agencies reported that $18 million in GlaxoSmithKline low-priced AIDS drugs destined
for Africa were diverted to Europe. The opportunities for arbitrage are huge, Humenrick
noted.

GlaxoSmithKline, he added, is committed to extending access to its products throughout the


world, but all those involved need to consider new ways of doing business. We believe
increased access is complex. It is a challenge that requires a new spirit of partnerships. We
are learning as we go.

Towse, director of the Office of Health Economics in London, discussed a working document
released by the European Commission in April that outlined policy on differential pricing and
access to pharmaceuticals. Towse said the document includes economic nonsense but does
serve as a good beginning for policy.
One helpful aspect of the commission s report, he suggested, is that it dismisses the
differences in terms used to describe differential pricing, such as equity pricing, variable
pricing, tiered pricing, or simply, discounts. The commission says, Let s not get hung up on
what we call it. What were talking about is prices that are close to the cost of production that
can be sustained.

He applauded the commissions emphasis on the idea that differential pricing should be
voluntary, not mandatory, and on sustainable, long-term pricing structures, not donation
programs which have played a big part in the African HIV/AIDS crisis.

The commission, according to Towse, raises the possibility of manufacturers and member
states working together to develop packaging that would discourage shipment of discounted
goods back to high-income countries. However, he said the commission moves off trackwhen
it suggests that middle-income countries should be offered discounts or be allowed to
reference prices offered to poor countries if they are in a regional alliance with a country that
gets low prices.

He also criticized recommendations that manufacturers build local production and research
capability in developing markets. This is just nonsense, Towse said, although there might be
exceptions in researching a disease endemic to a certain area. However, in most cases, this
would push up costs, defeating the economic rationale for differential pricing.

Despite his criticisms, Towse characterized the proposal as a start in framing a global system
for differential pricing and he hopes the United Kingdom will take a lead in pushing the
commission s ideas forward. What it needs is a member state to take the initiative and pull the
commission up by the scruff of the neck and do something, said Towse. We are very close to
a situation in which many millions and millions of patients could receive these drugs at cost.
It requires focus in the public sector.