Working Paper: NBER ID: w13501
Authors: Darius Lakdawalla; Neeraj Sood
Abstract: Rewarding inventors with inefficient monopoly power has long been regarded as the price of encouraging innovation. Public prescription drug insurance escapes that trade-off and achieves an elusive goal: lowering static deadweight loss, while simultaneously encouraging dynamic investments in innovation. As a result of this feature, the public provision of drug insurance can be welfare-improving, even for risk-neutral and purely self-interested consumers. In spite of its relatively low benefit levels, the Medicare Part D benefit generate $3.5 billion of annual static deadweight loss reduction, and at least $2.8 billion of annual value from extra innovation. These two components alone cover 87% of the social cost of publicly financing the benefit. The analysis of static and dynamic efficiency also has implications for policies complementary to a drug benefit: in the context of public monopsony power, some degree of price-negotiation by the government is always strictly welfare-improving, but this should often be coupled with extensions in patent length.
Keywords: public drug insurance; Medicare Part D; welfare effects; deadweight loss; innovation
JEL Codes: H2; H51; I11
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| public drug insurance (H51) | reduce static deadweight loss (H21) |
| public drug insurance (H51) | encourage dynamic investments in innovation (O35) |
| Medicare Part D benefit (H51) | reduce static deadweight loss (H21) |
| Medicare Part D benefit (H51) | generate additional innovation (O35) |
| Medicare Part D benefit (H51) | cumulative value (J17) |
| price negotiation (L14) | welfare improvement (I38) |
| price negotiation (L14) | reduce deadweight loss (H21) |
| prohibition on price negotiation (L42) | decrease welfare (I38) |
| interaction between price negotiation and patent gaming (C78) | optimize social welfare (D69) |