Cutting pharmaceutical prices will severely reduce the number of new medications making it to market, according to a groundbreaking independent study from ESMT Competition Analysis (ESMT CA). For the first time, the study on 'Pharmaceutical Innovation and Pricing Regulation' clearly models and quantifies the direct link between strict regulation and low innovation. New medications likely to be hit hardest under tough pricing regulation include antibiotics, as well as treatments for cardiovascular disease and immune system disorders such as multiple sclerosis and chronic meningitis.

'Our study shows the consequences that pricing and reimbursement regulation can have on pharmaceutical innovation. It also shows that, incorrectly applied, regulation can reduce the value of pharmaceutical projects and curtail the resources available to carry them out,' said Dr Hans W Friederiszick of ESMT CA. 'Rational investors will naturally look for the most profitable investment choices, which is why regulation has a direct impact on the number and characteristics of the medications developed.' New antibiotics can see a 100% drop in expected profitability (known as Expected Net Present Value, ENPV) in phase one of clinical trials under a pricing model widely used in the EU. The ENPV is also lower, though less dramatically, through further stages of clinical trials. Other drugs with low margins and/or sales volume are similarly affected.

The ESMT CA study was commissioned by Novartis and is based on a unique simulation of a representative pharmaceutical firm's decision-making process, calibrated using publicly available data. The model draws conclusions from the simulated actions of the pharmaceutical company, taking account of parameters including the costs of developing new products, the probability of failure during clinical trials, and the probability of a final product not being considered highly innovative by regulators.

European governments predominantly see pharmaceutical pricing models as a tool for cost control in the public health sector, but may not to the same extent acknowledge its implication on product value and, hence, on the development of new drugs. External Price Benchmarking (EPB), a model widely used across OECD countries, causes a 5.7% drop in the optimal pharmaceutical portfolio value of a representative company under the ESMT CA simulation. Internal Reference Pricing (IRP), used in 17 EU-member and 3 non-EU OECD countries, causes an 11.7% drop. Having some regions of the world under IRP and others under EPB magnifies the problem, since internal prices are then exported to external markets, leading to a 19.8% drop in portfolio value. All forms of pricing regulation, when compared to market-based pricing, are found likely to reduce the value of projects and the resources available for R&D activities. Prices lower than market value in the cases of both IRP and EPB means that less money is available to invest in new products. IRP can lead to a failure to launch for one in ten products, half of them highly innovative. This is due to the fact that IRP may group innovative drugs that have just been launched with older drugs whose patent life has expired or is about to expire, effectively shortening the life cycle of innovative drugs and decreasing the incentive to innovate.

In addition, current pricing models are often shown to favor 'breakthrough' pharmaceutical innovations over 'follow-on' drugs, or incremental improvements. For instance, under a form of IRP introduced in Germany in 2004, later-in-class drugs always have their price referenced against the relevant first-in-class drug, even if they have new and beneficial characteristics. This can lead to a different understanding of “innovation” for patients and chemists. A statin, for instance, may be redeveloped to have fewer side effects or be more beneficial for one group of patients. This will seem like an innovative development to the patient but it will not necessarily be innovative enough from the pricing regulator's point of view to benefit from favorable regulation. The report therefore demonstrates the need to support both 'first in class' and 'best in class' products, rather than drawing a regulatory distinction between 'break-through' products and everything else.