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Save the Whales! Abolish Patents!

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Want to lower the cost of health care? To conquer breast cancer? To make green technology work? To revolutionize entertainment? Concerned about free speech? Want to reduce income inequality? To break the stranglehold of the multinationals over political power? To unleash a wave of innovation that will make the establishment of the Internet look like a calm summer day? A Utopian pipe dream, obviously. Yet all it takes is a majority vote in both houses of Congress and the signature of the President to abolish the last impediments to creativity left over from the medieval period: patents and copyrights. Sound absurd? Read on.

Abolishing so-called intellectual "property" (IP) won't solve all social ills -- and it certainly won't save the whales. But it would be a big step in the right direction for solving a range of problems from the high cost of health care, to innovating our way out of the current recession. In a series of posts with my co-author Michele Boldrin, we'll tackle these issues one at a time.

Why has health care become so expensive? The cost of doctors, hospitals, and insurance companies is complex and has little to do with patents (even if it has a lot to do with monopolies), so we'll focus on pharmaceuticals. This is one of the fastest growing components of health care cost, and is already a significant component of overall cost. According to the Department of Health and Human Services 10% of the cost of health care was spent on prescription drugs sold at the retail level, while the OECD puts it at 13%. This understates the total expenditures on drugs -- the largest piece of the health care cost pie, the 31% spent on hospital care, includes the cost of drugs used during inpatient care. In addition, this 10% figure excludes the cost of over-the-counter drugs, although most of those products are no longer under patent. Of course some retail prescription drugs are also out of patent. Given these counter-balancing forces, 10-12% is probably a reasonable estimate of the fraction of the health care bill due to patented drugs.

With the exception of Japan, the rest of the world spends only about 60-70% of what we spend for prescription drugs. The European countries' average is 60%, with some countries at around 55%.That means that simply paying what the rest of the world pays would reduce our health care bill by at least 4% - that is about 0.7% of national GDP, or roughly $100 billion.

Why do we pay so much for drugs? Because the pharmaceutical companies are monopolies free to charge high prices without competition. Pharmaceutical products are developed in University laboratories financed by taxpayer money, coming mostly through the National Institute of Health. They are further refined by private companies subsidized by R&D tax-credits. In exchange for those companies carrying out expensive government mandated clinical trials, we then shield them from competition from generic manufacturers, and allow them to charge us monopoly prices.

Of course European countries have pharmaceutical patents too. However, while European countries allow drug manufacturers to become monopolists by using patents, they regulate the prices charged by those monopolists by imposing price caps. What if instead of just imitating the Europeans and becoming less lenient towards big pharma, the US decided to go all the way and abolish patents on drugs altogether? The gains would be much more substantial: according to a National Bureau of Economics study by Hughes, Moore and Snyder, the cost of generics is about 20% of the patented drug. So abolishing patents would save around 8% of our health care bill, which corresponds to about 1.3% of national GDP or, roughly, $200 billion.

But, perhaps, without all those extra monopoly profits we wouldn't have such great new products? The fact is there aren't so many great new products - a well known fact among health economists is that while big pharma's spending has soared the last decade, as patent control has tightened, drug discovery has plummeted. Pharmaceutical innovation is not lower in Europe, despite of big pharma's lower monopoly profits. While the market for pharmaceuticals is now largely a global one, so local rules may not be so important, this was less true in the past. Historically, before pharmaceutical patents were introduced in Italy in 1978, that country accounted for about 8% of new pharmaceutical discoveries worldwide. After the industry was strangled by patents, that percentage dropped to practically zero. Switzerland, a powerhouse in the world drug industry, introduced pharmaceutical patents at about the same time. While Switzerland's fall has not been as dramatic as Italy's, it too is much less of a powerhouse today than it was before 1977.

Patents do not seem to lead to the innovation their proponents claim. The list of examples goes on and on: the discovery of the one-dose HIV cocktail that replaced the complicated multi-pill regime? That took place in India a country that at that time did not allow pharmaceutical patents. Of the fifteen great medical milestones recently identified by the British Medical Journal - only two were patented or could be attributed to the "incentive" that patents supposedly provide. Numerous technical studies by economists of the effect of stronger patents on innovation have failed to find any consistent increase. Put it plainly: while the social gains from abolishing patents on drugs are obvious and computable, the losses are dubious and, on the basis of empirical evidence, probably nil.

Pharmaceutical patents and the resulting monopolies have many other corrosive effects, over and above raising the prices of prescription drugs. Pharmaceutical companies spend far more money promoting their products than on R&D. Some of the giants spend as much as four times on marketing as they do on research and development. How do these companies market their products? Most of the money goes to "scientifically convincing" the medical profession to prescribe patented products. How? Well, for example, by inviting doctors and their families to week-long conferences in exclusive resorts, where two hours are for a marketing presentation (the "medical symposium") and the rest for (all-included) leisure. A spectacular - but hardly unique - example of the level of corruption is the conviction of Pfizer for encouraging doctors to bill the government for drugs they were provided for free. These practices not only raise the cost of drugs, but corrode trust in the medical profession.

Another example of the ill-effect of patents on our health is the case of BRCA1 and BRCA2. These are genes patented by the University of Utah, discovered using tax-payer money. According to a lawsuit filed by a group of medical associations, doctors, and health collectives the patent holders prevent anyone else from providing women with information about their health risks and block research on improved and less expensive tests. It may seem strange to you that patents which you would think of as applying to methods or devices could apply to the discovery of a human gene. That is the world we face today: the genetic basis of diseases such as breast cancer - the maps that are generally produced at public expense - once discovered are put under lock and key. These practices not only raise the cost of discovering new drugs but block other medical innovations and new therapies. In other words, patents in this case are used to reduce, not increase, medical innovation.

This is just the tip of the genetic patent iceberg, however. As of 2005 there were no less than 4270 different patented parts of the human genome held by 1156 different patent holders. Imagine, if you will, if you needed to make use of a modest fraction - say 2% - of those patents to develop a new pharmaceutical product. You would have to negotiate with around 20 different patent holders, each out to hold you up for the highest price they can get. Needless to say you'd never bother. This problem of fractionated ownership - the anti-commons - has been examined extensively by Michael Heller in his book The Gridlock Economy. While this affect the price of drugs only indirectly, it directly reduces medical innovation.

The social injustice of pharmaceutical patents should not escape our attention either. An article published in the prestigious American Economic Review examines quinolones, a class of antibiotics that includes the Cipro of anthrax fame. The authors Chaudhuri, Goldberger and Jai conclude that our imposition of patents on this product in India will bring the US an extra $20 million a year at a cost to India of nearly $305 million a year. Does this make any sense, either economic or social? Not to us, but that is the way monopoly profits are made: a few extra cents are squeezed out at enormous public cost.

The case for drastically reducing and eventually abolishing medical patents is clear: they raise the social cost of drugs, and medicine, while providing little or even a negative incentive for medical innovation. Still, one asks: would just abolishing medical patents do the trick? The answer is no, more is needed. Let us see why.

In the recent health insurance debate a proposal has been floated to forbid insurance companies from discriminating on the basis of health, but not make health insurance mandatory. The consequences of this are predictable: only sick people will buy health insurance; insurance will become unaffordable, and in the end the entire system will collapse. Economists call this adverse selection -- but many commentators of different political stripes have pointed this out: it is just common sense. One commentator described it as building a bridge halfway across a river. This highlights a problem that we have seen repeatedly. Economists debate the merits of regulation as vociferously as libertarians (against) and progressives (in favor). But, almost unanimously, economist agree that while no regulation at all might make sense, and adequately designed regulation might also make sense - a bridge halfway across the river does not. Economists warned strongly against the federal government implicitly guaranteeing banks "too big to fail" and not regulating their portfolios -- we have seen the consequences of that. The electricity debacle in California a few years back was also a result of "deregulation" that only removed half the regulations. Pharmaceutical products are governed by a complex array of government regulations. Simply to abolish patents without making other adjustments would be to leave the bridge halfway across the river.

If we demand as we currently do stage III trials that cost on the order of half a billion dollars, and were to allow generic manufacturers to make free use of the results we can predict with great confidence that few new products will be brought to market. Fortunately this would not be the case if we were simply to abolish patents: current rules for New Chemical Entities allow the organization that conducted the trials a five year period during which they are allowed exclusive use of the results regardless of patent. This might seem a reasonable compromise - but it maintains, even without patents, much of the noxious nature of the existing system. Fortunately there are several better alternatives.

By the end of stage II trials, we know that the product does little or no harm. It is true that the new product may still not survive a rigorous cost-benefit analysis, but unfortunately the analysis conducted by the FDA is very one-sided. The suffering of people who are sick is no less tragic and real than the suffering of people from the side-effects of pharmaceutical products. Unfortunately the suffering of sick people is largely invisible to the FDA. If a drug is approved and fails disastrously the FDA is blamed. If a drug is not approved, and people suffer, nobody really knows. Many health economists argue that the stage III trials do far more social harm by delaying beneficial new treatments - or worse, discouraging the invention of beneficial new treatments - than they do by protecting us from harmful ones. This suggests that we should eliminate - or greatly reduce - the stage III trials along with patents.

If we elect to keep stage III clinical trials in their current form, there are attractive alternatives to the current system. Our current practice of trusting the producer/patent holder/monopolist to carry out the trials makes little sense. Far simpler and more sensible is to allow open bidding to see who would get to conduct the trials: organizations qualified to carry out the trials could bid for a royalty rate to be received if the trials are successful - the low bidder wins. Other alternative have been proposed, including the award of prizes for drugs based on their social value, or simply using government money directly to finance the trials of drugs that pass a "social relevance" test.

However we decide to treat stage III trials, the economic case against pharmaceutical patents is clear: they do more harm than good. Phasing out patents on drugs and reforming the stage III clinical trials system can be done and it is something we should ask Congress and the Obama Administration to put on their agenda sooner rather than later.

We'll be posting here about green technology, entertainment, free speech, multinationals, and innovation over the next weeks.

[These posts are based on discussions with Stephen Silberstein, and the analysis of health care is drawn from our collaborative work with Paul Grootendors.]