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October 1997, Vol. 120, No.
10
Gregory G. Kelly
The prescription pharmaceutical industry, with its frequent product innovation and tightly regulated markets, poses unique challenges to the development of price indexes. This article describes the industry and the features that make it unique. It also discusses some of the problems confronting analysts as they develop price indexes for the industry, and the solutions implemented by the Producer Price Index (PPI) program of the Bureau of Labor Statistics to more accurately measure price change for prescription pharmaceuticals.1
The pharmaceutical industry is characterized by frequent product innovation, with manufacturers continually developing and marketing new products. Some of these newly-developed products compete with existing products; others are completely new. The development of prescription pharmaceuticals requires costly and time-consuming research. After a product has been developed, it must undergo the rigorous approval process of the Food and Drug Administration (FDA). This process, which currently takes about 18 months, tests the product for safety as well as its efficacy in treating specific conditions.
To allow time to recoup the considerable investment costs associated with developing new products, manufacturers of FDA-approved new products are granted a period of patent/exclusivity protection. During this period, the company gaining approval has exclusive rights to the product’s formulation. The new product competes against other products used to treat the same condition, but with different formulations and characteristics. When the protection period expires, other companies can gain approval to market "generic" versions of the product.2
Two new laws enacted since the early 1980s accelerate the approval process for new pharmaceutical products, both patented and generic. The Hatch–Waxman Act, passed in 1984, reduces the time between the patent expiration of a predecessor product and the approval of bioequivalent generic competitors.3 The Prescription Drug User Fee Act, passed in 1992, significantly decreases the approval time for newly developed drugs. Both new drugs and generic versions of existing drugs now reach the market sooner and competition has increased within the therapeutic classes of drugs. Increased competition may help control inflation in the industry. Throughout the 1980s, prices for prescription pharmaceuticals increased much more rapidly than overall prices. Since 1992, however, inflation in the prescription pharmaceutical industry has slowed to less than one-half its 1980–92 average. (See chart 1.)
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Footnotes
1 For more information on the Producer Price Index,
including background and methodology, see "Producer
Prices," BLS Handbook of Methods, Bulletin 2490
(Bureau of Labor Statistics, 1997), pp. 130–43.
2 Generic drugs are new versions of existing (predecessor) drugs that use the same active ingredient and are rated as bioequivalent to the predecessor drug by the FDA. The FDA’s bioequivalence criteria requires that the absorption rate and peak concentration in the bloodstream of the generic drug does not vary significantly from the predecessor drug.
3 The act is titled Drug Price Competition and Patent Term Restoration Act of 1984.
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