What is market failure, why does it happen and how can It be fixed?

Transcription

1 What is market failure, why does it happen and how can It be fixed? by Awi Federgruen Charles E. Exley Professor of Management Columbia University Vaccination ecosystem health check: achieving impact today and sustainability for tomorrow January 2015 Merieux Foundation

2 Prevalence of the problem In 2011, no less than 267 drug shortages were reported in the USA. Shortages have increased over the years : in 2004 there were 58 drugs with significant shortages The problem prevails primarily among generic drugs The problem is heavily concentrated among generic oncology drugs ( more than 10% of the drugs on the shortage list are oncological): it is a major problem for more than 500,000 cancer patients ; see e.g., Hensley, National Public Radio November 15, 2011 Ezekiel Emanuel Shortchanging Cancer Patients, NYT, August

3 Prevalence among Oncology Drugs Dr. Michael Link, President of American Society of Clinical Oncology: If you are a pediatric oncologist, you know how to cure 70 to 80 % of patients. But without these drugs you are out of business Dr. Michelle Hudspeth, Division Director of Pediatric Hematology/Oncology, Medical University South Carolina (Congressional Testimony, November 30, 2011 ): Regrettably, most institutions have had to institute a review board of their institutional ethics committee, to develop harrowing plans of how to ration chemotherapy drugs-most of which are generic drugs that have been around for more than 30 years. How do you decide who should be given the chance to live?

4 HAS THE SITUATION IMPROVED? 2012: Food and Drug Administration Safety and Innovation Act 2014: FDA Director Margaret Hamburg triumphantly declared that the number of new drug shortages declined to 73 from a level of 255 in But:

5 Source:

6 Maybe the problem has not received enough public attention? Major crisis in 2004 election campaign (flu vaccine) Front page articles, after methotrextrate shortage in March of this year; see my WSJ op-ed piece

7 Example 1: Flu vaccine crisis, October 2004 US lost half of its flu vaccine supply when Chiron plant closed down. Flu Vaccine: Critical product for public health Long production leadtime Inability to carry inventory from year to year Demand-Supply in US (2004) Demand: CDC target population of 100 million Supply: 55 million + 2 million + 48 million (lost) Demand-Supply in UK (2004) Demand: target population of 14 million Supply: 6 suppliers Flu vaccine supplies in US were vulnerable to disruption.

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9 Copyright 2004 Bulletin News Network, Inc. The Frontrunner October 20, 2004 Wednesday

10 CBS NEWS VIDEO

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12 Primary causes (I) Small and decreasing number of suppliers/manufacturing facilities: Many manufacturers have exited the market for generic drugs Examples: In 1967, there were 26 US vaccine makers; today there are no more than 6 In 2010, 90% of generic injectable oncology drugs were produced by 3 or fewer manufacturers. (II) Many of the continuing facilities are inoperative for long periods, because of a disruption/quality problem [ often triggered by FDA interventions to close facilities]: 58% of drugs on shortage list were produced by at least one facility undergoing FDA remediation OVERALL IMPACT: Prior to remediation efforts, the main 4 manufacturers of generic injectable products had an aggregate capacity of 1 billion units/yr; now the capacity is reduced to 700 million units. (III) Suppliers fail to expand capacity in existing facilities (IV) Suppliers fail to invest in more reliable processes and technologies for these products, see Federgruen and Yang ( Management Science, 2009)

13 Supplier consolidation vs. supplier diversification Benefits of Supplier Consolidation: Economies of scale in production costs (e.g. due to fixed production costs) Statistical economies of scale due to the pooling of demand risks Benefits of Supplier Diversification: Mitigating supply risks, including: Imperfect Yields due to Quality Problems Complete Supply Disruption, due to: Failure to meet quality standards Natural Disaster Fire Labor Strikes Terrorists attacks

14 Management Science 2009

15 THE ROOT CAUSES (I) MAJOR DEMAND UNCERTAINTY vs LONG TERM EXPENSIVE CAPACITY DECISIONS (II) LOW PROFIT MARGINS GENERIC DRUGS - rapid dramatic price declines after drug comes off patents - limited capacity competes with patented drugs ( pressure to finance new R&D) - increased marketing power of purchasers - government intervention since 2003 act: under Medicare prices capped at prior year s average net sales price ( plus6%) (III) VAST INCREASE FDA TRIGGERED FACILITY SHUTDOWNS (III) INSUFFICIENT FDA CAPACITY : REVIEWERS/INSPECTORS

16 Yellow Fever Vaccine Shortage Getting to Root Causes 16

17 Current Situation Precarious Demand 44% greater than Supply for , and limited by supply : UNICEF Demand: 62Mds UNICEF Supply: 33Mds GAVI demand estimate: 78Mds 137Mds 900 Million people at risk and increasing 2 Spread across Africa & south in Americas WHO recommendation to vaccinate children Supply limited coverage Increasing Weighted Average Price (WAP) $0.20 in 2000 to $0.95 in of 4 Producers unable to supply reliably Accessed 20/03/

18 2014 Global Producer Status Manufacturer WHO Prequal. Presentation Shelf Life WHO Prequal. Status Bio-Manguinhos (Brazil) ds 24 months ds 24 months Suspended ds 24 months Institut Pasteur de Dakar (Senegal) ds 36 months ds 36 months ds 36 months Active but no master working seeds FSUE Chumakov (Russia) ds 24 months ds 24 months On Temporary Hold ds 24 months Sanofi Pasteur (France) ds 36 months Active but recent marginal reinvestment case NOM DE LA PRESENTATION 18

19 UNICEF Analysis 1 Root Causes Issues: Raw material Supply shortage: Unclear. Limited supply of SPF and quality due to inadequate upstream investment Production & Quality: Reduced yields of primary embryo cells Technical difficulties with manufacturing equipment. Loss of GMP license by manufacturer Increased demand Unclear demand forecasts Accessed 20/03/

20 UNICEF 1 & GAVI Goals 4 UNICEF (Apparently conflicting market forces!): Maximise vaccine supply availability Reverse increase in YFV weighted average price (WAP) GAVI Market-Shaping Goals (More comprehensive): Balance of Supply & Demand so that No critical supplier exits the market in the next 10 yrs No pre-qualified YF vaccine is delisted from 2015 Supply meets demand from 2016 Cost of vaccine to GAVI and countries (YFV price currently among lowest in GAVI portfolio) To ensure long-term sustainability for countries and GAVI To stabilize price dynamics Information Need for good communication with all manufacturers to ensure sharing of Strat. Demand Forecasts and VIS process/outcomes. Appropriate & Innovative vaccines Current vaccines satisfy the medical impact requirements so focus on other objectives Accessed 20/03/

21 POSSIBLE SOLUTION FRAMEWORK: FLEXIBLE QUANTITY CONTRACTS To justify investments in the order of 1billion $ over a year horizon, suppliers must have assurances of minimum demand levels Therefore contractual arrangements must cover a long term horizon Organizations like GAVI make 20 year rolling horizon forecasts of global demands; but forecasts for future years become increasingly tentative as one projects into the future Purchasing organizations are hard pressed to make long term firm order commitments

22 POSSIBLE SOLUTION FRAMEWORK: FLEXIBLE QUANTITY CONTRACTS Purchasing organization specifies over horizon of years: per vile price trajectory Annual target order quantities for each supplier Targets are flexible: actual orders may be chosen within a given interval around the target Example: target quantity for 2020 may be 100 m viles, but with downward flex of 25% and upward flexibility of 15% This means actual order size in 2020 may be chosen in interval [ 75, 115] Supplier(s0 guaranteed a minimum volume of 75m Purchaser maintains much flexibility to hedge against demand uncertainty. Flexibility percentages ( 25% and 15%) are inputs ; they are examples, only. may vary by yesr; distant years need more flexibility Buyer selects target quantity, year by year, to ensure with a high probability (say 95%) that supply will cover demand, recognizing all demand and supply risks

23 POSSIBLE SOLUTION FRAMEWORK: FLEXIBLE QUANTITY CONTRACTS Given price trajectory and above rules, suppliers select their capacity levels Game theoretical analysis: two stage game USAGES OF GAME THEORY/OPTIMIZATION PLANNING MODEL: Evaluate consequences of a given price trajectory + flexibility percentages How much flexibility is needed for purchasing organization, yet still acceptable for supplier? Where are the sweet spots? Is it better to agree on somewhat higher prices but less flexibility For the buyer(s)? for the suppliers? How long a commitment horizon? lower prices but more flexibility

24 APPENDIX: ADDITIONAL ROOT CAUSES

25 LOW PROFIT MARGINS GENERICS Ezakiel Emanuel (2011)*: in first two or three years after a cancer drug becomes generic, its price may drop by as much as 90%, as manufacturers compete for market shares. ( see next slide) The low profit margins mean that manufacturers face a hard choice: lose money producing a lifesaving drug or switch limited production capacity to a more lucrative drug One of the five largest manufacturers of injectable oncology drugs reported in a Congressional hearing** that it loses money on 75% of its two dozen drugs; the company believes MMA (Medicare Modernization Act) is largely responsible Office Assistant Secretary for planning and Evaluation: among group drugs that experience shortage, average prices decreased every year prior to shortage; conversely, average prices of drugs without shortage did not change *** Manufacturers exiting the market or failing to enter is a function of opportunity costs High pressure to generate cash flows for future R&D * oncologist, special adviser to the Office of Management and Budget ** Committee on Oversight and Government Reform (Darrell Issa) June 15, 2012 *** HHS Report Economic Analysis of Causes of Drug Shortages, October 2011.

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27 OPPORTUNITY COSTS Manufacturers exiting the market or failing to enter is a function of opportunity costs High pressure to generate cash flows for future R&D: if you were a manufacturer with finite capacity, would you focus your capacity on generics that have just lost protection or would you manufacture lower priced drugs, whose patents expired long ago? Because MMA limits prices, they do not reach equilibrium. Because profit potential is so low, new potential entrants decide to stand on sidelines or focus on more profitable products (Walter Kalmans, testimony House Committee, November 30,2011) Stanford Economics Dept empirical study ( April 2012) identifies clear connection between low profit margins/ price controls reduce capacity/maintenance investments and increase shortages

28 Price Limits further squeezes profit margins in addition has unintended consequence of preventing temporary price decreases in periods of ample supply

29 Increased Bargaining Power Purchasers Manufacturers typically sell drugs via wholesalers and PBMs who then sell to physician offices, pharmacies and hospitals Emergence of Group Purchasing organizations (GPOs) 98% of hospitals use GPOs to obtain price discounts 2007, only 6 GPOs accounted for 90% of all hospital purchases Largest two represented close to 60% market Large bargaining power further reduces profit margins

30 (II) VAST INCREASE FDA TRIGGERED FACILITY SHUTDOWNS Historically, FDA was already notorious for much more aggressive intervention than other ( European countries) No evidence that US drugs are safer or have fewer recalls* Every shutdown /warning involves the tradeoff of a type 1 and a type 2 error. In June 2009, Dr. Margaret Hamburg started as Commissioner of FDA Inaugural speech emphasized increased enforcement activity re manufacturing facilities In the first year of her tenure, warning letters increased by 42%, from 474 to 673 In the second year of her tenure, warning letters increased by 156%, from 673 to 1720 * see e.g., Bakke et al. (1995) Clinical Pharmacology sand Therapeutics (1995),

31 VAST INCREASE FDA TRIGGERED FACILITY SHUTDOWNS (cont d) Increase in FDA warning letters coincided with a major spike in drug shortages in 2010/2011 Dr. Gottlieb ( former deputy commissioner FDA, now senior policy advisor CMMS) The FDA has required manufacturers to undergo major plant renovations, suspend facilities The FDA often don t understand the drug production processes well enough to detect the root cause Instead of calling for targeted fixes..the agency has often required manufacturers to undertake costly general upgrades to facilities. In 2010, regulatory actions taken by FDA were involved in 42% of the drug shortages. FDA fails to stagger process changes to avoid shortages.

32 INSUFFICIENT FDA CAPACITY : REVIEWERS/INSPECTORS In spite of all of the above, the industry generates many applications for new facilities and processes within existing facilities. Government has failed to allocate the money to hire enough reviewers to analyze applications or inspectors to visit facilities Backlog of applications remains more than a year long. Ironically, generic drug reviews take 15 months longer than those of patented drugs Generic drug industry, in exasperation has offered to provide the agency with $299 million to hire additional inspectors/reviewers. This proposal needs to be approved by Congress.