On the Role of Parallel Trade on Manufacturers and Retailers Profits in the Pharmaceutical Sector

Abstract

We study how cross-national differences in regulated pharmaceutical prices within the EU lead to arbitrage decisions by pharmacy retailers through parallel imports of versions of drugs originally marketed in other countries by the same company. Such strategic decisions can affect the distribution of profits in markets for prescription drugs, including the profitability of innovating pharmaceutical companies even before patents expire and generic competition enters. Before patent expiry, parallel trade is the unique source of upstream competition from the perspective of a pharmacy retailer. We develop a structural model where retailers can alter the set of goods which the consumer can choose from, in response to differences in profitability across products. Our demand model with unobserved choice sets can be identified using individual consumers choices and supply side conditions for optimal choice sets decisions. Estimating our model with rich data on a pharmaceutical market featuring parallel imports, we find that retailer incentives play a significant role for the observed outcome. Our counterfactual simulations show that parallel imports of drugs has small effects on average consumer welfare, while it has large implications for the distribution of industry profits. In particular, retailers gain at the expense of pharmaceutical companies, while parallel traders only attain modest profits. Joint with Morten Sæthre Tuesday,