By Elizabeth Marlin
Imagine you have had a persistent cough for weeks, coughing up blood or phlegm. You are losing weight rapidly and have no appetite to eat anything to keep up your strength. Your nights are sleepless, permeated with cold sweats and chills. In the day, your body feels burned up inside. You are gradually being consumed by tuberculosis. If you are unfortunate enough to live in Pakistan, there is little chance of obtaining any medicine to treat it, unless you have enough connections or a large amount of bribing money. The horrible drug shortage in Pakistan, not only of TB-treating drugs but also of other important drugs, such as those used in child-bearing, has been caused by price caps set by the Drug Regulatory Authority of Pakistan (DRAP) and a drastic corresponding decrease in supply.
The price ceilings set by DRAP in 2001 on about 320 important drugs have not changed significantly for 15 years. In general, price ceilings below the equilibrium price in a market have the nasty effect of creating a shortage of potentially epic proportions, and price ceilings not adjusted for inflation for 15 years will undoubtedly have an exaggerated effect. As shown by the graph, the quantity of medicines demanded at this price ceiling far exceed the quantity supplied.
Although DRAP was most likely trying to help those who could not afford expensive medicines, the reality is that there are very few medicines in the market now, exacerbating the problem the price ceiling was supposed to solve.
But price ceilings on the price of drugs are actually only half the problem. The law of supply dictates that higher prices lead to an increase in the quantity supplied; the converse is also true: lower prices will provide less of an incentive for drug manufacturing companies to produce as many drugs. This principle is illustrated by the Swiss medicine company Novartis AG pulling out of the Pakistani drug market, unable to make a profit at the mandated low price. Of course, this decrease in the number of firms shifts the supply curve to the left, increasing the shortage. As if all this weren't bad enough, a demonic host of supply shifters have made themselves manifest at the same time. The cost of production of drugs in Pakistan has shot up, due to a 290% increase in fuel prices, 350% increase in utilities, more than a 100% increase in the minimum wage, as well as high inflation. It is pretty clear that high input costs have shifted the supply curve farther to the left, causing an even greater disparity between the quantity demanded and the quantity supplied.
Besides the obvious effect of the shortage of medicines in Pakistan, this double problem of price caps and a decrease in supply creates other, less evident consequences. For example, people looking to make money (as people always are) are putting all sorts of filler drugs into the market, appearing to fix the shortage. In reality, though, these drugs are of poor quality or even completely fake. In addition, drug-resistant strains of the diseases, particularly tuberculosis, are prone to develop.
Also, as Professor Timothy Taylor of Macalester College points out, firms suffering from price ceilings often find ways to make their customers pay a higher price while still ostensibly observing the price ceilings. For example, in cities with rent control, key payments and hefty deposits ensure that landlords are making a nice profit. The drug manufacturers in Pakistan are more prone to excessive bribes, defeating the purpose of the price ceiling, since now only wealthy people can afford the medicine.
Price ceilings and a decrease in supply caused by a reduced number of firms and higher costs for factors of production have caused a serious shortage of medicines in Pakistan. To me, the solution is simple: abolish the price ceiling and allow the market to determine the prices of medicines. Firms will be able to charge higher prices, but that will give them a better incentive to supply more medicines, alleviating the shortage. Since it would be difficult to lower the cost of production of drugs, DRAP must abolish the price ceiling, or at least make it higher, closer to the equilibrium price. For Pakistan, with the fifth-highest tuberculosis rate in the world, it is essential that the drug shortage be ended – people are dying. The interaction of supply and demand is indeed a delicate thing, but life is even more delicate. Let's not mess around. This is a matter of life and death.
This is Elizabeth Marlin's first contribution to Enter Stage Right. © 2016 Elizabeth Marlin