Economic Analysis of the Causes of Drug Shortages. Framework for Strategies to Reduce Shortages

10/28/2011

Reducing the number and severity of shortages can only be achieved through increases in the elasticity of demand and/or supply, or reductions in the number or extent of changes to demand or supply.  Each of these approaches — increasing demand flexibility, increasing supply flexibility, reducing demand disruptions (which have been rare and are not discussed below), and reducing supply disruptions — has costs.

Either increasing standardization of care through, for example, use of clinical guidelines, or increased tailoring of care to the particulars of individual cases, reduces the elasticity of demand.  Conversely, expanding the range of therapeutic choices available to providers and patients can increase the elasticity of demand — but at the cost of requiring the use of non-standardized treatment (which may increase safety or quality problems).

Increasing inventories of products or reducing the rate of capacity utilization (effectively increasing inventories of manufacturing capacity) raise supply elasticity, but also the cost of production and, ultimately, prices paid by consumers.  Private contractual vehicles — failure to supply clauses — that could induce manufacturers to hold excess inventories or manufacturing capacity exist and are in use, although they are weak.  In current contracts that incorporate these clauses, penalties are generally of limited duration and the clauses are generally not binding if a shortage exists and no alternative manufacturer is producing a product.  Private purchasers could choose to strengthen these clauses — but manufacturers would demand higher prices in exchange for stronger requirements.  Those higher prices would go toward the cost of certifying additional input suppliers, lines of equipment, and other resources, which could be used in case of a supply shortage.

New business opportunities can lead to disruptions in supply.  Slowing the ability of firms to respond to new business opportunities would reduce supply disruptions but at the cost of reducing industry flexibility or passing up opportunities to improve consumer quality.

Sectors dominated by medically necessary drugs, with high current rates of capacity utilization, expansions in volume, and recent entry of new products are most vulnerable to shortages.  FDA’s tailored regulatory response, which considers the risks and benefits of regulation in each situation, may be particularly important when there is a likelihood of shortages across an entire industry sector.  However, strategic behavior — behavior that takes into account the likely actions of both competitors and regulators — is a common response to an environment of constrained capacity with few participating firms.  Such behavior can lead to increases in concentration and reductions in competition in the longer run.

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