Why brand drugs priced higher than generic equivalents

Abstract

Purpose – This paper aims to investigate why brand-name drugs are priced higher than their generic equivalents in the US market. The authors hypothesize that some consumers have a preference for brand names, which outweighs the cost savings realized by switching to generics. Consumers may prefer a brand drug because the brand may have a higher perceived quality due to advertising and other promotional activities. Additionally, individuals are habitual in their consumption of prescription drugs, which leads to continued use of the brand in the face of generic competition. Design/methodology/approach – The authors develop a structural demand model and proceed to estimate it using wholesale price and demand data from the years 2000 through 2004. Findings – The results of our analysis reveal that customers have a strong preference for brand drugs. In addition, consumers exhibit high switching costs for prescription drugs. Originality/value – Considering the price and quantity of prescriptions filled each day, determining why brand drugs do not lower their prices to compete with their generic equivalents is an important question. Unfortunately, the existing literature only acknowledges this counter-intuitive business practice, but does not mathematically explain it. The authors address this knowledge gap in literature and provide important insight for all players in this industry including consumers, pharmaceutical manufacturers and health insurance companies.