Drugs giants chew bitter pill over parallel traders as Union heads for enlargement

Date: 17/05/01

The European Commission last week shot down an attempt by GlaxoSmithKline to prevent middlemen from cashing in on different drug price regimes across the Union. Peter Chapman speaks to two EU policy experts about how 'parallel trading' affects the economics of both current and accession countries

FEW were surprised last week when European Commission anti-trust chief Mario Monti decided to stop drugs giant GlaxoSmithKline from thwarting the parallel trade in its products.

It was out of the question, said Monti, that Glaxo should be able to prevent pharmaceuticals wholesalers from buying cheap medicine in Spain - where government intervention keeps the price very low - and selling it at a profit in countries where the price is higher.

But you could almost hear the sighs of frustration coming down the road from DG Enterprise, the business-friendly arm of the Commission headed by Monti's compatriot Fabio Colasanti.

The former Prodi cabinet man, whose brief takes in pharmaceuticals, would not be so rude as to criticise Monti's judgement.

"Clearly, I don't see that Monti had a choice," Colasanti says, pointing out that his department was fully consulted by the trust-buster and his team.

Behind Monti's decision, though, Colasanti sees a European drugs market distorted by government intervention that makes it difficult for firms saddled with huge R&D costs to be expected to meet the vagaries of EU competition law (see below).

"I'm afraid that this is an area where there is a fundamental contradiction. We have 15 customers - national govern-ments that reimburse the drugs companies," Colasanti says. "Pharmaceuticals are a product where marginal cost is very low, but overheads are very large. If you negotiate with country x, and you know that it's not particularly wealthy, then you may accept a low price."

This works as long as companies can cover their costs - including all-important R&D investment - from richer countries where prices are higher.

The theory breaks down, says Colasanti, when you introduce European competition rules into this heady mix of make-do and mend economics. If different prices exist, then the incentive for parallel traders is huge. If you try to stop them, as Glaxo did, you break the law.

"Companies need to accept different prices in different countries," says Colasanti. "But at the same time we are the European Community and the Internal Market is a basic tenet."

If there are problems now, he insists, there is worse to come: EU enlargement.

Parallel trade in the Union has been limited because of the lack of really big income differentials between countries. But the prospect of a raft of relatively poor new member states - mostly drawn from the former Soviet Bloc, where intervention was a matter of course - is starting to hit home.

"As a company I might accept €2 a dose because it gives me an extra €2," says Colasanti. "Firms will be under pressure because people in Romania can't pay more than that. Clearly managing this transition is a problem. Industry will have a lot of pain for a few years before it improves."

Finding solutions to this quandary is not so easy. Drugs firms are not helped by the fact that the EU has no formal powers in the health sector while its executive arm is treaty-bound to uphold the integrity of the single market through the diligent use of competition rules.

That means radical reform is about as hard to come by as full tax harmonisation - but companies that try to buck the system will be punished.

Most hopes are now being pinned on the 'G10' - a think-tank of top executives, health ministers and other stakeholders set up late last year by the Commission, which follows in the footsteps of a round table set up by former Industry Commissioner Martin Bangemann.

That effort failed, mostly due to lack of political will and also because Bangemann and his colleagues in the Santer Commission were forced to quit. The job of G10, which meets again in September, is to re-think the unthinkable and to suggest ways out of the policy mess that studies show is boosting the US in the global competitiveness stakes.

Given the political constraints that rule out a root-and-branch reform of the system, Colasanti has in mind a compromise with greater convergence in price systems - and levels - among member states, even if there remains some scope for parallel imports.

Hand-in-hand with this approach, claims Colasanti, must be a system to encourage R&D and ensure that the most innovative drugs fetch a higher price.

The drugs giants concur with this diagnosis, although in true medical style they disagree slightly over the cure.

Brian Ager, director-general of the European Federation of Pharmaceuticals Industries and Associations (EFPIA), says parallel trade imperils the effort to find the next generation of anti-cancer drugs or the cures promised by the discovery of the human genome.

And enlargement, he agrees, will be a major headache for companies trying to recoup huge R&D costs while they still enjoy some of their 20-year patent protection.

"If the Commission is intent on applying free movement to the accession, what will happen when we get countries like Poland, Hungary and Romania, whose GDP is 40% that of Germany?" asks Ager. "How are we going to keep the medicines where they are?

Income differentials between EU members and would-be members are not the only pitfall. For example, Poland may agree a 'good price' with drugs firms, but an economic crisis in neighbouring Romania could suddenly spark parallel trade.

Ager fears new members may renege on initial negotiated prices if the going gets tough and medicine bills are deemed too expensive.

He argues that Colasanti's vision is flawed - expressing scepticism that drugs prices should converge. He claims prices would almost certainly be pushed down by governments looking for the same bargain enjoyed by other countries.

And Ager sees problems with the idea of special treatment for 'innovative drugs'. "How do you define 'innovative'?" he asks "It's fraught with problems. If you have got a patent it must be innovative. It is the same for bicycle parts and jet aircraft."

But the bottom line" he claims, is clear: "The only way forward is structural health care reform. A more free-market approach is the only way to boost the industry and patients."

That should mean "more competition into the purchasing side so that companies are responding to more of a market-type environment rather than having to deal with just one purchaser".

Such reforms may be political dynamite in some countries, admits Ager.