An evaluation of the welfare effects of price subsidies on pharmaceutical products: a case study of asthma

Abstract

There is significant government expenditure, in the form of direct subsidies, on pharmaceutical products in New Zealand. An understanding of the effectiveness of this expenditure is important as all government expenditure has an opportunity cost. This study explores the determinants of demand for pharmaceuticals, estimates the consumers' responsiveness to price changes and estimates the consumer welfare effects from the presence of subsidies on asthma pharmaceuticals. This study also compares and contrasts the determinants of demand, and the responsiveness to price changes for high and low socio-economic consumers. The traditional consumer welfare effects for the market from the presence of the subsidy are also calculated in this study. Asthma pharmaceutical products were used as a case study for this evaluation. The welfare effects are evaluated within a static partial equilibrium framework, which requires the specification of both the demand and supply curves. The supply curve was assumed to be equal to the world price. Much of the data required for this study on consumption, asthma severity, income levels and other demographics was collected via a main survey. This survey elicited the data required to estimate the demand function. A regression analysis was employed to estimate the demand function using effective price as a proxy for price. A statistically significant relationship between effective price and quantity was not found. However, the effective price coefficient was used to estimate the elasticity of demand for asthma pharmaceuticals. It was found that the elasticity of demand for the low and high socio-economic clusters was -0.007 and -0.039, respectively. This result implies that both the high and low socio-economic cluster have a relatively inelastic demand curve (relatively unresponsive to price changes). It was also noted that the low socioeconomic cluster had a slightly less responsive demand curve to price than their higher socio-economic counterparts. This result was contrary to that hypothesised, however, a plausible explanation for this is that the low socio-economic cluster tends to have more severe asthma, and therefore may have less discretion in their asthma pharmaceutical consumption. The elasticity of demand for all respondents (the market) was applied to the theoretical framework to estimate the consumer welfare effects from the subsidy. It was found that with a relatively inelastic demand function there were significant consumer welfare gains from the presence of the subsidies; although a small deadweight loss was present. This study has important policy implications. It was concluded that the subsidy scheme does improve access to asthma pharmaceuticals to some individuals in society and it does provide significant consumer gains. In addition, the gains are likely to be greater than that estimated because of dynamic impacts, such as positive externalities. Further data analysis found that a significant proportion of survey respondents have a maximum willingness to pay in excess of the unsubsidised price, and therefore the subsidy scheme to these individuals is effectively a wealth transfer from the government to consumers. This implies that although the subsidisation of asthma pharmaceuticals does provide significant consumer gains, however, it does provide gains too many individuals who are prepared to pay in excess of the unsubsidised price.