Pricing dynamics and product quality: The case of antidepressant drugs

The rising prices of pharmaceuticals have generated considerable, and often acrimonious, debate. Yet, there is little conceptual work or empirical evidence on pharmaceutical pricing strategies or on the time paths of these prices. This study provides a conceptual framework describing the interplay between quality and product differentiation in determining the preferred pricing strategy. We hypothesize that higher quality products will engage in price skimming strategies in markets where products are sufficiently differentiated, but will choose a market penetration strategy in markets that are less differentiated. We apply an empirical analysis to brand name antidepressants during the years 1999-2002, a market where differences in quality are modest. A nationally representative data set on drug utilization and expenditures is combined with a physician survey on the quality attributes of drugs to examine the effect of drug quality on pharmaceutical pricing strategies. Results indicate that higher quality antidepressants engage in a market penetration strategy, charging initially lower prices that rise over time. At approximately 6-7 years post-entry, prices of the antidepressant drugs examined converge. Prices of higher quality antidepressants continue to increase thereafter, eventually becoming the highest priced drugs in the therapeutic class. These findings are consistent with a market in which product differentiation is modest and consumers learn which drug works best for them through experience.