| Abstract: |
This article examines the market power of branded prescription drugs faced
with generic competition. Using prescription-level and matched socioeconomic
panel data of the entire Swedish population between 2010 and 2016, I provide
evidence for the key role of switching costs. A discontinuity surrounding
patent expirations establishes that the effect is causal. Further, by
comparing patients with and without medical education, I show that those
without medical education experience higher brand premia. A unique feature of
the Swedish market allows me to rule out patients’ inattention due to
information costs as a source of market power. Therefore, switching costs and
perceived quality differences are the key determinants of market power. I then
estimate a dynamic oligopoly model with forward-looking firms which is used in
counterfactual studies of the effect of switching costs and perceived quality
differences on prices. First, an increase in the length of procurement mimics
a reduction of switching costs and increases prices. While the effect of
switching costs on prices in theory is ambiguous, moderate switching costs and
sufficient competition for new patients increase competitive pressure. Second,
if everyone acts as a medical expert and experiences fewer brand premia,
prices decrease. |