The impact of generic goods in the pharmaceutical industry

Abstract

This paper studies the effects of generic drugs in the pharmaceutical industry. Two firms produce two branded goods, with a different active ingredient, and the patent for one of them has expired, so that a generic alternative is in the market. This paper focuses on the case where the branded goods are perfect substitutes and where there exists a degree of differentiation between the branded and the generic goods. The study looks at whether the firm producing the branded good whose patent has expired has incentives to produce its own generic alternative too. For this purpose, the scenario where the firm producing the branded good also produces the generic drug is compared with the situation where the generic good is produced by a third firm. It is found that the firm producing the branded good has incentives to produce its generic alternative, owing to a market segmentation effect. This induces an increase in the price of the branded good produced by this firm, which in turn implies a welfare reduction.