Economists Do It With Models

Warning: “graphic” content…

Bookmark and Share
On The Increasingly Unfortunate Economics Of Peanut Allergies…

August 24th, 2016 · 5 Comments
Buyer Beware · Econ 101 · Markets · Policy

So here’s a decent and concise overview of the latest issue to be taking over the internet:

Have a peanut allergy? Chance are you’re about to spend a lot more on EpiPens
by Emma Hinchliffe

Over the past few weeks, EpiPens have slowly overtaken the news. So what is going on with them exactly?

Source: Mashable


I feel like we’ve talked about this before as it relates to this guy, who apparently has some feelings about economists:


I don’t think he understands that economists are one of the groups likely most sympathetic to his ideals of profit maximization. Anyway, the general narrative is “company buys product, decides to make money from product, raises price of product,” and I would like to proceed by addressing one of Senator Sanders’ specific points:


This is where I point out that just because someone doesn’t like the reason doesn’t mean that the reason doesn’t exist. (As you’ll see in a bit, however, I pretty much agree with the spirit of what Sanders is saying.) In this case, the reason is some combination of inelastic demand and monopoly power– if consumers aren’t price sensitive (in this case because the product is a necessity) and they don’t perceive substitutes as being available (in this case one technically exists but often isn’t viewed as an acceptable substitute, so forgive me for not opining on the evils of patent protection at the moment), a producer can increase profit by increasing price. Sure, it will usually lose some customers, but the additional profit from customers that remain will more than make up for it. (In fact, the Lerner Index shows that markup over cost is inversely related to price elasticity of demand.)

Now, Bernie’s a smart guy, so I’m pretty sure that he knows this. He probably also knows that, even when producers are always maximizing profit, not all price increases are a result of cost increases. They could be the result of cost increases, but they also could be the result of an increase in demand for the product, at least in the short run. (That said, individuals do tend to view the former as fair and the latter as unfair.) In this case, there does seem to be an increase in demand for EpiPens over time, but what has more likely transpired is that the producer has shifted its values over time to focus more on pure profit maximization and less on keeping prices “fair.”

The somewhat uncomfortable reality is that, unless I’m interpreting price-gouging laws wayyyyyy too narrowly, the producer is within its rights to increase the price of its output, regardless of whether or not its costs have changed. (I feel like this point gets lost since companies often pay lip service to government to try to justify price changes in order to try to avoid future increases in regulation.) In fact, there’s even somewhat of an expectation coming from investors and capital markets that companies act so as to maximize profit. (While investors do seem to be increasing their emphasis on fairness and good corporate citizenship, the notion of a fiduciary responsibility to shareholders does still exist.)

I’m not saying that this outcome is right, either from an ethical or an efficiency standpoint, just that it shouldn’t be surprising. Again, the uncomfortable reality is that we rely on companies being “nice” as far as necessities are concerned in many cases, and recently we’ve gotten smacked with examples that show how fragile that trust can be. I’m also not saying that regulation is easy- how do you decide whether a product is truly a necessity? How do you decide whether a market is sufficiently competitive so as to solve its own problems? How do you regulate price or remove barriers to entry without destroying the incentives to innovate or keep costs down? (Economists have some models for regulating natural monopolies such as this, but they’re not perfect solutions.) I do think, however, that it’s a little unfair for policymakers to resort to shaming companies that are operating within the legal framework that they created because they kicked the regulatory can down the road (but, ironically yet likely justifiably, regulated enough to create the problem in the first place) rather than addressing what is an easily foreseeable issue from an economic standpoint.

Tags: Buyer Beware · Econ 101 · Markets · Policy

5 responses so far ↓

  • 1 Tom Stevens // Aug 24, 2016 at 6:45 pm

    It’s not just Mylan that takes advantage of life threatening allergies. My wife had a reaction this spring to the ornamental grasses in our yard. This resulted in a trip to the Urgent Care, where they pumped her full of Epi and Benedryl. Cost of this care was $10,000. Of which insurance covered about $6,000 (mostly discounts, some in actual cash)

    But wait, there’s more. The Urgent Care folks decided they have done all they could, so they transferred my wife to their sister ER. Who provided the EXACT same treatment the Urgent Care did. However, they could charge another $10,000 bill, of which insurance covered $8,000 (since I had met my deductible, but ACA plans provide worse coverage each year and all now come with co-insurance. Thanks Obama. But that’s a different rant). This did not include the other out of pocket charges for ambulance, lab work, blood pressure monitoring that were performed by subcontractors working in or for the hospital.

    So basically the Urgent Care charged $10,000 to insurance, then charged another $10,000 for the exact same incident by moving my wife through their system. The funny part in all this was the nice form letter their billing department sent me (somehow they guessed I might have a problem being ripped off) that read something like – “we have a $7,500 line item charge for ER visits because we need to have staff on hand at all hours, and adequate facilities, etc.” Which is exactly why the electric utility charges me $7,500 every time I flip a switch and why their is a $7,500 airport tax every time I fly.

    Bottom line – Hell is going to be really crowded with health care executives who are taking advantage of our broken health care system. Fortunately, my wife is fine and I can pay the $6,000 out of pocket. But these figurative assholes are forcing people without the financial means to literally make a life and death choice if they should receive care. And since these are generic drugs that can save lives, the government should vigorously enforce price gouging laws.

  • 2 Derek Louden // Aug 25, 2016 at 4:15 am

    Sherman Act – 15 U.S. Code § 2 – Monopolizing trade a felony – “Every person who shall monopolize, or attempt to monopolize, or combine or conspire with any other person or persons, to monopolize any part of the trade or commerce among the several States, or with foreign nations, shall be deemed guilty of a felony, and, on conviction thereof, shall be punished by fine not exceeding $100,000,000 if a corporation, or, if any other person, $1,000,000, or by imprisonment not exceeding 10 years, or by both said punishments, in the discretion of the court.”

    Martin Shkreli knew more about Finance than about Antitrust law. Someone in the Dept of Justice has remind him of this now

    Mylan the EpiPen people will hopefully learn the same lesson. $100m fine and a few years in prison should discourage others from doing the same.

    Sherman Act – 15 U.S. Code § 2 – Monopolizing trade a felony – “Every person who shall monopolize, or attempt to m… http://on.ft.com/2bhI7MV

  • 3 On The Increasingly Unfortunate Economics Of Peanut Allergies… via /r/economy | Chet Wang // Aug 25, 2016 at 5:15 am

    […] On The Increasingly Unfortunate Economics Of Peanut Allergies… http://www.economistsdoitwithmodels.com/2016/08/24/on-the-increasingly-unfortunate-economics-of-pean… […]

  • 4 John Fallon // Aug 26, 2016 at 2:49 pm

    I’m curious… what makes this a natural monopoly? I think the patent has expired, so why isn’t there a generic undercutting this price?

  • 5 econgirl // Aug 27, 2016 at 1:23 pm

    @John: I’m glad you asked! The device is in fact off patent, but near-identical substitutes don’t exists yet for some combination of the fact that a. the FDA clearance process for generics is still sort of a bear, so companies don’t always find it lucrative to make generics for drugs with small markets, and b. I read that the FDA actually has a backlog of approvals for generic equivalents.

    That said, there’s an important distinction between a natural monopoly and a monopoly more generally- a “natural monopoly” is an operation where fixed costs are high and marginal costs are low, which results in large economies of scale. In this case, the R&D is the high fixed cost, and the manufacturing cost of an EpiPen is pretty small. Natural monopolies can persist without any specific government protection (patents, etc.) since, once the first company has paid the fixed cost to be in business, it can always price so as to make it unappealing for another company to enter the market. (see also: Comcast) The situation is a little different here, since a competitor wouldn’t have to do all of the R&D again, but there’s still a pretty high fixed cost to getting in business.

Leave a Comment