In Defense of the Middleman: Quality Failures in the Generic Pharmaceutical Market

This dissertation studies how intermediary buyers, such as wholesalers and retailers, discipline quality in the market for generic prescription drugs. Consumers are uniquely uninformed about quality in this market, since generic drugs are conventionally assumed to be interchangeable. As in many settings where consumers lack product information, they implicitly rely on intermediaries to observe quality disclosures and select high-quality goods for them. While intermediaries can alleviate adverse selection problems, they may also face incentives to choose inefficiently low-quality goods. Using novel data—the universe of FDA manufacturing quality disclosures from 2000-2022—I first provide evidence that quality failures are pervasive, even in the U.S. market. Over half of manufacturers fail inspections during my study period, and 12% of drugs are recalled, due to their risks to patient health. Next, I show that the disclosure of these failures through recall announcements reduces intermediary purchases of recalled drugs by 60%, with effects persisting for up to a decade—long after recalls are typically resolved. In contrast, the disclosure of inspection failures has little impact on drug purchases, suggesting that intermediaries penalize manufacturers more stringently for signals of supply disruptions than for low quality alone. To isolate the role of intermediaries, I develop a scoring auction model of generic procurement and an estimation technique that takes into account the fact that only winning prices are observed. I find that intermediaries are willing to pay a 2% premium for each 10% reduction in the probability of future recalls, which encourages manufacturers to compete on reliability, rather than just price. Intermediaries enhance the benefits of recall disclosures and ultimately increase the share of high-quality (not recalled) drugs by 27%. Finally, I show that counterfactual pay-for-performance policies, which subsidize high-quality drugs, can improve static welfare but are likely to reduce manufacturer competition in the long-run.

Author dc:creator

• Ishitani, Catherine

Advisor dc:contributor.advisor

• Olssen, Alex

• Economics

Language dc:language.iso

en

Repository record dc:identifier.uri

https://repository.upenn.edu/handle/20.500.14332/61298

OAI identifier oai:identifier

oai:repository.upenn.edu:20.500.14332/61298