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Free keywords:
parallel trade, pharmaceuticals, R&D incentives, welfare effects, economic analysis of intellectual property rights
Abstract:
In a double marginalization model which is played between a domestic monopolistic
manufacturer of pharmaceuticals and a foreign exclusive distributor, I examine the impact of
parallel trade freedom on the manufacturer’s profit. I also analyze its impact on global welfare
for low, intermediate, and high trade costs and different levels of heterogeneity of the two
countries where the manufacturer and the distributor are located.
The model suggests that parallel trade – provided that it is a credible threat – reduces the
profit of the manufacturer and thus reduces his incentives to invest in R&D. If, however, trade
costs are high, parallel trade is a non-credible threat as it is not a worthwhile business activity
for the foreign distributor and thus does not have any impact on the profit of the
manufacturer.
The model shows that parallel trade has positive welfare properties if the two countries are
sufficiently heterogeneous in terms of market size and if trade costs are intermediate and low,
respectively. If, however, the countries are virtually homogenous in terms of market size,
parallel trade may be detrimental to global welfare for specific levels of trade costs.
