craschworks

Via Cafe Hayek. This article presents an eloquent case for letting consumers make their own decisions about which drugs to take.

http://www.mises.org/journals/rae/pdf/rae7_2_1.pdf

Banning a Risky Product Cannot Improve Any Consumer's Welfare
(Properly Understood), with Applications to FDA Testing Requirements
Robert Higgs

Neoclassical welfare economists maintain that consumers suffer when risky goods are supplied in an unregulated market.
Consumers are said to possess imperfect information
(Stiglitz 1988, pp. 78-79; Barr 1992, pp. 749-50) and limited ability
to process complex information. Moreover, because information is
presumed to be a public good, markets are
ipso
facto
supposed to
produce and disseminate a suboptimal amount of information
(Stiglitz 1988, p. 79; Greer 1993, p. 416; Scherer 1993, pp. 98-99,101).
Under these conditions, neoclassical welfare economists maintain,
consumers make choices that cause them to be worse off than they
would be, say, if a regulator constrained their choices by banning very
risky products from the market. The alleged market failure may stem
from outright consumer ignorance, but it occurs even if consumers
conduct what seems to them an optimal search for information. Given
their inability to process complex information and the public-good
problem with respect to information, inefficient risk bearing occurs
(Greer 1993, pp. 413-14), as consumers bear more risk than they
would choose to bear if they could process all information flawlessly
and the public-good problem with respect to information creation and
dissemination had been solved.
Some analysts have noted, however, that U.S. regulatory agencies
*Robert Higgs is visiting professor of economics at the Albers School of Business
and Economics at Seattle University.
For comments on a previous draft, my thanks go to Don Boudreaux, Randy
Holcombe, Murray Rothbard, Andy Rutten, and anonymous referees, one ofwhom made
especially detailed and constructive remarks.
The Review
of Austrian Economics Vo1.7, NO. 2 (1994):3-20
ISSN 0889-3047
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The
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of Austrian Economics Vol.
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2
such as the Food and Drug Administration, the Consumer Product
Safety Commission, and the Department of Transportation, which
enforce product bans, face incentives of the sort recognized in public
choice theory that lead them to impose too much safety on consumers
by denying some risky products access to the market (Weimer 1982;
Grabowski and Vernon 1983; Gieringer 1985, 1986; Kazman 1990;
Higgs 1993).
To
analyze and remedy this government failure, neoclas-
sical analysts propose the application of social cost-benefit analysis
(Peltzman 1974; Grabowski and Vernon 1983, pp. 11-13). As Austrian
economists appreciate well, however, social cost-benefit analysis can-
not solve this (or any other) problem, because, inter alia, it rests on
unjustifiable implicit aggregation of different individuals' utilities
(Buchanan 1979, pp. 60-61, 151-52; Pasour 1988, pp. 114-16; For-
maini 1990, pp. 39-65; Cordato 1992, pp. 57-60,111). Other analysts
have tried to sidestep this problem by conducting an appraisal in
terms of lives lost and lives saved by various regulatory decisions
(Gieringer 1985; Kazman 1990, pp. 47-50). 1 shall criticize both
approaches. Neither gets at what economic analysis is supposed to be
about: consumer welfare as evaluated by the consumers themselves
and demonstrated by their actions.
Fundamental Ideas
Risk is an inescapable condition.' However much people may prefer
to live in a world of complete certainty, they simply cannot do so. Just
banishing risk, whether by regulation or otherwise, is not a feasible
option. Whatever the institutional arrangements for distributing the
gains and losses associated with risky actions, someone must bear
the risks inherent in the choices made. Insurance can pool and spread
risks. Government can tax or subsidize risk bearing. But at any time,
given the knowledge and resources available to the members of
society, any set of choices has associated with it certain irreducible
risks. As Mises (1966, p. 105) put it, “The most that can be attained
with regard to reality is probability.”
Given that no action has a completely certain outcome and that
the degree of risk attached to various actions differs, every consumer
choice represents a selection in two dimensions: (a) selection of good
X
(itself a package of attributes) instead of alternative goods and (b)
'1 do not make the Knightian distinction between risk and uncertainty. If consum-
ers lack an acceptable estimate of probabilities from an external source, they must
necessarily proceed in terms of subjectively formulated probabilities. To deny this
proposition is to suppose that consumers appreciate that outcomes are contingent but
act as if they know nothing at all about the likelihood of possible outcomes. Compare
Langlois (1982, pp. 9,24,31,38-39).
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Higgs: Banning a Risky
Product
selection of a certain degree of risk instead of the alternative degrees
of risk associated with goods not chosen. If people care about the
degree of risk assumed, which I suppose they generally do, then each
choice they make represents a deliberate selection from alternative
two-dimensional objects, each being a good-cum-risk package. “The
opportunity cost of the selection
.
.
.
is not the utility of outcomes
foregone but some foregone convolution of utility and probability”
(Langlois 1982, p. 29 and Figure 3). People choose the most preferred
package. Risk-averse consumers make tradeoffs, choosing something
other than the good with the greatest expected benefit whenever a
lower degree of risk associated with another good more than compen-
sates them for the sacrifice of the greater expected benefit. Having
different tastes for risk, people make such choices differently.2 As
Buchanan (1969, p. 50) has noted, “In the face of uncertainty, the
evaluation of alternatives by the actual decision-taker may differ
from the evaluations of any external observer.”
Every market, then, involves allocations of both goods as such
and risk-bearing. Economists, especially those in the field of finance,
are familiar with the principle of market efficiency that takes account
of both dimensions. Just as market exchange of existing goods can
improve the subjective well-being of consumers with different prefer-
ences, so the opportunity to trade in the risk dimension of goods can
improve the subjective well-being of consumers otherwise stuck with
some fixed distribution of risk bearing.3 In both cases, one presumes
that a restriction of the field of choice can make some or all traders
worse off but cannot make anybody better off. Yet neoclassical welfare
economists continue to argue that market failures of the sort men-
tioned above may invalidate this general presumption in favor of
unimpeded consumer choice of risk bearing.
Can Free Choice in Risk-Bearing
Make Consumers Worse
Off?
Suppose that, left to my own discretion, considering everything
I
know about the prospective benefits and risks of consuming good X,
I choose to consume it. Now suppose that you know something about
X that I do not, say, that it causes death once in every 100,000 cases
in which someone consumes a certain amount of it daily for a year.4
raker
and Sox (1981) document the wide variation in attitudes toward risk-bear-
ing of persons considering alternative medical therapies.
3″fficientrisk-taking will generally lead consumers to buy some risky products
and to forego some safety precautions” (Viscusi 1991, p.
52).
4 h emarginal annual risk of death for a person drinking one saccharin-sweetened
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The Review of Austrian Economics Vol. 7,No. 2
Can we say that preventing me from consuming the good improves
my welfare?
We cannot. Two possible cases exist. In one case I would have
chosen to consume
X
even had I known what you do about its risk,
because I would have regarded the risk as worth taking in order to
gain the expected benefits of consuming the good. In the other case I
would have refrained from consumingx had I possessed your knowl-
edge. But banning the product is quite different from giving me new
information. By simply denying me the option to consumex, you have
definitely made me worse off, because you have removed my most
preferred object of choice from the set of alternatives open to me. The
utility that consumers maximize by their choices is prospective and
subjective utility, not ex post utility and not utility as gauged by
someone else in possession of different information (Rothbard 1977;
Buchanan 1969, pp. 42-44; 1979, p. 59).
Of
course, consumers sometimes conclude afterward that they
regret a particular choice. Their regret only validates the fact that
their choice was indeed risky, that an undesired contingency could
occur. Consumers know this when they choose, and they make their
choices in the light of that knwledge.
To
deny them access to a
particular risky option does not differ essentially from denying them
access to goods of a particular taste, color, location, or any other
dimension of choice. The perceived degree of risk is a dimension of
goods considered by consumers when they make a (forward-looking)
choice.
'Ib
ban a good because a third party believes it to be in some
sense riskier than the consumer believes it to be or because a third
party values risk-avoidance more than the consumer does is simply
to impose the third party's preferences on the actual consumer.
This remains the case even though the consumer would have
chosen differently had he known what the third party knows. The
neoclassical economist's lament with regard to “imperfect informa-
tion” rests on an irrelevant and misleading standard of reference
soda a day has been estimated to be 1in 100,000; for someone eating four tablespoons
of peanut butter a day, 1in 25,000. See Greer (1993, p. 443).
5 h ethree preceding sentences provide,
I
submit, a more satisfactory under-
standing of the Rothbardian position than the criticism advanced by Cordato (1992, p.
43), who objects that “Rothbard's conclusions [that free-market exchanges increase
social utility] would only hold in an error-free world of perfect knowledge, where
expectations necessarily coincide with results.” See also Gordon (1993, pp. 103-5).
Whether the product in question “ultimatelyn proves more or less toxic or more or less
effective than consumers initially supposed has no bearing on the present analysis.
Choices must be made on each day prior to that “ultimate” day. Should the attributes
of the good ever become known fully by everybody, the present analysis no longer
applies.
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Higgs: Banning a Risky Product
(“perfect information”). In reality, everyone without exception is nec-
essarily ignorant of many things known by others. If consumer choice
were to be permitted only to consumers whose knowledge, whether
of risk or any other dimension, equaled or exceeded that of all other
persons, then persons in general would not be permitted to choose
anything for themselves, and no genuine market order could exist.
An arrangement in which only the most knowledgeable may
choose raises problems of its own. Who will identify the most knowl-
edgeable person for each dimension of choice, determining that John
knows most about colors, Mary about textures, Carlos about risks?
How will disputes about who has the most knowledge be resolved?
Does everybody agree as to how risk ought to be conceptualized and
measured? What will be done if even when Juanita is recognized as
the most knowledgeable about the risk of getting a headache from
using product
X,
some consumers seem to care a great deal about
avoiding a headache whereas others seem to care hardly at
Even if someone knows the degree of risk better than I, important
questions remain. Why don't I know? Is it because I am not concerned
about this particular risk? Is it because I regard the expected cost of
acquiring knowledge of the risk to be greater than the expected
benefit of possessing such knowledge? Again, no one can possibly
acquire more than a few sorts of knowledge. Should consumers who
decide to direct their information search along other lines be forbid-
den to choose all goods that someone else knows to be riskier than
the consumers in question do?
It is instructive to apply to the information question the general
Misesian position as stated by Cordato (1992, pp. 19,21). “Since there
is no optimal outcome [in the market for information] apart from that
which is generated by the actual interaction of market participants,
there is no standard by which to argue that 'too little' [information]
is being produced.
. . .
There is no way for the economist or policy
maker to know the preferences of market participants [with respect
to how informed they wish to be on various subjects] apart from what
the individuals reveal them to be through ation.”
Of course, it is trivially true that if I had the superior knowledge
now possessed by others, I might be able to improve my post-choice
' ave (1987, pp. 291-92) observes: “There is no single optimal decision for all
people. The key issues in medical decision-making are the extent and quality of
information about the outcomes of alternative interventions, the incentives influencing
the ill person and those treating him, and the preferences of those involved.
.
.
.
[Rlegulators usually make the most conservative (that is, worst case), plausible as-
sumption in each situation."
7 e ealso Buchanan (1979, pp. 61,86-87; 1986, pp. 73-74).
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evaluation of my welfare. But this is only to say that if people knew
more, they could act successfully more often. So what? If altruists
were to disseminate free information, some people might take the
time to absorb that information and be glad they did. But again, so
what? Are we to allow individuals to reveal their own valuations of
information by the efforts they make to inform themselves, or are we
to wait for more altruists to spread free information before allowing
individuals to make their own choices in the market? How many more
altruists are necessary? Who will decide when consumers are finally
well enough informed to make decisions about their own consump-
tion, and on what grounds will the decision rest?
The neoclassical argument that, because of the public-good char-
acter of information, people will be suboptimally informed cannot
justify a policy of banning a risky product. The argument is general.
How can it justify banning a new medicine but not a pork chop? If it
be countered that the medicine is harder to understand and therefore
consumers expose themselves to greater danger by consuming it at
their own discretion, the counterclaim itself may be questioned. Who
really knows the dangers best? What justifies the assumption that
one or a few federal bureaucrats actually know more about risks than
consumers? Andy Rutten has written, "The real flaw in the tradi-
tional argument is that [neoclassical economists] invoke the informa-
tion arguments so as to avoid the difficult (because impossible) work
of showing that third parties really would make better decisions.”' If
it be countered that some consumers are obviously dullards, then the
question becomes: How can one justify a comprehensive ban rather
than a ban applicable to the dullards alone? And if a discriminatory
ban is to be enforced, who will classify each member of the population
as either a dullard or not, and what will be the basis for making the
discrimination?
Upon closer inspection, the neoclassical argument founded on the
public-good character of inforination appears to depend on the im-
plicit assumption that someone omnisciently looking down on a
situation populated by imperfectly informed (i.e., real) actors can say
what the “correct” degree of information is. Further, to justify govern-
ment restrictions of the market, the neoclassical analyst must imag-
ine that this heavenly onlooker counsels government employees, such
'utten to the author, September 1993. Says Block (1992, p. 103), “to concede a
monopoly on truth to a government agency acting as absolute scientific czar is fraught
with peril far exceeding that of so-called snake-oil information governments so fear.”
Seidman (1977, p. 32) observes that “there are points in the [FDA's drug or medical
device approval] process where single individuals can block approvals.” What is the
likelihood that each such individual will have more knowledge than anyone else?
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Higgs?Banning
a Risky
Product
as the drug reviewers at the FDA, as they make a decision about the
date-the same for all persons, regardless of differences in their
knowledge, health condition, or attitude toward risk bearing-when
it will be “optimal” for everyone simultaneousiy to gain access to a
new drug.
“Perfect information,” as it is commonly understood in neoclassi-
cal analysis, is not a condition that can exist in reality; nor is it an
appropriate standard of reference in welfare economics.s We may
choose only among feasible institutional arrangements for conduct-
ing our affairs. Comprehensively banning a beneficial but risky
product from the market is the bluntest of policy instruments, the
crudest sort of central planning.
A
free market in risky goods, on the
other hand, permits the flexibility for individuals to adjust their
choices to the differences in their conditions and preferences. Some
consumers desire to become very well informed before taking the risk
of using a new drug or device; others are willing to assume the risk
quicker, either because they are more comfortable with risk bearing
or because they stand to lose more, in their own subjective estimation,
by waiting longer before using the product (Eraker and Sox 1981).In
the free market each individual can adjust the mix of products
consumed, the kind of risk borne and, within limits, the degree of risk
borne. Inasmuch as both the expected benefit of using a product and
the burden of risk bearing are subjectively experienced and knowable
only to the individual actor, and both vary from one person to another,
it should be clear that no central planner can possibly improve on the
outcome of a flexible market process by crushing it beneath the
weight of a single comprehensive decision imposed on everybody from
above.
lo
Finally, consider an alternative argument in support of banning
a risky product. Suppose one could establish that, by banning product
Xfrom the market, life expectancy definitely would be increased. May
we now conclude that the product should be banned? Of course not.
A
policy founded on such a decision rule implicitly enforces a one-di-
mensional utility function: only length of life has value. Clearly
people do not have such limited preferences. Every day in various
the words of Cordato (1992, p. 116), “[Neoclassical] economists have
.
. .
constructed a parallel universe that looks very little like the one with which we must
cope, and assessed the efficiency problem that would exist in that universe.”
'Osee Higgs (1993) for further contrasts of central planmng and free markets as
institutions for allocating the risks associated with the use (or nonuse) of medical goods.
Also, excellent discussions may be found in Gieringer (1985, 1986) and Weimer (1982,
pp. 263-77).
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2
ways people choose to place their lives at risk in order to pursue other
goals.11
If a risky new medicine may justifiably be banned, why shouldn't
the government also ban portable ladders, cigarettes, red meat, fast
cars, firearms, private aircraft, and countless other goods that con-
sumers value and purchase, all of which may reduce the user's life
expectancy? It might be countered that ordinary people can more
accurately estimate the risks of using these goods than they can the
risks of using a new medicine. But this need not be so.12 Who really
knows all the risks (or benefits of) of eating beef steak or drinking
cow's milk?
To
give people the option to consume a risky good is not
to insist that they consume it. People are free to consult expert
sources of information and advice before making their choices, and
the experts may know a great deal-far more than government
regulators know-about the probabilities of adverse contingencies.
Moreover, consumers may bear a much greater cost-which, because
-it is subjective, only they can know-by foregoing the use of the new
medicine than by foregoing the use of a ladder.
In sum, banning a risky product, which often appeals to paternal-
ists, is indefensible in relation to the maximization of consumers'
utility properly understood. Banning a product always represents the
imposition on consumers of someone else's preferences. (Every parent
understands this proposition.) Banning a product cannot make any-
one better off in terms of the properly konstrued objective analyzed
in economic theory: maximization of the prospective and subjective
utility of responsible adult consumers.
Applications to
FDA
Testing Requirements
Since 1962 the Food and Drug Administration has permitted the
marketing of a new drug only after the manufacturer has conducted
to the agency's satisfaction an elaborate series of tests, including
laboratory and animal experiments and three phases of clinical trials
with human subjects, to establish that the drug is both safe when
used as recommended and effective for its intended use (Grabowski
and Vernon 1983, pp. 21-27; Weimer 1982, pp. 246-50; Gieringer
1986; Kazman 1990, pp. 37-40). As the regulations have become more
o or
estimates of a number of commonly borne risks, see Wilson and Crouch
(1987,
p.
236)
and Greer
(1993,
p.
443).
Reporting on studies of “the implicit values of life
reflected in decisions involving a broad range of risky product and job choices,” Viscusi
(1991,
p.
51)
notes that “the preferences with respect to risk follow patterns one would
expect if these risks were the result of rational tradeoffs.”
12ieringer
(1985,
p.
201)
notes that “the overwhelming number of drug accidents
are due to old, not new, drugs.”
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Higgs: Banning
a
Risky Product
extensive and the agency's requirements and standards more de-
manding and unpredictable, the time and expense of the necessary
testing have grown. Presently the average drug takes about a decade
to complete the approval process (DiMasi, Bryant, and Lasagna 1991,
p. 480). While the product awaits approval, consumers who might
have benefited from it suffer unnecessarily and, in many cases, die
prematurely.
To evaluate this regulatory system, I construct a simple model
based on the ideas expressed in the preceding section of the paper.
The model provides a means of assessing several different aspects of
the FDA's regulations. Each aspect can be seen as a restriction that
cannot improve the well-being of any consumer but can-and no
doubt does–diminish the well-being of some consumers.
The model shows the relations between two sources of marginal
utility and the testing time
t
of a drug before it is permitted on the
market. In general, the more demanding the FDA standards for estab-
lishing safety and efficacy, the longer the time required to satisfy the
standards. Thus the duration of testing can serve as a measurable index
of other dimensions of the required testing such as number of subjects,
number of separate tests, number of variables monitored, total expense,
and so forth (Weimer 1982, p. 256; Ward 1992, p. 49). Notice, however,
that letting the duration of testing serve as a proxy for other dimen-
sions of testing is only an expositional convenience. The basic logic of
the model remains the same, even if one considers the problem
piecemeal for each separate dimension of the testing.
Figure
1
is a diagram of the model. Note first that the diagram
pertains to a given individual, Person A, at a given date. Person A
may relocate the functions at any time in accordance with changes in
personal valuations. The units in which each individual measures the
marginal utilities are known to that individual only. Interpersonal
utility comparisons cannot be made. Nor can the utilities of different
individuals be aggregated to arrive at a “social benefit function.”
There is no common unit for such aggregation; nor in reality is there
an institutional arrangement by which a common unit might be
revealed as it is, for example, by dollar prices in the neoclassical
model of a perfectly competitive economy in general equilibrium with
the dollar serving as a numeraire. By labeling the functions as
marginal utility (MU) functions, I hope to forestall anyone's confusing
these functions with the social marginal cost and social marginal
benefit functions used by neoclassical analysts to analyze issues of
this sort. The Austrian analysis offered here, unlike the correspond-
ing neoclassical analysis, rests squarely on methodological individu-
alism and subjectivism.
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t
=
Duration
of
Testing
Figure
1.
Determination of An Individual's Optimal
Testing Duration
When testing first begins, the individual gains a definite mar-
ginal utility, denoted MUW, from acquiring the information yielded
by the test about the drug's efficacy, its toxicity, and other side effects.
One is reassured to know, for example, that the test subjects did not
drop dead after taking the drug on day one. As the duration of the
testing increases, then eventually if not immediately the marginal
utility of the information gained from the last day of testing declines:
MUU) is a decreasing function of
t.13
I assume nothing else about the
shape of MU(0; the linearity of the function as drawn in Figure
1
is
arbitrary. One may also think of MUU) as depicting the marginal
benefit of testing good
X
as evaluated by Person
A
on a given date.
On the other hand, the longer the duration of the premarket
testing, the longer the consumer must forego the benefits of using
good
X,
denoted MU(B). While the foregone marginal utility of using
13wardell (1979, p.
33)
notes that “current Phase 111 trials [the final stage of the
clinical testing], although the most costly and time-consuming part of the clinical
development process, add very little to what has already been learned about a drug's
efficacy and toxicity by the end of Phase 11.” Conceivably,
MU(I)
might increase in the
early stage oftesting, but eventually it must decline, if only because the human lifespan
is limited. In using the model, nothing is gained by considering an initially rising
portion of the
MUU)
function.
Page 11
13
Higgs: Banning a Risky Product
good
X
may be low at an early stage of the testing, MU(B) rises as t
increases. The longer one waits to use X, the greater the likelihood
that one's condition will worsen to the point that
X
will no longer
suffice to alleviate the problem. Hence, MU(B) is an increasing
function oft. I assume nothing else about the shape of MU@); the
linearity of the functions drawn in Figure
1
is arbitrary. One may also
think of MU(B) as depicting the marginal cost of testing good X as
evaluated by Person A on a given date.14
In extreme cases people will soon die without access to a poten-
tially life-saving drug. Such persons might be willing to use a new
product immediately, notwithstanding the possible hazards associ-
ated with its use, which are initially quite uncertain because it has
been tested only in the laboratory and with animals. Amember of this
desperate group would have an MU(B) function like that labeled
MU(B)z in Figure
1.
At any positive test duration, the marginal utility
of the benefits foregone because of another day's testing exceeds the
marginal utility of the information gained by another day's testing.
For these people, the optimal test duration is zero days.
For others, presumably the more typical cases, immediate use of
X
would be undesirable. Before the good has undergone any
clinical testing at all, the marginal utility of the information
gained from at least a few days of testing would be worth waiting for,
because the marginal utility of benefits foregone would be relatively
low for low values oft. As t increases, however, MU(B) increases and,
as shown by the function labeled MU(B)i in Figure
1,
it eventually
equals and then exceeds the value ofMU(I), which falls as
t
increases.
The test duration t* at which the two MU functions have equal values
is the optimal one for Person A. This person will not voluntarily use
Xbefore it has undergone a test period of this duration. However,
this person would object should the premarket test period be
prolonged by regulators beyond t*, judging the foregone benefits
associated with additional waiting to use X greater than the bene-
fits of the additional information acquired.
Now, suppose that a regulatory agency effectively fixes the dura-
tion of premarket testing, as the FDA does.15 Two cases are possible.
141 can imagine conditions such that
MUB)
would not be a monotonic increasing
function oft. For the model, all that matters is that if
MU(I)
ever intersects
MU(B),
it
does so from above. Otherwise the model allows an absurdity: that a person favors early
use of the product but, beyond a certain period of testing, prefers to wait for more
testing.
15 heagency does not set the test duration at the beginning of the process. Rather,
it extends the period sequentially (and unpredictably) by advising the applicant from
time to time that more information must be submitted or additional tests performed or
simply by spending more time processing the initial application.
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Vol.
7,No. 2
One possibility, shown as duration ti in Figure
1,
is that the regulator
sets
t
below the individual's optimum, which is
t*.
In that case the
individual refrains from using the product, after it becomes available
in the market, until it has undergone further testing. For all such
persons, the regulation is not a binding constraint. These persons
desire more testing than the regulator requires. The regulator's
restriction brings them no benefit whatever.'=
In the second case the regulator effectively fixes a test duration
such as
t 2
in the figure, which exceeds the individual's optimum. In
this case individuals cannot consume the good as soon as they wish.
Even though a consumer is willing to accept the risk of current use,
the manufacturer is not permitted to sell the good. The well-being of
the consumer is diminished. The consumer will gain some utility from
further testing, but the utility sacrificed by additional waiting is
greater than the utility gained from the information yielded by the
additional testing.
We have then two possibilities. Either the regulator sets
t
equal
to or less than an individual's optimum, in which case the regulation
neither helps nor hurts the consumer; or the regulator sets
t
higher
than an individual's optimum, in which case the regulation defi-
nitely reduces the well-being of the consumer. In short, marketing
restrictions like those enforced by the FDA can make no one better
off in the sense relevant in economic theory, but they can-and, as
indicated by the many public complaints registered against the
FDA, they clearly do-make some consumers worse off.'' Overall,
restrictions of this kind, which ban a product from the market, can
only hurt consumers.ls
Using the model, one can evaluate various aspects of the FDA's
policies with regard to premarket testing requirements. Consider, for
“whether the manufacturer voluntarily performs the additional testing desired
by Person
A
is a separate issue, which
I
presume depends on the seller's estimate of
whether, given the expected incremental streams of cost and revenue, the additional
testing will increase the present value of the firm.
17orneof the complaints, which have appeared recently in the press, are quoted
in Higgs (1994).
181n a paper that is for the most part excellent, Weimer (1982,pp. 253-55) comes
close to reaching this conclusion, but his analytical framework, cast in terms of
hypothetical numerically comparable costs and benefits for differentgroups, can be, as
he recognizes, only a means of illustrating a point, not a compelling demonstration.
Weimer's analysis remains tied to the neoclassical concept of social efficiency: 'So long
as there were patients who would elect to take drug
X
after being informed of the
benefits and risks associated with it, the regulatory decision not to allow marketing
would be socially inefficientn (p. 255).
In
fact the decision is much worse than merely
'socially inefficient”: it harms some consumers and helps nobody.
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Higgs: Banning a
Risky Product
example, how an individual's optimal testing time t* would change if
it were discovered that a drug might be helpful in treating a second
illness as well as the one for which it was originally intended.lg In
this case the MU(B) function shifts upward, as Person A is foregoing
not only the marginal utility of using drug X to treat condition 1but
also the marginal utility of usingX to treat condition 2. Because the
MUU) function remains fixed, the intersection of the MUU) and the
MUB) functions must now occur at a lower value oft. This conclusion
is intuitively obvious: the more conditions a drug can alleviate, ceteris
paribus, the saoner a consumer will desire access to it.
a
The FDA, however, regulates drugs so as to preclude this result.
Even if solid scientific studies or extensive clinical uses indicate that
a previously approved product will prove useful in alleviating an
additional condition, the product may not be legally marketed for that
indication.*' The seller is required to conduct a new, separate set of
tests complete with years of clinical trials, and to present the FDA
with a New Drug Application based exclusively on the additional
therapeutic claim (Weimer 1982, p. 279; Gieringer 1985, pp. 188-90;
1986, p. 10; Ward 1992, pp. 47-49). Consumers'welfare is diminished
by the delay in the seller's advertising and marketing for the new use
of a product already on the market.21
Consider next the effect on Person A's optimal U.S. testing time
t* if information on drug X's efficacy and side effects were to become
available from tests or consumer experience in other countries. In
this case the MU(I) function would shift downward, as the marginal
utility of any particular increment of U.S. testing now would have
lower value to Person A. With the downward shift ofMU(I), given that
the MU(B) function remains fixed, the two functions intersect farther
to the left and hence the value oft* is lower than before. Again, this
''one frequently sees news items like those from the Wall Street Journal whose
headlines announced “Study Finds Bristol-Myers Heart Drug Slows Down Kidney
Disease in Diabetics” (November 11, 1993) and “Breast Cancer Drug Now Gaining
Favor May Also Reduce Risk of Heart Disease” (September 1,1993).
''or example, by the 1980s, on the basis of extensive research reported in the
medical literature, physicians accepted that patients with heart disease can reduce
their risk of heart attack by taking a little aspirin each day, but the FDA forbade the
sellers of aspirin to mention this benefit in their advertising to the public. See Pearson
and Shaw (1993, pp. 12-15, 55-56, 81-84). Of course, no drug company will spend
hundreds of millions of dollars to gain FDA approval to make a new claim when the
product cannot be patented and many different companies can produce it.
'lhsiciansare legally free to use drugs for unapproved indications, but in
practice they are reluctant to do so because of fears related to malpractice litigation.
See Gieringer (1985, pp. 189-90; 1986, p. 17) and Nicholas Bachynsky, M.D., in the
foreword of Anderson and Anderson (1987, pp. viii, xi-xii).
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conclusion comports with intuition. Given that more information is
already available for gauging the benefits and risks of using X, the
consumer will be satisfied with a shorter period of premarket testing
in the United States.
The FDA, however, usually does not alter its testingrequirements
in recognition of foreign testing or consumer experience. Even drugs
that have been used abroad safely and beneficially, sometimes for
decades, must undergo the same elaborate, expensive, and time-con-
suming testing as those never used or tested previously (Wardell
1979, p. 30; Grabowski and Vernon 1983, p. 69; Gieringer 1986, pp.
11, 14LZ2 Hence arises the notorious “drug lag,” the delay between the
introduction of drugs elsewhere and their marketing clearance by the
FDA for sale in the United States (Temin 1980, pp. 141-51; Wardell
and Lasagna, 1975; Anderson and Anderson 1987; Kazman 1990).
Whereas consumers want quicker access to drugs already tested and
used abroad, the FDA as a rule does nothing to accommodate this
desire, thereby thwarting consumer satisfaction in still another way.
Consider now the effect on Person A's optimal testing time t* if
the new drugX is chemically related to an existing drug. Because the
mechanism of action of the new product probably will be the same as
that of the existing product in at least some respects, the consumer-
advised by doctors and pharmacists who understand such things-
will get less valuable new information and hence less utility from any
particular increment of testing of the new product. The MU(I) func-
tion will shift downward. Given that the MU(B) function has not
changed, the intersection of the MU(B) and
MU(I)
functions occurs
farther to the left, that is, the value oft* declines. Again intuition
agrees. The consumer wants quicker access to the new product be-
cause the information yielded by additional testing is less valuable,
given that the consumer expects certain “family resemblances”
among products.
In such cases the FDA does not act in conformity with consumers'
desires. The agency requires every new product to undergo the same
testing procedures even though manufacturers have already estab-
lished the efficacy and side effects of products of the same chemical
family.24 Consumers gain access to the new product no sooner than
“1n a few instances in recent years the FDA has taken into account foreign
information, but these instances are quite exceptional.
23ndersonand Anderson (1987) catalogue 192 generic and 1,535 brand-name
tested drugs available abroad but not approved for sale in the United States.
24 he
FDA has designated some products for consideration on a “fast track.” See
Grabowski and Vernon (1983, p. 27). But this distinction represents the attempt of a
Page 15
17
Higgs: Banning a
Risky
Product
they would if it were completely novel in chemical composition and
mechanism of action. Again consumers' satisfaction is thwarted.
Finally, consider how consumers would set t* for a more threat-
ening condition (e.g., cancer), relative to a less threatening one (e.g.,
the common cold). In this situation the MUB) function for the more
threatening condition would lie above the MUB) for the less threat-
ening condition, as each day's delay entails greater foregone benefit
in the former case than in the latter. Higher MU(B) functions inter-
sect the MU(I) function farther to the left, that is, at a lower value
for t*.
Ceteris paribus,
the consumer desires quicker access to the
drug when it can alleviate a more serious condition.
The FDA does not accommodate this consumer preference.
Whether the condition to be treated is life-threatening or simply
unpleasant, the agency requires the same rigid, elaborate, and time-
consuming testing. Once again, the regulators frustrate the desires
of consumers by insisting that one size (testing procedure) fits all
(drugs and patients), regardless of the urgency with which consumers
desire access to certain drugs. In some cases this regulatory intran-
sigence creates the absurd situation in which the FDA denies dying
.
-
patients access to a new drug because the manufacturer has not yet
established beyond a reasonable doubt that the drug will not harm
the users.25
Conclusion
Banning a product can never improve the well-being of consumers
properly understood, that is, understood as individual consumers'
prospective and subjective utility. This proposition remains valid
even when risk is incorporated into the analysis. Risk of inefficacy or
adverse side effects is simply another dimension of each good, like
taste, size, or location, about which the consumer has preferences.
Government restrictions have the same effect on consumer welfare
few bureaucrats to “pick winners.” There is no reason to believe that they can do so
more successfully than others can. See William Wardell (quoted in Kazman 1990, p. 45)
for a case of egregious misclassification. In any event the agency's discrimination
usually reflects judgments of life-saving potential rather than the priorities of consum-
ers, who might, for example, place a relatively high value on expediting the availability
of a drug to prevent a disfiguring disease such as severe acne or a painful and
debilitating disease such as arthritis, even though the disease is not fatal. Moreover,
the FDA's “fast-tracking” efforts, along with its attempt to speed the development of
so-called “orphan drugs” and other exceptions, have not actually reduced the average
time required for approval. See DiMasi, Bryant, and Lasagna (1991, p. 480), Weimer
(1982, p. 249), Anderson and Anderson (1987, p. x), Siege1 and Roberts (1991, pp. 71-73,
77), Ward (1992,
p.
51), and Kazman (1992, p. 6).
2 5 r g s
for the treatment of AIDS furnish the outstanding example, but by no
means the only one. The AIDS story is told in dramatic fashion by Kwitny (1992).
Page 16
The Review of Austrian Economics Vol. 7, No. 2
regardless of the dimension of the good that is restricted; in this
regard there is nothing special about risk.
A
simple model incorporating this approach to thinking about
risky consumers' goods allows us to establish that the FDA's regula-
tion of drugs (and likewise its regulation of medical devices), both in
general and in several of its specific forms, has detrimental effects on
consumers' welfare. Nothing in economic theory, correctly under-
stood, supports the imposition of product bans such as those enforced
by the FDA through its testing requirements. The bans help no
consumer; they definitely hurt some consumers.
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