PJC H2 ECONS P1 Q1

PIONEER JUNIOR COLLEGE (E CONOMICS DEPARTMENT ) 1 PJC 2017 H2 Prelim Exam Paper 1 Question 1: Pharmaceutical Industry and Healthcare (a) (i) Using Table 1, compare the trends of total health spending per capita and government spending on health per capita in Singapore between 2010 and 2014. [2] Suggested answer : Both the total health spending per capita and government spending on health per capita increased between 2010 and 2014. Government spending on health per capita rose at a faster rate than the increase in total health spending per capita. Other accepted answer: Total health spending per capita is increasing at a decreasing rate while government spending on health per capita is increasing at an increasing rate. (a) (ii) Identify a reason for the difference in the trends observed in (a)(i). [1 ] Suggested answer : Singapore is facing an ageing population and govern ment would be giving more subsidies for aged patients, resulting in faster increase in government spending on health per capita than total health spending per capita. OR With the introduction of MediShield Life, governmen t would be giving more subsidies for people to purchase it, resulting in faster increase in government spending on health per capita than total health spending per capita. (b) Explain the type of market structure that pharmaceutical companies are likely to operate in. [2] Suggested answer : The market structure that pharmaceutical companies are likely to operate in is oligopoly. In the pharmaceutical industry, there are high barr iers to entry such as high innovation cost/ high cost of developing new medicine, ability to reap economies of scale (EOS) and the existence of patents. These high barriers to en try could result in few large firms producing a drug with large market share. OR The mutual interdependence between the pharmaceutical companies results in collusion or mergers to reduce competition and uncertainty. Thes e are the typical behaviour in an oligopolistic market structure. (c) Explain whether the high price of pharmaceutical drug is caused by demand or supply factors. [4] Suggested answer : According to extract 1, the high price of pharmaceu tical drug could be caused by high research and development (R&D) cost which is a supp ly factor. High R&D cost raise cost of production which shifts supply curve leftwards, leading to increase in price. Pharmaceutical companies also market/advertise thei r drugs to ensure demand. Such marketing influences taste and preferences which in creases demand, shifting demand

PIONEER JUNIOR COLLEGE (E CONOMICS DEPARTMENT ) 2 curve rightwards, leading to increase in price. Demand factor likely to be the main factor causing high price of pharmaceutical drug as the cost of innovation is mainly fixed cost rather than variable cost, thus supply does not rise by large extent. (d) “The lack of generic insulin has hindered price com petition for the key diabetes medicine.” Explain the likely effect on the profits earned by the producer of insulin following the entry of generic insulin. [3] Suggested answer : The entry of generic insulin increases the number of substitutes available. This reduces the market share of the producer of the original insuli n and demand falls, also making the demand becoming more price elastic. The equilibrium price and quantity falls, leading to fall in total revenue. Assuming ceteris paribus, fall in total revenue leads to fall in profits. (e) Discuss the factors that will influence the US gove rnment’s decision to approve the merger between two larger pharmaceutical firms such as Pfizer and Allergan. [8] Suggested answer : US government has the objective of maximizing socie ty welfare and will thus consider the impact on society when making the decision. In terms of costs, consumer welfare may fall as the merger of Pfizer and Allergan will give the merged firm significant market share in the pha rmaceutical industry, granting them higher market power which makes their demand more p rice-inelastic. This allows the merged firm to raise price to earn higher total rev enue, leading to lower consumer welfare. With fewer firms in the market, there is also great er ability to collude informally via price leadership. There will be less price competition ta king place, leading to consumers facing higher prices and lower consumer surplus. The highe r price above MC worsens allocative inefficiency and causes welfare loss to society. Furthermore, the merged firm being able to earn greater supernormal profits in the long run, a lso worsens income distribution between producers and consumers. In terms of benefits, there exist some benefits to consumers. According to extract 1, the merger allows the merged firm to cut cost and reap economies of scale. This is so as the merged firm would have larger market share and henc e producing on a larger scale. This allows the merged firm to enjoy cost savings from l arge scale production. AC and MC falls, leading to the fall in equilibrium price and quanti ty increases, raising consumer welfare. The supernormal profits earned by the merged firm w ill also increase their ability to pay for high cost of innovation. New drugs could be produce d as a result, increasing consumer welfare and also leading to greater dynamic efficiency in the economy. There are also some unintended consequences arising from the merger. The merger will mean less resource will be devoted for marketing and advertising purposes, leading to less wastage of resources. There could also possibly be less mis-branding taking place, reducing the market failure that arises from imperf ect information. Thus from the microeconomic perspective, the merger provides some advantages. Evaluation Thorough long term cost-benefit analysis is necessa ry to decide whether to approve the merger between Pfizer and Allergan. In particular, the US government has to consider whether the medical needs of patients would be comp romised due to the merger. If the

PIONEER JUNIOR COLLEGE (E CONOMICS DEPARTMENT ) 3 merger goes through, mitigating policies such as he althcare subsidy to lower-income households should be implemented to ensure pharmace utical drugs/medicines remain affordable to patients. (f) Discuss whether the Singapore government’s policies in the healthcare market can be justified. [10] Suggested answer : Singapore government’s policies in the healthcare market can be justified. Singapore government has implemented MediShield Lif e, setting up the Agency for Care Effectiveness (Ace) and moral suasion via campaigns to encourage Singaporeans to adopt healthy living and to go for regular health screenings. These policies can be justified. MediShield Life was meant to help Singaporeans with rising healthcare costs as well as because of Singapore’s ageing population. MediShield Life is a healthcare insurance policy that offers protection for everyone, even the very old, for life. MediShield Life pays for more of patient’s hospital bills and patients will have to pay less, helping Singaporeans cope with rising healthcare costs. Such policy which covers t he elderly also aim to help elderly in Singapore sustain the level of healthcare service t hat they can enjoy, aiding them in enjoying longer healthy lives. MediShield Life is also intended to address inequity issues by ensuring everyone is covered and no one is left beh ind. With this policy, PMB could also increase and converge with SMB and the external ben efits of healthcare can then be internalized. Ace was set up to reduce imperfect information. Pat ients and physicians may have viewed certain medication to have higher perceived benefit than actual benefit