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Study urges compensation-based approach to drug patent compulsory licensing

July 11, 2007

A Penn State researcher argues that ambiguous international rules outlining when and how governments may "break" pharmaceutical patents may end up significantly reducing incentives for innovation while at the same time failing to increase access to medicines.

In a new paper "Confronting Myths and Myopia on the Road from Doha," Daniel Cahoy, associate professor of business law at Penn State's Smeal College of Business, argues that the problem is a lack of clarity in compensation for patent owners. He suggests that a three-tiered approach to compulsory license remuneration based on a country's individual ability to pay would do much to resolve the predicament.

Current international law "has few limitations on which countries can 'break' patents simply to control costs, what circumstances create a necessary condition, or even what level of remuneration is required," Cahoy writes. As a result, relatively wealthy nations may receive unintended windfalls while least developed countries may continue to struggle for access.

Under complex World Trade Organization rules, governments are permitted to issue patent compulsory licenses, which allow countries to manufacture cheaper versions of patented pharmaceuticals for non-commercial use or in cases of health care emergencies. Just recently, Brazil and Thailand have invoked these rules simply to lower the cost of expensive AIDS and heart medications-a strategy that Cahoy argues should be more controlled. In his paper, Cahoy identifies three myths that have typically obscured workable remuneration rules:

Myth No. 1: Equitable compulsory licenses must offer savings from the market. Cahoy argues that it is possible for patent holders to be compensated at market prices even when compulsory licenses are invoked. At the very least, he writes, market compensation should be integrated into the debate.

Myth No. 2: Pharmaceutical companies should be indifferent to compulsory licensing so long as "reasonable" remuneration is available. Compulsory licensing supporters say that pharmaceutical companies should be satisfied with payments that allow them to break even or turn a small profit, but Cahoy argues that the equity in such a payment scheme is far more elusive than many suggest.

Myth No. 3: Antitrust compulsory licenses provide a reliable royalty benchmark. Cahoy argues that the low royalties attached to remedial compulsory licenses for antitrust violations should not be used to set remuneration levels in non-punitive cases in which the patentee has done nothing wrong.

Taking these myths into account, Cahoy's proposed licensing regime keeps innovation incentives intact, but also ensures that developing countries have access to pharmaceuticals.

During public health crises, he argues for a three-tiered arrangement, in which remuneration is based on the economic status of the country issuing the compulsory license. Industrialized nations will be required to pay full market price, even during a pandemic. Developing countries would be allowed a limited free ride, with royalties based on the individual country's ability pay. Finally, the world's least developed countries would be granted the ability to issue royalty-free compulsory licenses during health emergencies.

In cases outside of a public health crisis or antitrust violations, Cahoy's approach establishes full market compensation as the default policy for every country. He also identifies the adoption of a national exhaustion rule, which would limit importation into non-licensing countries, and manufacturing limits as important elements to any new compensation system.

But, regardless of the approach that is ultimately adopted, Cahoy argues that "a revision of essential international law is required to both better enable access and shore up innovation incentives.

"Considering the problem in terms of remuneration rather than the legal right to license, one can arrive at clearer, more equitable solutions," he concludes.

Penn State