A Study on an Incentive System for Reducing Pharmaceutical Expenditure in Korea

Abstract

Due to asymmetric information, the pharmaceutical market has suffered from market failure. Unlike typical commodities, doctors choose medicines to consume, and insurers together with patients pay for the medicines. This fact leads to the lack of procedures to save expenditure on drugs. This is one of the reasons for the recent rapid increase in pharmaceutical expenditure in Korea. In this paper, we consider an incentive system which consists of an incentive mechanism as well as periodical pharmaceutical prices adjustments. Under this system, doctors who bargain with pharmaceutical companies for lower prices are given pecuniary incentives. The incentives are proportional to the difference between the prices set by the insurer and the bargained prices. Therefore, doctors exert their efforts to lower the bargained prices. Moreover, periodical adjustments of the drug prices by the insurers lower drug prices as a whole. We derive the optimal level of proportionality to the saved drug expenditures for pecuniary incentives. We also show that our suggested system can reduce pharmaceutical expenditures from a dynamic point of view.