Burak Kazaz, Syracuse University, Scott Webster, Arizona State University and Prashant Yadav, INSEAD
Production and Operations Management (2023)
Summary of the essence of the paper:
We develop incentive mechanisms (e.g., sales subsidy, capacity subsidy, minimum volume guarantee) that encourage manufacturers of health products to build production and distribution capacity for low- and middle-income country (LMIC) markets where ability to pay is lower and demand risks are greater.
Which incentive instrument, i.e., financing method, should be preferred under different conditions (e.g. market conditions, manufacturing costs, interactions with capacity)?
What we know:
Our study helps social investors (e.g., International Finance Corporation, the US DFC, and the European Development Finance Institution) and philanthropic foundations/ donor organizations (e.g., Bill and Melinda Gates Foundation, Clinton Healthcare Initiative, Children's Investment Fund Foundation) determine how they can financially incentivize increasing the manufacturing capacity of health products for Low and Middle-Income countries (LMIC).
Our study determines the best financial instrument to incentivize pharmaceutical firms for the manufacturing of health products to be used in countries where governments cannot afford the treatment. Specifically, our study finds the following: A sales subsidy dominates when the country's ability to pay is very low. A total-capacity subsidy is the best financial stimulation when the country's ability to pay is low. Outside of these settings, instrument preference is nuanced, though a sales subsidy is dominated by at least one other instrument. At high level, when the country's ability to pay is moderate, a variable-capacity subsidy tends to be preferred under high variable-capacity cost and high budget. A volume guarantee tends to be preferred under low variable-capacity cost and high budget. A total-capacity subsidy tends to be preferred under low budget.
Our study builds a springboard model for social investors and philanthropic organizations to determine the best financing option to incentivize the manufacturing capability for health products to be utilized in low-and-middle income countries.
Implications for Practice:
Our study draws on interactions with those who have worked on projects to incentivize financial investment in capacity to serve LMIC markets, including the Jadelle contraceptive implant, the Hologic viral load test, and next generation long-lasting insecticide-treated bed nets. The paper demonstrates which financing scheme is best for each of these products; more importantly, it shows which financing method is appropriate under what conditions.
Implications for Policy:
Our work makes a strong contribution to policy decisions. Often financial stimulation is provided without regard to which form of the instrument provides better motivation for the pharmaceutical firm to build capacity to manufacture health products that are specifically dedicated to Africa and other markets.
Implications for Society:
Our study helps establish a healthier world by incentivizing the manufacturing of health products for countries where governments cannot afford the treatment.
Implications for Research:
Our study will lead to additional investigations beyond the purposes of healthcare products targeting LMICs. It will be beneficial for determining the best financing scheme for building health products to counter the negative implications of pandemic-like disruptions.
Kazaz, B., S. Webster, P. Yadav. 2023. Increasing the Supply of Health Products in Underserved Regions. Accepted for publication in Production and Operations Management.
We study mechanisms that encourage manufacturers of health products to build production and distribution capacity. This is important for low- and middle-income country (LMIC) markets where ability to pay is lower and demand risks are greater. Manufacturers are hesitant to invest to serve these markets at an affordable price for those in need. Development finance institutions and philanthropies are beginning to utilize new instruments to incentivize manufacturers to build production/distribution capacity for LMIC markets. The goal of this paper is to understand the effectiveness of such mechanisms in different settings, and to translate our understanding into a framework to guide social investors.
We examine four instruments: (1) subsidy proportional to unit sales (sales subsidy), (2) subsidy proportional to unit capacity (variable-capacity subsidy), (3) subsidy proportional to total capacity investment (total-capacity subsidy), (4) a minimum volume guarantee. We also consider a generalization of a total-capacity subsidy that reflects how this instrument is implemented in practice (e.g., via a low-interest loan). We analyze incentivized capacity as a function of social-investor budget for each instrument. We show how our framework can be used to identify a preferred instrument given relevant parameter estimates, and we provide insight into the type of settings where a particular instrument dominates. A sales subsidy dominates when ability to pay is very low; a total-capacity subsidy dominates when ability to pay is low. Outside of these settings, instrument preference is nuanced, though a sales subsidy is dominated by at least one other instrument. At high level, when ability to pay is moderate, a variable-capacity subsidy tends to be preferred under high variable-capacity cost and high budget, a volume guarantee tends to be preferred under low variable-capacity cost and high budget, and a total-capacity subsidy tends to be preferred under low budget.
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