Can Medical Progress be Sustained? Implications of the Link Between Development and Output Markets

There is considerable debate about the impact of health care reform on the growth in medical spending. Medical innovation is thought to be a central contributor to that growth. We argue that there is a unique linkage between reforms that affect output markets for medical care and medical R&D costs. This linkage is due to the fact that potential consumers of medical care are also potential participants in clinical trials that are required to develop new medical products. Therefore, reforms that increase the quality or reduce the price of already developed treatments reduce the incentive of patients to participate in trials of experimental treatments. This delays development and reduce the returns to in innovation. We provide evidence of this "subject market effect" by considering the impact of changes in the quality of conventional care on development. We document a dramatic drop in trial recruitment following introduction of break-through HIV/AIDS therapies in 1996. We conclude by discussing additional positive and normative implications of the subject market effect that link input and output markets for medical products.