7 . Individual Problems 16-6

Pharmaceutical Benefits Managers (PBMs) are intermediaries between upstream drug manufacturers and downstream insurance companies. They design formularies (lists of drugs that insurance will cover) and negotiate prices with drug companies. PBMs want a wider variety of drugs available to their insured populations, but at low prices. Suppose that a PBM is negotiating with the makers of two nondrowsy allergy drugs, Claritin and Allegra, for inclusion on the formulary. The "value" or "surplus" created by including one nondrowsy allergy drug on the formulary is $228 million, but the value of adding a second drug is only $68 million.

Assume the PBM bargains by telling each drug company that it's going to reach an agreement with the other drug company.

Under the non-strategic view of bargaining, the PBM would earn a surplus of

million, while each drug company would earn a surplus of

million.

Now suppose the two drug companies merge. What is the likely postmerger bargaining outcome?

Under the nonstrategic view of bargaining, the PBM would earn a surplus of

million, while the merged drug company would earn a surplus of

million.