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On June 5, 1981, the Centers for Disease Control and Prevention reported that a strange outbreak of pneumonia was killing young, healthy, homosexual men in Los Angeles. Alarm spread as similar reports streamed in from San Francisco, New York, and Boston. What had at first looked like a disease peculiar to homosexual men turned out to be a worldwide killer caused by HIV (the human immunodeficiency virus). Since 1981, AIDS (acquired immune deficiency syndrome) has killed more than 36 million people.

There is no known cure for AIDS, but progress has been made in treating the disease. In the United States, deaths from AIDS dropped by approximately 50% between 1995 and 1997. The major cause of the falling death rate was the development of new drugs called combination antiretrovirals, such as Combivir.1 The drugs work, however, only if one can afford to take them, and they are expensive. A single pill of Combivir costs about $12.50—at two per day, every day, that’s nearly $10,000 per year.2 If you have the money, $10,000 a year is a small price to pay for life, but there are 35 million people worldwide living with HIV and most of them don’t have $10,000.3

If HIV drugs were expensive because production costs were high, economists would have little to say about drug pricing. But it costs about 50 cents to produce a pill of Combivir—thus, the price of one pill is about 25 times higher than the cost.4 In earlier chapters, we emphasized how competitive markets drive the price of a good down to marginal cost. Why hasn’t that process worked here? There are three reasons why HIV drugs are priced well above cost.

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The primary reason that AIDS drugs are priced well above costs is monopoly or market power, the subject of this chapter. The “you can’t take it with you” and “other people’s money” effects, which we will also discuss in this chapter, make market power especially strong in the pricing of pharmaceuticals.