Suppose that it would cost a firm $10 million to develop a new drug. In the absence of a patent, other firms will be able to copy and bring to market a generic equivalent of the drug in three years. In each of these three years, the firm would earn monopoly profits of $3 million. A patent will generate monopoly status for the firm for twenty years. If the government knew this information ahead of time, which of the following is most correct?
A)The government should not grant a patent to the firm, because the firm would earn monopoly profits for three years even without the patent.
B)The government should not grant a patent to the firm, because monopoly leads to efficiency losses relative to the competitive market.
C)The government should grant a patent to the firm, because even with a patent the firm will not earn a monopoly profits.
D)The government should grant a patent to the firm, because the firm would not produce the drug at all without a patent.

Question

Quizplus · Accepted Answer

Without a patent, the firm would not recover its $10 million development cost, as it would only earn $9 million in monopoly profits over three years. A patent incentivizes innovation by allowing the firm to recoup its investment and earn profits.

Suppose That It Would Cost a Firm $10 Million to Develop