Global value chains in the pharmaceutical sector

Introduction

The Covid-19 pandemic has underlined the importance of maintaining open supply chains, particularly in pharmaceutical products (WTO, 2020). It has also highlighted the complex and interdependent nature of production in the world through these supply chains. Finally, the issue of resilience of chains have also come to the fore. This was important in 2020, as the pandemic broke out and many countries instituted measures to restrict items of export in order to reserve them for their own citizens, while other countries resorted to protectionist stands, overturning decades of globalization and liberalization. In this article, I examine the pharmaceutical value chain in the context of India and its interdependence with China.

Pharmaceutical industry in India

Pharmaceutical products are classified into bulk drugs and formulations. Bulk drugs are also called active pharmaceutical ingredients (APIs) and are the chemical molecules in a pharmaceutical product that lends it the claimed therapeutic effect.[1] The products may be further classified either as generics[2] or as patented products across a wide range of therapeutic categories — anti infectives,[3] cardio, gastro intestinal, etc.

The pharmaceutical industry in India is valued at US$ 41.7 billion,[4] with exports of US$ 24.4 billion in 2020-21.[5] It is the third largest in the world in terms of volume, the 14^th largest in terms of value, and the 12^th largest exporter of medical goods in the world. Generics form the largest segment of the Indian market and account for 20% of India’s global exports by volume — making India the largest provider of generics globally.

The pharmaceutical industry plays a key role in providing affordable healthcare to all citizens, and is in this sense an essential service.  Disruptions in the global pharmaceutical supply chain have serious global consequences, as when India stopped the export of 26 APIs in March 2020; the ban on export of hydroxychloroquine alone was sufficient to cause a stir in the US.[6]

The pharmaceutical value chain

The first main stage of a typical pharmaceutical value chain is the production of APIs. The second stage involves the production of formulations by mixing the neutral ‘excipient’ with an API, thereby converting the product into a consumable form. The manufacturing process as a whole is complex, involving granulation, mixing and drying, as well as testing and other procedures involved in producing ointments, injectables, tablets or capsules (Ray and Miglani, 2018). And, of course, before the manufacturing process, there are other critical steps such as research and development (R&D) and obtaining regulatory approval before the manufacturing phase. The critical difference between the chain of events leading to the production of an API and the formulations stage is the presence of high entry barriers in the R&D, approval and manufacture of active ingredients, compared with the much lower barriers to entry in the manufacture of final formulations (Horner, 2021).

Global Value Chains and the role of imports in API production

India is among the top 10 exporters and importers of chemicals in the world. In terms of exports, India’s share in the world rose from 0.7% in 2000 to 2.4% in 2019, while the share of its imports increased from 0.8% in 2000 to 2.6% in 2019 (WTO, 2020).  India imported more chemicals than it exported in the years 2000, 2005, 2010 and 2019. The share of foreign value added in India’s chemical and pharmaceutical exports is about 20% (and even this figure is lower than the average of 25.5% for the top 20 global exporters of chemicals and pharmaceuticals in 2016).[7]

As in other countries, India’s pharmaceutical companies engage in global value chains both through backward integration (i.e. the use of intermediate imports in exports) and through forward integration (the use of intermediate exports to support further value addition in another country). India’s backward integration is higher than its forward integration; hence, the availability of intermediate imports is critical not only for its ability to serve its domestic pharmaceutical market but also for its ability to export. It is important to note the consequence: namely, that policies designed to encourage exports in isolation of imports are not likely to have the intended consequences.

Dependence on China

Whereas, in the 1990s, India was self-sufficient in both formulations and APIs,[8] currently 80% of India’s API requirement is met by imports, more than two thirds of which are from China.  Although this Indian level of dependency on imported chemicals is high by global standards, there is nevertheless widespread dependency on such intermediate imports across the globe. World exports of pharmaceutical products were equal to US$ 706.9 billion in 2019, of which 15% (i.e. about US$ 100 billion) were intermediate chemical compounds and APIs.[9] Nor were these dependencies on intermediate imports by any means restricted to emerging economies. China has specialised in the production and export of APIs to Europe and the US; by 2019, such API exports by China to the West accounted for 16% of total global intermediate pharmaceutical exports.

In 2019, the US was the top buyer of raw materials in the pharmaceutical chain at US$ 15 billion, while China was the top supplier of intermediates at US$ 17.8 billion.[10] And developed economies are major participants in all parts of the global pharmaceutical trade, including both the trade in intermediates and the trade in final goods. Ireland was the second largest global supplier of chemical compounds and APIs in 2019, while Germany and Switzerland were the largest exporters of final medicinal products; the leading pharmaceutical exporters in the world include Pfizer and Merck (both US companies), Roche and Novartis (Swiss companies) and Glaxo SmithKline (a UK company).

The US is particularly dependent on participation in global value chains. Its pharmaceutical firms specialise in high value supply chain tasks such as R&D, patenting products, clinical trials, and marketing. Production of other inputs have been offshored to China, India and other countries.[11] In 2019, only 28% of the APIs used in the US were produced domestically; amongst the remaining 72% of APIs imported by the US, roughly one third came from either India (18%) or China (13%).[12] A recent FDA report gave a clear and decisive explanation for this high level of US reliance on intermediate imports: “API manufacturing in India can reduce costs for U.S. and European companies by an estimated 30 percent to 40 percent.”[13]

Manufacture of APIs is a high volume, low margin business in which economies of scale play an important role (Bumpas and Betsch, 2009). On average, 40 to 50% of the cost of a generic oral solid comes from commodity APIs, on which the profit margins can be as low as 10%. Hence, massive scale, allied to relatively low wage costs, plentiful infrastructure facilities and tax benefits give Chinese firms important advantages in API manufacture. In short, natural economic forces account for the fact that manufacturers in fully developed economies have generally moved up the value chain and are concentrating on higher value-added activities such as R&D, thereby becoming increasingly dependent on imported APIs.

Various reasons have been given for the import of APIs by India. At least one of the most important of these explanations is relative costs, which are about 20 to 30 % lower in China in comparison to India.[14] Cost-driven API imports to India include antibiotics, NSAIDs, ARVs, antiepileptic and basic cancer products, as well as other imported key starting materials (‘KSMs’) including acetic acid, Para Amino Phenol, 6 APA, Adenine and Pen G.[15] These cost pressures are particularly acute in India, because Indian pharmaceutical companies have tended to specialise in the production of generic rather than patented drugs (Motkuri and Mishra, 2020). Hence, the R&D profile of India includes generics, new drug development and delivery systems. The Indian pharmaceutical industry spends only 2% of its sales revenue on R&D, compared with a global pharmaceutical industry average R&D spend of about 15 % of annual sales turnover (Joseph, 2011).

API imports from China

Recently, concerns about dependency on pharmaceutical imports from China have prompted the Indian authorities to identify a list of 56 APIs for essential drugs including antibiotics, anti-HIV medicines etc. which could be manufactured domestically,[16] and the Government of India has announced a production linked incentive (PLI) scheme to promote domestic manufacturing of critical KSMs, drug intermediates (DIs) and APIs (including particularly the core APIs identified by the Government of India’s committee on Drug Security) [17], in order to enable India to reduce import-dependency in the manufacture of bulk drugs.[18]

Vaccine value chain dependencies

The Covid-19 pandemic has highlighted the degree of global inter-dependency in pharmaceuticals by illustrating clearly that, while all countries need vaccines, not all can produce vaccines. Globally, although many countries (including both India and China) do export vaccines, they are vastly outnumbered by the countries that are forced to import vaccines.[19]

Vaccine production involves a complex range of steps that require not only key ingredients, and setting up manufacturing processes, but also quality checks and significant R&D (for the drug discovery). The vaccine supply chain can be broken down into 3 or 4 steps: these are drug discovery, mass production, distribution, and administration (OECD, 2021). Mass production tends to be geographically concentrated, while the other stages of the supply chain are diversely located around the world.  The result is that differing companies in differing jurisdictions have responded by developing specialisation in the required R&D, testing and regulatory approval, the establishment of manufacturing processes for APIs, and production of the multitude of ancillary products such as vials, rubber stoppers and cold storage facilities that are needed for the supply chain.

Conclusion

In summary, the Indian dilemma illustrates poignantly the problem with which governments in many jurisdictions around the world will need to wrestle as they contemplate, in the light of the Covid-19 experience, the current, highly inter-dependent global supply chains in the pharmaceutical industry.

India’s dependence on Chinese APIs has been a cause for concern. The fragility of the complex global pharmaceutical supply chains during the pandemic has revealed the degree of dependence on China, and has led the Government of India to emphasise the need both to diversify the sourcing of inputs and to increase domestic capacity across the supply chain. This implies a long-term drug security strategy involving (a) the identification of critical items in the pharmaceutical industry, (b) engagement in increased R&D in order to participate in production of patented drugs and (c) simultaneous diversification of supply for other, lower value key supply materials.

This is not just an Indian dilemma. Other countries are also trying to increase their resilience and diversify their sourcing.[20] And in these other countries, too, any such strategy will inevitably conflict with the higher value addition and the lower costs that can come through upgrading and higher degrees of integration in global value chains. The current, highly interdependent global value chains in the pharmaceutical industry have not arisen by accident. They are the result of powerful economic forces – with specialisations in different parts of the world dictated by the availability of relevant forms of labour and capital, by differing economies of scale, and by the resulting cost differentials in differing segments of the market across differing jurisdictions. As has been demonstrated in the case of Covid-19 vaccines,[21] the supply chain spans over several countries and cross border cooperation among countries is essential in delivering vaccines for all.

Dr Saon Ray is Senior Fellow at ICRIER. She has a Ph.D. in Economics from the Jawaharlal Nehru University. She has been Ford Foundation Fellow at Jawaharlal Nehru University at the International Trade and Development Division. After completing her Ph.D. she was awarded the Sir Ratan Tata Fellowship at the Institute of Economic Growth and joined the Institute as a Post Doctoral Fellow.

References

Bumpas, J.  and E. Betsch (2009) Exploratory study on active pharmaceutical ingredient manufacturing for essential medicines (English). Health, Nutrition and Population (HNP) discussion paper. Washington, DC: World Bank. Exploratory study on active pharmaceutical ingredient manufacturing for essential medicines

Horner, R. (2021) Global value chains, import orientation, and the state: South Africa’s pharmaceutical industry, Journal of International Business Policy.

Joseph, R. K. (2011) The R&D Scenario in Indian Pharmaceutical Industry, RIS Discussion Paper #176.

Motkuri, V. and R. N. Mishra (2020) Pharmaceutical Market and Drug Price Policy in India, Review of Development and Change, June 4, 2020. https://doi.org/10.1177/0972266120929146

OECD (2021) Using trade to fight Covid-19: Manufacturing and distributing vaccines.  https://read.oecd-ilibrary.org/view/?ref=1060_1060354-ie4a355ojd&title=Using-trade-to-fight-COVID-19-Manufacturing-and-distributing-vaccines&_ga=2.263236740.926228499.1631714723-896961057.1628526745

Ray, S.  and S. Miglani (2018) Global Value Chains and the Missing Links: Cases from Indian Industry, Routledge.

WTO (2020) World Trade Statistical Review 2020. Chapter IV: Shifting Patterns of Trade. https://www.wto.org/english/res_e/statis_e/wts2020_e/wts2020chapter04_e.pdf

[1] https://economictimes.indiatimes.com/formulations-and-bulk-drugs-get-the-basics-right/articleshow/32797412.cms#:~:text=A%20bulk%20drug%20%E2%80%94%20also%20called,product%20the%20claimed%20therapeutic%20effect.

[2] A generic drug is a medication is an equal substitute for its brand-name counterpart and has the same active pharmaceutical ingredient (API) as a branded drug. https://www.fda.gov/drugs/questions-answers/generic-drugs-questions-answers

[3] https://www.statista.com/statistics/1096902/india-pharmaceutical-market-share-by-therapy/

[4] https://www.investindia.gov.in/sector/pharmaceuticals

[5] https://www.ibef.org/industry/pharmaceutical-india.aspx

[6] https://www.fiercepharma.com/manufacturing/india-hoping-to-challenge-chinese-dominance-plans-drug-ingredient-production-push

[7] https://www.wto.org/english/res_e/statis_e/wts2020_e/wts2020chapter04_e.pdf

[8] https://www.ha-asia.com/why-india-still-depends-on-apis-imported-from-china/#:~:text=India's%20domestic%20market%2C%20too%2C%20was,depends%20on%20imports%20from%20China.&text=This%20essentially%20means%20that%20Chinese,effective%20for%20Indian%20pharma%20manufacturers.

[9] Chemical compounds are raw materials for APIs, which constitute the main components of pharmaceutical drugs. Medicinal products are final goods, encompassing pharmaceutical drugs, vaccines and other pharmaceutical products, such as blood group reagents and medicated bandages.

[10] https://www.wto.org/english/res_e/statis_e/wts2020_e/wts2020chapter04_e.pdf

[11] India’s exports to USA was US$ 52.6 billion (or 16.4%) in 2019 and imports from China was US$ 73.7 billion (or 16.8%).

[12] https://www.fda.gov/news-events/congressional-testimony/safeguarding-pharmaceutical-supply-chains-global-economy-10302019

[13] “Pathway to Global Product Safety and Quality,”

[14] https://www.ha-asia.com/why-india-still-depends-on-apis-imported-from-china/

[15] https://economictimes.indiatimes.com/markets/stocks/news/coronavirus-pharma-stocks-that-may-gain-or-lose-from-china-disruption/high-dependence/slideshow/74204459.cms

[16] https://theprint.in/health/csir-working-on-making-56-bulk-drugs-in-india-as-modi-govt-wants-to-cut-imports-from-china/688741/

[17]  Financial incentives will be given to 41 products which cover the 53 APIs. https://pharmaceuticals.gov.in/sites/default/files/Gazettee%20notification%20of%20bulk%20drug%20schemes_0_0.pdf

[18] https://pharmaceuticals.gov.in/schemes/production-linked-incentive-pli-scheme-promotion-domestic-manufacturing-critical-key#:~:text=Home%20%3E%3E%20Schemes%20%3E%3E%20Production,(APIs)%20in%20the%20Country.

[19] India is among the top 10 exporters of vaccine in the world.

[20] https://wiiw.ac.at/corona-reveals-potential-vulnerabilities-in-global-supply-chains-n-518.html