Liability Risk Faced By
US Suppliers Of Polymers And Its
Negative Impact On
Downstream Innovation In Medical Implants
(Highlights of a study by Alberto Galasso & Hong Luo
and published as a Harvard Business School Strategy Unit Working Paper by
Harward Business Study & reference given below)
Liability laws designed to compensate for harms
caused by defective products may also affect innovation. The study mentioned
above examined this issue by exploiting a major quasi-exogenous increase in
liability risk faced by US suppliers of polymers used to manufacture medical
implants. The study shows that this surge in suppliers’ liability risk had a
large and negative impact on downstream innovation in medical implants, but it
had no significant effect on upstream polymer patenting. The findings suggest
that liability risk can percolate throughout a vertical chain and may have a
significant discouraging chilling effect on downstream innovation.
A major source of risk faced by firms is are product
liability laws that are designed to protect customers from defective or
dangerous products. In 2016, product liability cases accounted for roughly 70
percent of the personal injury civil cases filed in US district courts. Cases
such as these often make the headlines because of their large damage awards.
Despite its intuitive appeal, this negative view
does not seem to find support in the scarce empirical evidence linking liability
risk and innovation.
This paper provides novel evidence on how liability
risk can percolate through the vertical chain and impact innovation by firms and
in segments that are not directly targeted by litigation.
This analysis exploits a quasi-exogenous surge in
the liability risk faced by large, common input suppliers to medical implants in
the early 1990s.
Medical implants such as heart valves,
pacemakers, replacement joints, and intraocular lenses save or improve the lives
of millions of people every year. According to industry reports, the U.S.
implantable device market was about $71 billion in 2016, and implants account
for roughly 20 percent of medical device patenting and about 60 percent of Food
and Drug Administration (FDA) Class III device applications.
Medical implants are manufactured using biomaterials
that are direct or modified applications of common materials such as metals,
polymers and ceramics. These raw materials are often produced by large companies
that supply to a wide range of sectors in the economy. During the 1970s and
1980s, large firms, such as DuPont and Dow Chemicals, were the dominant
suppliers of polymers and silicone used in many implants, including prostheses,
body tissues, pacemakers, and heart valves (Aronoff, 1995). The standard policy
for these large companies was to not withhold materials from the medical sector
and to warn device producers that suppliers were not responsible for testing and
determining the safety of implants.
In the late 1980s, a series of unexpected and
widespread problems arose with temporomandibular joint (TMJ) jaw implants and
silicone breast implants.
Litigations against material suppliers dramatically
raised liability concerns for all material suppliers (not just suppliers
directly involved in these litigations) that sold to all implant manufacturers
(not just the two types of devices). The focus of this analysis was the impact
that this surge in upstream suppliers’ liability risk had on medical implant
innovation overall (specifically, on types of implant products that were not
involved in the litigations).
In the model covered in the study, an upstream
supplier sells a homogeneous and necessary input to multiple downstream markets.
It shows that when serving one of the markets generates a high liability risk
for the upstream supplier, it may choose to withdraw from (i.e., foreclose) the
risky downstream market. This would have a strong negative impact on downstream
firms’ profits and innovation incentives in the foreclosed market. At the
same time, when the foreclosed market accounts for only a small fraction of
upstream revenues, the upstream supplier’s innovation incentives are only
The main finding, (coma to be removed) is that
medical implant patenting decreased by 35 percent relative to patenting in other
medical device technologies after 1990. The study shows that this decline
was not driven by differential patenting trends in implant and non-implant
subclasses before 1990. Dynamically, the effect was immediate but small and grew
larger over time. The increasing magnitude is compatible with implant
innovators gradually reducing their patent applications as an increasing number
of polymer and silicone suppliers withdrew from the market.
The study examined the extent to which our finding
is driven by firms that could reallocate R&D resources from implant to
nonimplant technologies. The estimates suggest that even if such within-firm
substitution took place, its influence was likely to be small, implying an
overall decline in medical device innovation.
Using FDA device approval data, the study shows that
the significant decline in implant innovation is present not only at the
research stage, but also at the commercialization stage. The FDA data also help
to consider alternative mechanisms. First, taking advantage of data on adverse
events that form the basis for lawsuits, it shows not only that the large
decline in implant innovation is robust to controlling for the extent of adverse
events associated with a given product type, but also that it holds for product
types about which there should be little concern about downstream liability.
Second, it shows that data on FDA approval time do not suggest a significant
change in regulatory concerns over implant safety in general.
Having documented a large and significant decline in
implant innovation, the study then explores what happened to innovation by
upstream suppliers of polymers used in medical implants. It found no evidence of
a negative impact on upstream innovation, even for DuPont. This is consistent
with their theoretical model and confirms that the innovation incentives of
these large firms were driven by the aggregate demand from multiple downstream
To restore the supply incentive of material
producers, Congress passed the Biomaterials Access Assurance Act (BAAA) in 1998.
This Act exempted material suppliers from liability risk as long as they were
not engaged in the design and production of the implants, and the inputs
themselves were not dangerous or defective.