The Regulation of Direct-to-Consumer Advertising of Pharmaceuticals in a Managed Care Setting

We analyze direct‐to‐consumer advertising (DTCA) in the prescription drug market, when a regulator imposes a fine for misleading advertisements (truth‐in‐advertising regulation) and doctors face pressure to contain prescribing costs. The efficacy of a drug is based on scientific evidence as well as on patient‐specific characteristics. Patients do not possess information on either dimension of efficacy. Pharmaceutical firms observe the scientific data and use DTCA to convey this information to patients. Doctors observe both the scientific data and patient‐specific characteristics, and provide treatment recommendations. We develop a model in which DTCA is followed by a doctor–patient signalling game. We show that truth‐in‐advertising regulation increases the credibility of DTCA and may increase both doctor–patient conflict and prescriptions for an expensive new drug—a market‐stealing effect. Tighter regulation may encourage more DTCA, and may even encourage more false advertising.