Felix Breuer's Blog

Funding Vaccine Production

Fund I/O can be extremely useful in funding projects with a social or environmental impact: producing vaccines, for example. One challenge of vaccine production is getting the market for a new vaccine to scale to the point where the vaccine becomes affordable. Because prospective buyers expect prices to drop, many will wait with their purchase, which may even prevent the market from reaching the required size. Fund I/O offers an original solution to this problem, by giving buyers incentives to buy now. This can provide a viable alternative to difficult-to-negotiate advance market commitments.

Fund I/O can be used not only for digital goods, but for anything that has large fixed costs and low marginal costs. This includes physical goods that have a large social impact, such as vaccines. Here is how this might work.

Suppose a vaccine for a certain disease has already been developed. Now it needs to be produced at scale to reach millions of people world wide. The problem is vaccine production requires a substantial investment to get going. This means, if a supplier were to produce just 100,000 doses of the vaccine, each dose might be prohibitively expensive. But at a scale of 10 million doses, each dose could be very cheap. As long as the market is small, the price for the vaccine will be very high so that only few people will be able to afford it. But once the market grows, the price will drop, and many more people will be able to afford the vaccine.

This creates a chicken and egg problem: To get the price down, many people would need to buy the vaccine. But for many people to buy the vaccine, the price would need to drop. So how can we get the market started?

One approach to getting the market started are advance market commitments. A couple of large buyers of the vaccine, such as governments or charitable donors, make a joint commitment to buying a large number of doses at a specified price. The idea is that by guaranteeing a certain demand for the vaccine in advance, the market can be jump-started at a volume attractive to suppliers and at a price attractive to buyers.

There is a catch, however: Because, the price for the vaccine will drop over time, buyers have an incentive to wait. Those who start buying early will pay a premium. It you wait, you pay less, and the later you get in, the more you save. Even if everyone wants to buy the vaccine, those who manage to start buying last will pay the least. Early adopters effectively subsidize late entrants.

You can imagine that this leads to quite a lot of maneuvering over who gets to be the last. Especially because the market for governments buying vaccines has several features that exacerbate the problem: First, very large sums of money are at stake. Second, buyers (such a governments) are often frugal, by necessity. Third, implicitly subsidizing other parties may be unpopular, even if it is for a good cause such as getting more vaccines to more people. And finally, the only benefits of entering early are measured in terms of impact (saving lives) and not profit (return on investment), which often makes spending money harder instead of easier - unfortunately. Advance market commitments can help a lot in this setting: by forming a coalition of first movers, the financial disadvantage to buying early is reduced considerably. But the incentive to get in later remains, and this makes it often very hard to establish such a coalition.

Here Fund I/O can help. In fact, Fund I/O was designed to solve exactly this chicken-and-egg problem. Using Fund I/O, buyers do not have an incentive to wait. To achieve this, all you need to do is apply the refund mechanism used in the second phase of the Fund I/O model. Buyers can purchase immediately and still benefit from economies of scale as the market matures. Through the refund mechanism, they can rest assured they will benefit from decreasing prices in just the same way as a late entrant.

This solution makes jump-starting markets much easier, by offering a smooth transition from a low volume/high price market to a high volume/low price market. Moreover, it does not require complicated negotiations aimed at getting buyers to commit to making purchases now, even though it would be in their financial interest to wait. The Fund I/O mechanism guarantees the same financial benefits as an advance market commitment involving all potential buyers, present and future, but it can be set in motion by just a few interested parties right away. Agreements are not made at a negotiating table but on a platform of exchange that incentivises all participants to reveal their true valuation for the vaccine.

Of course there are many more details to be addressed here, both as far as the theoretical model and practical issues are concerned. But these general considerations already make clear the Fund I/O shines at resolving difficult negotiations of this type by intermediating price differences across time.