Many countries with national health care systems regulate the pharmaceutical market to manage drug demand and control costs. Strategies such as reference pricing and tiered co-payments are employed to promote drug substitution and competition. Since 2006, Germany has implemented a unique approach, varying drug co-payments based on a drug's price relative to its reference price. In this two-tier system, prescription drugs are exempt from co-payments if their prices fall below a specific level compared to the reference price. This study investigates the policy's impact on the prices of affected prescription drugs, analyzing differences among firm types (innovative, generic, branded generic, and importing firms). Using a differences-in-differences methodology and taking advantage of the staggered introduction of the exemption policy, we analyze quarterly data from 2007 to 2010. Our findings reveal varied price-setting strategies among firm types, with branded generics experiencing price decreases of -13.1% and innovators seeing increases of +2.0% after co-payment reductions were introduced. This phenomenon is termed the "co-payment exemption paradox." Additionally, our competition proxy indicates a small negative correlation between the number of firms and prices.
