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In this paper empirical evidence for substitution processes caused by the budget for drugs prescribed by office-based physicians is provided. Due to substitution processes in a natural experiment the number of referrals and hospital admissions increased significantly after the introduction of a drug budget in Germany. This leads to additional direct and indirect cost for the health care system.

This paper briefly describes the German health care system and the role of economic studies in medical technologies and drugs in a decentralized health care system like Germany's. It also provides a number of examples of studies which have been conducted recently in Germany and shows the variation of sponsors, study types, study perspectives and objectives of those studies. It concludes with an outlook on the future role of pharmaco-economic studies in Germany and the recently published German recommendations for conducting those studies.

Germany is known for its comprehensive health care coverage by sickness funds and private health insurers and its successful cost containment policy. The stabilization of health care expenditures as a percentage of GNP was enforced by five cost containment laws since 1977. The last one became effective in 1993 and the next ones are planned for 1996 and 2000. The 1993 law has initiated drastic changes of the system. Office based physicians will be paid by a mixture of capitation, fee-for-service and fees for combined service packages. The hospital financing will be transformed from the current per diem remuneration to a payment system where per diems are combined with payments based on diagnostic related groups and patient management categories. Up till now many restrictions exist for insurees to switch sickness funds. These limitations were removed by the 1993 law. To allow unbiased competition between sickness funds, a risk compensation pool, some kind of statutory reinsurance, will transfer financial resources from sickness funds with good risk structure to those with many bad risks. In many respects health policy has imposed what health economists have recommended for a long time. However, there is some doubt whether increased competition will really increase efficiency of providing medical care because it takes place in a highly regulated market.