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The granting of the orphan drug status is designed to encourage the development of drugs which are necessary but would be prohibitively expensive/un-profitable to develop under normal circumstances.

In the United States, an orphan drug is any drug developed under the Orphan Drug Act of January 1983 ("ODA"), a federal law concerning rare diseases ("orphan diseases"), defined as diseases affecting fewer than 200,000 people in the United States or low prevalence is taken as prevalence of less than 5 per 10,000 in the community. This has been adopted as a subclause of the Food and Drug Administration (FDA) regulations. Because medical research and development of drugs to treat such diseases is financially disadvantageous, companies that do so are rewarded with tax reductions and marketing exclusivity (a "monopoly") on that drug for an extended time (seven years post-approval). The concept behind the ODA is that the longer period of exclusivity will encourage more companies to invest money in research. Under the act many drugs have been developed, including drugs to treat glioma, multiple myeloma, cystic fibrosis, phenylketonuria and snake venom. In the US, from January 1983 to June 2004, a total of 1,129 different orphan drug designations have been granted by the Office of Orphan Products Development (OOPD) and 249 orphan drugs have received marketing authorization in the US. In contrast, the decade prior to 1983 saw fewer than ten such products come to market.

A similar status exists in the European Union, administered by the Committee on Orphan Medicinal Products of the European Medicines Agency.

In 2003, the leading orphan drug by worldwide sales revenue was Amgen’s Erythropoietin (Epogen®), with sales of $2.4bn.

Orphan drugs generally follow the same regulatory development path as any other pharmaceutical treatment. Testing focuses on the characterization of the molecule(s), stability, safety, and efficacy. However, some statistical burdens are reduced. For example, the regulations generally reflect the fact that it is not possible to test 1,000 patients in a Phase III clinical trial when fewer than 1,000 patients have the disease in question.

Since few markets would naturally exist to create these goods, as the costs of developing, researching and producing this drug would likely exceed any revenues, government intervention is required, usually to establish such a market or to produce the goods itself. Critics of the free market often cite this as a market failure in free market economic systems. Free market advocates often respond that, without government intervention in the form of extensive safety and efficacy testing, the development costs would be considerably lower.

The intervention by government can take a variety of forms:

• Tax benefits to companies who produce or research these drugs
• Granting of additional rights above and beyond those granted by the regular patent laws.
• Subsidizing and funding clinical research by universities and industry sponsors to develop medical products (including drugs, biological products, devices, and medical foods) for rare diseases.
• Creating a government-run company to research and produce drugs (see Crown corporation for an example of this type of solution).

• Pharmaceutical company
• Supplementary protection certificate

• European Commission - The Orphan drugs strategy
• List of European Orphan Drugs
• USA Food and Drug Administration: The Orphan Drug Act (as amended)
• US FDA List of Orphan Designations and Approvals
• Orphan drugs regulation and market figures