South Africa is to the global pharmaceuticals industry what Vietnam was to the US military. Nothing will be quite the same again.

That at least is the view of Oxfam, the UK charity that has mounted a campaign for affordable medicines in poor countries. With other activist groups it has championed the cause of the South African government, which has been in a three-year legal tussle with the drugs industry about national legislation making it easier to override patents.

Yesterday, the drugs industry, exhausted by the vitriol that has been heaped upon it, threw in the towel. Led by GlaxoSmithKline, Merck and other producers of Aids medicines - access to which has dominated trial proceedings - drug companies made it clear they intended to drop their case against the government.

In return they appear to have won certain assurances from the government that it will respect the World Trade Organisation's Agreement on Trade Related Intellectual Property Rights (Trips), a document the industry strongly supports. Quite what those commitments amount to - and therefore how much ground the industry has ceded - will become clearer during the next days and months.

But whatever the details of the compromise, the industry's decision to walk away from legal action will have two important, quite separate, global ramifications. The first relates to drug pricing and patent protection policies in the developing world. The second is the issue of how governments in South Africa and elsewhere will begin to tackle the raging Aids epidemic, increasingly recognised as the worst global health catastrophe in modern history.

If, as seems likely, the industry has made important concessions on intellectual property in South Africa, that will set a precedent for national legislation in other developing countries.

The legislation that most offended industry deals with circumstances under which South Africa may override patents on public health grounds.

Trips allows countries to disregard patents under certain conditions but the drugs industry argued vehemently that the legislation allows the health minister to ignore patents without due process.

That could set a precedent for other countries.

The threat of such wholesale disregard for patents - the lifeblood of the research-based drugs industry - has prompted it to take some extraordinary steps. Several companies, notably Merck and Bristol-Myers Squibb, have offered to sell Aids medicines to the developing world at manufacturing cost, slashing the price of triple therapy from at least $10,000 (£6,900) in the west for an annual supply to about $600.

The industry has traditionally operated a differential pricing system, offering big discounts in the developing world. But the South African case has forced companies to cut prices even more drastically. Most surprisingly for an industry shy of publicising its lavish margins, it has adopted a transparent pricing policy, revealing its cost price for all the world to see.

In effect, the industry is committing itself to operating in two distinct markets: a low volume, high-margin market in the west and a high-volume, no-margin market in the developing world. First moves have been in HIV but medicines for other conditions could follow.

That carries several risks. Drugs may flow back into western markets. The scheme also exposes the companies to political pressure in western markets, where consumers may start asking for similar discounts. "If the developing world expects rock-bottom prices, we need some markets in which to recoup our development costs," says Miyrrena Deeb, chief executive of the Pharmaceuticals Manufacturers' Association of South Africa, foreseeing battles.

The second corollary of the case relates specifically to the treatment of Aids in South Africa and elsewhere. Activists, who have withheld criticism for the government while they focused on the industry, were yesterday sharpening their knives. Now the onus will be on the government.

"The government doesn't have a good record with HIV," says Glenda Gray, an HIV specialist in Soweto's enormous Baragwanath hospital. "We have a president who questions whether HIV causes Aids . . . and a programme that raises awareness but can't get condoms to people. It's difficult to see how winning this court case would be translated into treatment."

The government will come under enormous pressure to prioritise HIV, with which an estimated 4.7m South Africans are infected, by increasing budgets and committing itself to treating the half a million people who would benefit from immediate triple therapy.

"I am sick and tired of seeing people die," says Dr Gray. "Imagine saying to a woman with HIV: 'Take these multivitamins and eat lots of mangoes and bananas and hopefully you'll survive', when you know there are drugs keeping people alive outside this country."

Even if the government can be cajoled into drawing up a serious Aids strategy, experts agree that it will need enormous international support to buy drugs (even at knockdown prices) and to upgrade the infrastructure necessary to use Aids drugs effectively. That is even more true for the rest of sub-Saharan Africa.

Jeffrey Sachs, the Harvard professor who has campaigned for better access to Aids and other medicines, estimates that a global Aids programme to treat 3m-4m patients - those in the later stages of the disease - would cost an annual $5bn. At least another $2bn would be needed to upgrade preventive measures, equally vital to fight Aids.

Mark Malloch Brown, administrator of the United Nations Development Programme, believes that the figure may be closer to $15bn but that it would begin to taper off after a decade.

Mr Malloch Brown believes that donors will start to pledge substantial amounts of cash for Aids during the next few months. But many are nervous that treatment - which is not a cure - is being seen as a panacea. "Cheap drugs mean the international community can no longer bypass the issue of treatment," says Mr Malloch Brown. "But I do worry that we are falsely projecting the view that there's a silver bullet. There is not."