The Vexing Challenge of Prescription Drug Costs in the U.S.

The Vexing Challenge of Prescription Drug Costs in the U.S.

On the campaign trail and during his first year and a half in office, Donald Trump railed against high prescription drug costs.  After each of his most public pronouncements along such lines, the stock prices of prescription drug manufacturers would dip as the market assumed that presidential attention to such matters would translate into lower profits in the future.  And then, in May of 2018, the Trump administration released its plan to lower drug prices and the stock prices of drug manufacturers went…  up.  Awkward.

Prescription drug costs in the U.S. are the result of a number of complex, inter-related government and market forces.  One layer of the complexity is the fact that, as it relates to pricing and economic forces, there are several categories of prescription drugs and several different things that we talk about when we talk about prescription drug costs and/or prices.  One important thing to remember about prescription drugs is that, on one level, what we’re talking about is intellectual property.  Once a drug maker files a successful patent for a drug and then gets FDA approval to market the drug, no other drug company can market that same drug.  This is a patented brand drug – one with market exclusivity.

There are several ways for a brand drug’s market exclusivity to be extended, but once its market exclusivity has ended, any drug manufacturer can seek approval to produce the drug.  At this point, it is a generic drug, and multiple manufacturers can produce it, leading to direct competition on price.  Before a drug loses market exclusivity, however, there is no direct competition on price, unless there are multiple distinct drugs in a particular therapeutic class, which does happen, but not always.  And, even then, there are invariably individuals who only respond to one particular drug in the therapeutic class due to their distinct biology/genetics.

Another important distinction to make is among the different things that we sometimes mean when we talk about prescription drug costs.  The pharmaceutical supply chain is complicated.  Pharmaceutical companies sell drugs to distributors, who sell to pharmacies, but then pharmacy benefit managers contracted to health insurance companies negotiate discounts with the pharmaceutical manufacturers and pay the pharmacies on behalf of health insurance companies.  In some cases, some of the payers are government programs rather than health insurance companies.  In addition, for individuals covered by public health care programs or private health insurance, there is generally an amount paid by the payer, and then an amount paid by the patient (usually referred to as a co-payment, and often described as patient out-of-pocket spending).  The bottom line is that when we talk about “prescription drug costs” or “prescription drug prices”, we might be talking about the “sticker” prices that the prescription drug manufacturers bill to whoever is paying them absent any price negotiation, the negotiated price actually paid by public or private payers, or the out-of-pocket cost to the patient.

When considering potential policy solutions to the issue of high prescription drug spending, it is important to consider both dispensing and spending patterns, in the aggregate and individually.  Generic drugs comprise about 90% of the number of all prescriptions dispensed, whereas brand drugs comprise more than 77% of the cost of all prescriptions dispensed.  Therefore, unless a policy or set of policies intended to reduce total prescription drug spending includes specific elements designed to reduce the cost of, or spending on, branded drugs, then it is unlikely to produce a significant cost impact.

Recognizing that it will be unlikely to reduce overall prescription drug spending without addressing spending on branded prescription drugs, the main policy prescriptions put forth by both the left and the right leave much to be desired.  From the left, we have ideas like empowering the federal government, generally through Medicare, to negotiate directly with pharmaceutical manufacturers or importing drugs from Canada.  From the right, we have ideas like increasing competition among generics and coercing other countries into spending more on branded prescription drugs.

Proponents of allowing the federal government to negotiate through Medicare for lower prices on branded prescription drugs seem to believe that it would result in similar levels of coverage, but substantially lower prices.  However, a critical feature of negotiating is the ability to walk away from the table and it seems likely that political pressures would prevent the federal government from leaving many drugs uncovered.  The U.S. Veterans’ Administration (VA) provides a real-world example of how such negotiation might play out.  The VA does negotiate directly with drug companies for lower prices using the full scale of its purchasing power.  The result is prescription drug prices that are 40% lower than in Medicare, but they also cover 30% fewer drugs.  (It’s also relevant to note that Medicare already does negotiate with drug companies for lower prices through the Prescription Drug Plans that are part of Medicare Part D.  Importantly, while Medicare does require coverage of certain drugs, each individual plan has much greater flexibility to walk away from the negotiating table than the federal government as a whole would.)  While importing drugs from Canada (or anywhere else that has government-negotiated drug prices) might very well lead to lower prices, it’s really just a gimmick – piggy-backing on another government’s price negotiations.

Similarly, while some of the proposals from the political right have the potential to reduce prescription drug costs around the edges, they don’t address the real drivers of prescription drug costs.  Preventing anti-competitive behaviors by brand drug companies trying to prevent generic entry into the market after their market exclusivity runs out is undoubtedly a good thing.  However, since the largest contributors to high drug prices are new branded drugs on the market with many remaining years of market exclusivity, it is unlikely to have much of an impact in the aggregate.

Other proposals like publishing drug prices or price hikes, or requiring drug ads to include pricing information are just variations on ‘naming and shaming’.  They might occasionally motivate a drug company to reduce their prices, but drug companies, most of which are publicly traded, have an obligation to their shareholders to maximize profits and are unlikely to be moved to reduce them.  In addition, government publication of drug prices is a form of government involvement in the market – a strategy that should make conservatives uncomfortable.  There are also open questions about whether requiring drug companies to include pricing information in advertising is even legal.

While it is widely held that the higher drug prices in the U.S. disproportionately fuel drug companies’ profits and Research and Development spending, somehow forcing other countries to accept higher prices or negotiate less aggressively will not translate into lower prices domestically.  Drug companies seek to maximize revenue in every market.  Higher drug prices in other countries may mean that the U.S. contributes less to drug company profits and R&D spending on a percentage basis, but it won’t lower the costs in the U.S.

All of that doesn’t mean that there are no potential solutions, but if they are to address the main driver of high prescription drug prices in the U.S. – new branded drugs – the potential solutions will necessarily be more disruptive and even subversive.  The underlying challenge with trying to reduce the prices of branded prescription drugs is the same thing that drives innovation in this space.  The market exclusivity granted by a patent awards the patent holder with complete control of pricing and, particularly in therapeutic areas with few or no other drugs, little if any market pressure to price the drug below what the market will bear.  Therefore, a package of recommendations to reduce prescription drug spending should include recommendations that address the intellectual property framework.

Having reviewed many of the recommendations for reducing the costs of prescription drugs in the U.S., I believe that the following ideas have the most promise of actually doing the job:

  • Laws constraining price-gouging during emergencies could potentially be adapted to prevent drug companies from earning excessive profits on live-saving medicines.
  • The government could develop criteria for using eminent domain to bring certain patents into the public domain while compensating patent holders with the fair market value of their patents.
  • Drug companies could have their pricing regulated like utilities, allowing them to earn a reasonable return while preventing excessive profits.
  • In cases where funding from the federal government leads to drug discoveries, the government should include pricing terms in its licensing agreements with drug manufacturers.
  • In the same way that individuals with end-stage renal disease are categorically eligible for Medicare, certain other conditions or the need for specific drugs could be added to Medicare as new eligibility categories.
  • The federal government could create incentives for, or focus research funding on specific therapeutic areas with only one drug currently available.
  • Several major health systems are partnering to create a new non-profit drug manufacturer to create more competition in the generic drug market and ensure that drugs that they need are available at reasonable prices.
  • Remove “gag” clauses that are in contracts between pharmacy benefit managers and pharmacies that prevent pharmacists from discussing lower priced alternatives or informing patients when they might face a lower price if paying directly rather than through their health plan.
  • Make rebates from drug companies to health insurance companies and/or pharmacy benefit managers more transparent or get rid of them.
  • Ban direct-to-consumer advertising of prescription drugs. The U.S. is one of only two countries in the world that allows DTC advertising of prescription drugs.

No one thing will reduce prescription drug prices in the U.S., but there are many promising options.  While some ideas might require some out-of-the-box thinking or make some people or groups uncomfortable, this is an issue that is only going to get worse and doing nothing, or doing things that do not address the underlying dynamics, will increasingly not be an option.

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