A recent Stat News article highlighted plans in the new Congress to reduce drug prices by abridging the intellectual property rights of pharmaceutical companies.
There is a certain irony here. On Dec. 7, the same day the article appeared, the U.S. government’s Centers for Medicare and Medicaid Services reported that prescription drug spending in the U.S. last year rose by only 0.4% and that the price of the average medicine declined by 1.4%.
This disconnect has, unfortunately, become the new normal for policy debates involving pharmaceuticals. We will come back to the details of the CMS report shortly, but first let’s examine Lev Facher’s Stat article. It began:
Democrats, newly empowered in D.C. and on the hunt for bigger and bolder ways to lower drug prices, are suddenly taking aim at a far more central part of pharma’s monopoly power: the patents the industry holds on its drugs.
For years, lawmakers from both parties have shied away from addressing the industry’s intellectual property. Muck with a drug company’s government-granted monopoly, the thinking goes, and investments in research and development will disappear.
“Monopoly power” for developers of drugs is limited. As we noted in Newsletter No. 37, patents on medicines generally run for 20 years from filing, or about 12 years from the time the average medicine hits the market. (By contrast, Disney has held a copyright on Mickey Mouse since 1928.) After the patent expires, makers of generic medicines, which now represent 85% of all prescriptions, rush in and prices fall.
Scott Gottlieb, the Food & Drug Administration commissioner, has made a priority of lowering regulatory barriers to bringing generics to market, and the effort is paying off. In 2016, the FDA issued 73 first-time generic approvals. Through the first 10 months of this year, the figure is already 82. The U.S. has trailed Europe in bringing biosimilars, which have “no clinically meaningful difference” from reference biological products (sophisticated treatments, often targeted at cancers and autoimmune diseases), to market, but Gottlieb has focused attention here as well. The FDA this month approved the seventh biosimilar of the year, compared with five in 2017 and three in 2016.
Often, however, competition for patented drugs emerges well however, well in advance of the patent expiration. After all, the patent does not prevent other companies from patenting different molecules and biological products to address the same indication. For example, since an innovative cure for Hepatitis C was approved by the FDA in 2014, four other companies have brought patented drugs to market to fight the disease, and prices have fallen sharply.
Why Patents in the First Place?
The economist Stan Liebowitz of the University of Texas explains the purpose of patents:
If anyone can make a copy (embodiment) of an idea or expression without the permission of the original creator, the price of embodiments would be expected to drop to zero (plus the transmission/reproduction costs), leaving nothing for the creator. to provide producers with a pecuniary incentive to create intellectual products, creators must be given some degree of control over the use of their products, prohibiting others from copying their ideas or expressions. This is where copyrights and patents come in.
Intellectual property rights are so important, they were written into the U.S. Constitution (Article I, Sect. 8, Clause 8), giving Congress the power to “promote the progress of science and useful arts, by securing for limited times to authors and inventors the exclusive right to their respective writings and discoveries.” In the case of medicines, patents provide the incentive to invest the $3 billion it costs to bring a single new medication to market. Who would spend vast sums on research and development to invent something that could be immediately appropriated by someone else who spent nothing on R&D? Without patents, a competitor could let someone else try and fail until getting it right – and then swoop in to steal the invention.
The latest approaches to limiting patent rights for medicines either seize intellectual or create doubt about whether that property is secure, thus diminishing the incentive to create. One proposal goes by the euphemism “compulsory licensing,” which is defined by the World Trade Organization as occurring “when a government allows someone else to produce the patented product or process without the consent of the patent owner.”
Importing Compulsory Licensing From Indonesia to the U.S.
Compulsory licensing – or merely the threat of this kind of expropriation -- is a favorite tactic around the world, and not just in countries such as India andIndonesia, which want to boost their own drug industries, but even in developed economies such as Canada. Under the TRIPS agreement that is part of WTO, compulsory licensing (CL) can be deployed only in highly limited circumstances.
The National Governors Association in August endorsed a proposal “to explore whether the federal government should invoke 28 U.S.C. 1498…which allows them to use or acquire patents (such as those for pharmaceuticals) in exchange for ‘reasonable and entire’ compensation to
Therefore, if markets are to be used the patent holder.” In fact -- as Adam Mossoff, Sean O’Connor, and Evan Moore argue in an article on the website of the Center for the Protection of Intellectual Property at George Mason -- University, the claim on which the proposal is based, with roots in an article in the Yale Journal of Law and Technology, “is false.” Mossoff and his colleagues write “to use § 1498 for the government to set drug prices charged by private companies in the healthcare market would represent an unprecedented use of a law that was not written for this purpose.”
They add that contrary to the Yale Journal article and a New York Times editorial endorsing the compulsory licensing scheme, the federal government would have to reimburse a drug company the full list price of an expropriated drug. Also, they write….
The federal government has never used § 1498 to authorize private companies to sell drugs to private consumers in the healthcare market in the United States. In these cases, the Department of Defense (“DoD”) relied on § 1498 to purchase military medical supplies from drug companies that infringed patents. Statements from agency heads during congressional hearings at the time confirm that the DoD, NASA, and the Comptroller General all understood the law as applying to procurement of goods for government use.
Still, the Stat article notes that the governors’ proposal tracks language in legislation introduced by Sen. Bernie Sanders (I-Vt.) and Rep. Ro Khanna (D-Calif.), and separately by Rep. Lloyd Doggett (D-Texas). “Those bills,” wrote Facher, “either use international reference prices to cap U.S. payments for drugs or allow Medicare to negotiate drug prices. Each would allow the health secretary to issue a second license to a competitor company if those negotiations end in a stalemate.” In other words, compulsory licensing – or (let’s be blunt) confiscation of property rights -- would be used as a threat in price negotiations with drug companies.
The Stat article also notes that in the past Rep. Nancy Pelosi (D-Calif), the presumptive House Speaker next year, threatened to abridge drug patents by using an existing law that allows the HHS secretary to seize property rights to medicines in national-security crises, such as the anthrax scare after 9/11.
‘A Great Way to Kill Venture-Capital Investment
in a New Alzheimer’s Drug’
A third approach, Facher wrote, “would pressure the NIH to re-interpret the Bayh-Dole Act, which governs intellectual property developed using federal research, and ‘march in’ on licenses for drugs that were excessively priced by their manufacturer.” Those “march-in rights,” in Sect. 401.6, are highly controversial, and NIH itself opposes changing the interpretation of the law.
The Administration has taken a strong position. In its recently released Green Paper on the “Return on Investment Initiative for Unleashing American Innovation,” the National Institute of Standards and Technology listed as an intended action, under the heading “Clarify Ambiguities in March-In Rights Processes and Terminology,” the following:
Implement regulatory change under the Bayh-Dole Act by specifying that march-in rights should not be used as a mechanism to control or regulate the market price of goods and services. Provide a clear and consistent definition for “reasonable terms” contained within the existing statutory definition of “practical application.” Clarify the intent of reasonable licensing terms to allow a product or service to reach the marketplace but not as terms (i.e., price control mechanism) for consumer use.
Joe Grogan, the Office of Management and Budget’s associate director for Health Programs, said at a conference last month that breaking patent rights under the “march-in” clause would “be a disaster.” According to Politico, he referred to the idea as “stealing.”
At a STAT event recently, Sen. Bill Cassidy (R-La) said that changing the march in interpretation would be “a great way to kill venture-capital investment in a new Alzheimer’s drug…. If you start marching in, saying we don’t care what your [intellectual property] is, we’re going to now take it over, VC is going to evaporate.”
CMS Report Shows Prescription Drug Costs Rose 0.4% and Prices Fell
Seizing property rights is an extreme step. Is it necessary? Not if we are to believe the latest data from CMS. In 2016, prescription pharmaceutical costs rose 2.3% over the previous year, and in 2017, they rose 0.4%. During each of these periods, utilization – that is, the number of prescriptions filled, increased by about 2%. As a result, the price of the average prescription over the last two years actually declined.
The CMS data also show that the average American spent $12 a month out of pocket on prescription drugs – a figure that has been steady for the past two years.
In addition, spending on prescription pharmaceuticals totaled $333.4 billion in 2017 while spending on hospital care totaled $1,142 billion.
And drugs are a powerfully efficient way to keep patients out of hospitals, where costs in 2017 rose by $49.8 billion, or 4.6%. As J.D. Kleinke, a health care entrepreneur, wrote in Health Affairs back in 2001:
The added costs associated with breakthrough medicines represent a major structural shift from the provision of traditional medical services to the consumption of medical products; they also represent the creation of economic, social, and public health utility that we value as a society.
Kleinke might have included “incremental innovation” along with breakthroughs. Those improving Hepatitis C drugs, for example, shortened therapy time, reduced side effects, and broadened application to more genotypes.
The Politics of Drug Prices
Then why all the commotion over pharmaceutical prices? Clearly, some politicians believe that their constituents like the idea of abridging patent rights for drug companies.
One big reason for the concern is the structure of health insurance policies. Insurance often covers all, or nearly all, the cost of inexpensive generic drugs but requires patients to pay a heavy share of the cost of the most innovative and expensive drugs. This is the opposite of how insurance should work.
For example, a study by the Kaiser Family Foundation last year found that one million Americans without low-income subsidies had costs that exceeded the Part D Medicare catastrophic threshold. They spent more than $3,000 each, on average, and one in 10 of them spent an average of $5,200. Studiesconsistently show that high copay requirements are causing sick people to go without their medicines.
The answer to rising costs is not to destroy the intellectual property regime that has served the U.S. economy and Americans’ health so well. The answer is to direct rebates to patients, restructure health insurance policies, and increase competition by easing the path for generics and their biological product equivalent, called biosimilars.
Perhaps these proposals to limit patent rights are just a threat, a way to secure other measures, such as price controls. But legislators are playing with fire. Even the threat of restrictions can deter innovation. And innovators throughout the economy should beware. If they believe they can control costs by constraining intellectual property guarantees, why would politicians stop with pharmaceuticals?
Two new reports refute the notion – so cherished by politicians of both parties – that drug prices are “skyrocketing.” In fact, they are rising less than overall inflation.
The first report, issued Nov. 14 and titled, “Prescription Drug Costs Trend Update,” comes from the Blue Cross Blue Shield Association. BCBS is a behemoth, a network of 36 companies that provide commercial coverage to 88 million Americans who last year spent $100.2 billion on prescription drugs.
That is an increase of $2.2 billion, or 2.2%, over last year. And 2.2% is almost precisely the same rate of increase as that of the Consumer Price Index over the same one-year period. Hardly a skyrocket.
Total Spending vs. Average Prices
There is a difference, however, between the increase in total spending and the increase in the prices of components of that spending. Spending could rise 2.2% without any price increases at all -- simply on an increase in utilization, the number of prescriptions written from year to year.
For example, Express Scripts, a giant pharmacy benefit manager (PBM), reported earlier this year that utilization by its members with commercial health plan rose 0.7% in 2017. For CVS Caremark, another giant, utilization increased 1.7%. And Prime Therapeutics, a large PBM, reported that commercial utilization rose 3.2%.
How much did utilization rise for BCBS’s commercial-plan members? According to the notes accompanying the report, total spending and utilization figures were “adjusted for year-over-year membership growth.” Fine, but, unfortunately, BCBS does not provide statistics on the growth in total utilization.
BCBS does, however, provide data on increases in the use of medicines for which spending was the highest. Of the top 10 medications, utilization rose for six, declined for three, and stayed the same for one. The average utilization gain was 2.6%. If we use that figure across all BCBS drugs, then the price of the average prescription actually declined, as it did, dramatically, for clients of Prime Therapeutics, for whom the reduction was 3.2%.
Prime seems to be something of an outlier. Express Scripts reports that, for commercial clients, average prices rose 0.8% in 2017 (and 44% of the plans for which it serves as a PBM saw the average price of a drug decline). And CVS Caremark reports that its prices rose just 0.2%.
The Effect of Rebates
Another obstacle to transparency on pricing is this admission by BCBS, “The findings in this report do not include the impact of drug rebates. Drug rebates are given at the level of negotiated contracts, not at the level of prescription drug claims, and vary by a number of factors (e.g., market segment, pharmacy benefits manager, manufacturer, insurer, etc.)”
Opaque rebates from manufacturers, as required by PBMs, are endemic to the drug supply chain. What is the effect on rebates on actual spending? BCBS doesn’t know precisely, but the report’s notes provide an estimate for 2017 with the assumption that “rebates continued to grow in 2017 similar to rebate growth experienced in 2016 compared to 2015 and if other market dynamics are ignored.” Under these conditions, instead of increasing 4%, branded drug spending would have increased 1% to 2%.”
Altarum Reports Prices Rise Just 0.8% for Year Ending Oct. 31
These small average price increases – all less than the rate of inflation – are confirmed by the second recent health-cost report. On Nov. 15, the Altarum Center for Value in Health Care estimated that prescription drug prices in October were up only 0.8% compared with the same period 12 months previously. That tiny gain follows an increase of 1.0% for the 12 months from Nov. 1, 2016 to Oct. 31, 2017. Other health care prices in 2018 are rising at a rate below inflation as well, including those at hospitals, which increased 1.3%, and “physician and clinical services,” which, like drugs, were up 0.8%.
An appropriate headline a story about both these reports would have been: “Drug Prices Rise More Slowly Than Inflation.” Man bites dog!
Media Emphasizes Rise in Cost of a Few Drugs
But that is not how the media played it. After all, slowly rising drug prices don’t fit the political narrative being promoted by many Democrats and Republicans. So the media focus was on the fact that the cost to BCBS of some drugs increased. Thus, most headlines resembled this one on Philly.com, the site of the Philadelphia Inquirer and Daily News: “Small number of brand-name drugs drive prescription spending to $100B, Blue Cross report finds.”
That headline is accurate, but it misses the main point for two reasons. First, as we just noted, despite all the commotion over drug spending, costs and prices did not rise very much last year. Second, the fact that branded drugs are more expensive than generic drugs is hardly a shock. In fact, it is the way the system is supposed to work.
Businesses need an incentive to invest the $3 billion it costs to bring a single new medication to market. That incentive comes through intellectual property protection. A drug patent generally lasts 20 years from the time of creation. Because development and regulatory approval take so long, a typical drug has monopoly protection for about a dozen years. (By contrast, Mickey Mouse isprotected for 95 years.) Those dozen years allow a drug company to earn profits that can then be plowed into R&D for future drugs.
Meanwhile, when the patent runs out, other companies can produce generic copies, and competition drives market prices down. Generics offer lower prices in perpetuity. Over the past decade, generics, which account for 89% of all prescriptions, have saved Americans $1.7 trillion, generating $253 billion in savings in 2016 alone. It’s a system that provides not only constrained costs but also powerful innovation.
Drug companies do not need patent expirations to provide competition for branded medicines. They try to win patents for different medicines to fight the same disease more efficiently.
For example, in 2014, the drug Sovaldi was approved as a cure for Hepatitis C. Immediately, far less effective medicines that were previously being used to fight the disease were pulled from the market. Then, over the next few years, long before Sovaldi’s original patent was scheduled to expire, a half-dozen new patented Hepatitis C drugs were approved, reducing the course of therapy, targeting other genotypes, and producing fewer side effects. Today, eight popular medicines aimed at the disease are made by five separate companies. Competition is holding down prices, and more people are being cured.
Specialty Drugs: Comparing Apples to Oranges
The BCBS study makes a great deal of the fact that generic drugs represent 83% of prescriptions filled by its members but only 21% of the total costs. But that is to be expected. Total spending on generics fell 3% for BCBS members last year.
What is remarkable – but again, unremarked upon in media reports – is that increase of just 4% (which is, in fact, just 1% to 2% after rebates are taken into account) in spending on branded drugs for BCBS clients. Again, we can’t tell how much the average price of a branded drug rose for BCBS, but for Prime the increase was 2.7% for “specialty” medications, the most expensive class of branded drugs; for CVS Caremark, it was 3.7%.
The introduction of so many new specialty drugs in recent years makes aggregate price and spending comparisons even less meaningful. The Food & Drug Administration approved 46 new drugs in 2017 and 52 so far in 2018. From year to year, we aren’t comparing the same group of medicines; we are comparing a better group of medicines to a necessarily inferior one since R&D keep improving pharmaceutical offerings (especially, in recent years, in the field of cancer).
Three Good Reasons for All the Attention for Drug Costs
A recent “deep dive” from the news service Axios seemed, at least in part, to buck the current political narrative on drug prices. It carried the headline, “We’re not spending as much as you think,” and made the point that spending on drugs is far less than spending on hospitals and on doctors’ and other professional services. Wrote Mike Allen of Axios:
In 2016, the U.S. spent a little less than $330 billion on the kind of drugs you pick up at a pharmacy, according to federal data. That's about 10% of all health care spending. Add in drugs that are administered by a doctor, and various estimates put the total closer to $450-475 billion, or 10-15% of health care spending.
So why all the attention for drug costs? Allen offers three explanations:
First, “a few products can drive big spikes.” Spikes, yes, but declines, too. He cites the 2014 Sovaldi introduction, but he neglects to note the effects of recent competition. Express Scripts reports, for example, that per member per year spending on Hepatitis C drugs fell 31% in 2017.
Second, “the future is trending toward more expensive drugs.” Absolutely true. Miraculous new life-saving biological products, especially, are absorbing a higher proportion of total spending – which is precisely why we need regulatory changes to make it easier to bring biosimilars to market to compete, the way that generics compete with small-molecule traditional medicines. Critics who complain about drug costs rarely offer solutions. Why aren’t they campaigning for a faster, more fluid pathways for biosimilars.
Third, Allen writes, “insurance deductibles keep getting bigger, which means people have to pay more of their own costs out of pocket. And while you may not have been to the hospital in a long time, millions of Americans use prescription drugs every day.” Also, true. But the problem goes beyond deductibles. Insurance plans are perversely structured so that patients have to dig deeply into their own pockets to pay far too much of the tab for the most advanced medicines while getting common generics, in many cases, for no out-of-pocket costs at all.
Previous issues of this newsletter have examined both biosimilars andinsurance-plan design. But policy makers and the people who influence them can’t develop effective solutions unless they gain perspective on the problem itself. For that, they need facts, not distortive narratives, about actual drug costs and prices.
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