Issue No. 12: Government-Negotiated Drug Prices: Another Bad Idea Bubbles Up from the Depths

Two particularly pernicious ideas, both of which have kicked around for years, have resurfaced lately as antidotes to growing concern about health-care spending. We discussed the first – importing medicines from abroad – in the last newsletter. Drug imports may sound like a decent idea, but a closer look finds that the practice would be unsafe, would deny American access to many of the best medicines, and would save little or no money anyway.

The second idea was summed up last month by National Public Radio:

For years, congressional Democrats have tried to pass legislation to allow Medicare to negotiate prescription drug prices for millions of beneficiaries. Now, they believe they have a not-so-secret weapon: President Donald J. Trump.
Rep. Elijah Cummings (D-Md) met with Trump and said he was “enthusiastic” about the concept, which the President also raised in his campaign last year. 

Let’s dive deeper into the issue.

The Mechanics of Medicare Part D 

Currently, about 40 million Americans are covered by Part D of Medicare, a benefit launched in 2006 by the George W. Bush Administration. Under Part D, retirees choose a Prescription Drug Plan (PDP) as their insurer. PDPs work with Pharmaceutical Benefit Managers (PBMs) to establish a “formulary” of listed drugs, based on negotiations with drug manufacturers. The federal Centers for Medicare and Medicaid Services approves each plan (there are now more than 700 of them). 

Part D was structured to use competition as a discipline to hold prices down.Here is a good video on YouTube, from the group Medicare Today, that explains. That approach seems to have worked very well. 

As a report by the Government Accountability Office put it: 

Through their ability to negotiate prices with drug manufacturers and pharmacies. To generate these savings, sponsors often contract with pharmacy benefit managers (PBMs) to negotiate rebates with drug manufacturers, discounts with retail pharmacies, and other price concessions on behalf of the sponsor…

The annual report of the Medicare Trustees states that “many brand-name prescription drugs carry substantial rebates,” often as much as 20-30%, and that on average, across all program spending, rebate levels have increased every year, meeting or exceeding projections. 

The average monthly beneficiary premium for Part D coverage is estimated at $34 in 2017, a figure that has been relatively stable since 2011. This year’s premium is substantially lower than the original projection of $51. According to Congressional Budget Office (CBO) data, total Part D spending is 45%, or $349 billion, below initial forecasts.

‘Interference’ Would Disrupt a System That Works

The law that established Part D has a “non-interference clause,” which states that the government “may not interfere with the negotiations between drug manufacturers and pharmacies and PDP sponsors, and may not require a particular formulary or institute a price structure for the reimbursement of covered part D drugs.”

Medicare Part D was founded on the premise that competition and choice would manage costs and increase patient satisfaction. It’s been a success. Premium growth has been low, the plans are negotiating discounts of more than one-third for branded drugs, and seniors like the program (nine in ten say they are satisfied).   

According to testimony by the CBO’s director, “granting the Secretary of HHS additional authority to negotiate for lower drug prices would have little, if any, effect on prices for the same reason that my predecessors have explained, which is that...private drug plans are already negotiating drug prices...”

In short, Medicare Part D shows that a market-based system can keep costs down while still providing access.  Contrast that with the idea of a government-run program that sacrifices access to drive costs down.  

Government Formularies Mean Restricted Access to Drugs

Cummings and others in Congress want the government to establish its own formulary, because, according to a fact sheet on the proposal, the Secretary of HHS can “leverage the purchasing power of the government on behalf of Part D plans.”

Trump himself apparently likes this idea, at least in general. He said on the campaign trail last year:  "When it comes time to negotiate the cost of drugs, we are going to negotiate like crazy." 

Many Americans, however, are opposed in principle to the government using what economists call its “monopsony” – or single-buyer – power in private markets. Government negotiation is a synonym for price controls, and price controls inevitably lead to shortages. 

“The negotiating lever” that would be used by government “to lower drug prices,” according to the CBO, “is the threat of not allowing that drug to be prescribed or putting limitations on its being prescribed.” In other words, to negotiate lower prices, the government would have to impose access restrictions.

So the formularies available to Medicare recipients would be limited. Such restrictions already exist in the VA National Formulary, which the U.S. Department of Veterans Affairs runs, and they are abundant throughout countries with state-managed health plans. 

Cancer Patients, Beware

We also see this phenomenon clearly in other countries around the world that have single-payer systems.  A recent study looked at the accessibility of 45 cancer drugs that had been recently approved and available in the US. Only 58% of the drugs were available in the UK, 42% in France, 29% in Canada and 24% in Australia. 

Several studies indicate patients face major delays in gaining access to new drugs, especially for cancer. According to a recent report by ECCO, the European cancer organization, “Cancer patients need speedy access to new drugs and fair prices for old ones, but in many cases, they are getting neither, according to research.”

This lack of access has significant and direct impact on patient care. Cancer patients have better outcomes in the United States than in other developed countries. For example, five-year survival rates for breast cancer are 89% in the U.S. and 81% in the U.K.; for colorectal cancer, 65% in the U.S. and 54% in the U.K.

Competition Keeps Price Increases in Check

In the case of Medicare, the U.S. government would, in fact, be less powerful as a price influencer than private PBMs. Let’s assume that the government negotiates on behalf of all 40 million Medicare beneficiaries. That’s a lot, but private PBMs, since they also cover other Americans in business or individual plans, negotiate on behalf of many more. For example, Express Scripts, at last count, covered 83 million; CVS Health, the second-largest PBM, covers 65 million. 

We can see the results in drug costs. Express Scripts, as we noted in a previous newsletter, managed to keep the average increase of spending on drugs used by its members down to 3.8%.  That includes increased use of medicines; for unit prices alone, the increase was just 2.5%. The average unit-price increase for members of CVS Caremark was just 1.2%; for another large PBM, Prime Therapeutics, it was only 0.6%.

Those figures would hardly seem the basis of unprecedented government intervention in pricing Medicare drugs.

In fact, as Congress and the President consider health-care reform, they should focus on what is broken, not what is working well. Medicare Part D is a shining example of the latter. 

Focus on Where the Costs Are

As we said in the last newsletter, there is no silver bullet when it comes to health-care costs. But a smart strategy would begin with a focus on the elements of the system where spending is highest. Only about one-seventh of the nation’s health bill goes to prescription drugs (and only about half of THAT goes to brand-name medicines) while one-third goes to hospitals and one-fifth to physicians and other professionals. 

Here’s a graphic that puts in perspective U.S. spending on branded drugs, as opposed to generics. The pie chart at left also shows that more than one-quarter of drug spending goes to middlemen. The bar chart at right shows total health spending in 2015 and the small proportion devoted to drugs.

Canada, which spends about one-third less of its GDP than the U.S. on health care overall, spends a higher proportion of total health costs on prescription drugs: 17.2% vs. 12.3%. That’s true throughout Europe as well. Perhaps the problem is under-spending on drugs, but the opposite – since drugs, after all, keep patients and their insurers from having to spend money on the really expensive parts of the system.

The Best Way to Lower Costs: Increase Supply 

As for drugs themselves, the best policies are those that lower costs by increasing supply. We need to smooth out the bumps in the drug-approval system in order to get more medicines to market. Trump and Gottlieb are both pledged to doing just that. In addition, we need to tackle the deficiencies of the PBM system. PBMs do a great job negotiating prices, but consumers are not always the beneficiaries. We need more transparency. As Wayne Weingarten of the Pacific Research Institute wrote April 4 in Forbes:

PBMs’ earnings are enhanced when manufacturers charge high list prices, but then pay large rebates and discounts to lower the actual transaction prices, creating a strong financial incentive for PBMs to support the current opaque pricing system.

We will discuss PBMs in a subsequent letter. For now, it’s clear that drug importation and negotiation are especially poor bets. Unfortunately, it’s a lesson we seem to have to learn again and again ​