As of last month, Americans can now purchase Canadian drugs through the mail without fear of U.S. Customs officers seizing the packages. Meanwhile Congress reached agreement on a bill that would allow Americans to buy prescription drugs at Canadian pharmacies and transport them home.
Several U.S. lawmakers have suggested that because of these two moves, the full-scale reimportation of pharmaceuticals is just around the corner. After all, brand-name drugs are significantly cheaper in Canada than they are in the United States.
At first glance, legalizing importation seems like a laudable cause. It would make drugs cheaper for all Americans. Right?
Unfortunately, this argument is deeply flawed — because it assumes that if importation were legalized, prices in Canada would remain at their current levels. That would not happen. Instead, because the U.S. market is 10 times larger, the two national markets would merge and Canada’s prices would simply rise to U.S. levels.
If Americans truly want to achieve “Canadian” drug prices, then we must first understand the market and government forces that create the lower prices up north and the higher prices in the States.
Most people attribute Canada’s cheaper drugs to the fact that the government imposes price controls on patented medicines.
But contrary to popular belief, these pricing rules are not the primary reason for Canada’s lower prices. Canada doesn’t control the retail price of drugs — only what drug manufacturers can charge wholesalers. Wholesale and retail mark-ups are left to the market. More importantly, many drug manufacturers don’t even charge the full price permitted under federal rules.
THE FACT IS, RESEARCH SHOWS that most of the price differential on patented pharmaceuticals can be explained by three factors other than price controls:
(1) Differences in standard of living.
While our respective standards of living used to be quite comparable, Canada’s has been steadily falling in comparison to that of the United States. Today, the average Canadian’s standard of living is 20-30% lower than the average American’s. That affects drug prices because of what economists call “price discrimination.”
When a firm sells its product in two different markets, it will calculate a profit-maximizing price for each market. The general rule is that prices will be higher in markets where consumers are less sensitive to price and lower where consumers are more price-sensitive.
That’s why Budweiser is cheaper in rural New Mexico than it is in Beverly Hills. And it’s also why drugs like Lipitor and Nexium are cheaper in Canada — because Canadians cannot afford to pay as much as their American counterparts.
(2) The “insurance” factor.
America has an incredibly comprehensive insurance system. Ironically, this has led to higher drug prices — because most Americans are insensitive to changes in the price of drugs.
The fact is, whether they’re insured by a private plan or a government one, most Americans pay very little out of their own pocket for drugs. And when you only pay a few dollars for a prescription, you have no particular incentive to shop around. Because U.S. “shoppers” don’t care about price, drug suppliers have little competitive incentive to keep prices low.
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