One of the reforms Speaker-Elect Nancy Pelosi has pushed as part of her "First 100 Hours" strategy is permitting Medicare to negotiate the price of prescription drugs. Supposedly this will save on drug costs for the Medicare Prescription Drug Program. Of course, Medicare would not actually "negotiate" prices in the sense of bargaining with sellers. Rather, as the limited drug program in the Part B portion of Medicare shows, Medicare sets the price for drugs by only offering to pay for the average price of the drug on the private market. This sort of "negotiation" will inevitably lead to a host of adverse consequences, such as diminished choice of drugs for Medicare beneficiaries, use of restrictive "formularies," and reduced research and development (R&D) by pharmaceutical companies.
While drug-makers and free-market advocates are revolted by the prospect of government-mandated distribution policies, there will always be a liberal cheering section. Enter Jonathan Cohn of the New Republic, one of this group's loudest cheerleaders.
Cohn begins his case (sorry, TNR subscribers only) by arguing that Americans use many drugs unnecessarily. He states that, "Reams of statistical data suggest Americans are routinely using expensive drugs for conditions that either don't need treatment or could be treated more cheaply with different medications." He cites the example of the drug Nexium, a treatment for acid-reflux disease, that many patients use despite the fact that an older and cheaper drug -- Prilosec -- would be just as effective in most cases. The culprit, Cohn claims, "is the marketing practices of the pharmaceutical industry, which uses junkets and other less-than-savory practices to push their wares on doctors while blitzing the airwaves with TV advertisements to drum up demand among consumers."
But surely the pharmaceutical industry is not the only industry to use promotional junkets. Nor is it the only industry to push consumers to demand more expensive products. Jaguar, for example, promotes its rather luxurious cars with some slick ads. Nevertheless, its cars are easily outnumbered on the road by Hondas and Toyotas. The difference is that consumers pay for their cars out of their own pockets, while their prescription drugs are often paid for, in large part, by a third-party payer such as an insurance company or government program. When consumers have no incentive to worry about costs, they will naturally be far more eager to try new, expensive products. Require consumers to pay directly a larger share of the cost of their prescription drugs and they will be far more likely to go with cheaper alternatives such as Prilosec, regardless of how many free trips their doctors get to Las Vegas.
This leads Cohn to conclude there is no problem granting the government the power to restrict access to the drugs seniors can have. The government "could also create a formulary system, with lists of drugs for which it would either pay in full, pay in part, or not pay at all -- and base inclusion on price or quality or, ideally, both." Additionally,
Drug-makers also caution that, if the government adopts formularies, they would block access to necessary drugs for severely ill patients. But private insurers -- including the ones now serving Medicare beneficiaries -- use formularies, too. And studies of the [Veterans Administration] formulary by both the Government Accountability Office and the Institute of Medicine found no evidence of access problems.
Actually, the GAO report did note some problems with VA's formulary. It stated that two of the facilities it reviewed had yet to include about140 drugs that were on the VA's formulary. Furthermore, "the approval process for the use of nonformulary drugs across VA's health care system does not ensure that all facilities have an efficient and timely process." There was "wide variability in how requests are made, who approves such requests, and how much time it takes." Other research shows that the VA's formulary may have deadly consequences. Economist Frank Lichtenberg examined the VA's practice of using its formulary to discourage the use of newer drugs, and concluded that it may reduce the average age at death among VA patients by about two months.
Studies of other drug formularies have found that costs savings are illusory. Patients have different reactions to different drugs, and generic drugs (which are usually preferred by formularies because they are cheaper) do not always work as well as brand-name ones. One study (PDF) of HMOs found that the more restrictive the formulary, the higher the rate of patient office visits, emergency room visits, and hospitalization, while a study of Medicaid formularies concluded, "Savings in the drug budget appear to be completely offset by increased expenditures in elsewhere in the system." The lesson is clear: impose a formulary on Medicare patients and Medicare will see increased costs for doctors' visits and hospitalization.
Next, Cohn claims that reducing industry profits will have little to no affect on R&D:
...as [Merrill] Goozner and other industry critics have shown, the most important basic medical and scientific research that leads to major medical breakthroughs usually takes place under government auspices -- typically, through grants from the National Institutes of Health. In other words, taxpayers -- not drug companies -- are the ones financing the most important drug research today. So, even if the pharmaceutical industry did reduce its research and development investment because of declining revenues, what we'd lose probably wouldn't be the next cure for cancer -- it would be the next treatment for seasonal allergies, and likely no better than the ones we have already.
Goozner's book, The $800 Million Pill, is not a systematic study of the interaction of the National Institutes of Health (NIH) and pharmaceutical companies, but rather a string of anecdotes. Some of those anecdotes downplay the importance of pharmaceutical companies. Consider his account of a drug compound known as STI-571, which later became Gleevec -- a revolutionary treatment for chronic myeloid leukemia. Groozner focuses almost entirely on the efforts of university researcher Brian Druker, who pushed the maker of STI-571, Novartis, to test the drug on chronic myeloid leukemia. Indeed, without Druker's indefatigable efforts, Novartis may never have tested STI-571 on leukemia. Omitted, however, is the fact that Novartis spent years developing STI-571, albeit in an effort to treat other kinds of cancers. What are the chances that Novartis wouldn't have bothered to invest in STI-571 if it had had a small R&D budget? Thankfully, we'll never know.
Furthermore, a systematic study conducted by the NIH suggests that the NIH's role is not as large as Cohn suggests it is. The NIH funds a lot of "basic research," and the study noted that "technologies developed in basic research laboratories are nascent, requiring extensive further development." It is the pharmaceutical companies that fund that further development. The study also examined pharmaceuticals that had at least $500 million in sales in the U.S. Of the 47 drugs that met that standard, the NIH determined that it had involvement in only four of them. The other 43 included drugs for bacterial infections, diabetes, hypertension, high cholesterol and Hepatitis C -- hardly mere "treatments for seasonal allergies."
There is an arrogance, albeit a subtle one, in articles like Cohn's. It's the belief that government bureaucrats and medical experts are well suited to decide which drugs are best for millions of patients. Decisions on medical treatment, however, are best left to a patient and his or her doctor. The evidence shows that the last thing we need is the heavy hand of government getting involved in those decisions. Letting Medicare set drug prices is a big step in that direction.