President Donald Trump has put forward two ideas for lowering the cost of prescription drugs in the United States. At his press conference on January 11 he called for the drug companies to bid for the federal government’s business, while back in March of 2016 he suggested that the U.S. re-import drugs from other countries. Unfortunately, both of these approaches are more likely to boost not only prescription drug prices but also costs to taxpayers.
When it comes to prescription drugs, government “bidding” seldom means an actual negotiation. Usually it means that the drug companies are forced to offer the government a heavily discounted price. Consider Medicaid, the federal-state health care program for the poor. To participate in Medicaid, a drug manufacturer must offer Medicaid a discount based on the average private sector price of each drug it sells to Medicaid. The discounts run from 13 percent to up to 23 percent of the average price.
While that may work fine for Medicaid, the discounts increase the price of the drug in the private sector. “When Medicaid is a large part of the demand for a drug, this creates an incentive for its maker to increase prices for other health care consumers,” according to a 2006 study in the Quarterly Journal of Economics. It found “that a 10-percentage point increase in the [Medicaid market share of a prescription drug] is associated with a 7 to 10 percent increase in the average price of a prescription” in the private sector.
When the federal government first established the Medicaid discount drug program in 1990, drug prices in the private sector increased sharply, making it more costly for hospitals and other health care facilities that treated a large number of indigent population that had no insurance. In response, Congress passed the “340B” program in 1992. 340B forces drug companies to provide a discount of 20 to 50 percent off a drug’s list price to a hospital or other health care facility that treat a high number of indigent patients. However, nothing in the law prevents a hospital from obtaining those discounted drugs and then using them on patients who have insurance. The hospital keeps the difference between the discounted price of the drug and the insurance reimbursement. And that difference can be quite substantial. A recent New York Times article found that one oncologist could generate a $1 million profit for a hospital through the 340B program.
The 340B program provides drug manufacturers the same incentive to raise drug prices in the private sector as does Medicaid. Yet it raises costs in other ways too. Under 340B hospitals and other health care facilities have an incentive to use more expensive drugs since reimbursement from private insurance is usually larger for such drugs. The result is higher premiums for everyone with private insurance.
Re-importing prescription drugs won’t do much to reduce health care costs either. The health care systems of many foreign countries impose price controls on drugs, and the price control is usually just enough to cover the production cost of a drug but not the research and design (R&D) costs. If the U.S. adopted price controls like the rest of the world, drug company revenues would drop by as much as 20 percent, seriously reducing investment in R&D. That would reduce the number of new drugs that are brought to market, which could in turn reduce life expectancy. One study found that the decline in R&D due to drug price controls reduces life expectancy by about 2.8 percent in the U.S.
Drug re-importation will likely increase costs outside of the health care system. Counterfeit prescription drugs are a multi-billion-dollar enterprise, and drug re-importation would open a big opportunity for those dealing in fake drugs. Providing law enforcement agencies with the resources to reduce the amount of counterfeit drugs coming into the U.S. would prove very costly for the American taxpayer.
Neither government bidding nor drug re-importation are an effective way to reduce the cost of prescription drugs, and both will likely increase costs in other areas. However, there are actions President Trump and Congress can take to lower drug costs. I’ll examine those tomorrow.
