Two weeks ago, President Trump unveiled his long-promised plan for lowering prescription drug prices. It has two main features, relating to Medicare Part B. The first part responds to a real problem and is a useful solution. The second part offers a Trump solution that promises to cripple the world’s leading pharmaceutical industry.
Under Part B, Medicare covers the cost of any approved drug delivered in a doctor’s office or clinic, as opposed to medications bought at a pharmacy. That cost is whatever the drug company charges. The prescribing doctor gets a six percent commission on each sale.
The Trump proposal would replace this commission with a flat fixed fee. That would take away the incentive to prescribe and buy the highest cost product for the patient. So far so good.
The second feature is a new scheme to link the price of Part B drugs to an “International Pricing Index.” This is the average price for each drug paid by national health care systems in 15 European countries, plus Canada, that have good pricing data. All of these countries buy U.S.-made drugs at prices far lower than here in the U.S. The Trump proposal would bring U.S. prices down to 126 percent of what these foreign countries pay for the same drug, as opposed to the 180 percent we’re paying today.
Why not make foreign national health systems buy U.S. drugs at the U.S. domestic prices? That requires an understanding of the pricing problem faced by U.S. drug makers.
A U.S. drug maker can take a drug to market only with FDA approval and a patent that prevents competitors from stealing it. Out of ten promising new drug formulations, rarely does more than one survive the FDA approval process. But the cost of producing that drug, including all of the nine failed formulations, is now $2.6 billion over ten years. How can the drug company recover this enormous front-end investment?
Mainly, by aggressively promoting the successful drug through sales visits to doctors and hospitals and millions of dollars of advertising in medical journals, mass circulation publications, and television. Even though manufacturing the one millionth pill may cost only say $5, every pill has to carry a share of the $2.6 billion overhead investment. The company has to sell enough of them to turn a profit before the patent expires in 20 years and anyone can produce it without paying royalties.
American consumers are paying off that overhead in high prices, giving Trump the opening to attack the “freeloader” foreign governments that are paying much less. Why do they get bargain pricing? Because the manufacturers can make some profit selling $5 pills for $10 in Germany and Greece – so long as American consumers are paying $18 to cover that $2.6 billion overhead.
Suppose the Trump solution reduces by a third the price paid by Medicare Part B customers. The drug companies will try to make the $2.6 billion through higher price pharmacy sales. What they aren’t likely to be able to do is jack up the prices paid by the foreign governments to offset the reduced revenues from domestic sales.
That’s because the foreign national health systems are in a “buyer’s advantage” position. When the U.S. companies try to increase the price of drugs sold to those countries, their governments can easily say “forget it – we won’t buy at that price.” They can also ignore the patent rights and pay a foreign company to make a copycat drug.
Even the Trump administration’s own drug price reform blueprint of last May observed: “Every time one country demands a lower price, it leads to a lower reference price used by other countries. Such price controls, combined with the threat of market lockout or intellectual property [patent] infringement, prevent drug companies from charging [U.S.] market rates for the products.”
Trump’s proposal would in effect import foreign price controls into the American pharmaceutical market. Ever since the unhappy experience of the Emperor Diocletian in 304 A.D., the price control enthusiasm has led to grievous consequences.
Is there a more promising way to lower prescription drug prices, not just in Medicare Part B, but in every U.S. market? Of course. Amend the Food, Drug and Cosmetic Act of 1962 to continue FDA regulation of drugs for safety, but repeal the regulations to demonstrate ill-defined “efficacy,” and let medical professionals decide what works best for their patients. The “efficacy” requirement is by far the main reason why new-drug approval cost runs up to $2.6 billion over ten years, and why prescription drugs are so expensive.
Written by John McClaughry, vice president of the Ethan Allen Institute, www.ethanallen.org.