The Bizarre World of Drug Pricing

The Bizarre World of Drug Pricing

There is no shortage of bad ideas when it comes to the pharmaceutical market. One such proposal would allow drugs to be imported directly from other countries, such as Canada. Then there is the Trump Administration’s proposal that would effectively adopt foreign price controls on Medicare Part B drugs by implementing an international pricing index (IPI). These policies, if implemented, would harm the quality of health care in the U.S. by reducing patients’ access to medicines and harming future innovations.

What’s worse, the policies are chasing the wrong rabbit; rising pharmaceutical prices are not driving the current health care affordability problem. Consider the pricing data as reflected in the consumer price index (CPI) measure of inflation.

Over the 12-months through October 2018, overall consumer prices grew 2.5 percent. The growth in medical costs over the past 12 months was slightly slower – medical costs grew 1.7 percent, and the growth in prescription drugs was even slower than that – 0.8 percent.

While broader inflation has exceeded the increase in health care prices over the past year, longer-term health care prices have been growing faster than most other goods and services. Since January 2008, overall inflation grew 20 percent while health care inflation grew 35 percent.

Contrary to what most may believe, prescription drug inflation did not far exceed the average growth in health care inflation; it grew 39 percent since January 2008. Prices for hospital services, on the other hand, grew more than twice as fast – up 73 percent since January 2008. Therefore, if any specific health care sector is to be blamed (and no individual sector should be), hospital services are a more likely candidate than prescription drugs.

These data are not consistent with people’s preconceived notions, of course. But, that is due to the convoluted pricing structure of pharmaceuticals that creates more misinformation than useful information. Take the recently announced price changes by Pfizer.

Last week Pfizer announced that the list prices for 10 percent of its medicines would increase, on average, by 5 percent. In most markets, when manufacturers increase prices on products, price increases for consumers soon follow. In the bizarre pharmaceutical market, however, manufacturer list price trends rarely reflect the actual sales price trends.

Based on the historical price trends, in fact, a 5 percent list price increase will likely lead to no net price increase at all, and may even indicate that net prices will decline. According to the pricing data for medicines collected by IQVIA, the list prices for brand medicines increased 6.9 percent in 2017. Net prices, or the actual transaction prices of the medicines, increased only 1.9 percent. Inflation in 2017 was 2.1 percent. Therefore, the growth in the actual transaction prices for medicines was less than the growth in overall consumer prices – what the CPI data also showed for 2018.

The large gap between the list price and the transaction price has persisted for many years. For example, list prices grew 13.5 percent in 2014 but net prices only grew 4.3 percent. The persistent gap between list prices and net prices demonstrates that it is not beneficial to focus on list price increases or announcements. Instead, it is more productive to focus on reforming the ineffective pricing structure.

A good place to start is the current rebating practices. The rebating practices explain the otherwise inconsistent result of fast-growing list prices but flat to declining net prices – net prices are flat to declining because the rebates paid by manufacturers to PBMs have been growing faster than the rising list prices. According to the Drug Channels Institute, between 2012 and 2017 the rebates and fees paid by biopharmaceutical manufacturers more than doubled from $74 billion to $153 billion.

The problems arise because patients generally don’t benefit from this arrangement and the disincentives lead to a less effective pharmaceutical market. Drastically reforming the rebating process will make pharmaceutical prices more transparent and understandable for patients and payers alike, improving both affordability and the incentive to innovate.

In contrast, policies like drug importation and the IPI will not achieve their purported goals because, as the CPI data demonstrate, pharmaceutical prices are rising in tandem with all other health care costs. Health care quality will decline, however, as patients’ access to their medicines will be restricted. Future innovations will also be threatened harming the potential for tomorrow’s cures.

Paradoxically, by reducing access to innovative medicines, these policies may cause patients to rely on even more expensive treatment options (such as greater use of hospital services) that could actually worsen the affordability problem while decreasing overall quality of care.

The ultimate goal of health care reform should be to improve health care’s quality, affordability, and accessibility. The current policy focus will achieve none of these goals.

Instead of listening to the misinformation provided by the bizarre pharmaceutical pricing system, policymakers should focus on eliminating the inefficiencies that plague the broader health care system. Such reforms offer the best hope to sustainably achieve the goals of better treatment options, for more people, at better prices.

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Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.