High prices for prescription drugs will almost certainly be one of the hottest issues in this fall's elections. The campaign commercials decrying high drug costs are already on the air.
The Progressive Policy Institute (PPI) has long argued that the best solution for patients facing high prescription drug costs is insurance coverage. That applies to young people without adequate coverage as well as senior citizens in Medicare, which doesn't cover most drugs in its traditional fee-for-service program. Coverage in a group insurance plan gives patients strength in numbers; the insurer becomes their bargaining agent, protecting them from high retail prices at the pharmacy.
Insurance companies and pharmaceutical benefit managers (PBMs) have been very innovative in finding ways to control drug costs on behalf of their enrollees. They have set up mail-order options, developed formulary lists of preferred drugs available at discounts from drug companies, and structured their copayments so that patients pay less for generic versions of important life-saving drugs and more for quality-of-life drugs that remedy hair loss, enhance sexual function, relieve seasonal allergy symptoms, and so on.
But controlling prescription costs remains difficult. Unlike invasive health services such as surgery, the potential demand for pharmaceuticals is virtually unlimited, especially now that advertising directly to consumers on television and in magazines has become pervasive. Furthermore, insurance companies and HMOs want patients to fill expensive prescriptions if taking their medicine properly will help keep them out of even-more-expensive hospitals. So health plans hesitate to require high copayments that would discourage their enrollees from using prescription medicines for fear of throwing the baby out with the bathwater.
High prescription drug costs have created a political storm that will probably not be fully resolved for years. In the meantime, however, Congress and the Administration should consider two relatively simple ideas that could significantly lower prescription drug prices, reduce costs for health plans and their enrollees, and make an affordable drug benefit in Medicare more feasible:
Repeal the "best price" rule in the Medicaid drug rebate law. The best price rule says that whenever a drug company gives a deeper discount to a private insurance plan or PBM than the discount granted to state Medicaid programs by statute, it must also give that best price to Medicaid. That sounds good on the surface, but the rule probably doesn't save the government much money, and it severely limits the discounts private insurers, PBMs, and other private purchasers of drugs (including hospitals, clinics, and chain pharmacies in some cases) can negotiate with drug companies. Here's why: If health plans or PBMs try to bargain for a better price than the percentage discount Medicaid gets by law, the drug companies would be forced to give that price to the 50 states' Medicaid programs as well. Naturally, the drug companies refuse that bargain. Therefore, the best price clause, originally intended to reduce costs, has actually created a price floor for many drugs. It is a good example of price controls failing at their original purpose while also causing unintended side effects that hurt all consumers.
This backgrounder attempts to launch a larger debate on these ideas for reducing drug costs. Neither idea is new, but both are rarely mentioned in the current prescription drug debate in Washington. An online forum for further discussion on the topic is available through the PPI's new Web site at www.PPIonline.org.
The FDA regulates which drugs are safe enough for over-the-counter availability in stores, and which must be dispensed by a pharmacist according to a doctor's prescription. Generally, drugs with dangerous side effects or for conditions that are difficult to self diagnose and treat are limited to prescription status. Drugs like aspirin and ibuprofen for relief of pain and inflammation, which are easier to use correctly and have milder side effects, are available in over the counter.
Unfortunately, just when the Internet and self-help publications are making real inroads in helping patients understand their ailments and the recommended treatments, the conversion of safe drugs from prescription to over-the-counter status has failed to keep pace.
The reason that safe drugs are not being made available over the counter is simple: With the advent of direct advertising for prescription drugs, drug companies can make higher profits keeping even safe and easy-to-use drugs under prescription status, rather than making them available over the counter. Only drug companies can petition the FDA to make the switch. With higher profits available under prescription status, no petitions are made and the drugs are not switched.
Take, for example, the new nonsedating antihistamines that treat seasonal allergy symptoms, like Claritin, Allegra, or Zyrtec. Those products are generally regarded as safe and effective, and they treat an easy-to-diagnose condition. Furthermore, they have fewer side effects than the antihistamines currently available over the counter. The old antihistamines cause drowsiness, and are implicated each year in accidents that the use of a nonsedating drug might have prevented.
Here's how drug companies make higher profits from nonsedating antihistamines as prescription drugs. Advertising directly to patients, which was previously done only for over-the-counter drugs, is now the key to expanding consumer demand and creating a mass market. Patients, thus informed about the drug, then visit their doctors, receive a prescription, and fill it at a pharmacy or through the mail.
Patients who have insurance never see the total price for the prescription. They pay their physician for the visit (usually a copayment) and they often pay a pharmacy copayment as well. The full price of the drug never enters into their cost-benefit analysis. They choose to take the drug by weighing its benefits against the hassle factor of getting a prescription and filling it, and the cost of paying copayments to the doctor and the pharmacy.
Patients without insurance coverage must pay full price at the pharmacy. But pharmacies, by custom, rarely advertise or even list their prescription drug prices. So patients rarely really know if Allegra would have been cheaper than Claritin, or vice versa. Even if they knew which was less expensive, they would have to go back to the doctor for a new prescription before using the alternative.
In either case, prices are hidden from the consumer. With consumers unconcerned with or unable to compare prices, drug companies can set higher prices than would otherwise be the case. Of course, they sell lower volumes of the drugs as a result, but by using direct advertising to expand demand, they compute that their overall profits are higher with prescription status.
However, the most profitable outcome for drug companies is not necessarily the most efficient result for the economy. Setting prescription status for drugs that don't warrant that designation hurts consumers and hurts the economy. Unneeded physician visits, the additional paperwork associated with prescriptions (both filling them, and organizing insurance coverage for them), and higher than necessary prices are all inefficient if the drug doesn't really require that added effort and expense.
Even consumers with prescription drug coverage would be better off if safe, easy-to-use drugs were available over the counter. With prescription status, they would pay at least $5 or $10 at the doctor and the pharmacy. Under over-the-counter status, it is unclear whether or not the price would be lower or higher than those copayments. The new force of price competition -- with price comparisons now possible right on the store shelf -- could lower the prices of drugs switched to over-the-counter status significantly.
Even if the over-the-counter price was higher than the copayments they otherwise would have paid, however, consumers can take comfort that at least their insurance premiums would be lower. Sometimes people don't worry about their insurance premiums if their employer picks up most of the tab. But that is poor logic -- employers pay insurance premiums for their employees with money that otherwise could be paid to employees in cash. Although it may not seem so in the day-to-day workplace, anything that raises the cost of one part of an employee's compensation package necessarily forces down other elements of employees' compensation. Collectively and individually, consumers would benefit by cutting out the middlemen for prescription drugs that would be safe to purchase over the counter.
Some may worry that drug companies, counting on the higher profits available from prescription status, would suffer if more drugs moved to over-the-counter status. That also is faulty logic. To encourage research, the federal government guarantees patent protections for drugs. That holds whether or not the drugs have prescription status. But the guarantee should not be interpreted as protecting drugs from price comparisons and market forces.
As a matter of good public policy, the FDA should decide based on clinical grounds whether or not drugs should dispensed only by prescription. In general, PPI would argue that the FDA should gradually relax some of its inhibitions about moving safe, easy to use drugs to over-the-counter status as the U.S. health economy becomes more and more driven by patients taking charge of their own health. But at the very least, all stakeholders -- patients, consumer groups, insurance companies, hospitals and clinics, advocacy groups for seniors and disabled people, as well as drug companies -- should be allowed to petition the FDA to switch drugs from prescription to the over-the-counter designation.
Medicaid, the federal/state program that provides health insurance to the very poor, has two ways of getting discounts on the prescription drugs it purchases: first, state Medicaid programs get a percentage discount off the list price of drugs; second, Medicaid programs are entitled to the "best price" that drug companies give other purchasers, if that best price is lower than the percentage discount.
The first discount works fairly well. Since the definition of list prices is sort of loose, many analysts question whether states could get even greater savings just by negotiating directly with drug companies. But in general, the percentage discount system has saved the states' Medicaid programs money.
The second discount -- the best price rule -- probably doesn't save the Medicaid programs much money. Furthermore, the best price rule has a powerful and negative side effect: It dramatically reduces the discounts available to private insurers, HMOs, clinics, chain pharmacies, and other institutions.
Here's why the best price rule fails, how it hurts private purchasers of drugs, and why it keeps prescription prices higher than they would otherwise be:
When a health plan or other private purchaser approaches a drug company for a discount, it has to make a case that the extra volume of drugs that the health plan will purchase will compensate the drug company for the discount it seeks.
Many large purchasers of drugs are in a position to extract large discounts from drug companies. Some purchasers buy a huge amount of drugs. Since many prescription drugs have close substitutes offered by other drug companies (sometimes called "me-too" versions), HMOs and PBMs in particular are able to shift large volumes of drugs from one company to another just by switching the drugs on their preferred list. For example, a PBM could shift large amounts of purchases of Claritin to Allegra or Zyrtec -- the three products are similar in their effects -- if the maker of Claritin refused to grant a hefty discount.
The problem is that the best price rule means that a drug company that grants a deep discount to one purchaser must also give that discount to the Medicaid programs of all 50 states. The upshot, of course, is that drug companies don't give discounts below Medicaid's percentage. Few drug purchasers, even the largest, could switch enough volume to warrant a drug company granting an additional discount to every Medicaid program. To a drug company, it would almost never be advantageous.
The best price clause, originally conceived as a price control to hold down prices, now effectively sets a floor on drug prices, below which they do not fall. That hurts all consumers, and distorts the market balance in favor of drug companies. As a result, health insurers, PBMs, and large pharmacies can't get the discounts that would be available in a freer market, and consumers pay higher prices at the pharmacy and for their health insurance.
Eliminating the best price clause would help consumers, but what about state Medicaid programs? We believe that few states are reaping any significant benefits from the best price clause now, so its repeal would not raise their costs. And certainly states should be given additional freedom to negotiate discounts beyond the percentage discounts required by law. Easing restrictions on formularies and encouraging small states to band together with larger states would also help states get better prices for drugs. The objective of eliminating the best price clause is to allow all purchasers -- public or private -- to get the best discounts possible, without artificial constraints imposed by misguided, if well-meant price controls.
