Drug Pricing Proposals Favor Rhetoric Over Reality

Prescription drugs costs are a perennial political piñata, and this cycle is no different. Both presidential candidates are hurling rhetoric about "skyrocketing" and "runaway" drug prices and offering half-baked solutions to address them. The truth is that the best chance in controlling drug prices rests in leveraging a powerful mechanism that already exists - market competition. Here's why the candidates' proposals to negotiate Medicare drug prices, and in the case of Hillary Clinton, demand Medicaid-style rebates in Medicare, are more rhetoric than real solutions.

To begin, these proposals are hardly what the public wants. In recent polling the American Action Forum found that the public believes that private insurers are better than the federal government at (a) providing quality health care (57 percent versus 26 percent), (b) delivering affordable health care (48 percent to 39 percent), and (c) dealing with serious health issues (49 to 34). That's hardly a rousing call for federal intervention to negotiate drug prices.

These proposals also won't work. While it might appear that an administration could leverage millions of Medicare beneficiaries to extract lower prices, the reality is that private drug plans have already done this, and quite successfully. Medicare Part D plans currently compete to achieve lower costs and deliver superior customer service. This is why the Medicare prescription drug plan has come in at less than half of its original projected cost and still receives beneficiary satisfaction ratings of 85 percent or more. Moreover, private plans can use a formulary to reward low-priced drugs, while the government cannot. In effect, the private sector prescription drug plans already have all the market-based leverage available.

Of course, there are also lots of ways that the government could make things worse. Some argue for seemingly mild "transparency" in the private negotiations already occurring within the Medicare drug program. Unfortunately, the Congressional Budget Office (CBO) concluded this would undercut the incentive to negotiate vigorously and raise the overall cost of the program. A stiffer policy would be to impose mandatory Medicaid-style rebates in the low income Medicare drug program. But "rebates" amount to an additional cost imposed on manufacturers. Those costs must come from somewhere, and the likely answer is in the form of higher prices outside the Medicare program.

The most dramatic thing the government could do is to impose price controls. For that reason, one usually suspects that a call for government negotiation is really just a pledge for price-fixing in disguise. Price-fixing never works, and price-fixing in one sub-market like Medicare is usually even more damaging to that market.

Finally, these proposals beg the question: what problem is being solved? Yes, there are years when drug spending rises rapidly - the Clinton campaign focuses on 2014 when the National Health Expenditure data show that spending rose at an annual rate of 12.2 percent. But looking over longer periods shows no such pattern. From 1960 to 2014, drug spending and the remainder of national health spending grew at exactly the same 9.1 percent annual rate. More recently, in the decade ending in 2014, the data show that non-drug spending grew 4.8 percent annually, while drug spending grew at a 4.4 percent rate.

It turns out that the secret to controlling drug prices is negotiation - private negotiation. The kind of competitive bargaining that prevails between manufacturers and their customers all through the economy; that dictates prices between drug manufacturers and their myriad purchasers, especially pharmacy benefit managers (PBMs) negotiating on behalf of employers and health plans; and that was built into the successful Medicare prescription drug program. Politicians may promise to control drug prices but market forces already do.