The House Subcommittee on Health (of the House Energy and Commerce Committee) recently held a hearing titled “Prescription Drug Price Inflation: Are Prices Rising Too Fast?” The purpose of the hearing according to the Subcommittee’s website was to examine recent reports of rapid increases in brand-name prescription drug prices.
Witnesses included: Professor Stephen Schondelmeyer, Pharm.D., Ph.D., Professor and Head, Department of Pharmaceutical Care and Health Systems, University of Minnesota, and Director, PRIME Institute; Rick Smith, Senior Vice President for Policy, Research, and Strategic Planning, PhRMA; Kathleen Stoll, Deputy Executive Director, Families USA; Bonnie Cramer, Board Chair, AARP; and Professor John Vernon, Department of Health Policy and Management, The University of North Carolina at Chapel Hill, and Faculty Research Fellow, the National Bureau of Economic Research (NBER).
House Energy and Commerce Chairman Henry Waxman (D-CA), also provided an opening statement in which he indicated that the “brand-name prescription drug industry raised prices by more than 9% over the last year.” He also praised the health care reform passed by the House, which “closes the Part D donut hole, meaning that seniors will no longer have to stop taking drugs when their coverage runs out.” Interestingly, Chairman Waxman stated that health care reform “will mean billions of dollars in new market opportunities for pharmaceutical manufacturers” which is appropriate because American’s “need a profitable brand-name drug industry in this country to provide scientific breakthroughs that improve healthcare and quality of life for millions.”
Yet he still wonders why drug companies may be increasing prices. Perhaps it is because drug companies are the ones who will have to pay 50% of the cost of reducing this donut hole, while the cost of bringing a drug to market—presently over $1 billion—is only going to increase. Contrary to the Committee’s belief, the written testimony of John Vernon provides a more logical answer.
The Big Picture
We focus on Mr. Vernon’s testimony because he is primarily focused on his economic research regarding the role drug prices play in firm-and industry-level R&D (research and development) investment, and the subsequent rate of pharmaceutical innovation.
He asserts that the rate of pharmaceutical innovation is “of critical importance because considering drug prices in isolation is not useful.” As a result, his testimony first refutes the conclusion drawn by the AARP report for various reasons including the fact that it has not been evaluated and vetted through peer-reviewed evaluation. Additional flaws include:
1) Using wholesale price data, not retail or transaction prices, which are often substantially lower than wholesale prices, because Pharmacy Benefit Managers (PBMs) and insurers negotiate discounts and rebates with manufacturers.
2) Analyzing only branded products, and not considering generic drugs, which are among the lowest prices in the world, and their utilization percentage in the U.S (as AARP reported) has risen from 19% in 1984 to 67% in 2007.
3) The report ignores the fact that 10 of the top 25 branded pharmaceuticals in their study have generic versions currently on the market. Mandatory generic substitution laws in most states implies that the low-cost generic versions of these 10 branded drugs are dispensed to consumers—not the branded versions.
4) Lower prescription drug prices are also often available to U.S. consumers through mail order pharmacies and discount retail pharmacies—a viable cost savings option for consumers that is not reflected in the AARP estimates.
5) Insurance, particularly insurance proposed within the current healthcare reform legislation, results in consumers paying prices well below retail prices.
Instead of using AARP’s methodology, Vernon’s research, which is peer-reviewed, and published in economic journals, measures “drug price trends in the U.S. based on retail prices not wholesale prices. His methodology “also captures the cost savings from generic competition and substitution (since 1995), by using the prescription drug consumer price index (CPI) reported by the U.S. Bureau of Labor Statistics (BLS).
Using this measure, Vernon found that from 2008 to 2009 (through October), “change in prescription drug price inflation rate was approximately half that of the 2008 to 2009 inflation rate for non-prescription drugs and medical supplies (2.5% to 3.18% versus 0.9% to 2.25%).” He concluded from these numbers that such a “small increase in prescription drug prices may reflect broader healthcare-sector market dynamics, and not an isolated increase in prescription drug prices.”
Consequently, he also refuted the claim made that drug companies are increasing prices in “anticipation of forthcoming healthcare reform legislation.” Vernon points out however, that “the relatively low rate of drug price increases in recent years suggests they are not acting very differently.” He also points out that there are more plausible explanations for why small increases in recent years exceed general inflation.
For instance, “increased generic competition and patent challenges have resulted in a compression of the product life cycle for many drugs; thus leading, perhaps, to higher prices.” Vernon also acknowledges that “industry’s productivity in recent years has declined for pharmaceuticals (chemical molecules), which face very intense generic competition at patent expiration, but increased for biologics (biologic molecules), which currently do not face such competition and which also are more costly to develop (for example, because of the higher cost of R&D capital faced by biotech firms).”
Such a shift in productivity “could easily explain recent price increases greater than the overall inflation rate (however small).”
The Trade Off
Vernon’s testimony frames the debate of drug prices by asserting that what must be “considered are the costs and benefits of higher (lower) drug prices, and specifically the economic tradeoff between access to existing medicines and access to future pharmaceutical innovations (through higher levels of R&D).”
In determining this balance he notes that “a new pharmaceutical typically takes 12-15 years to bring to market, and most investigational new drugs/molecules never make it to market.” He further explains that “only about 1 in 5,000 pre-clinical molecules studied ever become FDA-approved new drugs, and of the drugs that do make it to market, only 2 out of every 10 generate returns in excess of average R&D costs.”
Accordingly, Vernon writes that by trying to place indirect price controls on drugs, lower expected net returns for firm shareholders will occur, resulting in a decline “in the rate of pharmaceutical innovation: fewer new drugs will be developed and it will take a longer time to find cures for many diseases, all else considered.” To emphasize these points, Vernon uses his recently published research, in which he estimated “that a new policy that reduces pharmaceutical profit margins in the U.S. to non-U.S. levels will cause firm R&D spending to decline by between 25 and 35 percent, all things considered.”
In another recent study Vernon conducted, he also found that “for every 10% reduction in U.S. drug prices, industry R&D spending will decline by approximately 6%.
As a result, Vernon concluded his remarks by noting that the benefits associated with “lower drug prices in the U.S. will, unequivocally, come at a cost: lower levels of R&D investment and a reduced rate of pharmaceutical innovation.” In response to such a possibility, and “in light of the recent evidence on the significant contributions of pharmaceutical and medical R&D to human health and life expectancies in the U.S.,” Vernon calls for a more careful balance of drug prices.
Otherwise, while regulating prescription drug prices will expand access to medicines already developed (the aforementioned benefits) it will diminish the intended objective of the U.S. patent system, which will reduce the future supply of new drugs. Less innovation and drugs will result in more people experiencing illnesses and diseases that will go untreated, which will ultimately mean more expensive care for patients. As is the case for most “reforms,” Congress is merely looking at the short term costs associated with lowering drug prices, instead of the impact it will have on R&D.
Since the government’s share of R&D is significantly lower than industry, Americans should begin to wonder: by the time everyone is covered under some form of insurance, are there going to be any drugs for us to take?
Resources
Witnesses:
- Professor Stephen Schondelmeyer, Pharm.D., Ph.D., Professor and Head, Department of Pharmaceutical Care and Health Systems, University of Minnesota, and Director, PRIME Institute
- Rick Smith, Senior Vice President for Policy, Research, and Strategic Planning, PhRMA
- Kathleen Stoll, Deputy Executive Director, Families USA
- Bonnie Cramer, Board Chair, AARP
- Professor John Vernon, Department of Health Policy and Management, The University of North Carolina at Chapel Hill, and Faculty Research Fellow, the National Bureau of Economic Research (NBER)
Documents:
- Testimony of Stephen Schondelmeyer
- Testimony of Rick Smith
- Testimony of Kathleen Stoll
- Testimony of Bonnie Cramer
- Testimony of John Vernon
Video