Blog Post

The issue of U.S. prescription drug prices

What’s at stake: Americans spend a lot on prescription drugs, more per capita than any other country by far. Individual cases of sharp price increases - like the case of the EpiPen - have recently driven attention to this issue. We report review contributions on this topic.

By: Date: August 24, 2017 Topic: Innovation & Competition Policy

The Hutchins Center and Center on Health Policy at Brookings has a good explainer of the facts. In 2015, the U.S. spent $325 billion on retail prescription drugs, equivalent to 1.8% of GDP, or 10% of total national health expenditures. Spending has grown considerably since the 1980s (Figure 1) and the U.S. spends substantially more per capita than other countries. According to the OECD, the U.S. spent $1,112 on retail pharmaceuticals per person in 2014, while the next highest spender was Canada, at $772, followed by Germany at $741 and France at $659 (Figure 2).

Figure 1

Figure 2

Timothy Taylor at Conversable Economist quotes a study by Dabora, Turaga, and Schulman in the Journal of the American Medical Association, who provide a useful diagram summarizing the US prescription drug market (Figure 3). They notice that there is a fairly high amount of concentration at a number of places in this market schematic. The US distributor market is highly consolidated, with 3 companies accounting for more than 85% of market share: AmerisourceBergen, Cardinal Health, and McKesson. The retail pharmacy market can be divided into 3 major categories: chain pharmacies and mass merchants with pharmacies, independent pharmacies, and mail-order pharmacies. The 15 largest firms, including CVS, Walgreens, Express Scripts, and Walmart, generated more than $270 billion in revenue in 2015 through retail and mail-order pharmacy, representing approximately 74% of retail prescription revenues.

Figure 3

In another paper published by the Journal of the American Medical Association, Kesselheim, Avorn, and Sarpatwari show that list prices for the top 20 highest-revenue-grossing drugs are much higher in the US than the United Kingdom, and even post-rebate prices are higher in the US than in Canada, France, and Germany (Table 1). They argue that the higher per capita prescription drug spending in the US is largely driven by brand-name drug prices that have been increasing in recent years at rates far beyond the consumer price index. They argue that the most important factor allowing manufacturers to set high drug prices is market exclusivity, protected by monopoly rights awarded upon Food and Drug Administration approval and by patents. The availability of generic drugs after this exclusivity period is the main means of reducing prices in the US, but access to them may be delayed by numerous business and legal strategies. Although prices are often justified by the high cost of drug development, Kesselheim et al. argue that there is no evidence of an association between R&D costs and prices and rather prescription drugs are priced primarily on the basis of what the market will bear.

At the heart of the pricing question there is tension between two competing aims: on one hand, giving pharmaceutical companies financial incentives to innovate and produce new drugs; on the other, keeping drug prices as low as possible. Timothy Taylor points out five takeaways from the literature on high prices. First, Prices are rising for brand-name drugs, and competition between brand-name drugs doesn’t seem to bring down prices. Second, while competition from generic drugs often does help to bring down prices, that competition faces a number of limits, particularly when a generic for a relatively rare condition has a monopoly. Third, the big government purchasers of drugs, Medicare and Medicaid face legislative limits in encouraging or requiring the purchase of cheaper drugs or generic drugs. Fourth, prescription benefit managers are typically paid according to the total revenues of the drugs they manage, and thus lack a strong incentive to negotiate for lower prices. Fifth, state-level laws also tend to protect brand-name drugs by hindering competition from generics and lastly, large self-insured employers have traditionally felt that the potential cost savings from negotiating hard over drug prices, or pushing for alternative and cheaper drugs, wasn’t worth the risk of a bad public relations episode.

Gilbert Berdine at the Mises Institute argues that the “outrageous” drug prices that are often in the news should not be seen as an example of failure by free-market capitalism, but rather as an example of how anticompetitive government regulations break functioning markets in favor of rent seeking corporations. Monopoly privilege enables pricing that extracts the last bit of disposable income from customers, but monopoly cannot, by itself, extract more from a customer than the customer can pay. The final policy element necessary for the outrageous prices is public financing, intended as the the fact that the cost of the drug is paid the public. With public financing, pharmaceutical companies stop making pricing decisions based on the economics of affordability and pursue rent seeking behaviors, and rent seekers try to acquire political privilege rather than compete by innovation.

Doug Bandow at the Cato Institute laments that the comparison to other countries is misleading because those countries benefit from spillovers from American research. He argues that if Congress imposed similar controls in America, many promising new drugs simply wouldn’t be developed because there is no foreign market upon which the U.S. could free ride. The congressional debate so far has focused on adding a drug benefit to Medicare to assist the elderly. But both houses of Congress have also passed bills, set to go to a joint conference committee, to allow importation of U.S. drugs from other countries. This “reimportation” strategy is superficially appealing, Bandow argues, but what its supporters really desire is price controls and their legislation would effectively subject U.S. firms to foreign restrictions.

Patent monopolies have long been used as a mechanism for financing innovation and research, but they can also provide incentives for a wide-range of rent-seeking behaviors. A 2015 report by the Centre for Economic Policy Research assessed the cost associated with one form of rent-seeking, the mismarketing of drugs. This can occur when a drug company seeks narrow Food and Drug Administration (FDA) approval of a drug then promotes its use for other purposes. In addition, companies may conceal evidence that their drugs are less effective than claimed or possibly even harmful. The authors of the report find that in the case of just five drugs, this form of rent-seeking has resulted in cumulative costs of morbidity and mortality of $382 billion.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint. Anyone is free to republish and/or quote this post without prior consent. Please provide a full reference, clearly stating Bruegel and the relevant author as the source, and include a prominent hyperlink to the original post.

View comments
Read about event More on this topic

Past Event

Past Event

Perils and potential: China-US-EU trade relations

We are hosting a number of Chinese and EU experts to discuss trade relations between the three forces.

Speakers: Miguel Ceballos Barón, Alicia García-Herrero, Wei Jianguo, André Sapir, Herman Van Rompuy, Zhang Weiwei, Guntram B. Wolff, Zhou Xiaochuan, Zhang Yansheng and Ruan Zongze Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: September 17, 2018
Read article More by this author

Opinion

US-China trade war: What’s in it for Europe?

To help evaluate whether the market response is warranted or exaggerated, the author measured the trade impact of additional import tariffs based on standard economic theory, namely two key parameters—the tariff pass-through rate and the price elasticity of demand. The end of multilateralism seems clear, at least for trade.

By: Alicia García-Herrero Topic: European Macroeconomics & Governance, Global Economics & Governance Date: August 23, 2018
Read article Download PDF More on this topic

Policy Contribution

The macroeconomic implications of healthcare

Health-care systems play a crucial role in supporting human health. They also have major macroeconomic implications, an aspect that is not always properly acknowledged. Using a standard method to measure efficiency, data envelopment analysis (DEA), the authors find significant differences between countries. This finding calls for policy responses.

By: Zsolt Darvas, Nicolas Moës, Yana Myachenkova and David Pichler Topic: European Macroeconomics & Governance Date: August 23, 2018
Read article More on this topic More by this author

Opinion

Is Europe America’s Friend or Foe?

Since Donald Trump took office as US president, a new cottage industry in rational theories of his seemingly irrational behavior has developed. On one issue, however, no amount of theorizing has made sense of Trump: his treatment of America's oldest and most reliable ally.

By: Jean Pisani-Ferry Topic: Global Economics & Governance Date: July 30, 2018
Read about event More on this topic

Past Event

Past Event

Should we revisit the patent system for pharmaceutical products?

Analysis of the legal issues with the current IP system for regulated market authorisations for pharmaceutical products, as well as its economic effects.

Speakers: Arno Hartmann, Christian Jervelund, Margaret K. Kyle, Roberto Romandini, Bruno van Pottelsberghe, Amaryllis Verhoeven and Reinhilde Veugelers Topic: Innovation & Competition Policy Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: July 9, 2018
Read article More on this topic More by this author

Opinion

Ubu ou Machiavel?

L'administration Trump veut imposer une approche transactionnelle des relations économiques gouvernée par le rapport de force bilatéral en lieu et place du contrat multilatéral. Un défi d'une ampleur inédite pour l'Europe.

By: Jean Pisani-Ferry Topic: Global Economics & Governance Date: July 6, 2018
Read about event More on this topic

Past Event

Past Event

Trade war trinity: analysis of global consequences

Analysis of the long-term impact of the trade war and its three key players: EU, US, and China.

Speakers: Alicia García-Herrero, Ignasi Guardans and Carl B Hamilton Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: June 28, 2018
Read about event More on this topic

Past Event

Past Event

State of transatlantic trade relations

A conversation on transatlantic relations with Michael Froman.

Speakers: Michael Froman, André Sapir and Guntram B. Wolff Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: June 21, 2018
Read article More on this topic

Blog Post

The G7 is dead, long live the G7

The summit in Charlevoix left behind a Group of Seven in complete disarray. The authors think that the G-group, in its current formulation, no longer has a reason to exist, and it should be replaced with a more representative group of countries. In this fast-changing world, is the G7 only a relic of the past?

By: Jim O‘Neill and Alessio Terzi Topic: Global Economics & Governance Date: June 13, 2018
Read article More on this topic

Blog Post

Trade wars: Just how exposed are EU Member States and industries to the US market?

This blog focuses on how a more restricted access to US final demand could affect EU economies and sectors, by measuring their share of value-added absorbed in the US. The exposure of the EU as a whole in value-added terms is lower compared to that suggested by gross exports to GDP and, overall, gross exports misconstrue the picture of spill-overs through trade linkages. For individual countries, the degree to which gross exports overestimate or underestimate exposure is relatively small, with the important exception of Ireland. However, gross exports significantly overestimate the exposure of EU manufacturing to US final demand.

By: Francesco Chiacchio and Konstantinos Efstathiou Topic: Global Economics & Governance Date: June 1, 2018
Read article

Blog Post

The Iran nuclear deal crisis: Lessons from the 1982 transatlantic dispute over the Siberian gas pipeline

A US president taking a unilateral decision that affects European interests; European policymakers outraged at US interference in their affairs; European businesses fearing losing access to some international markets – sound familiar? This is the story of a crisis that took place in 1982 regarding the Siberian gas pipeline project; its outcome should inspire optimism in the Europeans’ capacity to counteract Donald Trump’s decision to withdraw the US from the Iranian nuclear deal.

By: Emmanuel Mourlon-Druol and Angela Romano Topic: Energy & Climate, European Macroeconomics & Governance Date: May 23, 2018
Read article More by this author

Blog Post

The EU should not sing to Trump’s tune on trade

The US threat of trade sanctions has put the EU in a difficult position. Nevertheless, the EU must respond decisively – not just to protect its own interests but those of the multilateral trading system, and to demonstrate to the US and other partners that trade is not a zero-sum game.

By: Maria Demertzis Topic: European Macroeconomics & Governance, Global Economics & Governance Date: May 17, 2018
Load more posts