The Low Standing of High-Priced Drugs
What does the EpiPen pricing scandal tell us about the cost of prescription drugs in the United States?
At first glance, EpiPens seem ordinary, verging on dull. While the syringe of epinephrine can save one’s life in the event of a severe allergic reaction to peanuts, shellfish or other allergens, its portability and unimpressive appearance make it easy to forget. Nevertheless, the humble medical device took center stage in this week’s news cycle, as after years of price increases, the cost of a two-pack of EpiPens has increased over 500 percent. Public reaction was swift and strong. Mylan, the pharmaceutical company manufacturing the device, faced accusations of price gouging from EpiPen users and public officials alike. Legal consequences are unlikely; price gouging laws have never been applied outside a natural disaster or emergency (such as food stockpiles for hurricanes). Bowing to public pressure, the company announced increases in its EpiPen assistance program, which will now give a discount to families making up to 400% of the poverty level (just over $97,000 per year.) The EpiPen illustrates the wider issue of drug prices in the United States. Because the United States has a largely commercial, private healthcare system, no single entity can accrue the bargaining power needed to force the drugs’ owners to lower their prices. Consequently, prescription drug prices dwarf their counterparts overseas. The structure of the American healthcare system will make it difficult to address the problem.
From a classical economic standpoint, drug prices should be much lower in the United States than the rest of the world. This is because the federal government provides enormous incentives for companies to research and develop new treatments, pouring billions of dollars into tax credits for research and development every year. Drugs are relatively inexpensive to make once the right formula has been discovered, so public investment in research should theoretically inspire companies to reduce costs. However, this has not been the case. Last year, average drug prices grew by more than 11%, and nearly a quarter of Americans report struggling to afford needed medication. The problem is especially apparent in the cases of lifesaving cancer and hepatitis drugs, the costs of which grew 30% last year. Because these treatments are new and still protected by patent law, they are less likely to face competition from generic drugs using the same formula. Consequently, patients have little choice but to pay steep prices. In response to criticism, drug companies have frequently touted the deep discounts they offer for patients who might not otherwise be able to afford their products. However, a Bloomberg Businessweek analysis found that even after applying these discounts, the top eight prescription drugs in the United States still cost hundreds of dollars more per month than in countries like Germany and Canada. Mylan’s new EpiPen discount.
The structure of the American healthcare system makes it profoundly difficult for the federal government to itself reduce drug prices. Because of patent laws, drug companies often enjoy monopolies on their premium products. The EpiPen‘s main competitors have been recalled over quality concerns, giving Mylan carte blanche to set high prices without fear of competition. In most of the developed world, governments have the power to fight back against high drug pricing. When it comes to medical services, Germany, Canada, the United Kingdom and other developed countries are what economists call monopsonies. While a monopoly exists when there is only one seller, monopsonies come about when there is only one buyer. Because most developed countries have nationalized healthcare, government agencies like Britain’s National Health Service and Germany’s Federal Joint Committee can negotiate from a position of strength. If drug companies do not reduce prices, governments will not cover their expensive products, rendering them unprofitable. Eventually, the two sides are forced into a Nash equilibrium, where each side gets at least some of what it wants. The national health insurance agencies get quality treatments for their taxpayers, and drug companies are able to recoup the costs of developing their drugs. In a mostly private system like the United States, on the other hand, such equilibrium is almost impossible, as monopolies are not counterbalanced by monopsonies. If a firm like United Healthcare drops coverage of a costly cancer treatment, the patients who need it will migrate to another insurance network, taking their dollars with them. Consequently, drug makers know that insurers are reluctant to pressure them to cut costs. Pharmaceutical executives like Mylan’s Heather Bresch or “pharma bro” Martin Shkreli may face public condemnation, but they still have the upper hand in negotiations.
But the passage of time may not favor the American pharmaceutical industry’s bottom line, as the healthcare system is changing. As the population continues to age, more and more Americans get their health insurance through Medicare. Consequently, the federal government’s role in health insurance is set to expand. If the government gains more control of the market, their negotiating position will be considerably strengthened. The future of drug pricing and Medicare has been illuminated by the EpiPen debacle; Senators Susan Collins (R-ME) and Claire McCaskill (D-MO), the chair and ranking member of the Senate Committee on Aging, respectively, have pressured Mylan to issue a written explanation for their price hikes, and could possibly summon top executives to testify. These long-term trends do not necessarily spell doom for firms like Mylan. They still have a powerful lobbying presence in Washington, and contribute more than $129 million per year to political campaigns. Mylan CEO Heather Bresch is the daughter of Senator Joe Manchin (D-W.Va), and the revolving door means that many former federal officials occupy corner offices in the world of pharmaceuticals. The battle over pharmaceutical pricing may shift in favor of the consumer over time, but the issue is unlikely to be settled any time soon.
Disclosure: The author carries, and has previously used, an EpiPen.
