It’s Time to Confront the Drug Makers

Americans are slowly waking up to the oppressive influence of the pharmaceutical industry on out-of-control drug prices. So why aren’t we doing more to stop them?

By Alan Sager

Tagged Affordable Care ActPharmaceutical Industry

This spring, Vermont became the first state to require that manufacturers of certain high-price drugs justify substantial price increases. California’s Assembly and Senate have more recently passed bills requiring advance notice and justification. And at least eight other states are considering laws to demand that drug makers disclose their research and development costs. President Obama has sought similar authority from Congress. More forcefully, Californians will vote in November on initiative Proposition 61 that would require Medicaid and other state programs to pay drug prices won by the Veterans Administration. And, finally, the President has asked Congress to allow Medicare to directly negotiate prices with drug makers.

Some will say that these signal long overdue action on drug prices—the glass is half-full. Others will conclude that these efforts, though the best that’s politically feasible today, are mainly symbolic and incoherent responses (the Vermont bill, for instance, would affect no more than 15 drugs) and doomed to fail—the glass is 95 percent empty. Sadly, the second view is more accurate. Most politicians want to do enough to look good to voters, but not enough to actually hurt drug manufacturers.

Why Now?

This outburst of law, bill filings, and rhetoric on drug prices has four main roots. Extraordinarily high prices for new drugs—many having little clinical value—and dramatic price hikes on old drugs—even generics—are the most visible and emotionally resonant. Some increases have been particularly infuriating and have caused widespread public uproar, such as Martin Shkreli’s 2015 boost of the price of Daraprim, an anti-parasitic generic, from $13.50 to $750 per pill—one that’s available for $0.66 in the U.K. Gilead’s $84,000 price for a 12-week treatment of Sovaldi for hepatitis C upset patients after some insurers and Medicaid programs said they would not pay for the drug until clinical need became urgent.

The second root is the rising burden of drug costs on Americans’ insurance premiums and taxes. In 2015, after two years of double-digit increases, prescription drug costs reached $457 billion, or 16.7 percent of personal health care spending—which is enough to buy some 45 nuclear-powered aircraft carriers yearly (the navy operates about a dozen now). Another comparison: 2015’s drug spending was three-fourths as great as total spending on public K-12 education in the United States. Drug spending will overtake K-12 spending in 2023 at current and projected rates of increase.

This recent jump in drug costs was not expected. After quadrupling from 1994 to 2004, drug spending had risen very slowly from 2004 to 2013, owing to a combination of drugs going off patent and the introduction of relatively few very costly blockbuster drugs. U.S. drug spending has now resumed its growth due to a series of new blockbusters, sudden price increases on many existing drugs, and the recent failure of the main remedies for addressing high cost—which include raising patients’ out-of-pocket payments, pushing generics, and employing pharmacy benefits managers to negotiate prices.

The third root is that rising prices and spending have led employers and insurers to demand that patients begin to pay for a growing proportion of their medications out-of-pocket (OOP). Starting in the 1970s, health maintenance organizations popularized low co-payments for their members’ prescription drugs. Rising drug costs have led insurers to go back to imposing higher deductibles, higher dollar co-payments per prescription, and even very high co-insurance—a percentage of the total price of the drug. Insurers rationalize these by claiming they would impel notional consumers to shop by price, quality, and need. But the absence of valid or usable information about either quality or need makes this a hollow claim. Instead, the real motivation for imposing higher OOPs has been a desire to cut the burden on employers—by shifting some costs to patients and by cutting use of medications. Imposing higher OOPs is particularly detrimental to poor people, who cut drug use more sharply when faced with high OOPs.

The fourth root of recent actions on drug prices is the growing knowledge that Americans pay more for medications than do citizens of any other rich democracy. Only 4.4 percent of the world’s people, Americans provide drug manufacturers with 40 percent of their worldwide revenue, due to a combination of high prices and high usage rates. U.S. prices for brand-name drugs in 2012 averaged triple those of six other rich democracies tracked by the Canadian regulatory agency. We subsidize the starving Swiss. Total per-person spending here was two-thirds greater than in those six nations.

Manifestations of Drug Makers’ Political Power

These conditions, and the lackluster response they have elicited from politicians, are a manifestation of the oppressive influence of drug manufacturers. There are four points to keep in mind here. First, drug makers fight fiercely to protect themselves; they are likely to spend at least $100 million trying to defeat California’s Proposition 61 initiative this November. Second, at drug makers’ behest, the United States is one of only two nations permitting direct-to-patient drug advertising—advertising that boosts sales. Third, the 2010 Affordable Care Act (ACA) did not even try to limit drug prices, though it did attempt to address the cost of hospitals and doctors. Finally, in 2003, fearing that soaring drug costs would lead to federal or state price regulation, drug makers helped shape the new Medicare prescription drug benefit (Part D) to make sure it would subsidize meds for the elderly and disabled, thereby pre-empting pressure for price controls. Although approved by a Republican Congress and President, it was financed entirely through borrowed money and was made costlier by prohibiting Congress from regulating drug prices (though Congress has, since the Reagan era, regulated the prices Medicare pays to hospitals, doctors, and nursing homes). It also effectively prohibited importing low-price drugs from Canada. And it boosted drug makers’ revenues by shifting drug coverage for six million Medicaid patients to Medicare plans that pay higher prices.

What Empowers Drug Makers to Impose Such Prices?

Unfortunately, those selling drugs in the United States are far more powerful and influential than those who would constrain their prices or profits. Their political power and influence have five main sources. The first has to do with money; the others with the power of ideas.

Americans provide drug manufacturers with 40 percent of their worldwide revenue.

This year, three of the six most profitable U.S. industries are generic meds, big pharma,and biotech. Profits finance substantial campaign contributions, lobbying, and also grants to sustain allied Astroturf grassroots patient organizations. They also finance data gathering and analysis to help drug makers fight prolonged battles with FDA regulators to win approval for meds that sometimes prove unsafe, and sometimes rely on surrogate end-points and other uncertain measures of efficacy. Profits stem from a combination of patent protection, weak competition within many classes of drugs, mergers and acquisitions among drug makers, successful marketing and advertising, and the stark failure of political efforts to limit prices.

A second source of power for drug makers is the gratitude from patients and families who benefit from prolonged lives and reduced disability and suffering thanks to these medications.

Third is ideology, both economic—the praise of drug makers by well-meaning free-market thinkers who suppose that high drug maker profits manifest efficient satisfaction of human demand—and political—the creative legal doctrine of commercial free speech that liberates drug makers to market their meds even for off-label uses for which neither safety nor efficacy have been directly demonstrated. Americans are susceptible to using meds whose benefits are marginal, even when their prices are high, because we exaggerate those benefits and don’t grasp just what we are giving up in return.

A fourth is the success of drug makers’ argument that high U.S. prices are needed to offset the low prices imposed by regulators in other nations, and thereby to generate the profits that finance the purportedly disproportionately innovative U.S. drug industry. (It is not clear why U.S. drug makers are imagined to be more innovative, since the world’s drug makers engage in equal opportunity pillaging and plundering of U.S. patients. The nationality of drug research is itself cloudy.)

And the fifth is drug makers’ argument that they need high prices to cover the allegedly high cost of research and of bringing a successful new medication to market. (It is nonsense to assert that drug makers set their prices to cover their costs. Businesses freely concede that their duty to their stockholders is to maximize profits, so they set prices accordingly. Bills that demand that drug makers itemize their costs are therefore nearly meaningless—except as a means of shaming drug makers.)

Drug makers like to claim they won’t undertake risky research without the big financial rewards that come from high prices. The promise of innovation persuades many Americans that high drug prices are warranted. An emotional and intemperate metaphoric formulation of the drug makers’ implicit position might be “give us all your money or you’ll die.”

But high profits don’t finance research. Instead, profits are what’s left after paying all costs, including those of research. In 2015, the five largest U.S. drug makers’ profits averaged more than one-third higher than their R&D costs.

In the end, drug makers in the United States simply impose high prices because they can. They can because they operate under conditions approaching anarchy. Anarchy is what occurs in the absence of either a vigorous competitive free market for drug-making or competent government price regulation.

Why Are Opponents of High U.S. Drug Prices So Weak? 

It is not unusual for narrow, wealthy political interests to trump broad, diffuse public interests. This is nowhere more evident than in the case of pharmaceuticals.

Americans have long and wrongly imagined that we can have all the health care—including drugs—that we want or might benefit from—without having to pay for it. We suppose there are no trade-offs, no opportunity costs. This belief is much weaker in other rich democracies. In the United States, it was unintentionally fostered by employers’ provision of health insurance through the job. Workers, therefore, imagined that this insurance is a warm personal gift from the employer. Roughly one-half of all Americans have health insurance through their job, and one-third of all health dollars flow through the wide invisible underground aqueducts of private insurance. This belief has undermined pressure to establish budgets for drug purchasing.

In other nations, on the other hand, it is clear to everyone that higher health spending means higher income, sales, or payroll taxes. Most other nations, therefore, establish either a single payer or a coalition of all payers to set an annual cap on health spending. The money is clearly finite; the challenge is how to spend it so that it does as much good as possible. It is equally clear to politicians, employers, unions, and voters that higher health spending means either reduced spending on education and job training, environment, infrastructure, defense, criminal justice, and everything else anyone might care about—or lower take-home pay. The neurons are connected.

One reason Americans disdain such budgets is our inbred preference for market remedies whenever possible. Unfortunately, functioning free markets are simply unattainable in health care, and the drug sector is no exception. That’s because not one of the six requirements for a competitive free market is met, or can be met, in the realm of pharmaceuticals. A market of small buyers and sellers doesn’t make the price; drug makers with patents or market power are dominant. Price competition among generics, biosimilars, and me-too brand name drugs does little to cut U.S. drug spending. Sovereign consumers don’t make decisions; they rely on physicians who are often swayed by drug makers’ marketing or detailers. Entry of new competitors can be hard; drug makers merge with competitors or acquire them to reduce competition; big vertically-integrated drug makers often finance smaller ones or buy up their discoveries. Information is asymmetric; patients lack it and doctors and drug makers have lots of it. Subtly, but importantly, the price of drugs doesn’t remotely track the cost of production. And the injunction that buyers should beware and mistrustful carries little weight in the absence of good information about which drugs are needed or valuable.

In the background of all this is Americans’ general mistrust of government and our fear that government might deny us access to a potentially beneficial drug or medical treatment. This is reinforced by a widespread fear that effective limits on drug prices will impair research, eventually causing us to die earlier than we otherwise would have.

Doing Better
The word “blockbuster” originally meant a very destructive bomb, not a lucrative market.

A public that is angry about high drug prices and rising out-of-pocket costs, but is generally unwilling to support or fight for concerted political action to lower prices, is forced to settle for the best laws politicians are willing and able to pass. These include demands for disclosure of costs or of plans to boost prices. All these make for symbolic or feel-good or toothless legislation that drug makers will find easy to game, swat away, or water down by full-court presses on regulators. So Americans become even more cynical about politics and about governments’ ability to protect us.

In today’s world, the bill that can pass won’t work, and the bill that would work couldn’t pass—even if we could figure out what that bill might be. Since we can’t rely on a competent competitive free market, we must rely on changing the politics and on making government competent to act in the public interest to ensure affordable and effective medications. How could that possibly happen?

Practical Progress That’s Politically Powerful

Other nations have been able to regulate drug prices, in part, because they have been able to count on Americans to finance a wildly disproportionate share of the world’s innovative research. The United States lacks that luxury; so we must take on the joint tasks of cutting our prices and making sure to continue promoting innovation. A key tactic is to cease relying on sky-high pill prices to pay the costs of successful research or deserved profits.

One mechanism for doing this would be for government to finance innovation by abolishing, or limiting, patents and, instead, awarding prizes in fair proportion to new drugs’ value. (A $100 billion prize for a safe and effective drug for Alzheimer’s would be conservative. The prize would be modulated over time as evidence grows on a new med’s efficacy, safety, and the averted costs of other treatments.) In return for the prize, a public body would license the innovation for production and sale at low prices—adequate to cover costs of manufacturing and distribution. The prize mechanism has been advocated by Sen. Sanders, who has reintroduced the Medical Innovation Prize Fund Act on several occasions, as well as economist Joseph Stiglitz.

An added benefit is that wasteful investment in copy-cat or me-too drugs would plummet as attention shifted to highly-prized innovation. To boost competition and to further support innovation, governments might publicly finance the fixed costs of small and mid-size drug research laboratories.

The prizes should be financed primarily by a pact among rich nations and secondarily by middle-income nations. Poor nations might pay prices that cover part or all of the cost of manufacturing. Nations lacking foreign exchange would simply receive meds as donations. Low market prices would deter diversion of donated meds for sale in wealthy nations.

This approach promotes innovation, while making its successes affordable for all. Because it excises research costs and profits from the price of the pill, the price need cover only the low incremental cost of producing most meds. That low cost means that prescription drugs constitute the best opportunity in the health care sector to win equity for all people.

Efforts to make existing drugs affordable should complement prizes that lower prices for new drugs. Existing law allows marching in on patents for unreasonably-priced drugs developed with public funds, as activist Jamie Love has proposed, or using eminent domain to take patents in exchange for reasonable compensation, an idea raised by Professors Aaron Kesselheim and Jerry Avorn at Harvard.

It is easy to describe, in the abstract, mechanisms and methods that would assure access, spur innovation, limit prices, and constrain total spending. It is harder to tell the story of successfully enacting those methods into law. But the story could go something like this: American patients, employers, and taxpayers gradually become unable and unwilling to finance business as usual in health care, and meds in particular. Hopes for cures through drug innovation turn to tragedy as increasing numbers of Americans are unable to afford many new high-price meds. They are not mollified by recent proposals that they mortgage their homes to pay for new drug treatments.

Angry and afraid, they and their families demand political action to make breakthrough drugs affordable. Employers and governments become increasingly sympathetic as they find themselves unable to afford new waves of high-priced meds that seem to benefit large numbers of patients.

At the same time, drug makers recall that the word “blockbuster” originally meant a very destructive bomb, not a lucrative market. They foresee an imminent end to their ability to extract so disproportionate a share of their revenue from American taxpayers and patients. Already the most nervous very well-dressed people in North America—today, 89 percent of biotech firms say they are worried about pressure to constrain their prices—see their persuasive power waning and decide to use their remaining political influence to negotiate a compromise.

This leads, sooner or later, to a politically bargained prescription drug peace treaty, one that respects humanity’s needs for new and better meds at low prices while rewarding innovators very generously. The path upward is reasonably clear. Unfortunately, though, we are climbing, for now, more slowly than the optimists hope.

Read more about Affordable Care ActPharmaceutical Industry

Alan Sager is Professor of Health Law, Policy, and Management at the Boston University School of Public Health, where he has taught health care finance, regulation and planning, management, and introductory courses since 1983. He’s currently investigating causes and effects of urban hospital closings in 52 U.S. cities over the past 75 years. You can find his earlier papers and reports on various topics at Thanks to Josh Sager for the valuable suggestions.

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