Bipartisan Method to Control Drug Costs

Below is a method to control drug cost. I tried to be as complete as possible and tried to look at the view from as many different perspectives as possible.

Controlling Drug Prices

There is a growing concern among Americans, especially Senior Citizens, about the rising costs of prescription drugs. In fact "prescription drug costs are a major factor pushing up the cost of health insurance, and it is no longer a reasonable option to have insurance that does not cover prescriptions" (Carpenter 1). Other sources of high health care costs have been decreased rather effectively by the rapid adoption of managed care. But such decreases came packaged with a reduction of the overall quality of healthcare available to Americans and drug prices have been one source of high healthcare costs that even managed care hasn't effectively been able to control. And unlike the other areas targeted by managed care, drug prices can be reduced without necessarily hurting the quality of healthcare.

Reducing drug costs would go a long way in both reducing the cost of health care and making it more accessible to low-income individuals, the two biggest concerns related to health care in the United States. High drug prices pose a great burden to individuals, especially older individuals not covered under a prescription drug plan, who need to pay these costs out of pocket. Sure, lower drug prices may lead to an increase in the use of drugs but this isn't necessarily a bad thing. Drugs are one of the cheapest ways to improve health helping avoid far more expensive surgical treatments later on in life. And reduced drug prices may make the option of adopting prescription drug coverage into Medicare or even adopting universal healthcare for all individuals in the United States more viable. In the past, this has been attempted through one of two ways: encouraging generic competition and price controls. This paper will analyze the effectiveness of such methods and will proceed to propose alternate perhaps more effective methods through which to control drug prices.

Generic Competition

Drug development research is expensive. "The average cost of bringing one new medicine to market is $500 million" (Grabowski). In order to compensate for this, each newly developed drug typically carries with it many years of patent protection during which time the manufacturer enjoys monopoly status. No generic version of the drug can be sold during this period thus effectively curtailing competitors and allowing the original manufacturer to charge whatever price deemed most profitable. The price charged for the drug during this period is generally exceedingly high and typically remains constant until generic versions of the drug become a viable lower-priced alternative to patients and market forces take over. "The average price per prescription for brand-name drugs is approximately three times the prescription price for generic drugs" (Hunt).

In order to encourage competition and lower drug prices once the patent protection period ends, Congress in 1984 enacted the Drug Price Competition and Patent Term Restoration Act, more commonly known as the Hatch-Waxman Amendments. These amendments provided incentives for those who seek early approval of generic drugs and acted to reduce the "time and expense of bringing generic drugs to market" (Abbreviated New Drug Application Regulations). But in order to balance the extra aid provided to generic manufacturers, the amendments also provided additional protections for drug patent holders.

"While the Hatch-Waxman Amendments opened up the market for generics, the drug industry has manipulated the incentives and protections in the statute to delay generic competition and extend the brand-name monopolies that patent protection confers" (Overview of the Hatch-Waxman Amendments). According to the Overview of the Hatch-Waxman Amendments, there are three strategies commonly used to extend this already rather large patent-protected period. Evergreening is the strategy in which manufacturers continue to add patents for even miniscule characteristics such as the color of the tablet forcing generic drug manufacturers to wait even longer before marketing their products or risking legal action. Drug companies also file frivolous lawsuits to delay for at least an additional two and a half years the manufacturing of generic versions of their drugs certified in response to bogus patents. Due to risks of legal action taken upon generic drug manufacturers who file for certification in response to bogus patents, the first manufacturer to file for such certification is granted by the government 180 days from when they first market their product during which time no other generic product can be sold. Thus the original manufacturer of the drug sometimes pays the first generic manufacturer to not market their product thus extending their monopoly over the drug indefinitely.

By taking advantage of such loopholes, many drug manufacturers are allowed to monopolize the market for very long periods of time charging exceedingly high prices and driving up the costs of healthcare. Since such practices clearly go against the original intent of encouraging generic competitors, revisions are currently being considered to encourage generic competitors without offering the original manufacturers the ability to extend the period during which they hold a monopoly over the market. But even if such revisions take place, drug manufacturers will still hold a monopoly and be allowed to charge exceedingly high prices for the first several years. And the revenue and reputation developed during this period is often used towards advertisements and to heavily promote these drugs over alternate cheaper substitutes to physicians even after the patent protection period ends. As a result, "from 1997 through 2001, national spending on drugs rose nearly 20 percent each year; from 2000 to 2001 alone, spending rose 17.1 percent" (Findlay).

A reduction in the patent protection period however would also ensure that generic substitutes would spur competition and drive down drug and insurance costs more rapidly and can be justified by the fact that the average patent time left after the product has been approved for marketing by the FDA "has increased by at least 50 percent due to legislative changes and faster FDA approval… in the early to mid-1980s, the effective patent life was typically 8.1 years. By the late 1990s, for many brand-name drugs, a manufacturer could expect to have a post-FDA-approval, patent-protected monopoly for 13.9 to 15.4 years" (Hunt). And the profits made by drug companies has also been rising rapidly over the past several years to that point that the drug industry is now by far the most profitable industry in the United States. Thus a reduction in the patent protection period combined with revisions to the patent protection law designed to stop the abuse of the system by drug manufacturers to extend their monopoly could greatly increase the speed at which generic substitutes enter the market and reduce drug prices.


Price Controls

As drug costs continue to rise rapidly, price controls similar to those at work in Canada seem like a lucrative option. Canada through a complex and bureaucratic system has found ways to ensure far lower prices for certain drugs thus enabling the nation to provide universal health care to all Canadian citizens with a smaller percentage of the nation's GDP than the United States spends in healthcare costs. Each of the local Canadian provinces subsidizes certain drugs for the poor, elderly and those under long term care while other individuals must pay all or a significant portion of the drug costs in the majority of provinces. But according to McArthur, this is only possible because the "Canadian government purposely restricts the overall availability of prescription drugs through a combination of a lengthy drug approval process and oppressive price controls."

Each new drug to be marketed in Canada must endure a very lengthy and bureaucratic approval process. "The federal approval process takes 13 percent longer than in the United states" (McArthur 1). And only a small percent of these drugs are deemed to be substantially improved over already available drugs and thus gain federal approval all of which must then be approved by each of the individual province's review committees in order to fall under the drug subsidies thus greatly limiting the diversity of drug treatments available to patients. The lengthy approval process while successful in reducing the amount of time drug manufacturers have monopolies over their specific products also makes it difficult for new innovative drugs to rapidly reach patients in dire need of them.

Another way through which Canada regulates drug prices is through the Patented Medicines Price Review Board which forces drug manufacturers to charge lower amounts for expensive drugs in order to be approved for sale. Thus many drug companies rely on profits from other nations such as the United States to cover most of the costs involved with research and development of the drugs. But the effectiveness of this strategy is debatable. Certain drugs actually cost several times more in Canada than they do in the United States. In fact "a study of international drug comparisons by Prof. Patricia Danzon of the Wharton School of the University of Pennsylvania concluded that, on the average, drug prices in Canada were higher than those in the United States" (McArthur 2).
Nevertheless, the number of drugs available in Canada (and thus the number of options available to patients who may thrive on drugs other than the ones made available to them) is significantly lower than it is in the United States. To further support his case against price controls, McArthur points out the facts that in a February poll, 78 percent of Canadians said their health care system was in crisis and the fact that Canada ranked in the bottom third among developed nations for availability of medical technology despite the large percent of GDP it annually spends on healthcare.

The Actual Sources of High Drug Prices

Thus, it seems price controls may not be the most efficient way to cut healthcare costs. Instead, it is necessary to examine the specific causes of the large amount spent on prescription drugs and examine ways in which these causes can be controlled. A major reason for the high percentage of GDP the United States spends on healthcare is the increase in the number of senior citizens that are in need of such healthcare due to the baby boomer generation reaching retirement age. And in general, people are using more and more drugs, often the most expensive ones on the market. There isn't a great deal that can be done about this. There are many who suggest that allowing the importation of drug companies and cheaper generic drugs from Canada or allowing the federal government to negotiate down the cost of drugs would significantly lower the costs of drugs without significantly impacting the amount of money spent on medical research in the United States. There is a great deal of evidence both ways as to just how large an impact such a policy would have on the profit margin of drug companies and how this in turn would reflect on medical research funding.

One reason for the high prices of the drugs themselves is obviously the high profits drug manufacturers generate when compared to other industries even after the costs of research and development. And the revisions to patent protection laws mentioned above would increase the speed with which market forces can overtake and bring down the prices of new drugs. It is inevitable that drug manufacturers choose to charge higher prices in the United States than other nations including Canada since individuals in most other nations don't have as much disposable income and thus can't be expected to pay a large portion of the research and development costs as well. The markets for drugs in most other nations are too small to support the high costs of research and development. If these nations were expected to pay prices equal to those paid in the US, the markets for these drugs would shrink greatly and the United States would have to pay almost all the costs of developing newer drugs. But increased competition would ensure that the profits generated from the United States after the manufacturing and development costs are kept at a reasonable level.

Another reason for high drug prices is the lengthy and very expensive process of approval that each new drug must endure from the Food and Drug Administration before being marketable. This long process also often allows many individuals to die that could've otherwise been saved had the drugs been approved faster. But haphazard reductions in the length and expensive of this process may allow unsafe and hazardous drugs to become far more frequent. This would compound into increased law suits against drug manufacturers and an overall increase in drug prices. Thus any revisions to the FDA approval process to make it faster and cheaper must be done without increasing the risk associated with new drugs. There are already many proposals in motion specifically addressing ways to do just this.

Another reason for high drug prices is the amount of revenue spent on advertising drugs directly to consumers, a practice banned in most other developed nations. Such advertising often promotes the use of newer more expensive brand name drugs over cheaper but just as effective generic substitutes which simply don't have the money to spend on marketing their products. These ads also may make consumers aware of and seek treatment for health problems they don't have or aren't significantly affected by. The money spent on this marketing could and probably would be spent to research more treatments or sell these drugs for cheaper. Yet, the amount of money spent by drug manufacturers to advertise their products is rapidly increasing. "In 2000 the drug industry spent almost $2.5 billion on mass media advertising. This was a 35 percent increase over the previous year and more than three times as much as the $791 million spent in 1996" (Barry 1). According to Barry, the rapid rise in mass media advertising spending stemmed from the FDA relaxing its rules on television advertising in 1997, an action that should be reconsidered in order to reduce healthcare costs. And according to Barry these mass media advertising costs don't even take into account the much larger $12.8 billion spent to promote certain drugs over cheaper effective alternatives to doctors by providing free samples, giving gifts and holding conferences promoting these drugs at popular locations with all expenses provided by the drug manufacturers. "Requiring pharmaceutical firms to issue doctors a 1099 form at the end of the year enumerating the taxable value of those (gifts) would stop the flow pretty quickly" (Carpenter 3).

The idea that market forces would favor the cheaper substitutes doesn't work in the drug industry. This idea depends on the assumption that the consumers are aware of and directly affected by the variations in prices between different substitutes. This is rarely the case. Since drug prices can vary greatly, physicians have no way of knowing which drugs are the most affordable. Hospitals are given huge rebates to stock up on certain drugs, often the more expensive brand name ones. Even medical schools faced with time constraints often focus primarily on newer more expensive drugs over older, cheaper, proven drugs for the same diseases. And doctors are given everything from pens to wall clocks as gifts by drug manufacturers advertising their products. Thus the drugs that physicians have the easiest access to and are most familiar with are rarely the drugs that are the most cost effective. And there is no incentive for physicians to research and prescribe more cost effective drugs over the more commonly known brand name counterparts marketed to them. That is until the government requires drug manufacturers to keep track of and physicians to pay taxes on all gifts they received from drug companies each year thus discouraging the marketing of brand name drugs to physicians in the first place.

And, in most cases, even the consumers aren't directly affected by the prices of the drugs they choose because their insurance companies often have fixed co-payments. It's the pharmacies and insurance companies that bear the high costs and then distribute these additional costs among all their constituents. Thus there is no real incentive for consumers to choose the less expensive substitute over the brand name product they see being advertised on television. These factors greatly underscore the popularity of generic and older substitutes and drug manufacturers that choose to cut costs by reducing the amount spent on advertisement thus greatly contributing to high healthcare costs.

Bringing back market forces while discouraging advertising would greatly help cut costs. Each brand of drug should be required to have one fixed wholesale price set by the drug manufacturer that isn't allowed to vary based on whether the drug is being sold to hospitals, distributed freely to doctors, or being sold at high whole sale costs to small pharmacies. And co-payments for government subsidized prescription drug plans should be a percent of the wholesale price of the drug thus making consumers bear some of the additional costs of choosing the more expensive drugs.
Another often overlooked source of high drug prices is high litigation costs in the United States. "Canada limits personal injury compensation to $250,000. (In U.S. dollars, that's approximately $168,000.) In the U.S., multimillion dollar liability settlements are common. Up to one half of the difference in drug prices (and the prices of most other products) between Canada and the U.S. can be accounted for… by the liability crisis faced by U.S. manufacturers of goods. And politicians wanting to reduce drug prices in the U.S. should start with tort reform" (Walker). Adopting any number of the reforms advocated in this paper should greatly help reduce drug prices without hurting the quality of healthcare available to Americans. And lower drug prices will benefit consumers, the government and may free up enough revenue to make prescription drug coverage a part of Medicare and may even make the adoption of universal healthcare in the United States a possibility.

- Vikram Vaka

Works Cited

Abbreviated New Drug Application Regulations. 54 Federal Register
28,872, 28874, 10 July 1989.

Barry, Patricia. Ads, Promotions Drive Up Drug Costs. March 2002. 10 June 2002.
<http://www.aarp.org/bulletin/departments/2002/medicare/0310_medicare_2.htm>

Carpenter, Eileen K. Prescription Drug Cost Control: A Proposal. "Health Associates" 11
June 2002. <http://www.healthassociates.com/proposal.htm>

Findlay, Steve. Prescription Drug Expenditures in 2001: Another Year of Escalating
Costs. "Washington: National Institute for Health Care Management" April 2002.
17 June 2002. < http://www.nihcm.org/spending2001.pdf>

Grabowski, H., and Vernon, J., Returns to R&D on New Drug Introductions in the 1980s
"Journal of Health Economics," Vol. 13, 1994.

Hunt, Michie I. Prescription Drugs and Intellectual Property Protection: Finding the
Right Balance Between Access and Innovation. "National Institute for Health
Care Management" Aug. 2000. 14 June 2002. <http://www.nihcm.org/prescription.pdf>

McArthur, William. Prescription Drug Costs: Has Canada Found the Answer?. 19 May
2000. 17 June 2002. http://www.ncpa.org/ba/ba323/ba323.html

Overview of the Hatch-Waxman Amendments. "Families USA" 1 April
2001. 17 June 2002. <http://www.familiesusa.org/HatchWaxman.pdf>

Walker, Micheal. Why Canadian Drugs Cost Less - It's the Lawyers. 20 May. 2000. 13
June 2002. <http://www.yourdoctorinthefamily.com/commentary/comm019.htm>