Using Medicare’s Clout to Negotiate Drug Prices—Did Obama Put That Back On The Table?

This week during his speech at George Washington University, President Obama said one of the ways he plans on cutting Medicare costs is to cut government spending on prescription drugs by $200 billion over ten years. He said, “We will cut spending on prescription drugs by using Medicare's purchasing power to drive greater efficiency and speed generic brands of medicine onto the market.”

With this statement, Obama seems to suggest that he wants Medicare to use its clout and to start negotiating prices directly with pharmaceutical companies, something the Veterans Administration, for one, has been doing for years. The only problem is that back in 2006 when Congress expanded Medicare to cover prescription drugs, the law included a gift to drug companies that specifically prohibits the government from directly negotiating on drug prices.

While campaigning for the presidency, Obama often spoke about taking on drug companies and allowing Medicare to have bargaining power over prices. He also supported the re-importation of cheaper prescription drugs from Canada as a way to lower health care costs. But in order to get Pharma support for the Affordable Care Act, these two measures were taken off the table and left out of the legislation.

The Pharmaceutical Research and Manufacturers of America (PhRMA) is already on the offensive, with chief executive of the industry group John Castellani releasing a response to the President’s speech; "A strategy of reducing the deficit by simply cutting existing Medicare funding will adversely impact American jobs and medical innovation."

Castellani points to one report that found costs for Part D (the Medicare prescription benefit) already “coming in about 40% below projected costs.” He also adds that implementing price controls in Part D in the form of an overall spending cap, for example, would force drug companies to reduce their investment in R&D, stifling innovation and development of cures and bring higher premiums to Medicare beneficiaries.

Of course, this idea that negotiating prices will stifle innovation is an old argument. Innovation is already slowing at drug companies as fewer new “game-changing” drugs are approved each year. Big Pharma spends more money on the marketing and development of  “me-too” drugs in the same few profitable classes (like atypical anti-psychotics) at the expense of true breakthrough drugs. According to a study in Nature Reviews: Drug Discovery, an analysis of 252 drugs that were approved by the FDA between 1997 and 2008 finds that drugmakers were responsible for less than half of the innovative medications discovered during that period. (Small biotech firms and academic labs were the source of the balance)  And about two-thirds of drugs produced by Big Pharma were classified as “follow-ons.”

The truth is that the drug industry is finding itself in a bind even without any pressure on pricing from Medicare. The pipeline for blockbuster new drugs is drying up at the same time that companies like Pfizer, Eli Lilly and Merck are facing the loss of patent protection for key money-makers like Lipitor.

The response is to increase drug prices even further, according to a new report on the website Pharmalot. In March there were price increases on 14 drugs, up an average of 6.7%, compared to 10 price increases and an average of 6.5% in March 2010. Meanwhile, monthly statistics for the first quarter of this year (including 59 prescription drug price increases, averaging 8.2 percent just in January) seem to point to another record year for price jumps. This follows last year's largest increase in price activity in the past decade, according to Barclays.

The Pharmalot post asks; “Which drugmakers led the pack?” “Merck raised prices on four meds – the Januvia and Janumet diabetes pills each rose 7.5 percent price, while the Vytorin and Zetia cholesterol pills each jumped 5.3 percent. Eli Lilly raised the cost of its Zyprexa antipsychotic by 9.5 percent…and the cost of its Evista osteoporosis drug was up 9 percent.” No surprise, these are all drugs in classes with high utilization rates in Medicare patients.

Obama also seemed to suggest that he wanted to speed up the process of introducing generic drugs (including generic versions of increasingly expensive biologicals) onto the market—a move also strongly opposed by the drug and biotech industries. In a nod to the industry, the Affordable Care Act gives “pioneer biologics” 12 years of exclusivity on the market, even though the bipartisan fiscal commission now recommends shortening that to seven years—after which so-called “biosimilar” generic versions can be introduced for sale.

The real worry for the Obama administration is that if they insist on changing the law—allowing Medicare direct negotiation on drug prices, putting a cap on spending for Part D, or shortening the drug exclusivity period—they will not only lose the support of the powerful drug lobby, but also gain a formidable foe as health reform continues to be controversial in Congress.

So the question becomes, can the administration wring $200 billion in savings from Medicare Part D without using any of these obvious cost-cutting measures?

For starters, Obama can require drug companies to give rebates to 9 million low-income elderly or disabled people who qualify for both Medicare and Medicaid. According to the Fiscal Commission, that move would save $7 billion in 2015 and $49 billion through 2020.

Another idea is to have Medicare buy drugs like the Veterans Administration health care program does. According to a new analysis by Austin Frakt titled “Should Medicare Adopt the Veterans Health Administration Formulary?” (to be published soon in the journal Health Economics but accessible now as a working paper through his blog, The Incidental Economist) the federal government would stand to save $14 billion each year if it followed the VA’s lead.

But there would be trade-offs, according to Frakt.

For one, he says, the VA’s national formulary—or list of drugs it will pay for—includes only 59% of the top 200 drugs while Medicare’s various prescription drug programs cover between 68% and 93% of those drugs, averaging about 85% covered. Frakt writes, “if Medicare plans looked more like the VA, a lot fewer drugs would be covered.” As it stands now, Medicare is quite generous in its coverage; a minimum of two drugs must be included in each class (for example, anticoagulants) and in six classes—anti-psychotics, anti-depressants, anti-convulsants, immunosuppressants, cancer, and
HIV/AIDS drugs—plans are required to cover almost all drugs available on the market. In the case of cancer drugs, these are some of the most expensive of all—costing up to $100,000 per year.

By restricting the formulary to just one or two drugs in each class, Frakt says, the VA is better able to drive a hard bargain with drug makers. “This is one, but not the only, reason the VA can purchase drugs at prices 40% below those paid by Medicare Part D plans,” he writes. “If Medicare drug plans restricted their formularies to the level of generosity offered by the VA and obtained VA-like drug prices by doing so, we estimate that the program would save… a total of $14 billion per year (2009 prices)."

The VA’s drug formulary does not arbitrarily restrict drug choices. Medications are included on the list when they have strong evidence of efficacy, have been determined safe, and have a good cost-to-benefit profile. We already know that overmedication of seniors is a serious problem, by cutting back on the overuse of certain costly but unnecessary or ineffective drugs, patients receive better evidence-based, quality care.

In the end, the Obama administration might have to wait until the health reform bill is fully implemented before it can follow through on its intent to “use the bargaining power of Medicare” to directly negotiate prices with drug companies. Right now, with Congress so divided over how to wring savings from Medicare, it will be nearly impossible to pass a new law that is required to give Medicare this additional power—even though it makes infinite sense. And at least for a while, the government needs the support of drug companies who vehemently oppose direct price negotiations in order to pull off other aspects of reform over the next two years.

As Matt Herper points out in his blog at Forbes, negotiating with drug companies is tougher than it sounds. “What is Medicare going to do, tell Dendreon that it won’t pay for its Provenge treatment, which has been shown in clinical trials to extend the lives of cancer patients by a median 4 months (that means half the patients get more than four months) because Provenge costs $93,000 per patient? Or tell Bristol-Myers it won’t pay for Yervoy, for melanoma, because of its $120,000 per patient cost?” Right now, he adds, “I count nine drugs that cost $200,000 a year or more.”

But eventually, the federal government will have to take the upper hand when it comes to controlling Medicare’s rising prescription drug costs. Perhaps the new Independent Payment Advisory Board will get involved in providing the bulk of these recommendations. Direct negotiation, shorter exclusivity for biological drugs, more restrictive formularies and even, perhaps, a cap on prescription drug spending—they will all have to occur if we want to achieve Obama’s desired savings.

“The Obama administration has shown more than enough deference to drug companies,” says Judy Feder, a senior fellow at the Center for American Progress. “They got off easy in the original law passed last year”, she said. “There are more savings to be had.” It might just require a little patience.

17 thoughts on “Using Medicare’s Clout to Negotiate Drug Prices—Did Obama Put That Back On The Table?

  1. Whenever I read that “innovation of new drugs” argument I recall reading somewhere that most of the heavy lifting is done at NIH (tax money, thank you) instead of drug company R&D. And when NIH has a really important discovery it is auctioned to the drug companies instead of allowing it to go into the public domain (or generic) which is where it should be since tax payers footed the R&D. Is there something wrong with my thinking?
    And the direct-to-consumer marketing drives me nuts, from the endless array of happy pills to the ED ads during prime time. I have formed a very jaundiced view of the drug industry.

  2. I think the government, having made its deal with the drug industry to win its support for health reform, needs to honor its commitment. If it doesn’t, why should anyone trust it in the future? While a VA like restrictive formulary is a fine concept in theory, I think seniors would howl if the government ever tried to actually implement it. Don’t forget that many veterans are also eligible for Medicare and can seek care through it if it finds the VA too restrictive or otherwise unsatisfactory. That all said, I think it would be reasonable to try to change the law to specifically allow Medicare to take cost into account in determining what it will pay for and what it won’t cover. If cancer treatments are going to routinely cost $100K or more for a course of treatment that only results in another couple of months of life or so, maybe somewhat less innovation isn’t altogether a bad thing. Finally, if the NIH is producing all this great research, why doesn’t it just engage contract research organizations to complete development through clinical trials and let the drug companies compete for marketing rights with the NIH controlling price setting? To be fair to taxpayers, drugs should be priced high enough to recover their R&D plus marketing and manufacturing costs plus the cost of all the failures even if the NIH and academic institutions working with NIH grants are doing most of the research. To do otherwise risks inefficient resource allocation.

  3. Barry —
    The truce between Obama and the drug industry has already been broken many times over by the drug industry, which has joined aggressively in the tea party/corporate war on Obama and the Democrats. Drug companies were aggressive contributors to the right wing in the 2010 election cycle, and have continued that pattern. They have contributed directly and indirectly to the efforts to “repeal” the ACA. The answer to your question about future trust is that health care reformers can trust the drug industry only when they are actually handing the industry cash, otherwise all bets are off.
    On a related note, look for the onset of a new battle by drug companies to try to extend their patents on drugs for longer periods, ala the “Mickey Mouse” extension of copyright a few years ago. Drug companies are facing a potential earnings crisis as the patents on many widely prescribed “lifetime” medications that are huge profit centers for the companies expire in the next few years. The companies — despite years of typical drug company research to come up with slight variations that can extend patent life but not make much difference in effectiveness and safety — have been unable to find replacements for these cash cows. Statins, antidepressants, urinary incontinence drugs, whole classes of newer antibiotics, and several other important drug classes are going to turn back into pumpkins and go generic in the next few years, and drug company balance sheets are going to bleed as a result.
    As enthusiastic supporters of the free market, the drug companies and their political friends will undoubtedly look to the government to protect their interests when the chips are down, since, as the Kochs and Murdochs could tell you, the free market is only a good idea when the interests of wealthy companies and individuals are served first.

  4. and another thing —
    I agree that seniors and others would howl in protest if the government forced rational practice standards on drug prescriptions. We have already, in the late 90’s, seen how effective a combination of misinformation from health industry PR, politicians bought and paid for by industry money, and ignorance/laziness/corruption by the media can be in cutting off efforts to bring health care under rational control, especially when combined with a few mistakes. If the government tries to use Medicare and Medicaid to impose rationality the drug companies, equipment and supply makers, and doctors and hospitals vested in the current wasteful patterns will create a huge storm of disinformation to attack the changes, and Fox News and all its right wing media allies will be only too glad to lead the charge while mainstream media will resort to its usual “he said/she said” “opinions on the shape of the earth differ” approach.
    That is why it is so critical that honest media sources and informed individuals make every effort to make the facts clear.
    VA style drug prescription does not cause patients harm, since the VA shows better, not worse, effectiveness in results. Drug price and supply negotiations in foreign health care systems lead to better, not worse, health care. Refusal to pay for ineffective care, whether it is rhinoceros horn powder or coronary artery stent placement, is not rationing.
    The public needs to know that. If the truth of the fact that the public is being bilked out of hundreds of billions of dollars each year for ineffective and harmful care is made widely known, the howls will turn on the people and industries doing the bilking, not on the people trying to protect them.

  5. given that the votes weren’t there before, what reason is there to believe Congressional sentiment has shifted in favor of this? Indeed, a majority of House members have already voted to move Medicare in the opposite direction

  6. “Refusal to pay for ineffective care, whether it is rhinoceros horn powder or coronary artery stent placement, is not rationing.”
    Pat S. –
    I agree and have made similar statements numerous times myself. I’m also a fan of limited or at least tiered drug formularies and, if it were up to me, I wouldn’t pay for Provenge and other ultra expensive cancer drugs unless they were priced below $150K per QALY including all necessary non-drug medical care along with the drug regimen. People that want drugs in the non-preferred tier or drugs not covered at all can self-pay for them if they make it to market in the first place.
    I also think it would be a lot easier to reduce wasteful healthcare spending by refusing to pay for services, tests, procedures, drugs and devices that either don’t work or cost more than they’re worth than by trying to convince fiercely independent doctors to follow evidence based guidelines where appropriate rather than what they happen to think is best whether it actually is or not. Even robust safe harbor protection from lawsuits if evidence based guidelines are followed may not be sufficient for those physicians who deride guidelines as “cookbook medicine.”

  7. Pat–
    This is Naomi’s excellent post.
    But I would like to weigh in simply to say that I completely agree with your comment, and hope everyone reads this part:
    “If the government tries to use Medicare and Medicaid to impose rationality the drug companies, equipment and supply makers, and doctors and hospitals vested in the current wasteful patterns will create a huge storm of disinformation to attack the changes, and Fox News and all its right wing media allies will be only too glad to lead the charge while mainstream media will resort to its usual ‘he said/she said,’ ‘opinions on the shape of the earth differ’ approach.
    “That is why it is so critical that honest media sources and informed individuals make every effort to make the facts clear.”
    Pat– I’m afraid that we can no longer depend on the mainstream print media. There are still outstanding reporters out there, but many (not all) of their editors are afraid of telling the truth.
    There is more good information in the blogosphere, but unfortunately,there is also a great deal of bad information online.
    Returning to your comment, you write:
    “VA style drug prescription does not cause patients harm, since the VA shows better, not worse, effectiveness in results. Drug price and supply negotiations in foreign health care systems lead to better, not worse, health care. Refusal to pay for ineffective care, whether it is rhinoceros horn powder or coronary artery stent placement, is not rationing.
    “The public needs to know that. If the truth of the fact that the public is being bilked out of hundreds of billions of dollars each year for ineffective and harmful care is made widely known, the howls will turn on the people and industries doing the bilking, not on the people trying to protect them.”
    Yes, yes, yes.

  8. Maggie –
    For whatever reason, I think patient expectations are different (higher) in the U.S. vs. other countries and it’s a big part of the problem driving healthcare costs ever upward. You have written in the past that Americans are less accepting of death than people in Europe and Asia. HMO and other limited network insurance products, while starting to gain more traction with employers, are not all that popular with employees in most of the country even though they’re cheaper than broad network PPO plans. Restrictive drug formularies aren’t popular either though there are some offered in the Medicare Part D market. Malpractice suits, often triggered by unfortunate outcomes or the failure to diagnose a disease or condition, are far more common in the U.S. than in Europe, Canada or Asia. Defensive medicine is a bigger problem here as a result. A recent poll showed that fully 61% of respondents don’t think any changes to Medicare are needed to help bring federal spending under control. All of this is why I think payers, including Medicare and Medicaid, need to start refusing to cover and pay for services, tests, procedures drugs and devices that either don’t work or cost more than they’re worth. People who want them can either self-pay or pay the difference between the expensive care and the equally effective less costly care.
    The left, for its part, has not been helpful standing with trial lawyers in opposition to sensible malpractice reform. The left’s opposition to a probable two tier system even if the basic tier is widely perceived by experts as “good enough” is also not helpful. You asked me when I brought this up in the past, would the basic system be good enough for my child. The wealthy will always be able to buy up including care that goes well beyond hospital waterfalls, better food, private rooms and valet parking. If we refused to pay for Provenge, for example, the wealthy could still self-pay for it if they want to.
    You can demonize drug and device manufacturers and their profits and lobbyists all you want but unreasonable patient expectations are a huge part of our healthcare cost problem. Too many people want too much care, much of it unnecessary or even futile, and they expect someone else to pay for it. So it goes.

  9. Obama seemed to propose that he wanted to pace up the method of introducing generic drugs onto the market. A move also powerfully opposed by the drug and biotech industries. This will not only lose the support of the powerful drug lobby, but also increase a frightening foe as health reform continues to be controversial in Congress.

  10. Amen to Barry.
    I feel that if my children want more than a minimum benefit, they will have to pay more out of their own pockets. The rich will always have ‘more’.

  11. Barry, Pat S.,
    First of all, I agree with Pat S. that the pharmaceutical companies have already “broken the truce” with Obama many times since throwing their weight behind drug reform. Like tax cuts for the very rich, it is inevitable that savings will only occur if Medicare can negotiate prices with drug companies.
    Secondly, I don’t think the blame should go to patients who have unrealistic expectations for cures and treatments and access to every possible technology. The real problem is this view of the wonder of American medicine–advanced by intensive marketing, gee-whiz media accounts and doctors (often funded by the drug companies or device manufacturers themselves) who push these treatments on patients without realistic expectations. It will not be an quick process to convert Americans (at least those with adequate health insurance) to come around to the idea of comparative effectiveness and yes, cost-effectiveness, in treatments. Experience in the past with tiered pricing and formularies has not always been good–patients have sometimes felt that the decisions about what is covered and what isn’t are based solely on price and have resisted them. But there is a way of communicating that formularies are connected with quality and best-practices, not on costs alone.
    I may be unrealistic, but I’d hate to think that health reform means that we are moving further toward a two-tiered system where the rich get everything they want (and need) and the poor or middle-class get second-class care. We have to dispel this notion that extra MRIs, experimental and expensive treatments, cancer drugs that provide little benefit, etc. are “luxuries” that only the rich can afford and the poor can aspire to. Cosmetic surgery, teeth whitening, etc.–that is what I think of when I think of medical procedures that should be paid for out of pocket by the rich if they want them. But lifesaving treatment for a child should never be something that is available only to those who can pay out of pocket.

  12. Barry —
    I believe the major difference between the US and Europe/Asia in regard to medical spending is first and foremost ineffective and irresponsible media coverage contributing to poor understanding of the issues. The issues involved are complex, and too often the media either repeats disinformation from stakeholders without enough analysis or criticism or offers its own poorly informed — and perhaps corrupted by billions in advertising by stakeholders — coverage. European media are much more likely to cover these issues more accurately.
    Second, I believe that there is a strong streak in US culture that is opposed to thinking in terms of overall national good and the welfare of fellow citizens to the point of being almost sociopathic. This undoubtedly comes from myths about the founding of the country, the “winning” of the West, and the Civil War, but has been magnified by a drumbeat of disinformation that serves to benefit those who wish to preserve their own privilege and to avoid social responsibility if it has any cost in terms of dollars or restrictions on their own behavior.
    The negative effects of these twin factors on behavior in the US extend throughout the culture, including to fields like the environment, finance, education, child welfare,working conditions and labor, immigration, and so on, as well as health care.
    In this environment we are not only finding great difficulty in attaining advances that will benefit most Americans, but are actually facing a concerted effort to repeal the 20th century and return the US to those great days of 1895, before all this nonsense about protecting the public and control of the powerful became fashionable.
    I tend to think that Europeans, who have lived through a series of disasters in the 19th and 20th centuries caused by poor information and sociopathic/jingoistic behavior, are much more ammenable to appeals to both common sense and the common good, and are much more trusting of advice from science and government. I think that attitudes toward death have very little to do with why they are willing to tolerate rational control of health care, especially since the evidence in front of both them and us shows conclusively that their approach leads to better quality lives, longer lives, more successful management of almost all health problems, all at much lower costs. They are simply open to a win/win argument, while we are more open to self-serving propaganda from stakeholders protecting their own positions and income.

  13. Pat –
    I don’t think our culture is going to change anytime soon. For better or worse, it is what it is. I think narrow network insurance products will gradually gain more traction because more and more employers and individuals will conclude that such products are all they can afford as healthcare and health insurance costs march ever upward. This is why I like the IPAB conceptually. With taxpayer resources finite, we need to stop paying for services, tests, and procedures that don’t work or cost more than they’re worth. If wealthy people want to spend their own money on them, that’s their choice.
    Naomi –
    I think you are being unrealistic with all due respect. Cosmetic surgery and teeth whitening aren’t covered by insurance now. If an IPAB or similar group of experts developed a set of benefits that it deems “good enough” and consistent with what the society can afford, that should be good enough for you and most of the rest of us. It’s simply unreasonable, I think, to deride such a package as second class care just because there are some wealthy people out there able and willing to buy up. You’re never going to be able to achieve absolute equality. Wealthy Germans can opt out of their public system. Upper income Brits can go private. Wealthy Canadians can come to the U.S. for treatment if they don’t want to wait for it in Canada. I think it was the Irish novelist, James Joyce, who said: “The force of idealism is lost when it fails to recognize the reality of things.” Don’t let your idea of the perfect be the enemy of the good.

  14. According to A Summary of the 2010 Annual Reports Social Security and Medicare Boards of Trustees “The outlook for Medicare has improved substantially because of program changes made in the Patient Protection and Affordable Care Act as amended by the Health Care and Education Reconciliation Act of 2010” (2010). Continued success of the Affordable care act is dependent upon improving the efficiency, effectiveness, and quality of our current healthcare delivery system. Reducing Medicare costs by cutting prescription drug costs makes sense and should not be underestimated. Establishing a drug formulary, using generic drugs instead of brand names whenever possible and eliminating drug therapies that are not effective could decrease unnecessary prescription drug spending. Reducing unnecessary spending and waste must be accomplished for Medicare to remain viable. Legislators need to stop debating and take action to ensure these cost saving measures are implemented.

  15. Barry —
    I agree that cultural isolationism and poor media performance are unlikely to change anytime soon, and that any way of making US health care avoid wasteful spending is all to the good.
    I just disagree with the idea that higher spending insurance programs represent a “luxury,” since the evidence shows that excessive utilization of ineffective management actually results in worse, not better, health. But as long as most Americans are under the mistaken impression that more is more, we are going to have problems.
    The greatest danger I see in trimmed down private insurance is if insurance companies decide to save money and avoid trouble by not doing anything to address comparative effectiveness and instead to cut costs by creating coverage that offloads large amounts of cost to the patient, especially in the form of very high deductibles and co-pays, as envisioned for Medicare by Paul Ryan. Since most patients are in a very poor position to make informed judgements about the utility of various health care costs, this results in poor choices, worse care, and worse health. Insurance companies need to make the kind of decisions you talk about, cutting off support for ineffective care and pushing doctors, hospitals, and patients toward effective and cost saving choices. However, the past has shown that insurance companies are rarely in positions to weather the storms that result from that effort, and that competition among private insurers often results in less rational decisions designed to maximize market share, not quality of the program.
    Unfortunately, in the end Europeans and Asians are smarter than us when it comes to health care, mostly because our culture and institutions make us make poor decisions, especially in equating cost and technology level with quality.

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