Drug prices in the United States are increasing at a rate faster than inflation—causing many Americans to ration or even entirely forgo necessary medications. U.S. prescriptions can be four times as expensive as the same drugs in countries like Australia, in part, because of a phenomenon called “Merger Mania.” Due to the influx of healthcare mergers and acquisitions over the past twenty years, the U.S. healthcare market has started to largely resemble that in Australia. Consequently, by using the Australian procurement model as a guide, the United States can likely see significant drug savings allowing the government to negotiate concessions and adopt a national formulary in its current model.
In 2017, twenty-six-year-old Alec Raeshawn Smith died from rationing his $450 per month insulin prescription. Motivated by his tragic passing, his mother Nicole Smith-Holt sat down with NPR to inform the public about the skyrocketing insulin prices and the price hike’s unfortunate consequences. While one vial of insulin in late 2011 cost around twenty dollars after insurance, Alec Raeshawn Smith found himself with a $450 monthly premium even after meeting his insurance’s $7,600 yearly deductible. Faced with the option of either bankrupting himself or avoiding his recommended dosage daily, Raeshawn Smith chose what thirty percent of Americans similarly report doing: rationing his supply.
Prescription rationing and refusing to fill necessary prescriptions are, unfortunately, common consequences of the United States’ uniquely steep drug prices. Recent studies with the Government Accountability Office (GAO) reveal that U.S. prescription prices increase far beyond the rate of inflation and are nearly four times that of drugs in similarly developed countries. In fact, compared to Australia’s sixty-four dollar prescription cost median in 2018, the average United States drug price was $428 that same year.
While many factors contribute to America’s higher prices—including sociological factors, lack of regulation, and different innovation priorities—an essential yet overlooked element is that its current pharmaceutical procurement system is structured to function in a reality that no longer exists. The United States healthcare system is technically a privatized system, and its drug procurement structure is designed to function in a capitalist market. The federal government also serves as the country’s largest single healthcare purchaser, accounting for almost as much revenue as the entire private sector combined. This increase in government purchasing has dramatically shifted the country’s drug supplier market over the past thirty years, as manufacturing firms merge to appease their largest customer’s demand.
The public program responsible for prescription drug procurements is Medicare Part D, where the Centers for Medicare and Medicaid Services (CMS) contracts with private insurance companies to provide its beneficiaries drug coverage. Under Medicare Part D, only private contractors can negotiate with drug suppliers to set the vast majority of plans’ drug prices because Congress believes that the free market theory allows competing contractors to achieve the best concessions. This structure, however, fails to account for the influx of healthcare mergers over the years. Consequently, prospective Medicare Part D contractors are left to negotiate against a handful of manufacturing giants with oligopoly bargaining power for inadequate drug concessions.
Australia, however, is known for having one of the most effective drug procurement models in the world partially because it remains conscious of its modern economic makeup. Many factors contribute to Australia’s lower drug prices, including its single-payer healthcare system, heightened price regulations, and lessened emphasis on drug innovation. Most notably, though, is its drug procurement structure, which recognizes that only a few suppliers are capable of meeting the government’s demand and accordingly leverages the government’s substantial buying power during price negotiations. In other words, unlike the United States, the Australian government achieves better prices by directly negotiating with suppliers and highlighting its monopsony buying power.
While the two countries differ in their general healthcare policies, the two procurement systems share essential elements: both national insurance plans acquire drugs on a “best value” basis and set plan prices through negotiated procurement models. The two countries also have a nearly identical marketplace, where each federal government purchases the majority of the country’s drugs and only a handful of suppliers compete to supply them. For this reason, failing to at least consider the Australian successes within the U.S. procurement structure would be a disservice to United States taxpayers.
This Note suggests that, in using the Australian drug procurement structure as a guide, the United States should adopt a two-pronged modification to Medicare Part D’s procurement model to better reflect recent marketplace changes. To do so, CMS must be able to directly negotiate with manufacturers for all drugs and establish a national formulary. Part I of this Note summarizes how Medicare Part D’s outdated procurement structure results in comparatively high U.S. drug prices. Part II and III compare the U.S. and Australian pharmaceutical procurement structures and drug pricing factors. Part IV highlights the substantial similarities between the two countries’ models and explains how these similarities would allow certain Australian procurement elements to successfully operate within the U.S. system. Part V, using Australia’s acquisition process as a guide, illustrates how eradicating the non-interference provision and establishing a national formulary will successfully lower U.S. prescription costs. Part VI outlines why the costs associated with the proposed solutions are worthwhile, and Part VII concludes that the above two-pronged approach is the most promising method to lower U.S. drug prices given the current U.S. marketplace.
Largely because of “Merger Mania,” Medicare Part D is unable to procure drugs on the FAR-mandated best-value basis with its current capitalist structure. This is because healthcare mergers have shifted the marketplace makeup over the past thirty years, and now only a handful of pharmaceutical giants with oligopoly power negotiate with any number of unequipped and competing prospective contractors for concessions. In other words, the Medicare Part D model is designed to work in a reality that does not currently exist, and it literally pays the price.
Incorporating elements of both private and public healthcare models offers the U.S. government many benefits, but it also incurs a phenomenon that U.S. policy and its procurement system fails to consider: “Merger Mania.” As manufacturers and insurance companies attempt to accommodate the U.S. government’s incredibly large demand and innovation pressures, major manufacturers are forced to merge. While these mergers started in the mid-nineties as a response to Medicare expansions, they continue to occur at alarming rates, especially as public programs increase in popularity.
In recent years, pharmaceutical giants have chosen to acquire other pharmaceutical giants, instead of competing with one another, thereby leaving many generic drugs without sufficient competition. And as some manufacturers become more powerful, “killer acquisitions” have become commonplace. Killer acquisitions can doubly affect the market because they not only buy out competitors, but also can create managerial power struggles within the consolidated company. This shift, unfortunately, leads to the merged entity’s failure and further reduces the number of suppliers in the market. Consequently, only four drug manufacturing companies have produced the majority of all generic drugs since 2017.
Merger mania directly impacts drug prices because the U.S. drug procurement system operates under the assumption that private contractors are in the best position to negotiate concessions from drug manufacturers. Though in reality, many prospective Medicare Part D contractors do not have the requisite purchasing power to successfully counter the supplier oligopolies. This is because (a) there is no certainty that the prospective contractor’s formulary will be awarded the contract, so the government’s substantial purchasing power is not transferred to the contractor; and (b) only the federal government has the authority to effectively set price caps, offer tax breaks, and enforce patent pledges. That said, because prominent manufacturers create a vast selection of drugs that CMS seeks to cover, the burden then shifts onto the prospective contractors to make a deal despite an inferior negotiating position.
Consistent with the basic principles of economics, Merger Mania’s effect on U.S. drug prices is astounding. Some studies show that in a market with at least ten suppliers—which does not exist for many current drugs on the market—Medicare Part D drug prices “decline 80% relative to the pre-generic entry price.” As a result, it is evident that Merger Mania both exists and directly affects Medicare Part D drug prices in a negative way.
Medicare Part D is a quasi-privatized program within the Medicare framework, where the United States’ federal government contracts with private entities known as “plan sponsors” to provide its beneficiaries outpatient prescription drug benefits. Such entities contract with the government by participating in a negotiated procurement, where each plan sponsor submits a proposal. Following the submission period, the government uses specific evaluation criteria to determine which sponsor is awarded the contract. If awarded the contract, the submitted proposal is subject to yearly renewal at the agency’s discretion.
Part D plan sponsors offer their coverage primarily through prescription drug plans (PDP). These plans outline different beneficiary cost-sharing arrangements (such as copayments and deductibles), different monthly premiums, out-of-pocket thresholds, and include the plan’s formulary—a list of the plan’s covered drugs and their respective coverage details. Such elements are what make up the plan’s “design.”
Two elements largely guide each plan’s design specifications: (1) CMS’s proposed minimum plan requirements and (2) negotiations with drug manufacturers, pharmacy benefit managers (PBMs), and pharmacies. First, CMS requires each plan to offer either a “standard” benefit or coverage “actuarially equivalent.” The “standard plan” includes predetermined deductibles and coinsurance amounts, and “actuarially equivalent plans have the same average benefit value as the standard benefit plan but [with] a different benefit structure.” Additionally, CMS requires each proposed formulary to (1) cover at least two drugs for each protected drug class, (2) not discourage or discriminate against eligible enrollees, (3) adequately cover commonly needed drugs, (4) cover all drugs required by the Secretary, and (5) have an appropriate transition policy. When approaching negotiations, plan sponsors keep these minimum requirements in mind to preserve their award opportunity.
Beyond these five requirements, plan sponsors use negotiations and tiered structures to achieve better prices. Because most plan sponsors structure their formularies by assigning covered drugs to distinct tiers, with each tier carrying a different beneficiary cost-sharing percentage, a drug’s particular formulary placement can be used to achieve better supplier concessions. In other words, by agreeing to put a manufacturer’s drug in a lower cost-sharing tier—thereby making it more appealing to beneficiaries—a sponsor can achieve discounts and rebates for brand-name and generic medicines. Plan sponsors may also offer different designs in different parts of the country to use location as a bargaining chip. While leveraging formulary placement can be successful, as shown by the Australian model, the results are more effective when plan sponsors are not forced to negotiate without adequate resources against powerful manufacturing giants.
Sponsors are solely responsible for negotiating with and achieving concessions from manufacturers, pharmaceutical benefit managers (PBMs), and pharmacies because of the “non-interference provision” in the Medicare Prescription Drug, Improvement, and Modernization Act in 2003. This provision prohibits the federal government from “interfer[ing] with the negotiations between drug manufacturers and pharmacies and PDP sponsors” or “requir[ing] a particular formulary or . . . price structure for the reimbursement of covered part D drugs.” Congress included this provision to bolster market competition and limit the government’s role in Medicare Part D acquisitions. Its implications, however, make it so that plan sponsors—who lack the requisite monopsony power to counter supplier oligopolies—must singlehandedly negotiate with pharmaceutical giants and brand-name suppliers with market exclusivity. Therefore, Medicare Part D’s procurement model forces plan sponsors to negotiate against powerful suppliers without recognizing Merger Mania’s impact on its structure. These consequences are especially prominent because the United States, unlike Australia, forgoes a national formulary—which would give the government more leverage in direct negotiations.
Though Merger Mania specifically refers to U.S. government-induced healthcare mergers, this name does not suggest that manufacturing mergers do not regularly occur in Australia. Instead, the Australian drug procurement’s structure is better insulated from mergers’ effects. Indeed, the Australian Pharmaceutical Benefits Scheme (PBS) is conscious of the mergers and accordingly leverages its substantial purchasing power through direct negotiations and a national formulary. Consequently, Australia achieves excellent drug concessions, making it one of the most effective drug procurement models worldwide.
In contrast to the United States, Australia has a publicly funded single-payer healthcare system known as “Medicare,” which provides citizens coverage for physician care, hospital visits, and prescription drugs. In Australia, drugs are procured through PBS, an executive agency that manages the national formulary. PBS evaluates formulary submissions by utilizing committees and focuses mainly on drug price, drug efficacy, and medicinal trends. For price evaluations in particular, the Pharmaceutical Benefits Advisory Committee (PBAC) utilizes its Economics Sub-committee to conduct “incremental cost-effectiveness ratio[s] (ICER).” These analyses determine whether a drug’s superior efficacy increases its prospective patients’ “life years” enough to warrant an increased manufacturing cost. If a drug is equally effective but similarly priced or more expensive than alternative therapies already listed in the formulary, PBAC is unlikely to recommend its implementation. Additionally, the Pharmaceutical Benefits Pricing Authority (PBPA) reviews prices for drugs already included in the formulary to recommend new listing prices if necessary.
After considering these findings, PBS recommends a price to the Prime Minister of Health who, in turn, holistically considers this data before negotiating with the drug manufacturer—the model’s most laudable aspect. In these negotiations, the Prime Minister of Health directly bargains with suppliers by leveraging the country’s national formulary to achieve better prices. Because the Australian government provides its citizens with universal healthcare, and a drug’s inclusion in the national formulary is the only way to achieve countrywide distribution at an affordable price, the government can highlight its monopsony purchasing power to counter supplier oligopolies. In other words, the Australian drug procurement model recognizes the marketplace’s makeup and uses it as an advantage, unlike the United States. As a result, Australia is able to achieve drug prices approximately four and a quarter times cheaper than the United States.
Australia created the PBS in 1960 specifically to lower drug prices that, much like the United States, were becoming less affordable to the public. While many factors contributed to its success, its direct price negotiations with drug suppliers in exchange for national formulary access is a substantial element that could easily translate to Medicare Part D’s procurement system. Both eradicating the non-interference provision and adopting a national formulary would likely prove effective in the United States because both countries have a similar market makeup with comparable power balances after Merger Mania, and the United States has already seen sizable success when implementing these solutions in the Veterans Affairs’ drug procurement model.
The Australian procurement model is a good guide for the United States because its supplier market is nearly identical to the United States for both brand-name and generic drugs. Like the United States, Australian brand-name drug manufacturers possess a monopoly in the market because of patent laws. In Australia, patent laws insulate patent holders from competition for twenty-year terms, thereby guaranteeing the supplier market exclusivity for their patent’s duration. This span is almost identical to the United States’ Hatch-Waxman Act, which also awards twenty-year patent terms and market exclusivity for a specified amount of time, depending on the drug type.
While drug manufacturers do not have a monopoly over either country’s generic market, they have adapted to both governments’ unparalleled purchasing power in an almost identical way. In Australia’s single-payer system, generic competition exists but is largely limited to five prominent pharmaceutical giants. This is because very few firms possess the resources needed to supply enough drugs to cover the entire country. Though Medicare Part D does not provide coverage to the entire U.S. population, it does provide drug coverage to fifty-one million Americans, which is nearly twice the size of Australia’s population of approximately twenty-six million. Consequently, CMS contractors are similarly limited in that they can only realistically negotiate with the few prominent manufacturers that have the resources to supply drugs to fifty-one million Americans. Like in Australia, research shows that only four pharmaceutical giants supply the majority of generic prescriptions in the United States. As such, the remaining manufacturers are typically de facto disqualified from negotiations because they have fewer resources to meet the government’s needs and are more likely to go out of business, thereby posing significant nonperformance risks that the FAR discourages.
The Australian procurement model also suggests success in the United States because its buyer composition resembles that of the United States. While the United States uses a partially privatized healthcare system, its federal government still serves as the country’s largest single healthcare purchaser. The government’s purchasing power, moreover, is so prominent that the its demand abruptly and radically changed the U.S. healthcare market’s makeup by forcing supply mergers. Though the general healthcare models may differ between the two governments, the U.S. government’s market power is still strong enough to be considered a “monopsony” due to its substantial market share and control. As such, CMS can, like the Australian PBS, rely on the government’s “monopsony buying power . . . to counter the [pharmaceutical manufacturer’s] monopoly selling power . . . [to] result in a more efficient outcome than if the monopolist is allowed to use its power against a large number of small buyers.” The similar market power and structure between the two governments is the basis for why this Note’s two-pronged solution would prove effective if adopted into Medicare Part D.
The Australian model will also serve as an effective guide to Medicare Part D reform because the Department of Veterans Affairs (VA) has already implemented a similar model with considerable success in controlling drug prices without compromising quality. Since 1997, the VA has maintained a national formulary nearly identical in structure to the Australian PBS. Like the Australian PBS, the VA determines which drugs are included in the national formulary by employing subcommittees to assess a drug’s safety, efficacy, comparative cost, and relevance to the veteran population. The VA then allows the National Acquisition Center to negotiate with suppliers to determine the drug’s price on the Federal Supply Schedule (FSS). As a result, statistics show that by incorporating this Note’s suggested two-pronged approach, VA drug prices are forty-six percent of current Medicare Part D. Though the VA operates on a much smaller scale, the similarities in buyer and seller composition outlined above suggest larger-scale success.
Because Australia and the United States have remarkably similar buyer and supplier compositions and the United States has already achieved sizeable savings on a smaller scale through VA drug procurements, the United States should modify Medicare Part D’s procurement structure to resemble Australia’s PBS. As such, CMS needs to be able to negotiate with manufacturers and to establish a national formulary to leverage the government’s sizable purchasing power and counter powerhouse manufacturers.
As explained above, the non-interference provision is a requirement within Medicare Prescription Drug, Improvement, and Modernization Act in 2003 that precludes the government from directly negotiating with drug manufacturers for price concessions. Wholly eradicating the non-interference provision would allow the U.S. government, which does have the monopsony buying power, to successfully counter brand-name supply monopolies and prominent generic supply oligopolies for all drugs. The U.S. government could counter these forces because manufacturers omitted from the Medicare Part D formulary would only be able to sell to private beneficiaries or those willing to pay a hefty uninsured cost, thereby reaching forty-one million fewer Americans. This hurdle is especially lethal for brand-name drug manufacturers, which still account for roughly ten percent of prescriptions and seventy-nine percent of drug spending, because these prescriptions’ prices are largely determined by their potential market size. Consequently, suppliers are heavily incentivized to reach an agreement with the government.
The government additionally can achieve better concessions because it, unlike plan sponsors, has the resources to offer appealing benefits beyond beneficial formulary placement—like innovation funding and tax breaks in exchange for lower generic and brand-name rates. Specifically for brand-name drugs, the government can offer patent pledges in exchange for the above benefits or a lump sum. Patent pledges are a promise made by one entity to not enforce its patent or market exclusivity in exchange for a benefit—whether good publicity, a lump sum, or other concessions. These pledges would allow generic drug manufacturers to begin production and sales for biosimilar equivalents before the manufacturer’s period of market exclusivity ends. Consequently, by eradicating the non-interference provision, CMS would be in a better position to negotiate concessions and fulfill its mandated procurement goal to timely acquire goods or services at the “best value” to the government.
Despite a significant push from Democrats and the Biden administration to repeal the non-interference provision, opponents argue that its eradication would incur a “‘negligible effect’ on spending. Critics also argue that plan sponsors are best equipped to engage in drug pricing negotiations, as they are “already familiar with negotiating prices of prescription drugs on a local, regional or national basis.” These concerns, however, do not hold water in light of recent findings.
Recent studies evidence that direct negotiations with manufacturers yield results far above the “negligible” gains that opponents previously suggested. In fact, these negotiations are projected to reduce Medicare Part D premiums by $14 billion and out-of-pocket drug spending by $117 billion between 2020 and 2029. The lower Medicare rates would additionally affect private insurers by saving private beneficiaries $29 billion in premiums and $25 billion from cost sharing. These estimates are conservative; some estimate that drug savings will be around half a trillion dollars over the next ten years alone.
Additionally, while a similar Public Contract Law Journal Note, written by Meghan McConnell, posits that repealing the provision would fail to lower prices for drugs without substitutes, this sentiment fails to recognize that its eradication would allow the government to offer benefits like tax breaks or research grants in exchange for patent pledges. In any event, drugs without biosimilar alternatives make up approximately twenty percent of the industry, and not all are covered under Medicare Part D. Consequently, failing to significantly reduce prices for approximately one-fifth of drugs does not negate the sizeable savings achieved for the other eighty percent. Further, as evidenced by the Australian model, brand-name drugs without biosimilar equivalents can be covered in public plans while still reducing the plan’s drug prices at large. Therefore, it is imperative that the United States adopt a negotiation structure similar to Australia’s PBS to fulfill its procurement goal of timely acquiring goods and services on a “best value” basis.
Eradicating the non-interference provision, alone, will likely achieve substantial savings; however, the U.S. government should also adopt a national formulary to truly receive the FAR-mandated best value for its purchase. Implementing a national formulary would mean that the U.S. government, instead of plan sponsors, would maintain and edit a single formulary that would uniformly apply to Medicare Part D beneficiaries across the country. Though adopting this formulary is technically its own solution, it is a bargaining chip that would be used during direct negotiations to achieve more savings.
Many benefits exist to adopting a national formulary. First, a single national formulary would minimize choice paralysis and promote price transparency, thereby greatly simplifying formulary use for physicians and patients seeking healthcare. Second, “a national set of easy-to-follow procedures for reconsideration and appeals will help avoid overwhelming physicians with burdensome administrative process.” Lastly, and most importantly, adopting a national formulary would allow the government to leverage the fact that a drug’s inclusion in the formulary would radically expand its consumer reach to all forty-one million Americans enrolled in the program across the country—as opposed to those in a specific region with our current system. In fact, the United States VA drug procurement model, which has utilized a national formulary since 1997, has realized prices nearly sixty percent less than those in Medicare Part D by adopting this structure.
In addition to economic leverage, a national formulary allows portability and consistency across regions. In our current system, Medicare Part D offers multiple different plans, each with different formularies based on factors like desired coverage and geographical location. As a result, plan sponsors often only promise manufacturers drug coverage in limited areas to specific demographics, making their formulary placement less weighty in negotiations. Standardizing pharmacy benefits and increasing the formulary’s portability across state lines through a national formulary, however, allows manufacturers of covered drugs to expand their sales to the whole country. Moreover, incentives to join the formulary are even stronger for manufacturers with substitute or biosimilar drugs because their drugs’ inclusion provides a significant advantage in terms of potential sales volume. This inducement, in turn, gives the government more leverage when conducting negotiations with manufacturers.
Critics oppose a national formulary because they believe that it reduces the quality of care by restricting a particular condition’s available treatment options. And while many credible sources rebut these claims by showing that any care reductions are, at worst, negligible, it is worth noting that quality reductions only matter when the public has access to the care being reduced. In other words, the benefits resulting from increased options are only actualized when individuals are able to afford the various treatments. Therefore, given that one third of Americans report forgoing necessary prescriptions because of price concerns, it is essential to first prioritize access to essential medications before further increasing prices. Additionally, with a national formulary, the United States would still maintain private health insurance, where drugs not included in the national formulary may be covered; allowing this hybrid model has helped Australia increase treatment options for those who can shoulder the cost of that benefit without compromising prices for those who cannot. Consequently, adopting a national formulary is a critical move that the United States should take to modernize its outdated procurement model.
Opponents argue that reducing drug pricing would undoubtedly reduce innovation and the development of new drugs. And while there is truth in that sentiment, innovation also comes at a cost. Most drug development efforts are funded by the pharmaceutical companies’ substantial profits, which are obtained by up-selling drugs. In 2019 alone, what is colloquially known as “big pharma” invested $83 billion on drug developments in the United States—$82 billion more than its Australian counterparts. These expensive developmental efforts, however, fail to positively affect most Americans’ quality of life but increase drug prices across the board.
While pharmaceuticals’ $83 billion yearly investment resulted in an annual average of forty-four new drug approvals from 2015 to 2019, almost half of these drugs are “orphan drugs”—meaning that very few patients benefit from them. In fact, the current system allocates nearly half of its funding towards “modest therapeutic advances with high prices,” which produce only drugs “with both high prices and extended market exclusivity” for “only 1000 or 10,000 potential patients.” Funding is disproportionately allocated towards orphan drugs because substantial returns on investment largely incentivize the efforts; in comparison to a drug that could benefit a considerable amount of Americans, orphan drugs are less likely to motivate a generic equivalent and, therefore, better retain market exclusivity. Consequently, more popular developments are “less attractive from an investment perspective because of pricing and reimbursement pressure.” While innovation is undoubtedly critical, it is important to recognize that increased access to new medications, especially for those with only a moderate impact on a slim number of patients, comes at the cost of affordable essential drugs, even for individuals with insurance. It is also worth noting that, despite spending $82 billion fewer dollars on innovation and development efforts, Australia still has access to new breakthrough medicines without unreasonable delay. As such, it is evident that the United States can strike a balance where it still values innovation and development efforts without unduly raising prices to unaffordable levels, thereby truly procuring drugs on a best value basis.
Drug prices in the United States have soared to premiums beyond what the average American can pay to treat debilitating yet curable conditions. This is, in part, because Congress and CMS have failed to alter Medicare Part D’s procurement system to reflect the changes in its market makeup since Merger Mania. Because the United States healthcare market has begun to look substantially similar to the Australian market, it only makes sense to consult the various successes within the Australian procurement system to lower domestic prices. Though the United States does not subscribe to a single-payer healthcare system, the United States would likely see sizable savings by allowing the government to directly negotiate with drug manufacturers and by establishing a national formulary: the federal government, like the Australian government, possesses an unmatched purchasing power and ability to offer non-formulary related benefits.
Though affordable drug prices require innovation budget cuts, it is still worth it to lower prices because (1) most research is put towards orphan drugs, which only moderately help fewer than 10,000 patients, and (2) innovation’s benefits are only truly recognized when patients can actually afford the new drugs being developed. Lowering drug prices in the United States has never been so pressing, and it is essential that we make necessary changes to avoid avoidable drug-rationing deaths like the passing of Alec Raeshawn Smith
