Article dated 2001: Prescription Drug Costs
Prescription Drug Costs
Spending on prescription drugs rose 18.8% last year, rising to $131.9 billion. (1) Even though prescription drugs constitute only a relatively small proportion of overall health care spending (about 9.4%), they accounted for 44% of the increase in total health care spending in 1999. If we want to control the rise in health care costs, we will need to examine the reasons why prescription drug costs have increased so rapidly. (2) Also, the steep rise in prescription drug costs poses a danger to proposals to increase insurance coverage for prescription drugs for the elderly on Medicare. (3)
Reasons for Escalating Costs
The primary reason that prescription drug costs have increased so rapidly is that new, very expensive drugs are being prescribed in greater numbers. A small number of drugs account for most of the spending—half of the increase in retail spending was due to just 23 individual drugs among 9,911 sold. The drug that had the greatest increase in sales between 1999 and 2000 was Vioxx® (rofecoxib). Fourth on the list was Celebrex® (celecoxib). Both drugs are similar to aspirin—they are nonsteroidal anti-inflammatory pain relievers that would be appropriate for the relief of mild-to-moderate pain such as a headache, tennis elbow, or a sore back. They are no more effective than aspirin, but have fewer gastrointestinal side effects. For patients who must take these kinds of drugs on a daily basis, such as those with rheumatoid arthritis, the incidence of ulcers can be reduced from about 2.6% to 1.5% over the course of a year. (4) However, the cost of these new drugs is much more expensive. The cost of 100 tablets of either of these new drugs is about $271 wholesale, compared to $3 for buffered aspirin.
Most persons can take aspirin or other nonsteroidal anti-inflammatory drugs like ibuprofen without any problem, especially if it’s only for a short period of time. What seems to be happening is that the newer, more expensive drugs are being prescribed by doctors to persons who could just as easily be treated with less expensive drugs. Why?
One reason appears to be the effect of direct-to-consumer (DTC) advertising, which rose 40% in 1999. Television viewers are urged to ask their doctor about new drugs that offer benefits not available from older (and less expensive) drugs. The advantages are played up in ways that may exaggerate the real benefits without any mention of the cost. Doctors comply with their patients’ demands since the new drugs do offer at least some additional benefit.
The patients asking for the new drugs are likely to have health insurance that covers the costs of prescription drugs. Economic prosperity and a tight labor market have resulted in employers offering their workers better health insurance coverage as a means of recruiting and retaining labor. These policies typically require only a small copayment from the subscriber when purchasing prescription drugs, thus masking the true cost of the drug. As a result of the better coverage, the consumer¹s share of prescription drug costs has dropped to 35% in 1999 from nearly 50% in 1993 with the insurance companies picking up the rest. Many insurance companies have instituted a tiered approach to copayment in which the consumer pays only $5–$10 for a generic drug and $15 or so for a brand-name drug. Generic drugs are the same chemical compound as the brand-name drug and have the same therapeutic effect. Pharmacists can substitute a less expensive generic drug for the more expensive brand-name product unless the prescribing physician specifically prohibits the substitution. Generic substitution can save money only when the patent on the brand-name drug has run out and generic equivalents are available. Nearly all of the top-selling drugs are patent-protected brand-name drugs, so the tiered copayment system hasn¹t had much of effect on costs.
Prescription drugs are covered under insurance policies while nonprescription drugs (know as over-the-counter drugs or OTCs) are not. While a bottle of 100 older nonprescription antihistamines might cost only $15 compared to a bottle of Claritin® that costs $250, the patient still only pays $15 for the Claritin® prescription each month. The patient also doesn’t have to put up with the sedating side effects of the older antihistamines, even though these go away after a few days of continuous usage. Obviously, the consumer is likely to go with the prescription product. As a result, private insurance companies now pay 43% of the costs of prescription drugs compared to 27% in 1993. This has led some insurance companies to petition the Food and Drug Administration to make drugs like Claritin® nonprescription, a move strongly opposed by the brand-name pharmaceutical manufacturers. The manufacturers know that their brand will lose market share when consumers can compare prices between similar products displayed together on the same shelf of the drug store.
While drugs like Vioxx® and Celebrex® offer marginal added benefit at high cost, other drugs represent true breakthroughs over older medications. The newer antidepressant drugs like Prozac® (fluoxetine) are much safer than older tricyclic antidepressants and are much more likely to be taken by patients because of the lower incidence of bothersome side effects. In the case of breakthrough drugs, the additional costs seem worth it. Once the patent runs out, less expensive generic drugs should lower the cost. But there’s a hitch. Pharmaceutical companies invest twice as much money in figuring out ways to extend patents on profitable drugs than they do in developing new drugs. This strategy is called "evergreening." In the case of Prozac®, Eli Lilly (its manufacturer) developed a new coating that won FDA approval for once-a-week dosing. The new version has a new patent and is likely to be heavily marketed by Lilly.
Pharmaceutical companies also manage to extend the life of the patents on their drugs through intensive lobbying. Schering-Plough, the company that makes Claritin®, was able to get Congress to twice extend its patent for four more years.
Part of the blame for rising pharmaceutical costs also rests with the physicians who prescribe the drugs. Many physicians seems to want to use the strongest (and usually the most expensive) drug available, even when less expensive drugs are recommended as the first choice. Prilosec®, the nation’s top-selling prescription, is a case in point. Initial treatment for heartburn or suspected peptic ulcer should be treated with an older acid-reducing drug like cimetidine, which is available over the counter as a generic drug. Yet, many doctors will immediately write a prescription for Prilosec® (omeprazole). A month’s supply of cimetidine costs the pharmacist $20 compared to $109 for Prilosec®. Sometimes doctors feel that they’re not doing their job unless they write a prescription. Some doctors believe that stronger is better, even when it’s overkill.
Just as patients are protected by their insurance from feeling the full cost of drugs, so, too, are doctors. Health Maintenance Organizations (HMOs) did make physicians aware of the costs of the medications they prescribed, but HMOs have become less popular in recent years and have given way to other forms of health care organizations that do not hold doctors accountable for the costs they generate from their prescriptions.
Price increases accounted for 22% of the increase in retail prescription drug spending in 2000. While not insignificant, price increases pale in comparison to the effect of the sheer increase in the number of prescriptions written (42%) and the shift to higher cost drugs (36%). The increase in the number of prescriptions written cannot be accounted for by a growth in population or the aging of the population. Americans are simply taking more prescription drugs than ever before.
Medicare Coverage for Prescription Drugs
Almost 30% of Medicare beneficiaries lack any prescription drug coverage. Even with some prescription drug insurance, out-of-pocket costs can be very high because of copayments and caps on the total benefit. Eight million Medicare beneficiaries spent over $1000 on drugs out of their own pockets in 1996. Of this group, about 2.5 million had no drug coverage. The highest spending 20% of this group spent an average 17% of their annual income on prescription drugs.
Adding salt to the wound, those without insurance coverage pay the highest price for prescriptions. Insurance companies can demand a discount with the pharmacies in their network, something uninsured individuals can’t do. As a result, those without insurance for drugs are less likely to take needed drugs than those who do have insurance. (5)
Both George W. Bush and Al Gore campaigned on a promise to add prescription drug coverage for the elderly on Medicare. The higher-than-expected increases in prescription drug costs makes those proposals more costly. Spending on prescription drugs averaged $1,525 for each Medicare beneficiary in 2000, a figure that is predicted to triple by 2011, according to the Congressional Budget Office.
Analysis of proposals for prescription drug coverage for the elderly should examine whether the plan applies universally to all Medicare beneficiaries or whether it is targeted to only the poor. A plan that focuses only on the poor would cost the government less. Curiously, the proportion of elderly who lack prescription drug coverage doesn’t change that much with income. Overall, 34% of the elderly lack such insurance. Among those whose income is less than $10,000, 35% lack insurance, while among those whose income is between $10,000 and $19,999, 38% lack drug coverage. Among the next bracket, $20,000–$29,999, 32% are uninsured for prescription drugs. Thus, focusing the benefit only on the poorest still leaves those with higher incomes without drug insurance.
Unless the cost of prescription drug coverage is subsidized, few will enroll on their own. Many proposals offer to completely subsidize the cost for the poorest elderly, then rapidly phase out the subsidy as income rises. This effectively imposes a tax on those who lose out on the subsidy. The near poor would find that they have a steep marginal income tax penalty—that is to say, for every additional dollar they earn, they may lose as much as 30 cents in benefits in the form of reduced subsidy. A more gradual phase out reduces the regressive nature of the tax penalty, but adds to the cost of the program.
On the other hand, a very generous subsidy may cause those who already have privately financed prescription drug coverage to give that up. Businesses that provide drug coverage for retirees are particularly eager to rid themselves of this increasingly expensive liability. A heavily subsidized drug plan could be purchased at less cost than they are currently paying. The phenomenon of declining private financing when public programs are introduced is called crowding out. President Clinton’s proposal provided a partial subsidy to employers as an incentive not to drop their existing coverage. The employer benefited by obtaining a subsidy of a program they had to pay for entirely on their own before and the government benefited by persuading employers to continue their coverage of retirees.
Placing a maximum amount on the prescription drug benefit is one way to limit the costs of the program. Most private insurance plans do that now. Two of the three Medigap plans that cover drugs place a maximum benefit at $1,250, and the third sets the cap at $3,000. If the goal of insurance is to offer financial protection against catastrophic expenses, this approach clearly fails. The cost of these Medigap policies have risen sharply in recent years, largely due to the rising costs of the drug benefit. The two plans that offer the lower benefit of $1,250 actually cost $2,376 a year—more than the drug benefit is actually worth! In all three plans, the patient is responsible for the first $250 in prescription costs, then 50% of the costs up to the maximum benefit.
Another way to limit costs is to have a large deductible (for example, $1,500) only after which does the insurance provide protection. Theoretically, this would be the preferred method of limiting costs. However, relatively few beneficiaries would have expenses large enough to collect any benefits. This makes the plan less politically attractive. Recent proposals have combined the two approaches by setting a cap on benefits (for example, $2,000), but then adding a catastrophic provision once out-of-pocket payments reach a certain threshold such as $6,000, after which drug costs are covered in full.
Any plan that is voluntary runs into a problem with individuals who will enroll when they know they will have high prescription drug costs and not enroll when they don¹t. To prevent individuals from jumping in and out of plans based on their health situation, plans include restrictions on when individuals can enroll. For example, if a person doesn¹t enroll in the prescription drug option when first enrolling in Medicare at age 65, he or she might be required to pay a higher premium to enroll at a later time. If only one plan is offered, enrollment limitations can be quite rigid. If many competing plans are offered, then consumers need more flexibility in switching to maximize the benefits of competition. Too much flexibility, however, will lead to chaos.
Cost Controls
The greatest challenge to any prescription drug insurance plan, whether for Medicare or for the under-65 age group, is how to control costs. The problem of prescription drug costs is not unique to the United States. Other countries have tried product price control (France, Italy, Portugal, and Spain), reference pricing (Germany and the Netherlands), and profit control (United Kingdom). In the U.S., no national policy exists to control the costs of pharmaceuticals. Instead, each payer is allowed to pursue its own methods of controlling costs in a competitive free market. Not surprisingly, the U.S. approach is the least effective in controlling costs of any in the world.
Product price control is the most effective method of controlling costs. This approach is most easily applied in those countries that have a single-payer system in which the government is the single payer. No drug is allowed to be marketed until a price is agreed upon by the government. While this approach is effective in restraining cost increases, its critics charge that it removes incentives for research and development (R&D) because it squeezes the profit margins of the drug manufacturers.
Reference pricing allows prices to be set by the market, but stipulates that the government will only pay the lowest price in a particular class of drugs. This works well when generic drugs are available and when all drugs in a class are relatively similar in benefit. If a patient wants a drug in a class that may be more convenient to take (for example, one that can be taken just once a day rather than twice a day), the consumer must pay the difference between the reference drug and the one purchased. Problems arise when deciding how broad to define a class of drugs. For example, should all antihistamines be lumped together in one class, or should the newer nonsedating antihistamines (e.g., Claritin®) be placed in a category by themselves? This would make a huge difference in the effectiveness of reference pricing, since the older antihistamines only cost pennies apiece, while the newer antihistamines cost 10 times as much or more.
Profit controls limit the profit that can be made by drug companies for brand name drugs (generics are exempt). This system is used by the United Kingdom. Innovative products can be rewarded by allowing higher profits than those allowed for "me-too" drugs. This approach is similar to the public utilities model in the U.S. where utility companies are allowed to make a certain profit in exchange for a monopoly position.
The U.S. approach to cost controls relies on market forces to moderate price increases. The only regulatory control is through Medicaid, the health care program for the poor, in which the government establishes maximum allowable prices for certain products. In the private insurance market, most insurers are moving toward a three-tiered system of cost-sharing as a means of reducing costs. The lowest tier is for generic drugs. The consumer usually pays a small copayment, such as $5. The second tier is for brand name drugs that are included in the insurance company’s formulary. These are typically drugs for which the company has negotiated a discount from the manufacturer. The consumer pays a larger copayment, such as $15, even if no generic variety is available. The third tier is for FDA-approved drugs that are not on the company’s formulary. The copayment may be $30 or more.
One problem with the U.S. approach is that it assumes that the consumer has significant discretionary control over choosing drugs. Typically, most patients accept whatever prescription is given to them by their doctors. If a generic drug is available, most states allow pharmacists to substitute the generic drug for the brand name written. For example, if a doctor writes a prescription for Bactrim DS® ($143.45 per 100 tablets, wholesale), the pharmacist can substitute the generic equivalent ($26.95 per 100). This antibiotic is very effective for most simple bladder infections. If instead, the doctor wrote a prescription for Levaquin® (levofloxacin), a newer antibiotic which is not available as a generic yet, the wholesale cost to the pharmacist is $411.40 for 50 tablets, nearly 6 times the cost. For insured patients, the difference in prescriptions will only be $10, even though the cost to the insurer may be hundreds of dollars. For patients without insurance, they may choose not to fill the prescription at all, a decision that could lead to serious health consequences.
Pharmaceutical manufactures have strongly opposed any government-imposed cost-control measures. During the last national election in 2000, the drug companies invested more money in campaign contributions than ever before in U.S. political history—$80 million—to benefit candidates who opposed the Democratic plan for Medicare prescription drug coverage. In the 26 House races that the drug industry focused its advertising campaign on, only 4 industry-backed candidates lost. The TV ad introduced "Flo," a perky elderly person who said she wanted to "keep the government out of my medicine cabinet." This played upon the deep-seated mistrust of government by Americans.
Common Cause, a nonpartisan citizens watchdog group, criticized the drug companies for mounting such ad campaigns under the guise of deceptively named front groups like "Citizens for Better Medicare" to put a pro-consumer spin on their pro-industry efforts. (6)
The Bush administration favors the market approach promoted by the pharmaceutical manufacturers. This approach would rely on private drug benefit management companies to compete with each other. The management companies would selectively contract with pharmacies (e.g., all CVS pharmacies) in order to obtain the lowest price for pharmaceutical services. The pharmacy chains, in turn, would selectively contract with drug wholesalers to get the best price on drugs.
A new and troubling development that has been spawned by this free market approach has been the appearance of counterfeit drugs. These fake drugs are usually ones that are very, very expensive, such as genetically engineered growth hormone, where a course of treatment exceeds $10,000. Drugs often go through many intermediaries from the manufacturing plant to the drug store shelf, allowing many opportunities for counterfeits to be substituted for the real thing. As companies vie with one another on the basis of price, wholesalers may not ask too many questions about the source of a drug when the price is right. The Food and Drug Administration does not have adequate staff to check the quality and purity of drugs other than at legitimate manufacturing sites. Many of the counterfeit drugs are manufactured abroad, then surreptitiously inserted into the wholesaling network by unscrupulous entrepreneurs.
Pharmaceutical manufacturers argue that stringent cost-control measures will kill the incentive for drug companies to invest in R&D. Currently, over $200 million must be invested in R&D for every new drug that hits the market. The big drug companies invest up to 16% of their sales revenue in R&D. A reduction in the potential for profit will discourage investors and thus dry up funds for R&D, they contend. However, this ignores the fact that drug companies get special tax breaks already on their R&D, including a 20% tax credit, and that much of the basic research is conducted with funding from the public coffers: the National Institutes on Health (NIH). Efforts by legislators to force drug companies to charge "reasonable prices" for products developed through NIH funding have been defeated by the drug companies’ lobbying efforts. While making the case for support of R&D, drug companies hide the fact that they spend twice as much on marketing and administration than they do on R&D. The pharmaceutical industry remains the most profitable industry in the U.S. (7)
Prospects for the Future
The prospects that some form of prescription drug coverage for the elderly would become a reality improved recently when the Congressional Budget Office announced that its estimate of the costs for both the Democratic and Republican bills appear to be affordable. The budget office said that the Senate Democrats’ proposal would cost $318 billion over the next 10 years, while the House Republican version would cost $157 billion over the same time period and the Senate Republican version, $176 billion. The House GOP bill is similar to that proposed by President Bush. The recently enacted budget put aside $300 billion for prescription drug coverage for the elderly, so all plans are within the realm of fiscal possibility.
The Senate Democrats’ bill (S. 10) would create a new, voluntary Medicare Part D for prescription drug coverage that would be available to all Medicare beneficiaries. The plan includes a $250 deductible, 50% coinsurance, phased-down to 25% when out-of-pocket drug expenses reach $3,500, and phased-out entirely when out-of-pocket expenses reach $4,000. Enrolled Medicare beneficiaries would pay a uniform monthly premium equal to 45% of the cost of the plan (the rest being a government subsidy). The premium would be subsidized further for low-income enrollees.
The competing bill, sponsored by Senators Breaux and Frist (S. 357), would create a new, independent agency, the Medicare Board, to run a "competitive premium system" in which each beneficiary would choose from among competing plans, some of which would offer drug coverage. Breaux and Frist also offered another bill (S. 358) that would offer all Medicare beneficiaries the option of prescription drug coverage either by enrolling in managed care organizations or through privately sponsored drug plans. The standard drug benefit would have a $250 deductible, 50% coinsurance, and an initial coverage limit of $2,100. Full coverage would kick in when out-of-pocket expenses exceeded $6,000. The government would provide a premium subsidy equal to at least 25%, which would be taxable as income. Low-income beneficiaries would receive additional subsidies. (8)
References
Reported in a study by the National Institute for Health Care Management Foundation. The full text of the publication can be found at nihcm.org.
Princeton economist Uwe Reinhardt cautions that we shouldn’t exaggerate the effect that prescription drug costs have on the economy. He noted that in 1999, Americans spent less per capita on prescription drugs ($358) than they did on alcohol, tobacco, and entertainment admission fees ($413). "You could just as easily say football was the problem," he joked. However, prescription drugs are not a discretionary expense as are football tickets. Also, the statistical average cost per capita understates the large impact that prescription drug costs have on the relatively few individuals who have a medical need to take very expensive medications. Reinhardt makes a good point in noting that the solution isn’t in lowering the industry’s profit margin because industry profits represent only about 1.2% of national health expenditures.
Insurance premiums rose 6.5% in 1999, with increases in drug spending accounting for 33% of the rise, according to the National Health Statistics Group, Office of the Actuary, Health Care Financing Administration. Heffler S, et al. Health Spending Growth Up in 1999; Faster Growth Expected in the Future. Health Affairs 2001; 20(2): 193–203.
Langman M, et al. Gastroenterology 1999; 116: A232.
Stuart and Grana surveyed 4,066 elderly Pennsylvania Medicare beneficiaries and found that having prescription drug coverage increased the likelihood that beneficiaries would fill their prescriptions up to 17%. The effect was greatest among poorer elderly. Stuart B, Grana J. Ability to Pay and the Decision to Medicate. Medical Care 1998; 36(2): 202–211. Another study by Poisal and Murray showed that Medicare beneficiaries without drug coverage received fewer prescriptions. Most disturbing was the fact that the gap between the two groups widened as health status declined. Those in the worst health without insurance received 27 prescriptions in a year compared to 42 prescriptions for those with insurance. Poisal JA, Murray L. Growing Differences Between Medicare Beneficiaries With and Without Drug Coverage. Health Affairs 2001; 20(2): 74–85.
For full text of "Prescription for Power," go to commoncause.org.
Off the Charts: Pay, Profits and Spending by Drug Companies. Families USA. Publ. No. 01-104, July 2001.http://www.familiesusa.org/media/pdf/drugceos.pdf
For a side-to-side comparison of the competing bills, go to kff.org.
©2001 Stephen R. Smith, M.D., M.P.H.
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