The prescription drug market is bewildering to many, and its complexity can make rational discussions about the causes of high drug prices exceedingly difficult. It also means that government officials regulating the market have to take care that their actions don’t have any unintended consequences. Unfortunately, such unintended consequences are precisely what may transpire in the next two years.
One thing that makes this market complex is that the producers of pharmaceuticals—namely, the drug companies—do not sell directly to the people who ingest the drug. People who need a drug usually get a prescription from their doctor and then go to a pharmacy, where they present their insurance information and make what is usually a nominal co-payment, while their insurer pays most of the costs.
Insurers don’t all pay the same price for a prescription drug: each seeks to negotiate the best possible price for the drugs they obtain from each drug company. The more market power they have, the better a price they can obtain.
But most insurers—as well as unions and large companies that self-insure—engage a pharmacy benefits manager to negotiate on their behalf. A PBM typically represents numerous insurers, and its aggregated market power offsets that of the pharmaceutical companies, which have a government-granted monopoly on its drugs. Its heft allows it to negotiate lower prices than any insurance company could do on its own.
What further complicates this market is that PBMs receive the negotiated discounts not in the form of a reduced price per prescription but rather in the form of a rebate. It is done this way because a law requires it: A depression-era piece of legislation called the Robinson-Patman Act prohibits volume discounts in many situations, and that is what PBMs negotiate for.
The Robinson-Patman Act became relevant to the drug supply chain in 1994, when a group of pharmacies filed a class-action lawsuit against drug manufacturers for offering upfront discounts to health plans, hospitals, and other purchasers, while denying the same discounts to pharmacies for the same drugs. The lawsuit alleged that the drug manufacturers had practiced price discrimination in violation of Robinson-Patman.
A judge resolved the lawsuit by approving a settlement that allowed manufacturers to offer discounts retrospectively when a purchaser can demonstrate an ability to affect the market share of a drug, which is an exception explicitly granted in Robinson-Patman.
The settlement led manufacturers to move away from offering upfront price discounts to large buyers and to offer volume rebates instead, which is how the market currently operates.
In the last few years the pharmaceutical industry has been fighting to end the ability of PBMs to negotiate rebates as well, derogatorily referring to them as “kickbacks,” and it’s been getting traction—the Federal Trade Commission recently announced that it will begin investigating potential violations of Robinson-Patman in the soft drink market, where quantity discounts are a common practice.
The rhetoric obscures the fact that most of the rebates get returned to the insurers to then reduce premiums for their customers and consumers. The GAO found that 99.6% of rebates in Medicare Part D went back to plan sponsors. Rebates function no differently than price discounts.
Ending rebates—which current federal regulations will do come 2031—will mean that PBMs will have no mechanism for obtaining discounts for their clients. The result would be higher prescription drug costs, and an additional $177 billion cost to taxpayers over the next 10 years.
The Congressional Budget Office has acknowledged the reality that abolishing these discounts would increase the cost of prescription drugs—and one of the ways the Biden Administration reduced the cost of the Inflation Reduction Act was by delaying the implementation of the rebate prohibition, as the federal government relies on PBMs as well.
There has been a lot of rhetoric from this and the previous administration about “middlemen” having a pernicious effect on a variety of markets and pushing prices higher, and the promise of consumer and taxpayer savings if only these middlemen could be abolished.
The rhetoric is deceitful and has no basis in reality, and in the prescription drug market the notion is comical. Pharmacy benefit managers not only manage to put downward pressure on drug costs but they have also instigated numerous practices that have driven costs down in the market, such as the home delivery of prescription drugs.
Congress should reject such tired ideas and strengthen competition in the prescription drug market by rejecting legislation that ties the hands of pharmacy benefit managers at the behest of drug companies.