Latest / The Fiscal Policy Podcast with Fexingo: Government Budgets, Stimulus, and Public Spending / Why Government Health Programs Overpay for Drugs by 50 Percent
Transcript
- Lucas: The US government is the single largest buyer of prescription drugs in the world. It spends over 50 billion dollars a year on them through Medicare and Medicaid. And yet, it pays more per pill than almost any other country — in many cases, more than double. Luna: So the biggest customer on the planet is getting the worst deal. How does that even happen? Lucas: It starts with a legal prohibition. Since 2003, when Medicare Part D was created, the law explicitly forbids the government from negotiating drug prices. That was a provision written by the pharmaceutical industry and their allies in Congress. Luna: Wait — so the government is legally barred from doing what any rational buyer would do? Walk in and say, 'I'll buy 50 million doses, give me a discount'? Lucas: Exactly. The government has to accept whatever price the manufacturer sets. The only negotiation happens through private insurance plans and pharmacy benefit managers, or PBMs. And that's where the system gets really murky. Luna: Right, PBMs are the middlemen. They process claims, create formularies, and theoretically negotiate rebates. But I've read that the rebates don't always get passed to the government. Lucas: That's the key. PBMs negotiate rebates from drug makers in exchange for placing their drugs on preferred formulary tiers. But those rebates are often kept by the PBM or used to lower premiums for everyone, not to reduce the price at the pharmacy counter for the individual patient. Luna: So the government pays the list price, the drug maker pays a rebate to the PBM, and the patient still pays based on the list price. The government doesn't see a dime of that rebate. Lucas: In many cases, yes. The net price after rebates is lower, but the government still pays a premium. A 2023 study from the Congressional Budget Office found that Medicare Part D spending on brand-name drugs was 53 percent higher than in comparable countries like Canada, Germany, and Australia. Luna: And the poster child for this is insulin. It's been around for a century, yet the US pays astronomical prices. Lucas: Right. A vial of analogue insulin that costs about 6 dollars to manufacture has a list price of over 300 dollars in the US. In Canada, the same vial sells for about 30 dollars. For a patient using 10 vials a year, that's a difference of 2,700 dollars. For the government covering millions of patients, the taxpayer bill runs into the billions. Luna: And this isn't a rare exception. The Government Accountability Office found that for 20 of the top 50 drugs by spending, the US government paid more than double the price paid by other wealthy countries. Lucas: So why hasn't the system been fixed? There have been attempts. The Inflation Reduction Act of 2022 included a provision allowing Medicare to negotiate prices for a small number of drugs starting in 2026 — so just this year, actually. But it's limited to 10 drugs initially, and the negotiation process is heavily constrained. Luna: Constrained how? I mean, the government is the buyer — shouldn't they have leverage? Lucas: You'd think. But the law says the negotiation is technically 'voluntary.' If a drug company refuses to negotiate, they can either withdraw from Medicare — effectively giving up a huge market — or pay an excise tax. But the price that emerges is still based on a formula tied to the drug's 'net price' in the commercial market, which includes those opaque rebates. It's not a true negotiation where the government can set a price based on value. Luna: So it's more like a guided discount than a real negotiation. And even that was fought tooth and nail by pharma. Lucas: Exactly. The pharmaceutical industry spent over 300 million dollars on lobbying in 2022 and 2023 to weaken the provision. And they succeeded in several ways: the drugs selected for negotiation must be at least 7 years old for small molecules, 11 years for biologics. So new, high-priced drugs are shielded. Luna: And there's another angle I want to bring up — the role of Medicaid. Medicaid legally gets the 'best price' across the market, but that price is still negotiated privately. And there's a catch: if the government tries to get too low a price for Medicare, it could trigger a higher rebate for Medicaid, creating a perverse incentive. Lucas: I've heard about this. The Medicaid 'best price' rule means that if a drug maker gives a steeper discount to one buyer, they have to extend that same discount to Medicaid. So if Medicare negotiations produced a very low price, the drug maker would have to lower their price for Medicaid too, which would hurt their profits. So they have an incentive to keep Medicare negotiations weak. Luna: Talk about a system designed to keep prices high. It almost seems intentional. Lucas: Well, the design was heavily influenced by the industry. But there's a broader point here about government procurement. The federal government is a massive buyer — not just of drugs, but of everything from office supplies to fighter jets. And in many cases, it doesn't use its market power effectively. With drugs, the consequences are literally life and death. Patients ration insulin because of cost. The government ends up paying more in emergency care for uncontrolled diabetes. Luna: Which brings us to a question we've been asking all season: why does the government keep paying more than it has to? And I think a couple of dollars a month is genuinely what keeps these going — buy me a coffee dot com slash fexingo, if you've gotten something out of them. It helps us keep digging into questions like this. Lucas: Exactly. And speaking of digging, there's a proposal that's been gaining traction: allowing the government to use 'march-in rights' on patents funded by taxpayer dollars. If a drug was developed with NIH funding — and many are — the government could license it to other manufacturers to create competition. That would drive prices down without any negotiation. Luna: But that's never been used. The government has the authority but has never exercised it, under either party. Lucas: That's right. The NIH has received multiple petitions — for drugs like Xtandi, a prostate cancer drug that costs 90,000 dollars a year but was developed with tens of millions in taxpayer funding. Each time, the NIH declined, citing concerns about undermining innovation. But critics say it's a tool that's sitting on the shelf. Luna: So the government has options: negotiation, patent licensing, reference pricing based on other countries, even just setting a maximum price. But politically, none of them are easy. Lucas: And the fiscal impact is enormous. Prescription drug spending accounts for about 10 percent of total healthcare spending, but it's growing faster. The CMS projects that by 2030, drug spending will top 600 billion dollars a year. If the government could get the same prices as other countries, it would save over 100 billion dollars annually. Luna: That's enough to fund a significant expansion of coverage or reduce the deficit. But it requires confronting a powerful industry. Lucas: And that's the tension at the heart of fiscal policy. The government has the legal authority and the market power, but the political will is fractured. The Inflation Reduction Act is a step, but a small one. Whether future administrations expand negotiation or use march-in rights will determine whether the US continues to be the world's piggy bank for drug companies. Luna: Or whether we finally start getting the deal our tax dollars deserve. Lucas: That's the question. And it's not just about drugs — it's about whether the government can learn to be a smart buyer. But that's a topic for another episode.