Latest / The Fiscal Policy Podcast with Fexingo: Government Budgets, Stimulus, and Public Spending / How Government Pays More for Drugs Than Anyone Else
Transcript
- Lucas: So the US government is the single largest buyer of prescription drugs in the world. It spends something like $150 billion a year through Medicare, Medicaid, and the VA. You would think that gives it massive bargaining power, right? Luna: You would. But we know that’s not the case. In fact, the government often pays more than smaller buyers in other countries. Lucas: Exactly. And that’s the puzzle we’re going to dig into today. Because the biggest purchaser on earth is legally prohibited from doing what any sensible bulk buyer does: negotiate for a lower price. Luna: So if walking through the economy with us has made something click — maybe it’s this drug pricing paradox, or another episode — the way these stay ad-free is listener support. You can find us at buy me a coffee dot com slash fexingo. Lucas: It genuinely helps. And it keeps us independent, which is how we like it. So, back to the numbers. The legal barrier is called the 'non-interference clause.' It was written into the Medicare Part D law in 2003. Luna: And what does it say, exactly? Lucas: It says the Secretary of Health and Human Services 'may not interfere with the negotiations between drug manufacturers and pharmacies and prescription drug plan sponsors.' In plain English: Medicare cannot negotiate drug prices directly. It has to sit on the sidelines while private insurers negotiate on its behalf. Luna: Which seems odd because the VA — the Department of Veterans Affairs — does negotiate. And it pays significantly less. Lucas: Significantly. A 2020 study from the Government Accountability Office found that the VA paid, on average, about 42 percent less than Medicare for the same brand-name drugs. The VA can use a national formulary and say no to certain drugs. Medicare can't. Luna: So the VA gets volume discounts, basically. But Medicare doesn’t get to leverage its volume because Congress told it not to. Lucas: Right. And the rationale at the time was ideological — that the government shouldn't be setting prices, that the market should work through private plans. But the result is that the US pays roughly two to three times what other wealthy countries pay for the same drugs. Luna: And those other countries — like Germany, Canada, Australia — they all have some form of government negotiation or reference pricing. Lucas: Exactly. They use their single-payer leverage. The US has single-payer leverage for seniors and disabled people, but it refuses to use it. The Congressional Budget Office has estimated that allowing Medicare to negotiate could save somewhere between $50 billion and $100 billion over ten years. Luna: But that number depends on how aggressive the negotiation is. The CBO has been cautious about big savings because they assume the pharmaceutical industry would push back. Lucas: Right. And the industry has a powerful argument: if you cap prices too much, you reduce incentives for R&D. But that's a separate debate. The point is, the non-interference clause is a deliberate choice, not an oversight. Luna: So what changed with the Inflation Reduction Act? Because I know that law, passed in 2022, included a limited Medicare drug price negotiation provision. Lucas: It did. Starting in 2026 — so this year — Medicare will begin negotiating prices for a small set of high-spend drugs. Specifically, ten drugs in 2026, then fifteen more in 2027, and up to twenty per year after that. But there are exceptions: small-molecule drugs get negotiated after nine years, biologics after thirteen. Luna: So it's phased in slowly. And the negotiated prices are capped — they can't go below a certain floor based on how long the drug has been on the market. Lucas: Right. And the drugs selected are ones without generic competition, where Medicare spends the most. The first list included things like Eliquis, Jardiance, Xarelto — blood thinners and diabetes drugs. The CBO estimated these negotiations would save the government about $98 billion over ten years. That's significant, but it's a fraction of total drug spending. Luna: And there's already legal challenges. The pharmaceutical industry sued, arguing it violates the Fifth Amendment by taking property without just compensation. Some cases are still working through the courts. Lucas: Exactly. The constitutionality question is real. But the bigger story might be political: for twenty years, the non-interference clause was untouchable. The Inflation Reduction Act broke that taboo. Even if the program is modest, it establishes the principle that the government can negotiate. Luna: Which opens the door for expansion. If a future administration wants to negotiate more drugs or earlier, the infrastructure is already there. Lucas: Exactly. And there's bipartisan interest, oddly enough. Some Republicans have supported negotiation in the past — though the party line has mostly been against it. Polling shows overwhelming public support across the aisle. Luna: But we also need to talk about pharmacy benefit managers — the PBMs. Because they complicate the picture. Lucas: They do. PBMs are the middlemen who negotiate rebates from drug manufacturers on behalf of insurers. They get a cut. And the current system is built on a web of rebates and discounts that aren't transparent. Medicare's private plans negotiate through PBMs, but those negotiations are opaque. Luna: So when Medicare 'negotiates' under the Inflation Reduction Act, it's not using PBMs. It's direct government to manufacturer negotiation. That's a fundamentally different model. Lucas: Right. And that's why the savings estimates vary so much. Because the current system has high list prices and big rebates — the net price is often much lower than the list. But the government negotiation aims to lower the list price directly. Luna: Which could actually disrupt the PBM business model. If list prices come down, rebates shrink, and PBMs make less money. Lucas: That's one reason the industry is fighting it so hard. But let's zoom out. The non-interference clause is a fascinating case study in how a policy choice — written into law two decades ago — can cost taxpayers hundreds of billions of dollars. And it took a once-in-a-generation legislative push to start unwinding it. Luna: And the unwinding is just beginning. The first negotiated prices under the Inflation Reduction Act will be announced later this year. But we won't see the full effect until years down the road. Lucas: True. And one thing to watch: if the program survives legal challenges and a potential change in administration, it could be expanded. Some policy analysts have proposed letting Medicare negotiate all drugs, not just a subset. That would save hundreds of billions. Luna: But the political will for that might not exist. The pharmaceutical lobby is still one of the most powerful in Washington. Lucas: No doubt. But the conversation has shifted. Ten years ago, even bringing up Medicare negotiation was political suicide. Now it's law. So the question isn't whether the government can negotiate — it's how far it will go. Luna: And whether the savings actually reach patients. Because even if Medicare pays less, that doesn't necessarily mean lower premiums or out-of-pocket costs for beneficiaries. Lucas: That's a crucial point. The Inflation Reduction Act also caps out-of-pocket costs for seniors — $2,000 a year starting in 2025 — and that's a separate benefit. But the negotiation savings go to the government, not directly to patients. They reduce the deficit. Which is good for taxpayers broadly, but the connection to personal savings is indirect. Luna: So it's a fiscal policy win, but not necessarily a consumer win. At least not directly. Lucas: Right. And that's something to keep in mind when you hear big savings numbers. The fiscal math is real, but the politics of who benefits is more complicated. Luna: Alright, so let's crystallize the takeaway. The US government pays more for drugs than almost any other buyer because Congress barred Medicare from negotiating. The Inflation Reduction Act takes a small step to reverse that, but it's early days. Lucas: And the core lesson for fiscal policy is this: when you're the biggest buyer in the market, you leave money on the table if you don't use your bargaining power. The non-interference clause is a textbook example of a policy that looks like a free-market choice but actually costs taxpayers billions. Luna: So the next time you hear about drug prices, ask: who's negotiating, and who isn't? Lucas: Exactly. And whether the biggest buyer in the room is even allowed to speak.