Latest / The Fiscal Policy Podcast with Fexingo: Government Budgets, Stimulus, and Public Spending / How the US Government Lost Billions Buying Generic Drugs
Transcript
- Lucas: So here's a number that should bother anyone who cares about how the government spends money. The federal government spends around twenty billion dollars a year on generic drugs—and pays, on average, about three to four times more than it needs to. That's not a rounding error, that's billions in potential savings. Luna: Wait, three to four times more? For the exact same pills? That's wild. Why would the government, the biggest buyer on earth, pay more than a retail pharmacy? Lucas: Well, that's the puzzle. You'd think the largest purchaser in the country would have all the leverage. But the way the federal government buys drugs is fragmented across agencies, and each one negotiates separately. The Department of Veterans Affairs, for example, does negotiate hard and pays close to what other countries pay. But Medicare Part D runs through private insurers and pharmacy benefit managers, and the math just doesn't work the same way. Luna: So it's not one big buyer, it's like fifty medium buyers, each with their own process. And some of them are better at it than others? Lucas: Exactly. The VA is the gold standard. They have a formulary, they can say no to a drug if the price isn't right, and they negotiate directly. Medicare, on the other hand, is legally prohibited from negotiating drug prices—that's a 2003 law, and it applies to Part D plans. So the government pays list price, or whatever the private plans can get, which is often inflated because of how the rebate system works. Luna: And the rebate system—that's where pharmacy benefit managers come in, right? The middlemen who are supposed to negotiate but have their own incentives? Lucas: Right. PBMs negotiate rebates from manufacturers, but they keep a percentage. So there's an incentive to keep list prices high, because their cut is tied to the rebate size. That's a huge distortion. And with generics, there's often only one or two manufacturers, so they can charge more than you'd expect. The government ends up paying a premium because nobody's really pushing back. Luna: So the 'biggest buyer on earth' is actually a bunch of small buyers, and the middlemen are taking a cut. That's a recipe for overspending. But there was a bipartisan bill in 2016 that tried to fix this, right? What happened with that? Lucas: Yeah, the 2016 law was the Every Prescription Conveyed Securely Act—wait, no, that's something else. Let me be specific. The one I'm thinking of is the bipartisan bill that allowed the VA to share its drug prices with other federal agencies. The idea was that if the VA gets a great price, why shouldn't the Department of Defense or the Indian Health Service get the same deal? But it was voluntary, and it didn't apply to Medicare. So it helped in some corners, but it didn't change the big picture. Luna: So they patched one leak, but the whole pipe is still cracked. And then in 2024, there was an executive action on drug prices, but that was mostly about Medicare negotiating for some brand-name drugs, not generics, right? Lucas: That's right. The Inflation Reduction Act—which passed in 2022, not 2024—allowed Medicare to negotiate prices for a small set of brand-name drugs starting in 2026. That's a big deal, but it's only ten drugs initially, and it doesn't touch generics at all. The generic market is where you have this absurd dynamic: the government is paying top dollar for drugs that have been off-patent for decades, and the only reason is that the purchasing system is a mess. Luna: And what's the actual price difference? Like, give me a concrete example. What are we talking about per pill? Lucas: Sure. Take a common generic like atorvastatin, which is the generic for Lipitor. The VA might pay around ten dollars for a ninety-day supply. Medicare Part D plans, through their PBMs, can pay thirty or forty dollars for the same thing. And that's not because the drug costs more to make—it's because the negotiation is just weaker. Multiply that across thousands of generics, and you get billions in waste. Luna: So the VA is the gold standard, and everyone else is just not trying? Or is there something structurally different? Lucas: It's structural. The VA has a single, centralized formulary. They can exclude a drug if the price is too high, and they can demand lower prices because they control volume. Medicare Part D is a decentralized system where seniors choose among private plans, and those plans compete on premiums and coverage. That's fine in some ways, but it means no single entity has the bargaining power. And the PBMs, who are supposed to be the negotiators, are actually part of the problem because their incentives aren't aligned with lowering costs. Luna: And what about other countries? I mean, we hear about how Canada or European countries pay less for drugs. Is that just because they have national health systems that negotiate everything? Lucas: Yeah, many countries have a single payer or a central body that negotiates prices, and they often use the same kind of formulary approach as the VA. For generics, the difference is even starker because there's no patent monopoly to justify high prices. In the UK, the National Health Service pays a set price for a generic, and it's often a fraction of what we pay here. The US is the outlier. Luna: So the fix seems obvious—just let the government negotiate for all federal programs, or at least use the VA's pricing as a benchmark. But there's pushback. What's the argument against that? Lucas: The arguments are usually about innovation. The pharma industry says that if you squeeze generic prices too much, you'll hurt the manufacturers' margins, and they'll stop making generics. But that's a weak argument because generics are already a commodity market, and the profit margins are thin anyway. The real pushback is from the PBMs and the insurers who make money off the current system. They don't want to lose those rebates and fees. Luna: And of course, there's the lobbying. That's the unspoken part of this—the billions in revenue that depend on keeping things complicated. Lucas: Exactly. And that's why we've had piecemeal reforms instead of a structural fix. But there's been some progress on the state level. A few states have started importing drugs from Canada or setting up their own purchasing pools. But the federal government, which is the biggest spender, hasn't moved the needle much. Luna: So what would a real fix look like? I mean, if you could wave a magic wand, what's the cleanest solution? Lucas: The cleanest solution would be to create a single federal formulary for all government-funded drug programs, including Medicare Part D. That would mean the government could negotiate prices for all beneficiaries, not just the ten drugs in the Inflation Reduction Act. And you could use the VA's pricing as a benchmark, maybe with a slight markup to keep the market stable. That alone could save tens of billions a year, and it wouldn't affect innovation because we're talking about generics. Luna: But that's a political non-starter, I assume. Because it would put the PBMs out of business, or at least shrink their role. And they're powerful. Lucas: Right. And there's also the argument that seniors like the choice of Part D plans. But you could keep the choice and still have a centralized negotiation. The government could set a maximum price, and the plans could compete below that. That would be a big shift, but it's not impossible. The longer we don't do it, the more we waste. Luna: It's interesting because this is one of those rare fiscal issues where the fix is clear, the savings are measurable, and the only thing standing in the way is politics. It's not like we don't know how to do it. Lucas: Yeah, and that's what makes it so frustrating. We could save billions just by copying the VA's playbook. But the incentives in Washington are such that the status quo persists. And it's not just about generics—it's the same story in other areas of procurement, like defense or IT. We buy things in fragmented ways, and we end up paying more. Luna: And this is exactly the kind of thing that our listeners care about—where their tax dollars go. And if you're one of those listeners, you might have thought about supporting the show. And honestly, if today's episode was worth a coffee to you, that's the link—buy me a coffee dot com slash fexingo. Lucas: Yeah, that's a nice way to put it. We don't run ads, and that's because of listeners like you who chip in. It keeps the podcast going and ad-free. And we appreciate it. Luna: Exactly. So back to the topic—what do you think is the realistic next step? Will we see any movement on this in the near term? Lucas: I think the push for transparency in PBM pricing is gaining steam. There are proposals in Congress that would require PBMs to disclose their rebates and fees, which could expose the spread between what they negotiate and what they pocket. That might be the crack that eventually leads to more aggressive negotiation. But it's slow. Luna: So the story is still being written. But at least we're talking about it. And hopefully, one day, we'll look back at this as an obvious waste that we finally fixed, like we did with some other procurement reforms. Lucas: That's the hope. And in the meantime, it's worth keeping an eye on the numbers. Because every year that goes by without a fix, we're leaving billions on the table—money that could be spent on other priorities, or just given back to taxpayers. It's a reminder that government spending isn't just about what we choose to fund; it's also about how we buy.