How Broker Secrets Inflate Drug Prices

Most Americans believe that drugs are too expensive and that big drugs are to blame. That powerful political sentiment prompted the new Medicare authority to negotiate prices directly with producers. Negotiations can result in lower revenues for drugs, but will also hinder future drug development.

There is a better solution: forcing transparency into the supply chain of market-boosting drugs on brokers where covert agreements create excess profits. They have not yet contributed to the development of new drugs, but have received billions of dollars from taxpayers, employers and Patients.

As health policy researchers, we have seen how this works in secret. While the cost of drugs based on manufacturers’ list prices (publicly disclosed) has doubled in the last decade, what manufacturers collect based on net prices (which is confidential) has only increased. Only 15 percent. In the insulin market, for example, the share of increased costs to brokers increased by 155 percent in five years, while the share of increased costs to manufacturers decreased by 33 percent.

Most people or organizations that buy drugs, such as self-insured employers, do not know the gap between what they are paying and what the drug manufacturer is getting. Research by our organization, USC Schaeffer Center, shows that intermediaries in this system are more profitable than the average company in the S&P 500 after accounting for investment risk in different industries.

Drug prices could be pushed down if market forces were allowed to target those profits, but first everyone needs to know what is being charged and by whom. Policymakers also need that information to fully understand how the system is going wrong.

Key concealers are pharmaceutical benefit managers, large companies sitting on the supply chain. They manage drug benefits for health insurers, employers, unions and government entities, and contract with pharmacies to distribute drugs to consumers.

Pharmacy benefit managers capture profits from each prescription by setting prices based on fictional standards rather than fixed dollar amounts. For example, a typical employer contract with a pharmacy benefit manager does not say that a 30-day prescription of medication will cost $ 5. Instead, it can guarantee a certain discount from the base price, such as the average wholesale price (sometimes called Ain’t What’s Paid) that can be arranged.

As a result, employers do not know in advance what they will pay for the drugs they buy on behalf of their workers and cannot judge whether the prices they are offered are competitive. The pharmacy is also in the dark about the specific compensation it will receive from the pharmacy benefit manager. It is not surprising that given those conditions, consumers do not know what they will be charged to complete a new prescription.

Bipartisan bills from three committees in Congress and two in the Senate aim to reform drug distribution, in part by overseeing pharmacy benefit managers. To ensure market transparency, the final law should include a simple mandate for the government to collect actual operating costs among insurers, pharmacy and pharmacy benefit managers, and then publish actual standards based on actual prices.

For example, pharmacy benefit managers will have to report to the government the price they charge the employer for each drug and the compensation they pay to the pharmacy. Also, the pharmacy will report the cost of getting the drug from the wholesaler and the compensation received from the pharmacy benefit manager. From these data, the government can calculate and publish an average based on the actual operating cost for each drug across all sales at each operating point.

Armed with that information, the employer’s contract with the pharmacy benefit manager may be based on facts rather than fictional standard values. Employers can purchase items for a better deal by comparing the price in their pharmacy benefit manager’s contract with the published average price received by other employers. Likewise, pharmacies can compare the compensation they are offering with the average across all pharmacies for completing the same script.

The actual scorecard can be used to estimate the total profit for each part of the supply chain. If margins are growing rapidly in part, new competitors may be attracted. If the new element fails, the government may seek antitrust action by the companies that control those divisions.

Needless to say, pharmacy benefit managers against any illumination in their corner. They maintain that they must protect their prices from public disclosure so that they can snatch the discount from the manufacturer. They argue that transparency will undermine the impact of their negotiations while opening the door to collusion among drug producers.

But that is not what happened in Medicaid, the federal state public health program for low-income people. In a useful sample – and a possible sample for other standard prices – the government surveys the pharmacy weekly to determine the cost of purchasing the national average drug that is printed and used to calculate the Medicaid compensation to the pharmacy. The results helped ensure that the Medicaid billing plan was affordable for prescription drugs.

Congress cannot rely on price negotiations alone to get jobs for Americans on drug spending. Even if Medicare guarantees an improved deal, brokers will continue to withdraw billions away unless their approach for doing so is addressed. Transparency is crucial in allowing market forces to disinfect the supply chain and clean up the mess of drug prices.

Neeraj Sood is a senior staff member at the USC Schaeffer Center for Health and Economic Policy and a professor at the USC Price School of Public Policy. Karen Van Nuys is a senior associate and CEO of Value of Life Sciences Innovation at the Schaeffer Center.