The AARP Faults Drug Companies for Price Increases

Today’s Managing Health Care Costs Indicator is 8.5%

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The AARP  reported last week that brand name prescription drug prices rose 8.5% last year.    That’s substantially more than the total increase in the cost of pharmaceuticals - which was 3.2% for 2008 (last publication of National Health Expenditures  or 5.7% (CVS-Caremark- figure above).

What’s the difference?

The overwhelming majority of prescriptions (about 70%) are for generic medications.  However, the overwhelming majority of costs (about 80%) are for that minority of medications that are available in brand name formulations only.  So – generic substitution can lead to giant savings, but these can also be wiped out quickly when brand name prices go up.

The big pharmas aren’t in an enviable position.  Many ‘blockbuster’ drugs have gone generic over the past few years, and Pfizer is preparing itself for Lipitor (atorvastatin) going generic at the end of next year.   The AARP study shows that drugs about to go generic have had large cost increases in recent years.   Why is this?

It’s not to fund the research (long since paid for), but it could help underwrite new research.  It’s not to pay for marketing – the pharmas cease large-scale promotion of a drug in the months before it goes generic.  Brand name price increases are certainly not to address additional production costs – generic manufacturers will be able to produce these for pennies a pill in just a few months.  

The pharmas cannot suggest an increase in ‘value’ provided by a brand name as it nears patent expiry which could justify an increase often over 10%. 

Once again –what causes the prices of drugs about to go generic to increase?

There are a few different underlying reasons.  The first is revenue maximization.  The ability to get a high margin is about to evaporate – make hay while the sun shines!  A darker potential reason is that  the pharmas are seeking to make drugs about to go off patent look as unattractive as possible.  When  Lipitor is about to lose its patent protection, even while a similar drug simvastatin is available for pennies a pill , Lipitor goes up in price by 24%.  Sure, that will move some patients to simvastatin.   But that will diminish profits for the ‘first mover’ generic competitor, as some patients will switch to another statin medication that retains patent protection.   Flomax went up 92% over 5 years; most of that price increase was in the two years before patent expiration.   

Many pharmacy benefit managers would move drugs about to lose their patent protection to a “preferred” tier to gain savings after the drug goes generic.  However, the manufacturers would like patients to move away from drugs about to lose their patent protection – preferably to a medication that will retain patent protection for a number of additional years. 

There aren’t perfect answers here.   Most other developed countries have rigorous price controls for pharmaceutical agents, but this can stifle innovation.   Clearly, “me too” drugs can offer an opportunity to create some price competition, which helps improve value.  The pharmas used to introduce controlled release formulations for a drug about to lose patent protection; we have seen fewer of these end-runs around generic substitution recently.  New regulations to make it more difficult for the brand name pharmas to pay a generic manufacturer for a delay can drive some additional volume to the lower-cost generic earlier.

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PWC Estimates 9% Health Care Cost Increase in 2011

Price Waterhouse Cooper  published its projections for health care inflation in 2011 last week.  PWC projects that medical costs will rise by 9.0% - better than the 9.5% from 2010 – but certainly not a game changer. Further, since inflation is likely to remain low or nonexistent and the GDP is likely to be close to flat, the portion of GDP dedicated to health care will continue to increase.

PWC suggests that the factors that are pushing health care costs down include:

-          Move to generic medications

o        Lipitor goes generic in 2011. Note that the huge cost savings are generally 18 months after the first generic comes out; but there are some savings even in year one

-          Increasing patient cost-share

o        This increases price sensitivity, and decreases demand. Above is a summary of the PWC survey on increased cost-shifting to members/patients

-          End to COBRA subsidies.

o        Members who have recently lost their jobs tend to have very high claims costs, and the much higher unemployment coulpled with the federal subsidy of 2/3 of the cost of COBRA has swollen the number of people on this program.

The factors pushing health care costs up include:

-          Medicare cost-shift.

o        Medicare underpays hospitals and other providers less than commercial, employer-sponsored plans (although not as badly as it would if the 21% physician fee schedule decrease had not just been reversed for another six months by Congress.)  The PPACA (health care reform) decreases rate of increase for hospital fees – so the relative underpayment will increase.  While Medicare rates are still substantially higher than payment rates in other countries, they are almost always below

-          Provider consolidation.  

o        Hospitals are merging, and they are acquiring physician practices.   There’s been a dramatic shift of cardiologists from private practice to hospital employment over the past year with reimbursement changes, for example.  Larger provider groups mean less competition and higher prices

-          Health Care Information Technology

o        PWC notes that the largest expenses for implementing Healthcare IT are front-loaded in 2011 and 2012 – and suggests that the savings will accrue later.

o        The New York Times http://www.nytimes.com/2010/06/27/business/27digi.html?hpw had an article today suggesting that EMRs can allow faster physician bill transmission, which can lead to quicker adjudication (payment), and lower administrative costs.  

o        It’s also possible that EMRs will lead to better charge capture, which can increase health care costs as long as we stay in a system of fee for service reimbursement.

All told, the PWC estimate of health care cost increase is especially distressing in light of the sour economy.  

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Baumol's Law: Will Health Care Costs Always Exceed Inflation?

David Herszenhorn has an interesting article in today's New York Times suggesting that it's not possible to get health care cost inflation below the general rate of inflation.  He interviews and quotes economist William Baumol, who wrote an article in 1966 pointing out that while many tasks got less expensive over time, others required similar labor input - and thus the cost did not decrease.

Baumol's academic studies were around performing arts.  A Mozart quintet took 5 musicians in the 1700s, and still takes 5 musicians today.  A flat screen TV is manufactured with far fewer inputs today than it was a few years ago -hence the cost comes way down.

Although Herszenhorn doesn't mention it, this relates directly to the CMS Actuary's contention that it requires flawed logic to assume we can lower Medicare fee increases to account for future 'productivity increases.'

I acknowledge that it's more difficult to reengineer health care delivery than to optimize a manufacturing process. It's not easy to get doctors to rethink their approach, and demands of patients facing loss of life or health are different than demands of consumers in Best Buy.   However, unlike the string quintet, there are elements of health care where input costs can be dramatically decreased.  Efforts at implementing Toyota production techniques at hospitals have dramatically decreased the number of steps required.  Most of us who have visited a physician office recently in the US and seen how many staff are required to do administrative (nonclinical) tasks know that there are substantial productivity gains possible in health.

Further, countries with robust growth tend to have large increases in health care costs, while countries undergoing economic contractions (think Russia after the fall of the Soviet Union, or Argentina after the currency failure) tend to have health care costs that go down.   Countries like Russia with declining health care costs, though, also often have far worse outcomes.  This would suggest that overall, health care costs are sensitive to the overall economy - lowering health care costs (or health care inflation) is difficult in good economic times, and easier in tough times.

I don't think Baumol's Law unequivocally tells us we can't manage health care costs.  It does provide insight into why it's so difficult.

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CMS: 2008 Medical Inflation Much Lower

The Centers for Medicare and Medicaid studies released its report on health care spending in 2008 – published in Health Affairs on Monday and covered extensively in the press.   The good news is that health care inflation overall was lower than it’s been for years (4.4%).  The bad news is that health care inflation continued to outpace growth in the economy – so health care moved from 15.9% to 16.2% of GDP. 

Some of the conclusions that have been widely reported 

- Health care is not immune to the effects of severe recessions

- Hospital inflation decreased to 4.5% - and hospital prices only went up 3%

- Physician services increased by 5% - the slowest rate since 1996.  Medicare physician spending, however, increased by 7.8%

- Prescription drug spending increased only 3.2% - continuing a trend of relatively low pharmaceutical inflation with the onset of many new generics and without big blockbusters coming out of the pipeline. Still, most of this increase was price (2.5%) as opposed to utilization.

-Medicare spending was up 8.6% - and growth in Medicare Advantage plans played a role.  Big cuts in Medicare Advantage reimbursement in health care reform could now have an impact on more constituents.

- Medicaid spending increased.

One observation that has not been covered extensively.  The government pays much lower rates (especially Medicaid). Therefore, a shift of a patient from commercial health insurance plans to Medicaid could  easily mean a decline of 50% in reimbursement to many hospitals.  If providers shift these costs by charging private insurers more, then there are no “real” savings.  On the other hand, if providers see decreases in revenue and reengineer their processes to allow for sustainability at lower reimbursement, then the increased government role should lower unit prices.

I’ve often blogged about the problem we have with unit price in the United States.  The CMS article has a great graphic (below) showing the role that price inflation (compared to utilization inflation) has played over the last 30 years.

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