Drug Price Gouging in Generics

General info on prescription drugs and generic drug price gouging.

Martin Shkreli managed to make himself a household name a few years back. His claim to fame stemmed from the decision by Turing Pharmaceuticals, a company he founded and controlled, to acquire the rights to produce Daraprim. He then raised the price of the drug by 5,000 percent.

This was very bad news for the people who were dependent on the drug. Daraprim is an anti-parasitic drug that is often taken by people with AIDS to keep them from getting opportunistic infections. People with AIDS who are being successfully treated with Daraprim are not going to want to experiment with alternatives.

Daraprim was already a 60-year-old drug at the time Turing acquired it and had long been available as a generic. This meant that other manufacturers could in principle come into the market and compete with Turing’s inflated price.

Shkreli made the bet that no other drug company would take advantage of this opportunity, because even for a generic drug, there are still substantial costs for entry. Since the market for Daraprim was small, a new entrant would be unlikely to recover these costs if Turing pushed the price back down somewhere near its original level. While Daraprim was his biggest “success,” Shkreli was trying this strategy with a number of other drugs before the Justice Department put him out of business with unrelated charges of securities fraud.

Shkreli’s days of price gouging in the generic drug world may be over, but he established a model that other ambitious entrepreneurs are likely to follow. Close to 40 percent of generic drugs have only a single manufacturer. This is partly a result of the failure of anti-trust policy to stem a wave of mergers in the industry. It is also a result of the fact that many drugs simply have very limited markets where it is difficult to support multiple producers.

Most generic producers have not tried to follow the Shkreli model and jack up prices of drugs that people need for their health or even their lives, but some have. The soaring price of insulin is one important example, EpiPen, the asthma injector, is another. Both involve well-known treatments that have long been used, but the limited number of suppliers has allowed for huge price increases in recent years.

This is the context for the public drug-manufacturing corporation being proposed in a bill by Senator Elizabeth Warren and Representative Jan Schakowsky. The idea is that the federal government should create manufacturing capacity (which could be privately licensed) that would allow it to quickly enter a market to compete with the next Martin Shkreli.

If a company tries to jack up its prices by an extraordinary amount, it would find itself soon competing with a government manufacturer that is selling the same drug for the cost of production, plus a normal profit. This is a great strategy, since simply the existence of this capacity should be sufficient to discourage the next Shkreli.

There will be little money in jacking up the price of a drug by 5,000 percent if it quickly results in the disappearance of their market. This should encourage the generic industry to keep its prices in line.

It is important to note a key difference between the generic industry and brand industry. The brand pharmaceutical companies, like Pfizer and Merck, could argue that they need high prices to pay for research. These companies hugely exaggerate their research costs and downplay the extent to which high profits just mean more money for shareholders, but they actually do research.

By contrast, the generic industry is not researching new drugs. They are manufacturing drugs that have been developed by others. In this sense they can be thought of like a company that manufacturers paper plates or shovels. They need a normal profit to stay in business, nothing more.

For this reason, the Warren-Schakowsky proposal is very much the right type of remedy for excessive prices in the generic drug industry. At the same time, we have to recognize that generic drugs are the smaller part of the problem with high drug prices.

Although generics account for almost 90 percent of prescriptions, they account for only a bit more than a quarter of spending on prescription drugs. The story of drugs costing tens or hundreds of thousands of dollars a year is almost entirely a story of brand drugs with high prices as a result of patent monopolies or related protections.

This will require a larger fix, likely along the same lines, with the government paying for research and allowing new drugs to be sold as generics. But the Warren-Schakowsky bill is a huge first step in bringing drug costs down and ensuring that people will not find themselves suddenly at the mercy of the next Martin Shkreli.

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Saving a Few Hundred Billion Dollars a Year on Prescription Drugs in America

Cost savings of a few thousand dollars per household that are eminently possible — if Big Pharma can be defeated or at least constrained much more. The main basic problem is the patent monopolies that allow pharmaceutical companies to charge exorbitant prices, and a main solution is to use direct public funding as a more efficient process at producing innovation.

Broadly speaking, a prescription drug in the United States goes through three main stages of development: On the front end, researchers make a scientific breakthrough in their labs, discovering the building blocks of a new drug. Then it goes through the second stage, which includes the often-costly process of clinical research and trials. Last, once the FDA has reviewed and approved it, the drug goes on the mass market, sold at drugstores and doctor’s offices.

The United States is already involved in the earliest stages of drug development. It’s the top funder of basic science research in this country through the National Institutes of Health, which has an annual budget of $37 billion, more than what the federal government pays for Head Start and Pell Grants combined. Most agree that this is money well spent: Every one of the 210 new drugs approved between 2006 and 2010 trace their origins back to government funding.

The government is also involved in the third stage, as a top purchaser of medicines. Through Medicare, Medicaid, the Department of Veterans Affairs, and other programs, the federal government pays for $300 billion worth of prescription drugs each year.

Where the system runs into trouble is in the middle of the process, when the government hands over a glittering prize: the multi-decade patents that give private companies a monopoly on life-essential products. Through a mechanism established by the Bayh-Dole Act of 1980, private companies are allowed to claim patents on promising compounds discovered with government funding–and that means exclusive rights to manufacture and sell the resulting drug for a period of 20 years and often longer.

This isn’t just an outdated model; it’s also deeply inefficient. Companies can price medicines at hundreds of times what it costs to make them (it’s how a hepatitis C medicine could cost $1,000 for each pill that is manufactured for a few dollars), and with the government providing a guaranteed market for the drugs, companies like Gilead and Pfizer have had years where their reported profit margins exceeded a staggering 40 percent. All of the Big Pharma companies average between 15 and 20 percent profit each year. Most Fortune 500 companies are happy to claim half of that. There is “absolutely no reason why the taxpayer should be forced to subsidize a private monopoly and have to pay twice: first for the research and development and then through monopoly prices,” Senator Russell Long insisted when Bayh-Dole was passed in 1980.

[…]

If the United States were to move towards a NASA system, the federal government would have to find up to $75 billion in its budget to replace what private industry spends on R&D. But that’s not an insurmountable obstacle. There should be plenty of money available. Baker and other economists calculate that a NASA for drug development, which would eliminate patents and the price markups for prescription drugs that come with them, would save Americans hundreds of billions of dollars every year thanks to drugs being generic-level cheap from day one. The savings to government spending alone would be more than enough to pay for every penny of the $75 billion that the private pharma industry claims it spends on R&D–and replace it with research that is more widely shared and targeted more at public health than at quarterly profits. In this alternate universe, scientists and labs could switch their focus away from developing yet another iteration of an erectile dysfunction drug towards tackling challenges like tuberculosis.

 

Burden from Pharmaceutical Industry Drug Patent Monopolies Exceeds Interest Payments on National Debt

The pharmaceutical industry must find it convenient that the financial burden it imposes in general on American society is mentioned a lot less than the much more minor burden imposed by interest payments on the national debt.

The deficit hawks have also never raised any concerns about the burdens created by government-granted patent and copyright monopolies. This is bizarre since these monopolies are an alternative mechanism to direct funding. The government could directly pay for research on drugs, software, and other items, paying for it through taxing or borrowing, or it can tell private companies to do the research and then give them monopolies to allow them to recover their costs.

The deficit hawks hyperventilate endlessly about the former route of paying for things, but completely ignore the latter, even though it poses a much larger burden. In the case of prescription drugs alone, the burden is more than $370 billion a year (we pay more than $450 billion for drugs that would likely cost less than $80 billion in a free market). This sum is just under 2.0 percent of GDP and more than twice the interest burden net of money rebated by the Fed. The total cost from these monopolies, including medical equipment, chemicals, software, and other items would likely be more than three times the cost of drug patents.

Anyone who is seriously concerned about the burden of government debt on future generations must also be concerned about the burden posed by patent and copyright monopolies, if they are consistent. Of course, if their goal is simply to cut Social Security, Medicare, and other social programs then it is understandable they would not want to discuss patent and copyright monopolies.

I’m not linking to the full article, but what’s not referred to is that there’s a different process possible to incentivize pharmaceutical innovation than using patent monopolies and other unjust legal protections for the industry. The pharmaceutical industry’s trade group, PhRMA, says that pharma corporations spend $70 billion a year on research and development. This is also in light of the industry spending more on stock buybacks that mostly benefit the upper class than it spends on R&D.

So the U.S. spends a few hundred billion dollars more a year than it has to on prescription drugs, and instead of giving that taxpayer-directed money away to be misused by the pharma industry, a lesser amount could be spent on direct funding for the NIH (say $90 billion a year) — with much better research outcomes and lower prescription costs for consumers. This isn’t the easiest concept to understand, but it’s valuable if you’re able to see it, and I linked to where I wrote about it in more depth as well.