Recently, the Martin Shkreli/Turing Pharmaceutical fiasco provided an extreme example of how "free market" rhetoric fails when it comes to US drug prices. First of all, there is no really free market unless you are living in the jungle, in which case you're probably not reading this. Secondly, Shkreli's bold move to increase the price of the antiparasitic drug Daraprim by over 5,000% invoked widespread outrage because most people are not comfortable with allowing free market forces to dictate who gets life saving-medicine and who does not.
Markets, from food to automobiles to houses to recreational drugs and regulated medicines, are never entirely free because government imposes a structure on the markets and government action is needed to maintain, or change, the structure. As Jared Bernstein writes in Drug Price Controls Are Vital in a Market That’s Not Free:
If Charles Dickens were writing today and seeking a life model for one of his villains, he’d be pleased to find Martin Shkreli, the former hedge fund manager who, upon acquiring the rights to a critical drug for patients with life-threatening infections, raised its price to $750 from $13.50 per tablet.
But the problem we face is less this particular individual than the fact that we’re imposing a market structure on something that should be a public good. We wouldn’t squirm watching this guy try to explain himself if he were selling yachts or high-end real estate.
One legal structure we impose on the prescription drug market is patent protection, which exists due to government action and which leads to monopolies. Patent protection supports companies setting very high prices to cover their research, development, production, advertising and lobbying costs, plus, arguably, their outsized profits. Dean Baker at Center for Economic and Policy Research suggests that instead of providing patent protection for new drugs, the government should increase its funding for drug research. According to Baker, if researchers' costs are paid for upfront, then most drugs would be as cheap as aspirin.
The United States stands out among wealthy countries in that we give drug companies patent monopolies on drugs that are essential for people’s health or lives and then allows them to charge whatever they want. Every other wealthy country has some system of price controls or negotiated prices where the government limits the extent to which drug companies can exploit the monopoly it has given them. The result is that we pay roughly twice as much for our drugs as the average for other wealthy countries. This additional cost is not associated with better care; we are just paying more for the same drugs.
This is not an issue about the free market. The free market doesn’t have patent monopolies. The monopoly power provided by a patent is a government policy to promote innovation. There are problems with patent monopolies in many areas, but nowhere is the issue worse than with prescription drugs.
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Drug companies also spend tens of millions on campaign contributions and lobbying to get every longer and stronger patent protection… (End Patent Monopolies on Drugs, NY Times)
A valid criticism of Baker's government funding model is that it would likely lead to waste while decreasing the incentive to invent. Trying to strike a balance between a government funding model and a patent model, Joe Stiglitz previously proposed a "medical prize fund" which would award big "prizes" for developing treatments for costly diseases, thereby getting the incentive back into the equation. (Prizes, Not Patents, 2007).
Jeffrey Sachs explores the issues in Rational Drug Pricing, using Gilead as an example of a drugmaker that successfully exploits its patents and charges exorbitant prices. He writes,
The Hepatitis-C Virus (HCV) drugs of Gilead Sciences are the poster cases of monopolistic abuse. Gilead owns the patent for the molecule Sofosbuvir, which is sold in two formulations under the brand names Sovaldi and Harvoni. Gilead charges the federal government $84,000 ($1,000 per pill) for a full course of Sovaldi and $94,500 for Harvoni, even though production costs are under $200 per course of treatment. The company is making a killing and, incidentally, adds insult to injury by booking its outlandish US profits in an Irish tax haven.
While the government buys tens of thousands of HCV treatments from Gilead, it is also forced to ration its purchases because of budget constraints. Hundreds of thousands of HCV-infected Americans, both on and off government programs, are unable to obtain the medicines. Many of those being turned away are U.S. veterans who survived their tours in Iraq or Afghanistan only to be killed by Gilead's not-so-friendly fire.
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The fact that the IRS lets them [Gilead] hide their profits in overseas tax havens is scandalous and without any logical justification whatsoever.
Sachs suggests three principles for lowering the cost of prescription drugs: 1) limit patent protection, 2) have drugmakers share property rights with the US government when the government contributes to the research, and 3) subject the companies benefitting from US research, production and sales to US taxes.
The Atlantic explores Gilead's story in The True Cost of an Expensive Medication and further challenges the "recoup costs and pay for new research" defense of high prices by pointing out just how much money Gilead makes on its drugs. "Together, Sovaldi and Harvoni generated $12.4 billion in sales for Gilead last year. The company’s CEO, John C. Martin, is a billionaire. Gilead’s revenues doubled last year, and as the New York Times wrote, the company 'now is faced with figuring out what to do with all the cash it is generating.'"
The cost of Gilead's drugs are so prohibitively high that insurers and government agencies that pay often impose extra burdens on patients needing the drugs. In simple terms, patients have to be in advanced stages of disease before they can get treatment. The situation makes one wonder why the CEO doesn't voluntarily lower prices for a government which provides his company with the legal protection it needs to generate $12.4 billion in sales. A so-called free market this lopsided is a clear indication that the structure has failed.
Sovaldi’s story is not unique in America, but it is a uniquely American story. Other countries rigorously regulate the prices of prescription drugs, just as American cities set the rates of public utilities. In Germany, for example, the insurance-like “sickness funds” negotiate with both physician groups and drug manufacturers to determine the costs of all treatments. In the U.S., meanwhile, drug makers can simply name their price. (The True Cost of an Expensive Medication)
Unlike Gilead's drugs that are covered by patents, Shkreli's drug Daraprim is old and off-patent. The market is small which makes it uneconomical for other companies to begin production to compete with Turing. In Painful Pills, The Economist supports remedies being proposed by Hillary Clinton:
An obvious and sensible palliative for rising prices for old drugs like Daraprim is, as Mrs Clinton proposes, to make it easier to import foreign-made copies. She also says Medicare, the government health scheme for elderly Americans, should be able to negotiate prices with drug firms—it now has to pay whatever they ask. She wants to stop firms treating the cost of direct-to-consumer advertising as an expense allowable against tax, since such ads encourage patients to demand specific drugs when there may be cheaper but just as effective alternatives. And Mrs Clinton says she would require drug companies that benefit from government spending on research and development to invest a “sufficient amount” in R&D of their own.
If she were elected president, she might struggle to get much of this through Congress, and even then it might have only a marginal effect on the inexorable rise in the cost of medicines. But at least Mr Shkreli’s antics have put drug pricing firmly on the election agenda.
If Shkreli did nothing else, he brought attention to arbitrariness of drug pricing in an expensive market that is shaped by the government. The government now needs to restructure the laws to make drugs more affordable.
