by Jerome F. Winzig
Earlier this month President George W. Bush was in Minnesota for a couple of campaign stops. At a rally in nearby Hudson, Wisconsin someone asked about the cost of prescription drugs and the importation of such drugs from Canada and other countries. The president responded with a rather vague and rambling reply expressing concern about the safety of such imports. He said his administration was taking measures to reduce drug prices by making generic drugs available sooner. He added that sometimes drug companies come up with frivolous reasons to extend their drug patents, but then conceded they do have to recoup the costs of developing new drugs.
Nothing in the President's reply came remotely close to addressing the key factors that make prescription drugs, especially newer drugs, so expensive, or why drugs are cheaper in many other Western countries.
Senator John Kerry is equally evasive on the issue. According to his web site, "The Kerry-Edwards plan will reduce prescription drug prices by allowing the re-importation of safe prescription drugs from Canada, overhauling the Medicare drug plan, ensuring low-cost drugs, and ending artificial barriers to generic drug competition."
It's true that prescription drugs, particularly the newer "miracle drugs" that are coming to market, are expensive. It's also true that prices for prescription drugs have been rising faster than the overall rate of inflation for some time now. But it's impossible to address these rising prices without understanding the reasons. Let's examine these reasons, with some help from Roger Pilon's Cato Institute paper, "Drug Reimportation: The Free Market Solution," among others.
The first reason for rising drug prices is FDA regulation. Pharmaceuticals are not developed and sold like other products, which rely on principles of property and contract combined with common law rules on risk and safety. Instead, drugs are developed under the paternalistic and bureaucratic guidance of the U.S. Food and Drug Administration. Today it takes an average of 12 to 15 years before a newly discovered compound obtains FDA approval.
In an effort to completely avoid all future risk, this lengthy process virtually ignores the current risk of not having the drug available to people who need it during the lengthy approval period. Further, during the approval period, the process does not allow for people who are sick or even dying to give individual consent to volunteer for a drug that might save their lives.
As a result, in April 2004 the Congressional Budget Office reported that "an average of about $800 million in R&D spending is incurred for each internally produced new compound reaching the market." And that excludes the cost for unsuccessful drugs that never make it. This makes the pharmaceutical industry one of the very few where research and development costs are greater than manufacturing and marketing.
The second reason for rising drug costs is patents. Pharmaeutical companies need patents to assure they can recoup the costs of developing a new drug. But patents last for only 20 years. Since this 20-year clock starts ticking when a company first applies for FDA approval and FDA approval takes so long, a company has just five to eight years to recoup their R&D costs before someone else can legally copy their invention and begin making generic drugs.
The third reason for rising drug costs lies in how drugs are priced and marketed. There is no free market for most prescription drugs. Drug companies cannot sell their drugs in countries with socialized medical plans unless they agree to each country's discounted price schedule. As a result, drug companies now recoup a disproportionate share of their costs by charging higher prices in the largest remaining non-socialized market, the United States. This means drug prices in the rest of the world are often below true cost. Furthermore, the U.S. market is itself distorted because large public and private buyers (insurance companies, HMOs, etc.) negotiate discounts with drug companies.
The final reason for rising drug costs is often not discussed because it is politically incorrect to do so. But the populations in Western countries are aging rapidly and are increasingly relying on new and existing drugs to address illness and problems having to do with advanced age.
There are some in Congress who want to allow for the re-importation of prescription drugs while simultaneously passing laws that would prohibit drug companies from refusing to sell to countries that turn around and sell their discounted drugs back to the United States. This would have the effect of imposing price controls from the lowest-price country on the entire world market. Since such price levels are below true cost, this would stifle the development of future drugs.
A more sensible solution needs to be multi-faceted. First, the U.S. should remove all restrictions on drug re-importation while simultaneously allowing drug companies to negotiate normal free-market no-resale contracts with any country or organization buying drugs at a discount. Second, the FDA drug approval process should be shortened. Third, the 20-year-period for drug patents should begin once they receive FDA approval. Fourth, rather than letting poor countries steal drug patents because they can't afford the market price, public and private charitable institutions in the developed world should combine to purchase drugs at market prices or freely negotiated discounts for the world's poorest nations.