• What cutting Medicare drug prices looks like

    Sam Baker reports,

    “The President’s proposal to tamper with a program that works well would not yield any benefit for seniors,” PhRMA said.

    This is a good time to remind the world about my highly relevant paper with Steve Pizer and Roger Feldman (ungated working paper version here). Plagiarizing myself, the key findings are:

    • The VA pays 40% less than Medicare plans for prescription drugs.
    • Medicare plans cover about 85% of the most popular 200 drugs on average (ranging from a low of 68% to a high of 93%).
    • The VA’s national formulary includes 59% of the most popular 200 drugs.
    • If Medicare obtained the same drug prices as the VA, it would save $510 per beneficiary per year or a total of $14 billion per year (2009 prices).
    • If Medicare plans tightened formularies to the level of generosity available from the VA (59% of top 200 drugs covered), beneficiaries would lose $405 of value per year associated with the loss of choice of drugs. (The right way to interpret this is that the average beneficiary would be precisely indifferent between the loss of drug choice and $405 dollars in cash.)
    • Because the savings ($510 per beneficiary) exceeds the loss of value to beneficiaries ($405), they could, in principle, be made whole with $105 left over (= $510 – $405).

    I hope this information is taken into consideration in the debate.


    • Very interesting paper, Austin.

      But you’re assuming that value derived from any one drug within the formulary is the same as for another (obviously a necessary assumption). It stands to reason that the formulary requirements for VA beneficiaries versus the requirements for Medicare beneficiaries should be different. I imagine that Medicare beneficiaries may need drugs that address chronic diseases much more than VA beneficiaries.

      The cost-benefit results may not hold if the formulary restriction excludes drugs that Medicare beneficiaries value more than VA beneficiaries.

      • Fair enough. I’ll put my study up against “results may not hold” any day. FWIW, the VA-Medicare overlap is pretty high.

        • Of course. And to your credit, you do acknowledge that because the net gains are small, they’re also highly sensitive.

          The overlap shouldn’t be very surprising I guess. But I’m assuming those people have access to Medicare’s full formulary through Part D. So, it doesn’t seem like there would be an impact from a reduced VA formulary on them. Seems like exploring the impact of restricting Medicare’s formulary on that population in particular would be worthwhile.

          • The study did explore restricting the Medicare formulary on Medicare beneficiaries. The only connection to the VA is that we used it to estimate prices and as a focal point for the degree of restrictiveness in the simulation.

            • Right, let me clarify.

              Worthwhile examining that population in comparison to the non-Medicare VA population assuming they only have access to the VA formulary. Could offer insight on the value of particular drugs for Medicare beneficiaries vs VA. I’ll admit, I’d have no idea where to begin with such a study, though.

            • I think it’s impossible without a survey, which is never going to happen.

    • Related to this is an article in today’s NYTimes about the section 340B drug program which allows some hospitals to buy drugs cheaper. They are supposed to pass the savings on to patients but, guess what(?), they often pocket the profits!
      Related to this is the practice of oncology doctors aligning themselves with 340B hospitals to benefit from the discounts on expensive oncology drugs. Guess what? They pocket the profits, too!
      More from our totally corrupt medical industry.


    • The apparent dilemma over “cost savings” vs. “loss of value” epitomizes the current ineffective application of the burgeoning availability of”comparative effectiveness” studies. Although the number and level of sophistication of such studies is accelerating (largely due to broader implementation of EMR..). their operational application is sadly languishing. If that weren’t currently the case, it may well come to pass that the 59% drug availability encompasses a much higher relative % of “effective” drugs, consequently skewing the cost/value curve in a highly beneficial direction…

    • Assuming that you could restrict access to the what’s available in the VA formulary without imposing any medical harm on the population which has its access restricted (which seems to be the premise here)….imagine that someone decides to conduct an empirical test of the proposition that the government could realize savings that exceed the subjective loss of value that Medicare patients assign to having their access to drugs restricted in this manner. E.g. the government increases the amount of money it offers to a representative sample of Medicaid patients until all of the patients in the study have named the price they’d require to have their access to drugs limited to what’s available at the VA.

      Would the annual “reserve price” demanded by a given set of patients to give up access to the full Medicare formulary be less than, equal to, or greater than dollar value of savings that the government could potentially realize by restricting their access?

      My hunch is that the reserve price would vary by health-status, education, wealth, etc but that on average the reserve price would converge to or exceed the magnitude of the savings that the government could realize by limiting their access (without harming them), but that most people would take a lump-sum payment that was substantially less than the savings that the government projected that it would realize over their lifetimes.

      Seems to work with lottery winners and defined-benefit pension holders who accept buyouts that are way less than the total value of the pension payouts. If the conclusions of the above study are true, maybe we’ll “Medicaid benefit buyouts” emerge as a political mechanism to get seniors to accept limitations on their benefits that they dislike but that don’t actually harm them….. 😉

    • Austin–great post.

      Wanted to request that you or Aaron do a post on value-based pricing for drugs (e.g., Velcade in the UK) and the impact it could have here in the US (especially models where the co. is at risk for results). My sense is that this model would actually be easier to implement than price caps or moving to the model advocated in the post above but interested to hear you guys’ thoughts.

    • djhinca touches on this, but let me state it more baldly:

      Although in the world of theoretical economics the “value” of a drug can be measured by its cost, in the world of medical care the “value” is based entirely and solely on efficacy.

      A patient who is forced by his public or private insurer to substitute an equally effective $13 dose of Prilosec for a $350 dose of Nexium, and who recovers from gastritis, does not suffer a $337 loss of value, but in fact gets the same exact value but saves himself or the system $337.

      A person who is forced to treat his illness with a $7 western medicine antibiotic rather than a $1500 dose of rhinoceros horn powder does not lose $1493, but rather gets a valuable successful treatment worth $7 while saving $1500 in cost for ineffective care, for a net value of at least $1507.

      In health care value does not equal price, it equals efficacy. Equally effective and safe therapies are equal in value regardless of price. Ineffective therapies are worthless regardless of cost.

      The right way to interpret this is that the patient in the end is indifferent to being deprived of more expensive drugs as long as he recovers as successfully and as rapidly without negative side effects. This is not the difference between flying Southwest versus first class on United, but rather the difference between a red Prius and a blue Prius, assuming that Toyota had spent millions of dollars trying to convince you that red was so much better and worth so much more.

      • I agree. The US health care system has effectively completely disassociated price from value. There is not relationship between the price of medical care and the value the patient receives. Price is based on monopoly scarcity plus voodoo “magic” claims. Value received by the patient is difficult to measure and often obfuscated by those selling the health care product/service.

    • @Pat

      Agree. Medical value = clinical efficacy/cost.