Drug Pricing in A Diverse World

1
Drug Pricing in A Diverse World

• Patricia M. Danzon
• The Wharton School
• University of Pennsylvania
• BIO Conference
• June 2005

2
The Fundamental Drug Pricing Dilemma (1) High
fixed, sunk cost vs. low marginal cost

• RD is 17 of sales (Pharma)
• gt 30 percent of total cost (discounted NPV at
  launch, including cost of capital)
• RD, production capacity, overhead are (largely)
  fixed costs (invariant with volume) and sunk at
  launch
• Marginal cost (MC) is relatively low
• Pricing at marginal cost, which would result in
  competitive markets, cannot sustain RD
• Patents provide an essential, limited term of
  protection

3
The Drug Pricing Dilemma (2) RD is a Global
Fixed Sunk Cost Who Should Pay?

• Drug RD is not attributable to specific
  countries
• Necessary conditions for break even
• Pj gt Mcj price in each country covers its MC
• ? (Pj - Mcj) gt F in aggregate, price-cost
  margins must cover the joint cost of RD
• How should the joint costs be allocated?
• Uniform prices are not necessarily optimal
• If lower income countries pay any PgtMC, lower
  prices are needed in higher income countries to
  cover RD

4
The Global Welfare Perspective Differential
Pricing Increases Social Welfare, Compared to
Uniform Pricing

• Prices should optimally vary inversely with
  demand elasticities (Ramsey pricing)
• Per capita income a rough proxy for demand
  elasticity
• Differential pricing gt
• 1. Greater Use of Existing Drugs (Static
  Efficiency)
• Low-income markets can only afford drugs at low
  prices
• 2. An efficient and practical way to pay for RD
  (Dynamic Efficiency)
• 3. Equity
• Pricing related to income is generally considered
  equitable

5
The Industry Perspective on Differential Pricing

• Price discrimination yields greater revenue than
  uniform pricing if price elasticity differs
  across market segments e.g. countries
• Profit maximizing price in each market varies
  inversely with its demand elasticity (E)
• Pi MCi 1
• Pi Ei
• If demand elasticity varies with income, firms
  will charge higher prices in high income markets
• Firms self-interest leads them to set price
  differentials that are directionally appropriate
• Elasticities also depend on payer policies,
  regulation etc.
• Traditional price differentials are not perfect
  but they are probably better than uniform pricing
  

6
Price Indexes for On-Patent Originator Versus
Generic Drugs (1999 US 100)
Source Danzon and Furukawa, Health Affairs (2003)
7
Price Indexes Raw and Normalized for Per Capita
Income Differentials (1999)
8
Conclusions on Average Price Differentials for
US Market Basket (1999 Data)

• US has relatively high originator prices and low
  generic prices
• Overall price differentials roughly reflect
  income differentials, except Mexico and Chile
• Price comparisons are sensitive to exchange rates
• US-foreign price differentials are smaller for
  drugs than for other medical services
• But consumers, parallel traders and governments
  compare prices for individual drugs at current
  exchange rates, not average price indexes
  adjusted for income

9
Threats to Appropriate Differential Pricing 1.
Regulators may use monopsony power

• All insurers, public and private, appropriately
  use some controls on moral hazard
• But what is reasonable control vs. monopsony
  power?
• E.g. Therapeutic reference pricing (New Zealand,
  Germany)
• Payer sets a single reference price (maximum
  reimbursement) for all compounds in therapeutic
  class
• gt New on-patent drug reimbursed same as a
  generic
• Therapeutic RP can undermine incentives for RD,
  if classes are broadly defined

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2. Cross National Price Spillovers

• 1. External referencing as a basis for regulating
  domestic prices
• Canada, Netherlands, Italy, Spain, Japan etc.
• gt imports lower foreign prices
• 2. Parallel trade/Importation of cheaper drugs
• Permitted within EU, not yet from non-EU
  countries
• US reimportation has been enacted but not
  implemented
• safety and savings pre-conditions
• 2004-5 Broader importation bills under debate

11
The Future Global Pricing Environment 1. The
US Medicare Part D

• Medicare Modernization Act (MMA) to deliver drug
  benefit through private PDPs
• Each PDP must have at least 2 drugs in each class
• Medicare defines classes gt
• Government as arbiter of relative drug
  effectiveness
• Broad classes gt short effective patent life for
  late entrants
• Proof of superior efficacy and/or safety will be
  critical to classification, hence pricing of new
  drugs
• Discounts could be large in crowded classes and
  may spillover to PBMs private plans

12
The Future Global Pricing Environment 2. The
US Medicare Part B

• Part B covers physician-dispensed drugs,
  including many biologics, especially cancer
• Pre 2004 Reimbursement to the physician at 95
  of AWP
• AWP (average wholesale price) is a list price
• Discounts for market share
• Litigation now alleges fraudulent AWPs and
  kickbacks
• When is a competitive discount a kickback?
• 2005 Reimbursement at ASP 6 (Average Selling
  Price)
• reduces incentives for discounts
• 2006 Possible shift to competitive acquisition by
  wholesalers

13
The Future Global Pricing Environment 2. Major
Trends Ex-US

• Slow GDP growth gt pressure on health and drug
  spending
• e.g. Japan, Germany
• Price-volume off-sets to control drug
  expenditures e.g. France
• Regionalization e.g. Spain, Italy
• Increased consumer cost-sharing
• Generic and therapeutic referencing
• Outcomes and cost-effectiveness as a criterion
  for reimbursement
• gt Economic data is essential to support premium
  pricing

14
Germany Recent Reforms

• 2004 Me too on-patent products in Reference
  Price system
• Statins, triptans, PPIs etc.
• On-patent with off-patent
• Comparison based on price per DDD
• Classification critical for new drugs
• Mandatory rebate of 16 on non-RP drugs
• New Institute of Medical Effectiveness (and
  cost-effectiveness?)
• Pharmacists incentives to substitute PIs and
  generics
• Increased patient co-payments
• Mail order and e-pharmacy permitted .. But little
  in practice

15
Pricing Strategies When Markets Are Linked by
Importation and Regulatory Referencing

• Global or Regional Uniform Pricing
• Delay or non-launch in countries that cannot pay
  target price
• Evidence
• Narrow pricing in EU
• Non-launch and launch delays in low-price EU
  countries
• If US adopts importation, increased attempts to
  raise prices ex-US gt increased delay and
  non-launch
• Loss of access abroad, little savings in the US

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Figure 1. Kaplan-Meier estimates of cumulative
launch probability for selected countries
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2. Global/Regional List Price with Confidential
Discounts to Purchasers The US PBM Model

• Selling to wholesalers at one price, with
  off-invoice discounts given directly to payers,
  could pre-empt parallel trade and external
  referencing
• Used in E. Germany post unification US PBMs etc.
  
• Rebates to payers are confidential
• Prevents spillovers
• Rebates can target specific countries or
  subgroups within countries
• e.g. Public hospitals and NGOs in MDCs and LDCs
• But risk that competitive rebates/discounts are
  viewed as kickbacks

18
Biologics are Relatively Protected

• No generic ANDA process for biologics so far
• Even if FDA permits accelerated approval of
  comparable biologics, aggressive substitution and
  hence aggressive price competition are unlikely
• Biologics likely exempt from US importation
• Not necessarily from external referencing
• Less crowded classes so far

19
Conclusions

• Differential pricing is an efficient and
  equitable way to pay for RD but is increasingly
  threatened by parallel trade and referencing
• Drug importation in the US would likely reduce
  industry sales and disrupt supply ex-US, with
  little savings to US consumers
• Biologics and specialty products are less exposed
  to immediate pricing pressures
• Long term fiscal pressures are inevitable in the
  US and abroad
• Demonstrating superior outcomes is essential to
  premium classification and pricing for all
  products