PBMs & Drug Pricing

There has been significant media coverage and debate over the causes and solutions for addressing high and rising drug prices. 

One area of focus has been the role of Pharmacy Benefit Managers (PBMs). PBMs are pricing intermediaries who help insurers (including Medicare Part D plans) and large employers negotiate prices. PBMs have been accused of driving up prices, which has in turn led to calls for government negotiation of prices.

My research looks to understand the role played by PBMs in the pricing system and the potential effectiveness of government negotiation. The key questions I address:

     1) Do PBMs reduce overall spending on drugs?

     2) Are government-led price negotiation and proposed Medicare drug coverage reforms good policy?

• Based on my research on history-dependence in drug demand, I estimate a switching cost demand system that captures consumer behavior.

• I then model drug prices as the outcome of a dynamic pricing game played by drug companies and a representative PBM. Drug companies compete with each other for formulary position, and PBMs set formularies to maximize its own profits. To capture the effects of inertia, the state variable is previous year's market share.

• I estimate the model on actual net price data in the anti-cholesterol market, in order to uncover the behavior of the PBM industry. 

• The model allows me to compute what prices would look like in a market without a PBM or if consumers or PBMs behaved differently.

• I also collect PBM profit estimates from their financial filings.

• PBMs, through their willingness to exclude drugs from insurance, reduced drug company revenue by about 25% ($44 billion) in the anti-cholesterol market between 1996 and 2013.

• PBMs capture up to 40% of these savings (about $18 billion), passing the rest of the savings onto consumers.

• PBMs do not greatly restrict access (consumer surplus) in equilibrium. 

• Consumer inertia prevents deflation in drug prices, which we see in Hepatitis C drugs where there is no consumer inertia.

• Integration between Merck and Medco (the largest PBM at the time) may have led to $10 billion in extra spending (see NY Times article detailing the lawsuits and settlements surrounding the relationship).

Government Negotiation

• By doing the negotiation itself, the government can capture the profits currently earned by PBMs. BUT the government may not be as willing to exclude drugs from coverage, which may lead to higher prices. This is a problem noted by HHS Secretary Alex Azar in his Senate confirmation hearings.

• Government negotiation may still be desirable, as it can strike a better balance between pricing and innovation incentives. 

• A final component to consider for welfare is the impact of formulary restrictions on patient health, which is an important area of future research

Other Medicare Rules

• Other proposed Medicare policies include i) moving drugs from Part B to Part D coverage, which would directly involve PBMs in negotiation; ii) relaxing protected class rules that prevent PBMs from excluding drugs from coverage

• Given my results here, these rules will likely be effective in reducing spending.

PBM Incentives and Anti-trust

• PBMs integrated with drug companies or pharmacies can have unaligned incentives relative to their customers when setting drug formularies. This is especially relevant given recent mergers between pharmacies and PBMs.