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What Is Driving Up Drug Prices?

If you weren’t aware of it, one of the primary reasons that health care costs are rising once again is that drug manufacturers are inflating the prices on their wares. Last year the price on name brand, patented drugs jumped 18 percent, and that is leaving many consumers confused and unhappy.  Although medications are only ten percent of total health care costs for the nation, it is the leading health care issue among consumers.

What makes so many health care consumers upset is the perceived price gouging by drug makers. It is well known that companies often charge their highest prices in U.S. markets, while they only charge a fraction for the same product in other countries. It is infuriating to pay hundreds of percent in markup, while seeing the same drug in other markets for only pennies on the dollar.

These practices are producing an impact on the U.S. economy. In 2015, the pharmaceutical companies bumped up prices by almost $220 million, and raised it a further $270 million in 2016. This issue even became an important presidential election issue, with both major candidates promising to lower drug prices.

Is Capitalism at Fault?

Most analysts point to our free enterprise system as the reason why drugs cost so much more in the U.S.  Unlike in most other nations where drug prices are tightly regulated, here in the U.S., manufacturers are able to set almost any price they want.  Although this leads to an overall rise in health care costs, most consumers are willing to accept it because much of the costs are initially defrayed by insurers—ultimately, however, consumers pay for it through higher coverage costs.

The drug companies also have a lot of bargaining power for several reasons, so they can often set drug prices with insurers and hospitals.  Medicare, the largest insurer in the nation, is prohibited from negotiating prices with manufacturers by Congress, and because many organizations use Medicare prices as the baseline, these exorbitant fees are often accepted throughout the industry.  Furthermore, many private insurers won’t try to negotiate prices out of fear that the drug makers will lock them out and only partner with competitors.

Government Is Asleep at the Switch

The American market system typically does not allow monopolies, but it makes an exception for drugs. Not only do new medications enjoy an extended period of patent protection—20 or more years—but many drugs that uniquely treat certain diseases are manufactured by only one company.  In many cases, the justification is that drug makers need to recoup the large costs of developing the drug, but consumers must often pay a premium to get critical medications.

However, there is considerable evidence that this reasoning is flawed.  Most of the research and development of new drugs in the U.S. is funded through the government’s National Institutes of Health.  The pharmaceutical companies typically only spend about 10 to 20 percent of their capital on R&D. The argument also falters when you consider that the pharmaceutical industry is one of the most profitable.

In fact, it is these pricey, patented drugs that are the primary drivers of rising drug prices.  One analysis found that these monopolized drugs raise their prices 25 percent annually, while overall drug prices only increase by 10 percent each year. Although many new drugs provide remarkable efficacy in disease treatment, these new drugs often come with hefty price tags. The lack of competition is the reason most cited for this rampant price growth.

The way to curb this is to allow more generic versions on the market. It has been found that if there are two generic versions on the market, the price on the name brand drops to 55 percent of the original price.  This drops to 33 percent if five generic versions are available.

Unfortunately, the Food and Drug Administration often drags its feet in approving generic drugs.  Due to an administrative backlog, it may take as long as three to four years for the FDA to approve generic imitations.  Furthermore, many states have onerous regulations that impede the distribution of generics.  For instance, 26 states require that patients consent to a switch to a generic version, making it more difficult for pharmacists to substitute a cheaper, generic version even if one was available.


While some of this red tape may be attributed to the bureaucratic nature of government, a lot of it is a result of serious lobbying by the pharmaceutical industry.  In the past decade, Big Pharma has spent more than $97 million lobbying Congress and state legislatures for laws that are more favorable for them.

Possible Solutions

While Democrats and Republicans agree that drug prices need to come down, there are few viable solutions. At the top of the list is allowing Medicare to negotiate prices with drug makers, which should help lower prices throughout the health care system.  This would also help the sickest segment of the U.S. population—seniors—better afford their medications, and could save the government program from $230 to $541 billion over the next decade. President Donald Trump has voiced his support for this approach, but Congress has yet to act on his recommendation.

Another way to solve the issue of rising drug prices is to eliminate many of the anti-competitive deals that prolong patent protection and stymy the approval of generics.  By allowing more companies to produce substitutes for high priced, exclusive drugs, consumers could save up to $3.5 billion a year.

Finally, if the government tightened reporting regulations on pharmaceutical company operations, the public would better understand how they are being bilked.  If drug manufacturers had to disclose how much they actually invest in research and development of new drugs as well as marketing and other expenses, consumers would refuse to support unjustified price hikes.  Ultimately, this would apply pressure on drug makers to keep prices reasonable.

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