For a market economy to function, producers must supply the goods that consumers want. This is known as the law of supply and demand. “Supply” refers to the amount of goods a market can produce, while “demand” refers to the amount of goods consumers are willing to buy. Together, these two powerful market forces form the main principle that underlies all economic theory.
The law of supply and demand also explains how prices are set for the sale of goods.
Healthcare is no different. The principles of supply and demand will impact the price pharmaceutical companies and healthcare providers alike are able to set for a product or service. However, healthcare has additional forces that impact price – taxes, regulations, market access, R&D, the cost of failed drug development, political climate and in addition lawsuits which influence the cost of malpractice insurance for medical practitioners. It’s a complicated dynamic and one which the basic principle of supply and demand alone is ill-equipped to answer.
Like the proverbial story of Goldilocks, the search is on for a pricing formula that is “just right”. Yet, this formula is hard to find, and for many reasons.
Drug prices are at an all time high. Insurers, patients and even politicians of opposing parties say they are too high. The pharmaceutical industry, meanwhile, is concerned about further downward pressure on prices and its ability to fund new innovation. The result is that some of our most advanced pharmacological breakthroughs of recent times are becoming unaffordable or impactful on healthcare systems and insurance premiums for patients (see Case Study: Sovaldi).
Drug prices, why do they keep going up?
So you may have heard of Turing Pharmaceuticals, who raised the price of its pharmaceutical product by more 500%. Martin Shkreli, the CEO of Turing Pharmaceuticals, purchased an old drug called Daraprim, which treats life threatening diseases in HIV patients. Overnight he raised the price from $13.50 a pill to $750 a pill. That caused outrage. Hillary Clinton tweeted about price gouging, biotech market stocks dropped and even PhRMA (the industry’s lobbying group in Washington) distanced itself from Turing. But, raising prices is actually quite common in the pharmaceutical industry. Take Merck’s Januvia – millions of people take it to treat diabetes. When Merck started selling the pill in 2006 it cost around $146 a month, by 2011 it was $213 a month and now 30 days’ worth of Januvia costs $331, more than twice what it did when Merck bought it to market. Novartis’s cancer drug Gleevec, more than tripled in price from 2001 ($31,930 a year) to 2015 ($118,000 a year). And, Pfizer raised prices on 133 of their drugs in the last year. So, why do drug prices keep going up? For one, drug makers say that R&D is risky and expensive. The pharmaceutical industry is estimated to have spent $50m on R&D last year. And, most drugs fail somewhere between the test tube and the many clinical trials the FDA requires before it “OK’s” the sale of a product to the public. For the drugs that do get approved, on average they have around 12 years of dominance before cheap generics come on the market and create competition. Since the US does not regulate pharmaceutical prices, drug companies look to earn as much as they can before those generics come to market. In fact, Pfizer made about $1b more over the last 2 years of drug price increases alone.
Turing is an extreme example, but the reality is that drug companies have been doing it for years and aren’t likely to change.
So, what are the solutions?
One approach that pharma companies may try is an alternative financing model, which spreads out payments for expensive drugs in order to make the cost easier to handle. In a recent study conducted by PWC, more than half of consumers said they would be willing to pay for a pricey drug over time rather than bear the full brunt all at once.
There will also likely be more outcomes-based reimbursement agreements struck in the future. These agreements between pharmaceutical companies and insurers or health systems link payment for a drug to the health outcome rather than simple volume of product used. Such an example is Amgen’s deal with Harvard Pilgrim Health Care for its cholesterol-lowering drug Repatha. Amgen agreed to give the health system larger rebates if patients’ cholesterol levels aren’t lowered to levels observed during clinical trials. In exchange, Harvard Pilgrim agreed to make Repatha its preferred option.
Why research hasn’t helped?
Pricing research techniques have often fallen short in accurately supporting pharmaceutical pricing strategies but not through fault of the techniques themselves, but rather not taking into account the additional market forces, beyond simply supply and demand for a given product or service. In addition new pricing strategies such as those mentioned in this article are hard to capture in simple Gabor-Granger or Van Westendoorp type questioning. A more holistic consultative approach is needed which accounts for a multitude of stakeholders, beyond simply those tasked with prescribing the drug or even allocating budget to specific hospital departments. Macro level feedback needs to be factored through, regulators, payors and insurers as well as the traditional micro level feedback from hospitals and physicians.
Innovative and novel pricing strategies such as those mentioned in this article, coupled with an accurate opening price point can differentiate a product above its competitors and open early access routes and opportunities not typical there for new drugs.