Drug Price Gouging: Moral, Immoral, Amoral or Necessary?

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Sovaldi is a drug that, when combined with another, can cure most instances of hepatitis C, an ailment that damages the livers of about 150 million people worldwide. Per a journal article published by the American Chemical Society, this drug costs approximately $130-$350 (per course of treatment) to manufacture. How much might you expect the drug to cost? $400? $800? $2,000?

Nope. This drug, launched in 2013, was put on the market for $84,000 per course of treatment. Let that sink in—a drug whose production costs no more than $350 per course of treatment was put on sale for $84,000.

How could this possibly be the case? How could the difference between cost and price be so huge? Could this ever be justified?

To be sure, Gilead (the firm that priced this drug so highly), paid $11 billion to acquire the firm Pharmasset, which invented the drug. However, as the ACS article pointed out, this huge cost would pay for the acquisition in just one year of sales.

Price gouging of drugs has been in style for quite a while, but it has been particularly pronounced over the last few months and years.

Martin Shkreli, former CEO of Turing Pharmaceuticals, became an internet villain when his company raised the price of Daraprim, a life-saving drug, from $13.50 a pill to $750 per pill, an increase of approximately 5,000 percent.

The price of the Epipen, which administers a few dollars worth of epinephrine hormones to mitigate allergic reactions, rose about 480 percent since 2009, before Mylan “compromised” by releasing a still-up-charged generic version of the treatment.

There are plenty more examples I could draw from (see Medscape for a more robust collection of cases), but the general trend is clear: drugs are getting more expensive, and a rise in costs is not the only factor.

The market system is often credited as the single greatest achievement of humankind, the most important driving force of human welfare the world has ever seen. Our very own professor Michael Munger, one of the great libertarian thinkers of our time, put the general beauty of the market this way: “Lots of choices, lots of choosers, prices driven down toward the cost of production. New goods and services come constantly to the market, because producers’ self-interest forces them to think of new and better ways to serve customer needs.”

In the case of drugs in a market system, we would hope for this to hold true—drug prices ought to fall towards the cost of production, as competitive firms enter the market to both serve consumers what they need and pocket a nifty profit.

But that’s just not happening.

The article from the American Chemical Society, referenced above, put together a solid overview of the two classes of price gouging that we are seeing in the United States (emphasis added): “the absence of competition in the sale of low-volume, low-price drugs can lead to price gouging. For patented medicines, society allows supracompetitive pricing to incentivize innovation.”

Turing Pharmaceuticals is a good example of the first class of price gouging: they purchased the rights to a medicine that is not demanded by many people (meaning few if any other firms are willing to enter the market) and took advantage of the situation by raising prices “bigly.” Since the demand for specific, life-saving medications is relatively inelastic (meaning demand does not change much, if at all, when the price increases), then people will pay the price. It’s a lifesaving drug—what choice do you have but to give what they ask?

The other class of price gouging, in supracompetitive markets, takes place when certain firms have government-granted advantages in the form of intellectual property laws that allow them to be the sole manufacturers of newly invented drugs. While this can encourage innovation and offset the upfront costs of research and development, it is not clear that such artificial advantages are entirely warranted given the ambiguity of the actual costs. It is telling, for instance, that we think pharmaceuticals spend approximately double the cost of research and development (R+D) on marketing their products.

More broadly, neither of these scenarios feature the necessary component of a functional market: healthy competition. Does that warrant government intervention?

To be sure, that is an empirical question—it is open for discussion whether or not government intervention of some sort would improve outcomes for patients. However, the evidence seems to point towards the need for some sort of reconsideration of public policy.

As the American Journal of Medicine rightfully pointed out, in many cases of public expenditures on health care, price gouging of drugs is a so-called “tragedy of the commons,” meaning that a few firms can internalize huge gains at the expense of the rest of society, the members of which each bear a tiny fraction of the true cost.

If American taxpayers are paying into healthcare programs that pay these absurd prices, everyone bears a bit of the cost, and a few concentrated interests experience huge gains. The fact that the gains are so concentrated and the costs are so diluted makes legislative action that much more difficult, since the beneficiaries are well-organized and politically savvy, jealously protecting their advantage.

What does this mean for policy? Does that mean price caps? Or perhaps a rethinking of our outdated intellectual property laws? Maybe a demand for transparency in firms’ costs? I’ll leave that question up to the public debate and the experts in the field, but I will say that action is certainly necessary.

This is a problem with a real, human cost. As Consumer Reports revealed in an in-depth anaylsis, people who experience a cost increase in their medicine spend less on family and other bills, and sometimes even postpone retirement to maintain health insurance. The need for action is strong, and the time for action is now. Surely, people who suffer the misfortune of getting sick should not have their lives ruined by gouged pricing.

Author’s Note: This article was adapted from a column I wrote for The Chronicle on January 25, 2016.




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