2003 July 24 Thursday
Legislation Proposed To Allow Price-Controlled Drug Imports

While Republicans are supposed to support the free market a pair of Congressional Republicans want to make it easy for foreign country price controls to extend into the US.

The legislation, introduced by Reps. Gil Gutknecht (R-Minn.) and Jo Ann Emerson (R-Mo.), would make it legal for individuals and pharmacies to import FDA-approved prescription drugs from abroad, where price controls typically keep prices well below those in the United States. Although it is technically illegal, Americans already import sizable quantities of drugs from Canada. McClellan and others have been especially concerned about the safety of drugs being ordered over the Internet.

But as Doug Bandow of the Cato Institute points out, high drug prices are an incentive for more drug development.

It's easy to believe that drugs cost too much. At least it is if you aren't the member of my church who just died of stomach cancer; my next-door neighbor and running partner who has been diagnosed with multiple sclerosis; my friend who endured experimental chemotherapy to fight breast cancer; and my journalistic colleague killed by liver cancer last year.

Should Cost More

For all of them, drugs don't cost nearly enough, since a higher cost would bring forth more and better means of fighting cancer, multiple sclerosis and other diseases. Yet legislators seem dedicated to restricting the availability of such pharmaceuticals.

What is worse? That a drug will be too expensive for some people to afford or that the drug will never be developed in the first place?

As it now stands the US drug market funds the lion's share of drug development. If the US drug prices were brought down to the level of the price-controlled levels of various free-loading countries like Canada then many drugs now under development would be cancelled and the search for new drug compounds would decrease dramatically. The result in coming decades would be lower average life expectancies than would otherwise be the case if prices were allowed to remain at market levels.

The US government ought to be actively working thru trade negotiations to end the practice of drug price controls in other industrialized countries. Importing their price controls into the US is the exact wrong direction to go in. Socialism doesn't work.

Update: Writing for the Institute for Policy Innovation Doug Bandow has an article about reasons for different pricing of drugs in different markets.

Canadians also benefit from less, and less expensive, product liability litigation. Economist Richard Manning estimates that one-third to one-half of the drug price differential between the two countries is due to the higher cost of lawsuits in America.

Richard Epstein sets out the bad effects of foreign government price controls on drugs.

It is not only differential demand that creates the risk of market arbitrage. Rather, government regulation in foreign nations that set maximum prices that they will pay for imported products also creates this risk. These governments are canny enough to set those prices a bit above marginal cost so that the company will get positive returns and still decide to send the drugs there. However, the price is set below what the drug company could charge in an unregulated market. There are three bad effects to this regulation. First, the use of this form of monopsony power reduces the global return to innovation, and, thus, the levels of innovation in the domestic market. It also casts a greater burden on the domestic American market to cover a larger fraction of the fixed costs of innovation. Thus, it fuels resentments at home because of the massive premium in domestic price, with the American market subsidizing these foreign markets. Finally, it creates a second chance for arbitrage if quantities of these goods can be resold in the United States.

Update II: Robert Goldberg of the Manhattan Institute brings up the problem of counterfeiting.

The FDA has said that HealthCanada, its counterpart north of the border, has made clear that it doesn't have the manpower, time, or inspection system to determine what happens to drugs that are sent out of Canada, or handled by companies in the business of sending drugs out of Canada. That includes the growing number of Canadian firms that are illegally importing and exporting commercial quantities of drugs from major sources of counterfeit products, such as India and Pakistan. It also includes the companies that are making Canada, in the words of one organized-crime expert, "the world's free-trade zone for counterfeit and illegally sold prescription drugs."

Any product which has a major intellectual property cost as part of its price is more liable to be counterfeited. Drugs are just like music albums and movie videos in this regard.

Update III: Derek Lowe points out the double standard of Congresscritters on drug prices versus other prices.

(Of course, as the Manhattan Institute's Robert Goldberg pointed out last week, this importation of cheap goods can go too far. If you don't believe him, why, just ask Gil Gutknecht! When it comes to milk products, he's all for keeping U.S. prices nice and high - Minnesota has a dairy industry, you know. Steel, sugar, what-have-you: all sorts of goods get the high-price treatment from Congressional admirers of cheap pharmaceuticals. It seems we can't possibly get overcharged for those other things. Just drugs. Who knew?)

Lowe also points out that the drug industry's own defense of itself is lame. There are important reasons to oppose reimportation. It is a shame big pharma is too politically dumb to make them.

Update IV: A deal to make the Medicare drug benefit vote pass made the current fight over drug imports possible.

One vote shy of passing a Republican-backed $400 billion measure to give elderly and disabled Americans prescription drug coverage, Speaker J. Dennis Hastert (R-Ill.) negotiated on the House floor with Emerson (R-Mo.) as time ticked down on the crucial roll call in late June. Well past 2 a.m., the two Republicans reached an accord. Emerson would vote aye, so long as Hastert's leadership team agreed to allow a floor vote this month on whether to legalize the reimportation of U.S.-made prescription drugs that sell more cheaply in Canada and elsewhere -- a move the White House and Hastert oppose.

Socialism leads to more socialism.

Update V: Cato President Edward H. Crane and VP for legal affairs Roger Pilon make an opposing argument that the US government should not function to enforce pricing contracts agreed between foreign governments and pharmaceutical companies.

In a nutshell, if foreign governments want to pay less — and will not pay more even if it means their own citizens will go without better drugs — then let those governments police the no-resell terms that enable them to get the lower prices. Right now, not only do Americans pay higher prices because foreigners refuse to pay the actual costs of drugs, but they pay the enforcement costs of that arrangement as well, including restrictions on their freedom. And if foreign governments cannot police those discriminatory contracts — because the incentive to resell, on one side, and to buy more cheaply, on the other side, makes enforcement difficult or impossible — then let a truly free market, encumbered only by enforceable contracts in restraint of trade, set prices at whatever the market will bear. It is neither right nor good that Americans bear so great a portion of the health-care costs of the world.

The real basic question in my mind is what would happen if the US government did allow reimportation. Would the pharmaceutical companies respond by no longer being willing to sign contracts with governments in other countries to sell drugs below market price in those countries? Would those countries then either seize the intellectual property of the drug companies and license other companies to make the drugs at a lower price? Or would the governments cave in and pay the higher market price? If the other governments seized the IP and licensed other makers would the US government be willing to levy trade sanctions against those other governments in order to stop the practice? Or would the US government do nothing to help the drug companies and would the drug companies then even be faced with drugs made by other makers flooding into the US market and undermining their IP even further?

Share |      By Randall Parker at 2003 July 24 11:25 AM  Socialism, Capitalism


Comments
Larry said at July 24, 2003 12:57 PM:

The libertarian blogs should not be opposed to reimportation of drugs into the US.

I understand that high returns pay for drug inovation, but why do US consumers have to fund the entire world's research? If we allow reimportation of drugs into the US, new drug development could cease, but more likely the drug companies would either not sale for low margins overseas, or (most likely) raise overseas prices to cover more of the fixed costs of research, while lowering the US price by a similiar amount, such that it no longer paid to re-import drugs. I can't see how we couldn't help but win, and Europe and Canada loose by such actions, while we would still benefit from new drugs.

As an aside, if you look at the profit margins of major drug companies, you'll find that they are high (Pfizer for example usually generates pre-tax earnings at about 35-38% of revenues) but not so high as slash drug prices as much as people expect.

Bob said at July 24, 2003 1:08 PM:

Larry,

Because the prices are heavily regulated in socialist countries like Canada, the drug companies do not have the option of increasing prices. The drug companies' only recourse is to undersupply Canada with their product. As soon as Canadians cannot supply their need for drugs, the Canadian government will have to step in and ban exports.

In the meantime, sick people will be sicker on both sides of the border, and the uncertainty will delay the development of some drugs. No good will come from importing price controls.

vinod said at July 24, 2003 1:08 PM:

Larry -

One of the lesser known 'rifts' in the Libertarian world is over the issue of intellectual property. Some libertarians are quite anti-IP (for ex., the Open Source folks...) and for these guys reimportation is legit. In their case, they value Freedom over creation of viable Markets.

Other Libertarians (myself included) believe in the social progress brought about by IP in which case we do give up some of our Freedom (in this case to clone a piece of IP) in order to ensure a Market......

Giving up some Freedom to ensure a Market happens all over the place (regulatory bodies like the SEC, copyright laws, product legislation around automobiles, etc.);

w.r.t. overseas - there's a Faustian bargain in place. The price control boards of other countries (for ex., the UK) simply say "you will sell this pill for $4 or we will license your IP to someone else domestically who will sell it for $4" -- the pharmaco has no pricing power whatsoever.

FredZ said at July 24, 2003 4:06 PM:

I'm Canadian and I dislike the term 'socialist'. The correct term is 'thief'. We steal your drug research. It's time to call a spade a f**king shovel. We have become a nation of envious thieves.

Randall Parker said at July 24, 2003 4:24 PM:

Fred, Sorry, you are right. 'Thief' is a much more accurate word.

Vinod's point about governments being willing to license IP to other producers in order to ensure price control is a good one. This is why I think it is important for the US government to treat this as a high priority trade issue.

Also, I'm in the same camp as Vinod wrt IP law. It is anti-conceptual to grant property rights only to physical property. Products of mental work are far more important to protect than physical property.

Larry, on pre-tax margins and drug companies: Do you have a source for your information? It is my impression that the drug companies which develop new drugs are loosing market share to generics and that they are having a hard time developing new drugs that can compete with the drugs already out there.

Bob said at July 24, 2003 4:59 PM:

Randall, Why are you apologizing for a Canadian's use of the word 'socialist'?

Personally, I find the label 'socialist' far more disparaging than just 'thief' implying as it does theft, oppression and more.

Dan Van Zile said at July 24, 2003 8:35 PM:

This is prposterous I dont believe this for a minute, the idea that higher drug costs will lead to more cures is just fantasy all higher drug prices will do is give the executives at drug companies a bigger yacht. This is rubbish and should be thrown out like all trash. an.

Randall Parker said at July 24, 2003 8:41 PM:

Dan, Why would drug companies continue to spend hundreds of millions of dollars to bring each drug to market if they couldn't earn it back?

Also, if you are going to post on my site I would ask that you try to engage in reasoned debate. Facts would help. Logic too. Ranting isn't reasoned debate.

The Snark Who Was Really a Boojum said at July 25, 2003 12:03 AM:

With all due respect I cannot help but feel that no one is forcing the pharmaceuticals to sell their products abroad at the point of a gun. If reimporting will really do horrible things to their profit margins here than surely they have both the right and the ability to simply stop selling abroad? In such an event they would be able to keep their high domestic prices and happily research away. It might not be the result that Europe or Canada was looking for from their price control laws, but in such an event those could either readjust their laws to allow the drug companies more profit or else take it on the chin. Either way I do not regard this as a reason to ban the reimporting of drugs.

Contrarywise, if the drug companies are making enough money to justify the sales at a lower prices abroad (& let us note that you yourself specified it as "just enough"), then it will hardly hurt them that much should Free Trade solve the problem of high prices by allowing the drugs to be reimported at a lower price. While I appreciate medical research as much as the next person I doubt that it justifies an artificial manipulation of the market on behalf of privately held companies.

Randall Parker said at July 25, 2003 12:47 AM:

Snark, The artificial manipulations of the market are being performed by other governments. If the drug companies refuse to sell in those other countries they run the very real risk of those governments licensing other companies to make the drugs. This has happened in other cases.

I just searched on "just enough" and couldn't find where I used the phrase.

Lower prices abroad; The drug companies have the very real problem that most of their costs are not production costs. If some other country lets them sell at a cost above production costs plus delivery costs plus foreseeable legal liability costs then the drug company will sell in that country even though the sales will pay very little back toward the cost of development.

AMac said at July 25, 2003 7:45 AM:

Going back to the first comment, Larry said:

>The libertarian blogs should not be opposed to reimportation of drugs into the US.

Er. As a reader, I visit the ParaPundit blog to read what Randall Parker and his guests have to say. My browser doesn't have a generic "Libertarian Blog" bookmark, and it would remain unused if it did exist.

Drug re-importation is a hard problem. Any action (or the lack of action) is going to have some undesirable consequences, as the original post and the comments above show. Mr. Parker has reasoned from his principles and the facts to come to an informed opinion, and articulated it well. That's all I ask!

Dan Van Zile said at July 25, 2003 7:50 AM:

I posted before on this article and as Randall pointed out,it was a rant not a reasonble comment. He is right and I apologise. I will however make one comment, prescription drugs prices in the US are too high to be politically maintained, By and large they have priced themselves out of the market. Drug companies are going to have to adapt to a market with lower prices, their current prices cannot be maintained politically or economically. It will be interesting to see how they adapt to this reality, whether they continue to shout the sky is falling or figure out some way to adapt. The drugs or going to be manufactured and sold at much lower prices either by them or somebody else. If one has any doubt about this, notice both sponsors of the bill mentioned are conservative republicans, also see Robert Novak's column of last week. Drug research will continue either by the drug companies or a government corporation, this is reality whether one likes it or not. This should of been my earlier response rather than the rant I posted , sometimes emotion gets ahead of the brain.

Bob said at July 25, 2003 8:27 AM:

Some folks just don't know the difference between sunk costs, opportunity costs and investments.

First, I want to illustrate a point with an anecdote. My cousin, Dee (not his real name), once told me a story about a motorcycle he owned. When he was younger, he 'chopped' a motorcycle with extended forks, fancy handle-bars, custom artwork etc. He invested a lot of time and money into having the coolest motorcycle around, and he anticipated a return on his investment in the form of his enjoyment of the finished product and of the adulation of other motorcycle enthusiasts.

One day, Dee was approached by an employee of the Satan's Choice corporation. (A couple years ago, Satan's Choice was taken over by the Hell's Angels corporation in a friendly merger--no doubt alarming many Canadians over the growing 'problem' of foreign ownership.) In any case, the employee informed Dee that Satan's Choice was going to purchase the motorcycle for a small fraction of what it cost him to produce it. When Dee politely declined the offer, the employee informed Dee that Satan's Choice would purchase the motorcycle at the stated price or would steal it for free.

At this point, Dee rightly recognized that his investment in the motorcycle was a sunk cost. He had already spent it, and it made little sense to consider it in his decision process. Instead, he focused on maximizing his future returns. He sold the motorcycle to the Satan'c Choice corporation at the stated price.

Having lost his investment, Dee did not 'chop' any more motorcycles.

The Canadian government is really no different than any other criminal organization, and the money that drug companies have already invested on product development is a sunk cost. When the Canadian government gives the drug company the choice of selling its product at a greatly reduced price or having someone else sell its product instead, the drug company correctly recognizes that its investment in the existing drug is a sunk cost. The drug company has already spent the money, and it makes little sense to consider it in the decision process. Instead, the drug company focuses on maximizing its future returns and considers only the cost of production, distribution etc.

Having lost its investment, the drug company will not develop any new drugs for the Canadian market. However, as long as the drug company can profit on investments in the US market, it will continue to develop drugs for the US market.

Extortion and racketeering are illegal in the US. I think the US will set a dangerous precedent if it legalizes extortion and racketeering done at arms length.

Randall Parker said at July 25, 2003 8:43 AM:

AMac, this is a policy subject on which I hold very strong views for a simple reason: if price controls extend to the US market then the resulting sales revenue decrease for the pharma cos will cause the pharma cos to cut their budgets for research and development. They'd have to cut their budgets. If the money is not coming in then it can not be spent.

Dan, you are focused on the price of existing drugs and and I'm focused on future drugs not yet developed. Most of us do not have fatal or debilitating diseases yet but in all likelihood we will some day. If drug companies spend less on new drug development that day will come sooner than would otherwise be the case. I fail to see how in the face of decreasing revenues they will maintain current development budgets.

If some people are too poor to afford drugs then an argument can be made for government funding for those people only. But I have a hard tine justifying price controls to benefit people who have either excellent health plans or a lot of money in the bank. The benefit flows to current sick people at the expense of future sick people. Unless you are seriously sick now I submet that your own self interest lies in unregulated drug prices.

Also, have any of you ever read the late former Sloan-Kettering director Lewis Thomas MD's Lives Of A Cell? He makes a great point in the book that what makes diseases expensive to treat is the lack of an effective treatment. Once we have an effective treatment then costs plummet. There are many diseases that today are less expensive to treat because there are drugs that lower the cost of treatment. Money for research and drug development spent by the NIH (shy of $30 bil per year), the drug cos (about $32 bil per year), biotechs (about $2-$3 bil per year) and the NSF (which I think is most potent per dollar spent but I I don't have a breakdown for their biomedically relevant spending) will do more to extend life expectancies in the long run than the vast bulk of the about $1.4 or $1.5 trillion spent per year in the US on medical care (all these figures are a year or two old from memory).

Aside: the current larger increase for NSF than for NIH in Bush's budget and the even larger increase for NSF in the Congressial bills is wise on all their parts. The reason has to do with the greater impact that NSF spending has on the development of instrumentation, sensors, and tools for manipulating at the nano level.

If you do not know much about drug development (e.g. like how only 30% of all developed drugs that make it to market actually earn back their development costs - and most drugs fail in phase I or II or III trials or earlier) then a good place to start reading is medicinal chemist Derek Lowe's blog IN THE PIPELINE: drug discovery.

Bob said at July 25, 2003 8:51 AM:

Dan,

Prices are only a political consideration in communist countries. In a free market, the price is maintainable economically no matter what the price is, and it will naturally gravitate to a point determined by the supply and demand curves.

The temporary monopoly granted by IP law does affect the supply curve by giving the IP owner control over price to maximize return. However, because substitute products exist for most treatments, the drug companies do not have absolute monopolies even with IP protections. They must still compete with other drug companies and with earlier products whose IP protections have expired.

Your second post does not seem much more reasoned than your earlier post. Your point basically boils down to: "We are going to steal the drug companies' intellectual property whether they like it or not so they better adapt. After destroying the free market, the government will step in with a centrally planned substitute."

They already tried that in Russia, and it didn't work so well.

Jeff said at October 5, 2004 12:20 PM:

I've been reading several of these posts and one fact that people seem to be ignoring is that big drug companies make enormous profits on the backs of American consumers, especially the elderly. The average out-of-pocket drug cost for a Medicare recipient is $999. This is on top of other out-of-pocket medical expenses. For most senior citizens who live on a fixed income this is an enormous burden. Big drug companies can charge whatever they want because they have a huge lobby in congress. I think the argument that big drug companies are going to stop developing new drugs because of drug re-importation is absurd. Basically I could care less about the intellectual property of big drug companies. In this country we need to stop putting corporate profits above the welfare of our citizens.

As a concerned citizen I’ll continue to do whatever I can to encourage the re-imporation of drugs. In fact here are a few resources that encourage drug re-importation. If the fleecing of the elderly pisses you off as much as it does me then spread the word.

http://www.drugsavings.wi.gov
http://www.pharmacyscout.com
http://www.rxsanity.org


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