The Wall Street Journal

How Drug Prices Work

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Drug pricing is complicated and secretive. WSJ explains how the flow of money, drugs and rebates behind the scenes may drive up the price of prescription medicine for consumers. Illustration: Mallory Brangan


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- [Presenter] You might think the process that determines
how much you pay for something is pretty straightforward,
and it often is.
For example, here's the supply chain for a beverage
you might buy at the drugstore, say, a Pepsi.
Pepsi Co. Manufactures the soda and sends it
to a retailer, who sells it to a customer.
The customer pays the retailer,
and the retailer pays Pepsi Co.
Simple, right?
Well, that is not the case for the products
behind the pharmacy counter.
The drugs.
Here's a typical supply of chain for prescription drugs.
It looks really different.
That's because the way that drugs are priced
is not at all a straightforward process.
Experts and politicians argue that the very complexity
of this chain is part of why drug prices
have grown so high for customers.
- Everyone involved in the broken system,
the drug makers, insurance companies,
distributors, pharmacy benefit managers,
and many others contribute to the problem.
- [Presenter] To understand this debate,
first, you should understand the flow of drugs and money
within this chain.
Let's start here with the pharmaceutical companies.
They are the ones who develop a drug and set a price,
known as the list price.
This isn't a straightforward as it might look,
which I'll explain in a moment.
Next you have the wholesalers who transport the drugs
and sell them to the pharmacies.
The patient pays the copay and the pharmacy sends out
a bill that gets paid by the insurance company.
That's simple enough, but we're missing a link.
The link that manages this transaction and adds
a lot of complexity to the chain.
Meet the pharmacy benefit managers or PBS.
They are who the drug companies and some politicians
are talking about when they refer to middle men.
They work for insurance companies,
big employers, and government agencies.
And a big part of their job is to bring down
the cost of drugs for their employers.
They do this by negotiating
with pharmaceutical companies for rebates.
Yup, for many of the drugs a pharmaceutical company sells,
it pays a rebate to the PBM.
The PBM sometimes pockets a portion of the rebate
and passes another portion on
to the insurance company or employer.
Why the pharmaceutical company pays these rebates
is the source of a lot of controversy.
What happens is the drug company gets moved up
on something called a formulary.
So what's a formulary?
It's the list of drugs that the insurance company covers.
And it's grouped in tiers.
Each tier represents what portion of the list price
the patient pays and what portion of the list price
the insurance company pays.
The highest tier in the formulary is the lowest copay
for the patient.
And the lowest tier is the highest copay for the patient.
When the pharmaceutical company pays a higher rebate,
the PBM will move the drug up on the formulary.
Pharmaceutical companies want high placement
on the formulary.
That's because patients are more likely to take the drug
that's most affordable.
And that usually means higher sales
for the pharmaceutical company.
If the patient wants to take a drug that's lowered down
on the formulary or not on it at all,
they have to pay higher copays or even the full list price
of the drug.
If this seems confusing, that's because it is.
Let's take another walk through that transaction,
this time with an example.
Say a hypothetical drug costs $100.
A PBM negotiates a $50 rebate, $10 of which they pocket,
and $40 of which they pass on
to the insurance company or employer.
In return for that rebate, the PBM moves the drug
to a better spot on the formulary making it cheaper
for the patient to buy the drug.
This transaction is important because the pharmaceutical
companies say it's a big reason
they keep raising the price of drugs.
You've probably seen a chart like this before.
It's the rise in the price of a drug in the US,
in this case, Humalog, according to its maker Eli Lilly.
Th pharmaceutical company say they have raise less prices
to protect their sales and profits from the demands
of these higher rebates.
Here's the CEO of the pharmaceutical company Merck
at a hearing on drug prices.
- If you bring a product to the market with a low list price
in this system, you get punished financially
and you get no uptake because everyone in the supply chain
makes money as a result of a higher list price.
- [Presenter] And here's that Humalog chart again
this time with a net price,
where the average revenue that Eli Lilly
says they take in under this system.
For their part, the PBM say that drug companies
don't have to raise prices to boost their bottom lines
and that rebates reduce the cost of drugs,
not inflates them.
They say rebates reduce the real cost of prescription drugs
because they lower the price that insurance companies pay.
That helps the insurers lower the premiums
that the patients have to pay for their plans.
Here's Derica Rice, an executive vice president
at CVS Caremark, one of the pharmacy benefit managers.
- Our job is to work with the employers, unions,
and government programs who serve to ensure that
when their members get to the pharmacy counter,
they get the medicines that they need
at the lowest possible cost.
- [Presenter] So what does all of this mean
for the patient back at the pharmacy counter?
That the heart of all this is what the patient pays
is often based on the list price,
not the price the insurance company is responsible for
after the rebates.
And patients who don't have insurance or coinsurance
or who have really high deductibles
sometimes pay the entire list price.
It's important to know that the details surrounding rebates
are shrouded in mystery.
Pharmaceutical companies and PBMs don't release
their rebate data saying it's proprietary.
But it's clear that different people and different
insurance companies pay different prices
for the same drugs.
As you can see, the way that prices work behind
the counter is totally different
from how they work in front.
(calm techno music)

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