Prescription drug prices have become a major issue for many elderly households. Since 1990, prescription drug prices have risen twice as fast as all other consumer prices.
Is there a solution available from our northern neighbor, Canada? Prescription drug prices, and indeed, prices of all medical services, are controlled by the Canadian government and are significantly lower than drug prices in the United States. Some see the answer to high drug prices as simply allowing legal purchases by U.S. consumers of drugs from Canada.
Buying prescription drugs from Canada seems like a simple solution, but there are two big problems with it. First, the Canadian market couldn’t handle the demand. The Canadian pharmaceutical market is less than one-tenth the size of the U.S. market. There aren’t enough prescription drugs in Canada to supply U.S. buyers.
Second, legally allowing prescription drug purchases from Canada would effectively merge the Canadian and U.S. markets, and as a result, the price differences would end.
Here’s why. Many economists think U.S. drug companies price prescription drugs differently for the Canadian and U.S. markets using a common business technique called market segmentation. It’s the same method airlines use to sell the same ticket to different customer groups, such as business travelers and vacation travelers, at different prices.
The goal of market segmentation is to increase profits for the seller by dividing buyers into distinctive groups and selling to each group at different prices. One of the common characteristics for classifying buyers is income. Higher-income consumers are willing to pay more and so will be charged more than lower-income buyers.
And guess what? Canadian households are poorer, on average, than U.S. households. Therefore, U.S. drug companies have decided it’s in their interest to charge American buyers more and Canadian buyers less for prescription drugs. Of course, this only works as long as the U.S. and Canadian markets are kept legally separate.
Then what would happen if there were no legal restrictions barring Americans from purchasing Canadian drugs and the Canadian and U.S. markets were combined? Canadian drug prices would rise, and U.S. drug prices would fall. But because the U.S. market is so much larger, the new price would be much closer to the old U.S. price and savings to U.S. buyers would be small, perhaps as low as 1 percent.
“Aha”, you may be thinking, if buying prescription drugs from Canada isn’t the answer, then maybe the answer is to imitate the Canadians in another way — controlling prescription drug prices. Just have the U.S. government tell drug companies their prices can’t go above a certain level, or have the government regulate how much drug prices can increase in any year. Problem solved!
But there could be a “bitter after-taste” to this solution. Developing, testing, and ultimately receiving governmental approval to market new drugs is a long and costly process, taking up to 12 years and $800 million. And once development of a new drug is begun, there’s no assurance the company will make a dime from their efforts.
The problem with government control of prescription drug prices is politicians would have an incentive to keep the prices low. And the problem with this is, it might “kill the goose that lays the golden eggs.” If drug companies can’t charge prices high enough to recover their costs and give them an acceptable profit, they may stop developing new drugs.
So is there any hope for arresting the rise in prescription drug prices? Actually there is. Developers of drugs are given a patent lasting 12 to 14 years, during which the developer is the exclusive seller. But once the patent expires, competing generic prescription drugs can be sold. And the good news is, once generic alternatives are available, studies show the price can fall by as much as 90 percent.
Easy answers to economic issues are often misleading. A good case in point is the bandwagon touting the purchase of prescription drugs from Canada.