Rethinking the Drug Business

Big Pharma needs a new business model. The pharmaceutical industry generates big profits that pay for developing drugs by segmenting its global markets and charging U.S. consumers more than anyone else. Washington plays a key role by imposing trade barriers that prohibit the reimporting of cheaper drugs sold by drug companies outside the country. The model works as long as Americans are willing to bear the financial burden. Increasingly, they are not. The recent bipartisan vote in the House (87 Republicans, 156 Democrats) for a bill to permit reimporting cheaper Canadian drugs reflects a political groundswell to curb the cost of drugs in the U.S. The industry would do well to start crafting a business model that doesn't depend on trade protectionism and artificially high U.S. drug prices.

The truth is that today, most drug prices are determined not by markets but by clout. The weak pay the most. Overseas, big state public-health systems bargain with U.S. drugmakers to get the lowest possible prices. Behind the bargaining is the implied threat, especially from Third World countries, that they will break the patent and produce the drugs themselves if the price isn't right. Mexico is threatening to produce cheap copies of patented drugs. In the U.S., HMOs, corporations, and even states such as Vermont negotiate drug prices as well. Yet even they have not been able to stop the cost of drugs from rising.

Those who pay the highest prices for drugs in America are elderly citizens not covered by ex-employers, HMOs, or insurance. They constitute the approximately 15% of the U.S. market that pays cash for drugs. This group is now in open revolt. People in virtually every retirement community in the nation are importing cheaper drugs from Canada, either through the Internet or through hundreds of storefronts in Florida and elsewhere. Today, 1% to 2% of the nation's $240 billion drug bill is spent on imported drugs. It is growing fast.

Political support and public tolerance for Big Pharma's model is eroding. Despite millions spent for campaign contributions and on lobbying, Congress is rightly beginning to view the barrier to reimportation as protectionism. And to middle-class Americans, especially the elderly, it makes less and less sense to subsidize middle-class Canadians and Europeans. The solution: bring every American, especially the elderly, into a private or public health-care organization that can bargain for lower drug prices with the drug industry.

The erosion of U.S. trade barriers to reimportation will ultimately mean that drugmakers will be unable to segment their pricing. The best-case scenario for the industry is that a single global market emerges and prices in the U.S. move lower while prices offshore rise. More likely is that U.S. prices fall to Canadian levels. Big Pharma should start thinking about where it is going to get the profits it needs for the future.

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