Medicare Rebates: How Not to Protect Taxpayers nor Lower Drug Prices

Steve Sherman
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Posted: May 25, 2017 12:01 AM
Medicare Rebates: How Not to Protect Taxpayers nor Lower Drug Prices

Sometimes you have to marvel at how politicians in Washington always turn to the same ideas, even when the evidence of how another approach works better is completely undeniable.

The latest example is a proposal to put Medicare Part D under the same type of price controls that have driven up drug prices under Medicaid over the last several decades. Critics of Medicare Part D should be required to pass the following test before proposing to blow up the program with price controls: what other program, in the history of government, has come in dramatically under cost projections?

Are there any? Despite some effort, I’ve been unable to identify a single other example. It’s completely out of character for a government program to end up less expensive than estimated.

Why has Medicare Part D, alone among government programs, been able to contain its costs to a remarkable degree? Is it the genius design of its price controls? No – precisely the opposite. The secret is actually the humility of its design.

When prices go down, it generally means the companies that manufacture the goods in question are doing more with less. That, in turn, requires an increase in productivity. Do price controls stimulate productivity gains? The economic history of every nation on earth show clearly, they do not.

It’s the beauty of competition that brings productivity.

Unique among the various entitlement programs, Medicare Part D relies on the distributed wisdom of its enrollees to drive down costs. They choose among competing plans, paying the difference for one with more coverage, or pocketing the difference for one with less.

Not only does this serve the individual needs of each beneficiary better, since they are free to pick a plan that suits their needs, it forces the plan providers to identify which features are important to the enrollees.

The opposite of this vision are Medicaid drug “rebates.” By “rebate,” the government means the companies are required by law to send some percentage of the price back to Uncle Sam.

What percentage? There is actually a Soviet-style price controls rubric in U.S. law with a hideously complicated scheme about which drugs are more important than others, and therefore relatively shielded from the “rebate” system.

Is this a good system? Well, has it reduced drug prices? Has it brought more choice to Medicaid patients? No, exactly the opposite, in fact. So why on God’s green earth would the same idea be proposed for another part of the system that is working well?

The answer lies in intricacies of budget politics. Budget proposals in Washington live and die by cost estimates from the Congressional Budget Office – the “CBO score,” in common parlance. As you might imagine, the CBO is not particularly adept at estimating the increases in productivity that arise from real competition, hence the office’s historically bad estimates for the cost of Part D.

In the same way, the CBO is prone to vastly overestimating the savings from ham-handed price control schemes that are supposed to control costs.

All of the political incentives are set up to reward exactly the wrong policies, and, unfortunately, many in Washington fall prey to this trap.

Conservatives must combat this temptation by constantly reminding the political class in Washington what a disaster all of their ill-considered price control schemes have actually been over the last forty years. This is not a new plan. It’s been tried – over and over.

What a shame it would be if the only program that actually controls costs was destroyed by a short-term political ploy to game a CBO score.