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On the other hand, it deals with health care, and we think they all should act like St. Joseph's Hospital down the street, and we're shocked every time they maximize profits. So if I were a pharmaceutical executive, I would find that a little disconcerting. What do they want me to do? On the one hand, the universities certainly want me to maximize profits to help their endowment. But at the same university, there's professor who thunders that I make so much profits. That is a little odd. The fault lies, I think, with us the people, more so than with the pharmaceutical companies.
This industry is very tied in with government. How are they intertwined with government funding and laws?
I was quoted in the L.A. Times once as having said, "The pharmaceutical industry is like a bird that sits in the protective hand of government. And therefore, every so often, it has to chirp the way government wants it to chirp." What did I mean by that? I meant the industry couldn't exist without patent protection. If you didn't have intellectual property rights [to] protect it, then Pfizer might invent a drug and immediately every other company would knock it off and do copies, without having spent a dime for R&D. So the industry wouldn't survive a month without government protection through patents.
But in addition, it is illegal for me to buy a drug and sell it to you. If that were not illegal, I could then buy a drug and sell it to you, and ultimately there would be only one price per drug. But if you have only one price per drug, you would get much less revenue than if I'm allowed to charge some people, who are willing to pay more, higher prices, and others, like Canadians, who are not willing to pay it, lower prices. But I still cover my production cost. This is called price discrimination. Without price discrimination, this industry wouldn't earn nearly the money that it now does.
Price discrimination in this context can seem unfair. Can you draw a parallel with another industry, like airlines?
"Price discrimination" sounds unfair; it has the word "discrimination" in it. But in fact, originally, in the context of government, price discrimination in taxes basically says you should recover your taxes from activities that don't change a lot when you tax it. A British mathematician, I think, Ramsey, in 1927, wrote a seminal paper on that -- that if you carry it over to the pharmaceutical industry, said, "They have a lot of R&D expenditures up front. From whom should you recover these costs?" The argument is: If you charge high prices to people who will then not use the drug because the price is too high, that's inefficient. An economist would say you should recover your overhead from those users who will use the drug come hell or high water. The problem in health care is that those could be very sick and very poor people. That makes this price discrimination problematic.
In airlines, we seem to have no such problem. You have the first-class section, and I always tell my students, if you go coach and you go past the first class, you can say, "There sit a bunch of idiots who pay so much more for so little extra. What do we get? A gin, that's it." Then of course, if you're first class, you feel good about yourself. But in fact it's the same airplane, and the point is getting there safely. We all share that in common. In first class, you'll pay up to eight times what a student in the back pays for virtually the same thing. We consider that acceptable and fair. I don't think people are particularly upset about this kind of price discrimination.
Princeton University practices price discrimination. We have a list price, which is tuition. Then we give scholarships on the basis of need. So a poor student pays a lot less to go to Princeton than a student from a rich family. That is considered beneficial, too. So you have to be somewhat careful with attacking price discrimination as a general economic phenomenon.
So it seems unfair in the case of health care, because some of the groups who pay the highest are the least able to pay?
The reason it's unfair in the context of health care is precisely the elderly without health insurance -- those are, of course, poor elderly who cannot afford insurance for drugs -- they pay the highest prices at the pharmacy. Say, a law firm with well-paid lawyers that has an HMO contract pays a lot less for the same drug. That's why it makes this unfair.
On the other hand, the fact that Canadians pay on average about 60 percent for the same drug that we pay a dollar for -- that seems fair, actually, because Canadian GDP per capita is roughly about 60 percent of ours in the United States. So the Canadians are poorer. In some ways, it seems fair that they should pay less for the same brand-name drug than we as a nation do.
Again, you want people in Africa to get AIDS drugs as cheaply as it can possibly be. We consider that fair. In the U.S., we can pay more. But within the U.S., we also have rich and poor, and it's within the U.S. that we are unfair.
Why does Medicare not cover drugs?
It's a historical accident. In 1965, there really weren't a lot of drugs, and such as there were, were cheap and could be afforded. Therefore no one even thought that that was a big issue. It really became an issue only in the mid- to late 1980s, when drugs became more powerful, more effective, but also more expensive. It's a historical accident. No one ever would design the benefit package we have in Medicare from scratch now.
So now you have this group of elderly patients, who may not have coverage, who are the biggest users of this product?
The elderly on average, I think, when you look at these numbers, probably consume about four times the drugs that people in their 30s and 40s consume. They're the heaviest users. Some elderly might be on five or six or 10 drugs. Obviously, if they're not insured and have to pay that out of pocket, that's a huge hit on their budget. Elderly people at or slightly above poverty, they spend about 30 percent of their meager income on health care. Most of that is drugs. So that is a big social problem. That's why obviously, ultimately we need to address it by giving them coverage.
The reason we haven't done it is not that we're stingy. It's not the money. Money isn't the issue. The issue is: If Medicare now purchased drugs for all these elderly -- we're talking about 12 million elderly -- the pharmaceutical industry fears it'll sit across a table with a big gorilla on the other side that can dictate prices. That's what this industry fears.
Why hasn't the federal government been able to pass legislation?
It has something to do with costs. The costs that are on the table are somewhere between $300 billion and $800 billion for the next 10 years. So cost is an issue. But if push came to shove, cost would not be the barrier. The real barrier is the fear of the drug industry that ultimately government will be their biggest client, and government will dictate prices. The fears are not without some justification. Government sometimes has been a very bad business partner.
When we look at seniors exposed to the full price of a blockbuster drug, it's quite a shock. It can cost $100 a bottle. Compare that with families with insurance, and people in Canada. How might that vary, say, in Maine, in terms of what people pay?
An elder who has to pay the full freight could easily pay double, perhaps even three times as much as someone younger, their children, who are in an HMO that's large and has bargained well. That could easily happen, depending on the drug. Obviously, people think that's unfair. "I'm retired. I laid out for America. I might have fought in the war. Here I sit, and have to pay three times as much as these young punks who never really laid out." You can see the sense of unfairness from the point of view of the consumer.
Then they look across the border, or they go to Canada and get the drug essentially half price. They say again, "We Americans paid for the R&D with our taxes, and the Canadians get this cheaper." So you can see from the sort of worm's eye view, if I can use that analogy, it seems grossly unfair.
From the pharmaceutical companies' point of view, they are saying, "If government sort of forced every price down, our revenue stream would be down, and with it, of course, our profits would go, but also our R&D spending." So they see it from that point of view.
What same states have done is to institute their own plans to control prices, Canadian-style. What's wrong with that, since discounts are given everywhere else?
I don't think there's anything wrong with it. The thought is natural. … From the governors' point of view, it seems a natural thing to say, "Look, I'm buying drugs for poor people in this state at this price. I have senior citizens who are also poor or near-poor, and I want the same price." That doesn't seem so off-the-wall, or even so un-American, when you come right down to it.
That is why the governor of Maine, who is a very activist guy, by the way, would have done this. But Michigan is doing something similar, and I would expect many state governors to do the same, because at the moment, they're in tremendous fiscal straits. I think you'll see this all over the country, and the pharmaceutical industry just simply has to brace itself for it.
If you're in a pharmaceutical company, is it better to have 50 states doing different things, or take the federal government doing something? Aren't you stuck either way?
My own sense would be, as a pharmaceutical industry, you're always better off with the federal government. Look at the example of the solicitor general, who first in June, as I understand it, wrote a letter … in support of the state of Maine, telling the Supreme Court, "Don't look at the case." Maine had proposed to have price control, effectively, for drugs. The pharmaceutical industry sued. That went through the lower court and wound up at the Supreme Court.
In June, the solicitor general wrote a letter and told the Supreme Court, "Don't take this case. Maine should be allowed to do this." In September, as I understand it, the same solicitor general actually sided with the pharmaceutical industry and told the Supreme Court, "Maine should not be allowed to do this." … Doesn't that make you wonder what happened?
But it just shows you how easy it is to turn the federal government around. This was the Bush administration [which] initially came out for Maine, [then] two months later came out against Maine. Try to do that with 40 governors, and it's much harder.
So if I were any industry, you always want it federalized. You're going to get an easier deal. It is much easier to purchase favors from the feds than from the state governors.
Let's look at the pharmaceutical industry's arguments against price control. They say we spend more on drugs because they're a bigger part of medicine; [that] they've been successful. True?
I think the argument that drugs substitute for other kind of health care is valid. How deep that is, is an empirical question that could be researched. But there is no question. This is called a medical substitution that takes place.
AIDS is the clearest case. We used to have huge hospital bills per AIDS patient, and they didn't live as long. Now AIDS patients live a lot longer, but they cost a lot less per year, in particular because we use drugs in place of hospital care. Asthma is another clear case. If you treat asthma right, you avoid hospitalization, and the chronic care of an asthma patient is a lot cheaper with drugs than with hospital care.
So there is this substitution. How large it is, is an empirical question somewhat under debate. I think that should be heavily researched.
Second argument: Drug R&D is inherently costly, and if you did have price controls, you would threaten that system which has been so successful. When they say $800 million on average, are they in the right ballpark?
There're two parts to this argument. One, how big is it? And the issue here [is] the cost per drug. What you have to say precisely is "the total cost per successful drug." It's just like drilling for oil. When you drill for oil, you drill a lot of dry holes -- nothing there. Eventually you hit a gusher. All the costs of the dry holes have to be recovered from the oil in the gusher. That's well known in oil.
The same is true in the pharmaceutical industry. All of the dead ends that they run into, the cost of that has to be charged ultimately to the successful drug, or it has to recover them. The estimates used to be $500 million. Somebody makes those estimates. They get injected, repeated, and become a fact, and the latest "fact" is $800 million. My sense is, that would be an upper bound, because I know who made the estimate and I know what incentivized them to make that estimate. But it's certainly somewhere in the hundreds of millions, when you think of it. So that's one part of the argument.
The other part is: If I take a dollar away from the drug industry, by how many cents will research shrink? Well, on average, R&D, research and development, by their own income statements, is about 13 cents of every revenue dollar the pharmaceutical industry get. It's about 28 cents for manufacturing, packaging, quality control. It's about 37 cents for administration and marketing. It's about 13 cents, maximally 15 cents, for R&D, and then 18 cents is profit. So that's the big argument.
The pharmaceutical industry often sort of pretends as if you take a dollar away from them, research will fall by a dollar. I don't see why that should be so. Maybe it'll be 15 cents. Even so, it will lead to a reduction in research, which may or may not be the right thing to do.
We see companies that over 10-20 years have been extremely profitable, and that makes us suspicious of these arguments. But I've also heard the argument that they may look profitable, but they're fragile, because they depend on one or two successful products.
The pharmaceutical industry at the moment is in a fragile state, for a number of reasons. They've had a good run with drug discoveries and blockbusters that gave them huge revenues. At the moment, the pipeline seems to be kind of dry, and they have run into sharply diminishing returns on the research of the sort that they have been doing. You see that when you plot pharmaceutical R&D spending. It's an exponential curve, rising at the compound growth rate of 14 percent per year. But when you look at drug approvals, that curve is actually down a little bit. I think in part it's run out. They picked the low-hanging fruit.
So they're researching more and they're getting fewer drugs?
Yes. I think the low-hanging fruit has been picked, and they need a major breakthrough. The major breakthrough could be genomics. Ultimately, genomics should make R&D more focused, because when you do trials on people, you can very quickly discover early which genotypes cannot tolerate the drugs and which can. Now, when X percent of experimental group of people has bad side effects, we kill the whole drug. In the future, we'll say, "Oh, that's true only for this genotype. But for all the others, they can benefit from it."
So I think R&D will be more productive. There'll be stunningly new products. But that's all about 10 years in the future. So I would say, 10 years from now, the industry will have a renaissance of major proportions. But at the moment, they're walking through the desert a little bit.
The other thing where they are suffering is they spent a lot of money on marketing -- detail men and women who visit the doctor. I've seen data that shows that has run into a brick wall, too. The returns from an additional salesperson are very, very meager. So they face diminishing returns in production, and they face pressure from the governors, from ultimately the federal government, and also from the HMO industry. So [at the] moment, the industry is in a tough spot.
They're criticized for the amount they spend on marketing, particularly direct-to-consumer marketing and physician marketing. Is this reasonable, given the nature of this industry?
I may be the odd person out, but I always felt advertising to consumers is a reasonable thing for the industry to do. A) There is the First Amendment. You make new products. Why can't you tell people about it? Why should that industry be forbidden to do it, when the auto industry can advertise SUVs? Right? You can ask yourself.
Secondly, we've found in research that quite a few patients don't actually get the drugs. There were these studies on beta blockers that said only about half the patients in America got beta blockers after a heart attack. Well, you could ask, "Wouldn't it have been good if on television they had seen, 'If your loved one has a heart attack, be sure to ask that he gets beta blockers?'" So I think I'm on the industry side on that.
The money isn't that overwhelming. I think it's something like $8 billion, maybe $10 [billion], that they're spending on it. Doctors and HMO executives are vexed by this, because you have patients coming to the doctor and say, "I want Vioxx," or "I want this drug or that drug." My feeling is, that's why we have doctors. A good doctor should say, "Yes, it's a drug," or say, "Actually, let me show you. I have a study here. That drug, for the money, isn't worth it." That is the doctor's job. So I don't understand why you would take away freedom of speech to an industry, when it's so easy to counter it.
The other issue for controlling costs is to change the law on intellectual property, to make it easier for generics to come over. Talk about the fairness of Hatch-Waxman and subsequent laws.
Patent laws are basically about the redistribution of economic privilege. If you make the patent law long, the pharmaceutical industry and their shareholders benefit. If you make it shorter, they hurt and -- at least in the short run -- customers benefit, or people who can make generics of this.
So we've had this law that allows generics, and the pharmaceutical industry found loopholes in the law that allowed them to essentially extend patent protection through litigation, by the color of the box, and they patented everything. In the law was a provision that while … litigation is on, the patent continued to run. That's a loophole.
My own sense is that really should be clarified. Maybe you should extend the patents by a year or two, but then say, "When it's over, it's over." What we now have is really very unseemly, because it makes everyone feel cheated.
What mechanisms can we use to get the consumers, or the people who purchase drugs, to be aware of both the cost and the value, and therefore the cost-effectiveness of medicines?
The problem in health care with manipulating the demand side is, always you want benefit-cost calculus. Somebody should do it. On the other hand, the ethical constraint says you don't want somebody, just because they're poor, not to get something that would be beneficial. That makes it always very difficult.
Now in the pharmaceutical market, the attempt is basically to say to the insurer, "We'll give you a drug that's good enough, and we'll cover most of that, or all of it. There're all these other drugs that are similar. Some may be a little bit better, in our judgment, but they're much more expensive, and we will let you eat the rest of the price. So if a drug that costs $50 a month is good enough, but you insist on having one that'll cost $80 a month, we'll ask you to pay the $30."
That's called "reference pricing" in drugs, although the proper term is "defined contribution," where the insurer makes a contribution and then you can buy your own thing. That is what the Germans have done. Australia has done it, and Canada, British Columbia. They have done this sort of thing. You say, "We'll give it to you, a good enough drug, but on the other hand, we play a little bit market among competing products." The pharmaceutical industry fears this like the plague, because in Germany it had the effect of driving down all prices to the reference price. That, of course, would be a major hit.
Now, the pharmaceutical industry will argue, "These drugs are not equivalent. This brand name is better, and therefore should actually be given to the patient, even if it costs more. And you, the insurance or Medicaid, should cover it." But then you go back and say, "OK. If it's better, fine. But how much better is it really?" I mean, there surely is a difference between "It's 10 percent better" or "It's four times as good." Some drugs, for example, are better in the sense you take them only once a day rather than four times. Clearly that is better. But is it that much better that you'd be willing to pay three times the price for it?
This sort of benefit-cost calculus, I think, patients can do it. But they need the information, and the information isn't there.
In the last 10 years, most of us have been blissfully unaware of the price of the drugs. Did that make things worse?
It's an odd industry. If there was a bad way to do it, generally the HMOs did discover it and practice it. The co-payments that we all paid persuaded Americans that drugs have three prices: $10, $15, or $20. [Whatever] it was, it was either one of these three prices. It's the weirdest thing when you actually think about it. The natural thing would have been to say, "For a generic, we'll pay all of it. If it's a brand-name drug on our formulary, you pay a 10 percent co-insurance, not co-pay. Whatever the price is, you pay 10 percent. If it's a brand name off our formulary, you'll pay 35 percent of whatever the price is." Then the patient would have at least been conscious of the price of the drug.
Why the HMO industry did what it did with the co-pays is a mystery to me. But then again, that's the same industry that kicked mothers out of bed after one day [in] the delivery. You know, you shouldn't expect too much of it. But that was a serious mistake, I think.
Most people assume that physicians are informed actors. Why would they lead us to an expensive drug if there's a cheaper one that works well?
I think physicians should be the information manager in drug therapy. But in fact -- even doctors tell you -- most of the information about drugs comes to them from the detail men and women who visit them. There doesn't seem to be an organized method of conveying this information. I'm not aware that the American Medical Association has a Web site; it should. If I'm an internist, I should be able to go on that Web site and get highly reputable information on what different drugs do, and even on what they cost.
There's so much talk about concern over quality in the American Medical Association. But after 30 years, they have never produced an information system that would keep a doctor up to date on new drugs. I think that is the weak link. If I had my druthers, I would say, "Every five years doctors must be re-licensed. They must pass a written exam, and one-third of that exam would be pharmaceutical therapy. 'Are you up on the latest drugs? Do you know what they do? Do you have any vague idea what they cost?'" Just force the doctors to be up to speed.
Because at the moment, most of this education comes from people who have a stake in getting you to use their drug?
Most of the information is tainted, in the sense that it comes from people who are trying to sell a drug. And then you see it. I mean, you go to doctors and there're always these sloppily dressed people -- they're called patients -- and there're always these well-dressed people in the Gucci loafers -- they're detail men and women -- and they sneak in sort of between patients. This busy doctor gets bombarded with this information and with some samples, and then they leave.
That's not an organized way. I would rather actually that the government pay the doctor one day a month and say, "We'll pay you what you would have made in a day to go and be up on the latest technology in health care, and get really serious medical education." That is what HMOs were supposed to do, by the way.
So there's a vacuum of medical leadership. Some states, Oregon, are trying to fill this void with a statewide approved formulary, therapeutic class by therapeutic class, and make non-binding recommendations. Are they big enough to do this?
I think eventually all states will do it. I think Michigan is toying with this idea, that Oregon's Dr. Kitzhaber -- a great physician, great governor -- that he would have thought of this, doesn't surprise me. Eventually people will say, "We will establish a non-binding" -- not formulary. It's really an information system. The way they developed this list about "rationing health care" was very democratic.
You could do something like that with a formulary. In other words, you could have scientists put it out there. Then you could have citizens and pharmaceutical industry being able to take potshots at it, and ultimately come to some decision in a democratic society.
But what we now have is a jungle. It's an information jungle, which I think is, in a way, unseemly for an advanced society. We need to go this way. I could see Vermont -- Governor Dean, also a physician -- ultimately taking the lead in this. It should, in theory, be the federal government, because if it's true for Arizona, it's also true for Maine. You know, there shouldn't be any difference in what a drug does in these two states.
There seems to be a lot of energy from the states. Is this their moment?
In health policy, this is the decade of the states. The federal [government] is completely paralyzed for two reasons. One, preoccupation with sundry wars, which has literally shoved the entire domestic agenda off the screen. Then secondly, we have the deadlock that is sort of 50-50, which is paralytic, so nothing can happen.
So I think this is, in fact, where the states have to take the lead. The states will surprise the federal government by the end of the decade [with] all they have achieved. [If you] ever go to a meeting of state legislators, it's really exciting. These people really have wild ideas. They are committed to do things. You may not agree with all their ideas, but there's activity there, while the feds are completely paralyzed.
Another difference is that states can't run a deficit.
States, yes, have a reality check. … Overall, in the long run … governors have to have fiscal integrity. The federal government, as we saw in the 1980s, we ran up a debt from $1 trillion to $4 trillion, and we're going to do this again in this decade. The federal government can be very irresponsible in both counts: either not do anything at all, or just put us in hock. That is why there's so much excitement and activity at the state level.
Is there opportunity to cut waste by getting good information into the hands of doctors?
… Secretary Paul O'Neill said the other day that if we practice medicine smartly, he believes you can cut health spending in half. He may be right, for all this. But if I halve that again and say we could knock off at least 25 percent, that's probably true -- that if people had the right information on what works and what doesn't.
The reason we say this is, we look at Medicare -- Jack Wennberg, at Dartmouth University has, and produces this atlas of health spending. After adjusting for everything that you can -- age, gender, health status -- he finds that in the Sun Belt, in general, Medicare spends twice as much per elderly than they do in the Wheat Belt or in Oregon. That has to mean something. I mean, they cannot be twice as sick down there. After all, that's already been adjusted for statistically.
Why does the American taxpayer have to pay twice as much for a 70-year lady in Baton Rouge than in Rochester, Minnesota, home of the Mayo Clinic? The Congress has known this for at least 20 years, and the Congress's policy has been to stick the head in the sand, say, "We don't want to know this." Imagine, if we could get every American physician to practice the way Mayo physicians practice. Paul O'Neill says we could cut it in half, because that's what those numbers show. But I say, conservatively, you could save 20 percent.
So how do you get this information? Well, you have to spend money on research, health services operations research. At the moment, the federal outlay is something like $870 million for this kind of research, out of $1.4 trillion. I think I calculated it. That's 0.02 percent of our health spending goes for R&D by the feds. That's again the feds.
Tell me where that is responsible. Tell me anyone who could run an enterprise and spend that little on operations research. That's a tragedy. How can a congressman sit there and require me, the taxpayer, year after year, to pay twice as much per elderly in one part of the country than in another, and never feel the slightest guilty vis-a-vis me, the taxpayer? That's my question to Congress: How can you sleep at night?
You've tracked health care for many decades. Costs are going up rapidly. Do you think we can go on for many more years, not facing this problem?
The beauty and the tragedy of American health care is that we can't afford the promiscuity, the profligacy of spending, and still have more of everything else. That is why precisely we are doing this. If the whole country were in the bind that the governor is, we would do something. But in fact, at the moment, premiums are rising 15 percent-18 percent. Health spending for the nation as a whole is rising, probably by 11 percent, compound growth. If you run that out for the next decade, we're now spending 13 percent of GDP on health. It'll be 17 percent by the year 2011.
But if you then look, how big will the GDP then be, the gross domestic product, it'll be so much bigger that even if you take health care out of it, there'll still be a lot more non-health GDP. In fact, if you want numbers, we had a $10 trillion GDP in 2001, of which $1.4 trillion went to health care. The forecast is we'll have $16 trillion in GDP in the year 2011, and we'll take $2.8 trillion off the top for health care. So double the amount.
But still, that still leaves something like $13 trillion GDP -- a little more, $13.2 trillion GDP -- for non-health, and now it was something like $8.5 trillion. So size close to $4 trillion more GDP for non-health. So we can actually afford the folly. We really can. The question is: Is that really wise?
And also we have 40 million uninsured.
Forty million uninsured. We don't educate poor children as well as we should to give them a hope in America. There're so many other needs we don't fill. It is for that reason that wasting money in health care is actually immoral. It's not only inefficient; I think it's immoral to do that. We show them. Jack Wennberg has shown them for 20 years. "Something is wrong with the Medicaid program, in how you spend." And "Duh" is all you get from Congress. It's really shameful.
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