How Will a Single Payer Health Care System Affect Pharmaceutical Prices?

One risk to the competitive position of pharmaceutical companies like Johnson & Johnson (JNJ), Pfizer (PFE), and Novartis (NVS) is a potential increase in buyer bargaining power if the United States moves to a single payer health care system similar to many countries in Europe. We can get an idea of how this might affect pharmaceutical prices by looking at sales in Europe and other countries with single payer health care systems.

A report complied in 2003 (“Prices and Availability of Pharmaceuticals: Evidence from Nine Countries”, Danzon) compiles a price index of pharmaceutical prices in eight different countries as compared to the price in the United States. The countries studied in the report were the United States, Canada, France, Germany, Italy, Japan, and the United Kingdom, Chile, and Mexico.

Of these countries, all but Mexico and the United States have a single payer health care system. Since for competitive reasons pharmaceutical companies do not break down volume by geography (which would allow direct measurement of U.S. versus international price differences, I found this paper very useful.

Moreover, unlike some studies that merely look at the price differentials at current exchange rates, this paper attempts to identify factors that influence the price differential and where the relative impact of the factors differs between the countries studied. These factors include both the extent that a country makes use of generic drugs and the personal income differences between the countries analyzed.

It appears that in many countries where the price of patent protected drugs are lower, generic drug use is proportionally lower; this allows a company to attain higher margins on branded off-patent drugs as compared to the United States. This partially compensates for lower prices of on-patent drugs in these countries. Combining on and off patent drugs, and measuring at 1999 exchange rates, 7 of the 8 countries analyzed had prices roughly 75% of that in the United States, whereas Japan had prices 20% higher than in the United States.

Since it is possible that these countries might increase their use of generics, we should also look at price differentials of on-patent drugs only. Here we find that the price differential - again using 1999 exchange rates - in seven out of the eight countries averaged around 65% of the price in the United States, with Japan being around 40% more expensive.

Because exchange rates can be volatile, the paper also looked at the price differentials using purchasing power parity, which equalizes the purchasing power of different currencies using a basket of goods. The paper compared six countries – Canada, France, Germany, Italy, Japan, and the United Kingdom – to the United States using purchasing power parity, and found that the price differential of on-patent drugs lessened, ranging from 63% of U.S. prices in France to 90% of U.S. prices in Japan, with the average being close to 80%. Since exchange rates tend to fluctuate around purchasing power parity, I believe this comparison gives a better picture of long-term price differentials.

Still, this analysis may be pessimistic, in that the lower prices observed in other countries may be partially attributable to lower incomes in these countries as compared to the United States. Pharmaceutical companies came to the conclusion some time ago that it makes sense to use tiered pricing based off of what a particular market can afford.

As a matter of fact, when we adjust for per-capita income differences, the price discrepancy – measured using 1999 exchange rates - between Europe and the United States actually reverses, with only France having cheaper on-patent drug prices at 93% of prices in the United States, and with on-patent drug prices adjusted for per-capita income being greater than the United States in the other countries. The adjusted prices in Mexico and Chile were over five times greater than the United States, and per-capita use of these drugs were 12% and 23% of that in the United States, respectively.

This suggests that the pharmaceutical companies might be able to increase revenue by lowering prices in those markets with the goal of increasing use. As noted in the paper, one obstacle to lowering prices in developing countries is that drug companies are probably afraid that Congress will use any large price differential as an indication that prices are too high in the United States; they are also afraid that a large price differential could lead to an increase in drug re-importation from Mexico.

As Yogi Berra once said, “It’s tough to make predictions, especially about the future”. Nevertheless, I am going to end this article by predicting that if the United States does go to a single payer health care system, the impact on pharmaceutical revenues will not be as dire as some predict. If the current price differential measured at purchasing power parity between other developed countries with single payer health care systems is solely due to tiered pricing based off of per-capita income, the effect on pharmaceutical prices might be imperceptible.

Let's also examine the effects of a more pessimistic scenario where on-patent drug prices in the United States fall to 80% of current levels, similar to prices in Europe, Canada, and Japan at purchasing power parity.

Although certainly not ideal, this scenario would not be catastrophic. For example, take Johnson & Johnson. If we assume that medical devices would be similarly impacted by a single payer system, then total affected 2008 revenue would have been $25,372 million. If this were to decrease by 20%, then total company revenue would have fallen by around 8%.

The potential impact to J&J was muted due to the revenue contribution from the consumer health business, and would be greater for less diversified companies.

Considering that the total available health care market in developed countries will likely grow slightly faster than GDP (due to the demographics), I don’t find the potential for a one-time 8% potential drop in revenue particularly worrisome.

The full paper can be accessed here.

Disclosure: I have a long position in Johnson & Johnson

Comments

[GregT:]

But an 8% drop in revenue can translate into a much bigger drop in earnings per share - perhaps as much as 30%. Assuming that P/E's stay the same, it could mean a 30% share price drop. Granted, some of this drop has already been priced into the current stock prices, but not the full 30%.

Jun 09 08:23 AM

[User 428271:]

This is interesting but it is misleading to say that Germany, Japan, or even France have single payer systems. Universal coverage, yes but not single payer.

Jun 09 09:16 AM

[John Hunt, MD:]

All this is Statlinistic mumbo jumbo. The only certain thing, and it is unequivocal, is that the current government control of the medical systems of all countries has lead to inefficient supply/demand balance. Indirect and direct subsidization of pharma companies (for example by subsidizing purchase of their drugs) leads to higher prices in the US (duh!), for which attempts to compensate by centralized price controls will lead without doubt to less innovation and poor economic function.

The solution is so clear and brilliant. Get the government OUT OF HEALTH CARE. ALtogether, completely. By the way, in the United States, the people of America NEVER delegated their powers to the the federal government, for that government to force them to buy financial instruments such as health insurance. The US government's involvement in health care so far and in the future has been, and will be, illegal usurpation of power.

NONE of the above article matters at all. What matters is getting the government to obey the law that we wrote (that being the US CONSTITUTION), for doing so will fix the whole busted health care system.

Jun 09 09:40 AM

[YoYoMama:]

We may not like the government stepping in to control our health care system. But we kid ourselves if we think WE THE PEOPLE are in control of the health care system. We are not.

INSURANCE COMPANIES currently have a stranglehold on our system, determining who receives coverage, who gets dropped for coverage, how long you stay in the hospital, what treatments you receive, what prescriptions will be paid, and how (OR IF) your treatments will be paid for.

INSURANCE COMPANIES dictate to doctors your treatment plan, based on if THEY decide to pay for it. Of course, this scenario is only beneficial if you have millions in the bank to pay for all the treatments your insurance company may refuse to pay, in which case, the health care system COMPLETELY works for you.

With all this - God help you if you don't have insurance. One illness or accident and you face certain bankruptcy.

As much as us free-market capitalists despise the government getting involved health care, I challenge SOMEONE to support a view that the heatlh care system in American, as it stands now, TRULY works for ALL Americans.

I'm sorry, it just doesn't.

Jun 09 09:56 AM

[jamesa40:]

So your solution is to inject partisan politics into the situation? How does that reduce price, increase access or increase care for anyone? How does forcing 47 million people onto the roles, when no one has answered how the existing infrastructure is going to handle it, going to increase efficiency in the system? If you actually allow a truly FREE market (a good example is allow insurance to be offered across state lines), you will see a huge increase in efficiency, without politics involvement.


On Jun 09 09:56 AM YoYoMama wrote:

> We may not like the government stepping in to control our health
> care system. But we kid ourselves if we think WE THE PEOPLE are
> in control of the health care system. We are not.
>
> INSURANCE COMPANIES currently have a stranglehold on our system,
> determining who receives coverage, who gets dropped for coverage,
> how long you stay in the hospital, what treatments you receive, what
> prescriptions will be paid, and how (OR IF) your treatments will
> be paid for.
>
> INSURANCE COMPANIES dictate to doctors your treatment plan, based
> on if THEY decide to pay for it. Of course, this scenario is only
> beneficial if you have millions in the bank to pay for all the treatments
> your insurance company may refuse to pay, in which case, the health
> care system COMPLETELY works for you.
>
> With all this - God help you if you don't have insurance. One illness
> or accident and you face certain bankruptcy.
>
> As much as us free-market capitalists despise the government getting
> involved health care, I challenge SOMEONE to support a view that
> the heatlh care system in American, as it stands now, TRULY works
> for ALL Americans.
>
> I'm sorry, it just doesn't.

Jun 09 11:34 AM

[Brian Gaudet:]

User 428271,
You are right in that some of these countries do not have single payer system in the strict sense; some have hybrids. But my goal was to look at what might happen if we move to a health care system where the purchasers of pharmaceuticals gained bargaining power similar to countries in Europe.


On Jun 09 09:16 AM User 428271 wrote:

> This is interesting but it is misleading to say that Germany, Japan,
> or even France have single payer systems. Universal coverage, yes
> but not single payer.

Jun 09 01:03 PM

[Brian Gaudet:]

John,
Although the point of the article had nothing to do with the merits of single payer or other universal health care schemes, I feel the need to comment on your article. First, the paper I referenced refutes what you say: that increased bargaining power in Europe is driving up U.S. prices. Measured at purchasing power parity and adjusting for income levels, there is no difference.

Second, the problem with leaving government completely out of health care is that you end up with individual business owners not having the bargaining power of IBM, with the result they end up paying much higher rates. What is known is that the United States pays almost twice the percentage of GDP on health care as most other developed nations, with no resultant increase in the quality of health. If there was actually an example of a completely private health care system that provides equivalent or better care than Europe and Canada, I would suggest we copy it. I have quite a few friends in France that have no complaints about the health care there. If you want expedited care, or some new treatment that is not covered by the universal coverage system, you can pay for it out of your own pocket at a private hospital. And if you are a part time worker with limited means, you can still get timely and satisfactory treatment. The best solution for health care is a single risk pool with everybody paying the same rate, which means the health subsidize the sick, and the young subsidize the old (we already do the last through medicare).


On Jun 09 09:40 AM John Hunt, MD wrote:

> All this is Statlinistic mumbo jumbo. The only certain thing, and
> it is unequivocal, is that the current government control of the
> medical systems of all countries has lead to inefficient supply/demand
> balance. Indirect and direct subsidization of pharma companies (for
> example by subsidizing purchase of their drugs) leads to higher prices
> in the US (duh!), for which attempts to compensate by centralized
> price controls will lead without doubt to less innovation and poor
> economic function.
>
> The solution is so clear and brilliant. Get the government OUT OF
> HEALTH CARE. ALtogether, completely. By the way, in the United
> States, the people of America NEVER delegated their powers to the
> the federal government, for that government to force them to buy
> financial instruments such as health insurance. The US government's
> involvement in health care so far and in the future has been, and
> will be, illegal usurpation of power.
>
> NONE of the above article matters at all. What matters is getting
> the government to obey the law that we wrote (that being the US CONSTITUTION),
> for doing so will fix the whole busted health care system.

Jun 09 01:16 PM

[User 428607:]

That the US pays more than other developed nations for healthcare but doesn't see a return in the form of a healthier populace doesn't necessarily reflect poorly on our "healthcare" system. This can be attributed to the fact that many Americans make poor life style choices and in general suffer from more health problems as a result. The percentage of obese adults and children in the US is steadily rising and only when many of these people begin to suffer health problems will they seek costly medical interventions.


On Jun 09 01:16 PM Brian Gaudet wrote:

> John,
> Although the point of the article had nothing to do with the merits
> of single payer or other universal health care schemes, I feel the
> need to comment on your article. First, the paper I referenced refutes
> what you say: that increased bargaining power in Europe is driving
> up U.S. prices. Measured at purchasing power parity and adjusting
> for income levels, there is no difference.
>
> Second, the problem with leaving government completely out of health
> care is that you end up with individual business owners not having
> the bargaining power of IBM, with the result they end up paying much
> higher rates. What is known is that the United States pays almost
> twice the percentage of GDP on health care as most other developed
> nations, with no resultant increase in the quality of health. If
> there was actually an example of a completely private health care
> system that provides equivalent or better care than Europe and Canada,
> I would suggest we copy it. I have quite a few friends in France
> that have no complaints about the health care there. If you want
> expedited care, or some new treatment that is not covered by the
> universal coverage system, you can pay for it out of your own pocket
> at a private hospital. And if you are a part time worker with limited
> means, you can still get timely and satisfactory treatment. The best
> solution for health care is a single risk pool with everybody paying
> the same rate, which means the health subsidize the sick, and the
> young subsidize the old (we already do the last through medicare).
>

Jun 09 03:11 PM

[Mad Hedge F...:]

I think you can count on lower prices. I met with Dr. Christina Romer, chairman of the Council of Economic Advisors, who practically tore my ear off proselytizing her new found religion, health care reform. Appointed by Obama to advise him on all things economic, Dr. Romer had this hot potato dropped in her lap six weeks ago in one of her daily briefings to the President. With the enthusiasm and ebullience of a new found convert, Dr. Romer laid out goals that were nothing less than revolutionary. She plans not to just “socialize” medicine, but to fundamentally rebuild the entire health care infrastructure of the US. Tax incentives will be created to encourage value over volume. People can keep existing plans they like. Technology will be applied to cut costs, not only to come up with more complicated and expensive cures. Existing subsidy programs for the poor will be folded into the new plan, offering coverage to 46 million uninsured. Providers will get cash incentives for prevention. Individuals will gain the advantages of risk pooling. Pre-existing conditions will be covered. All of this will be made revenue neutral through the taxation of employer paid insurance and savings through new efficiencies. If the administration can pull all of this off, the benefits will be huge. An annual 1.5% reduction in health care costs will add 8% to GPD and increase family incomes by $10,000/year by 2040. This will boost corporate profitability and competitiveness, labor mobility, the quality of life, and reduce the budget deficit and unemployment. Failure will see health care spending rocket from the current 18% to 33% of GDP in 30 years, and the number of uninsured explode to 76 million. Romer spewed out statistics as only an economics PhD from MIT can. Oh, and now or the stuff you care about. The economy will shrink in Q2, see no growth in Q3, and turn positive by Q4. The issue doesn’t affect me, as I have always avoided health care, insurance, pharmaceutical, and biotech stocks like the plague; they being subject to capricious government approvals, and therefore inherently unpredictable. These are the opening shots of a political dogfight that will ensue over the next three months and dominate the media.

Jun 09 07:00 PM

[PainfullyAware:]

When Your Health Becomes A Ward Of The State, You Become An Accounting Liability.

Treat The Disease, Not The Symptoms - Government Mandate And Intervention IS The Disease.

FDA Over Bureaucracy And Regulation - Increase In Costs.

Medicare And Medicaid pay 65% of all medical costs in the US; Charge what you like the government will pay it - Increase In Costs.

Lottery Malpractice Suits - Increase In Costs.

Mandated Emergency Room Health Care Expense - Increase In Costs.

All Medical Records Mandated To Be Electronically Compiled In Government Mandated Format - Increase In Costs.

Centralization Of Power Always Results In Corruption Of The System. It Curtails Personal Choice.

Jun 09 07:38 PM

[sink:]

Why will it matter? Is the single payer going to tell the patients what drug they can buy and what drug they can not? With enough adv., peoples are going to demand brand name drug esp if the gov is that single payer. Keep building conflict of interests, and the system will sure to crumble soon or later.

Jun 14 06:15 PM

[YoYoMama:]

Here is how the free market system has worked for me.
I am a small business owner who runs a company with her husband and has a special needs son. Because we are "mom-n-pop" we do not qualify for cushy large-group insurance policies, and my son is automatically turned down by every insurance company we contact.

We pay $7,000 a year in insurance premiums (a bargain for a family of 5, I assure you), my deductible is $15,000 for my family. Because we only qualify for insurance by not covering our son, we are out-of-pocket a minimum of $3,000 for his prescriptions and all related expenses of his condition. We can only afford his prescriptions by outsourcing internationally.

For this $10,000+ per year outlay, my policy has so many loopholes that if any of us gets really sick or has an accident, we will essentially be bankrupt. Especially my son. Yet this lousy personal insurance is all we can afford.

I am at heart a free market capitalist. But this free market has an ugly side when it comes to health care. Because the free market values profit, it looks at my son as a liability, and therefore he is the proverbial leper, banished from coverage, an outcast of the system.

So please, someone make the case to me that our current free market insurance-company driven health care system works for a middle class small business owner like me. And how is it working for my son?

On Jun 09 11:34 AM jamesa40 wrote:

> So your solution is to inject partisan politics into the situation?
> How does that reduce price, increase access or increase care for
> anyone? How does forcing 47 million people onto the roles, when
> no one has answered how the existing infrastructure is going to handle
> it, going to increase efficiency in the system? If you actually
> allow a truly FREE market (a good example is allow insurance to be
> offered across state lines), you will see a huge increase in efficiency,
> without politics involvement.

Jun 15 10:51 AM