Pharmacy benefit managers: Are they making our drugs cheaper or more costly? : The Indicator from Planet Money The cost of pharmaceuticals has been rising for years, well before inflation became the big economic talking point. Today on the show, why some policymakers suspect an obscure middleman is partly to blame.

Double agents and drug discounts

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SYLVIE DOUGLIS, BYLINE: NPR.

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ADRIAN MA, HOST:

What's even more painful than higher prices for gas or groceries? How about higher prices for medicine? For years, before inflation became an everyday household word, prices for prescription drugs in the U.S. had been steadily rising. And not only that - according to the RAND Corporation, Americans pay more for prescription brand-name drugs than people in other countries - as much as 2 1/2 to 3 1/2 times as much.

DARIAN WOODS, HOST:

It's gotten bad enough that federal lawmakers on both sides of the aisle are promising to do something about it. This past weekend, Democratic senators passed the Inflation Reduction Act, and that included provisions to lower the cost of drugs for people on Medicare and Medicaid.

MA: And on top of that, lawmakers and regulators have set their sights on an obscure but very influential player in the prescription drug pipeline. They're called pharmacy benefit managers.

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MA: This is THE INDICATOR FROM PLANET MONEY. I'm Adrian Ma.

WOODS: And I'm Darian Woods. Today on the show - what the heck are pharmacy benefit managers, and why do they have so much power in the current pharmaceutical drug marketplace? The answer involves secret deals, double agents and misaligned incentives.

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MA: So pharmacy benefit managers - what do they do? Well, in the prescription drug pipeline, you already know about the pharmaceutical companies which make the drugs, and you know about health insurance companies which help people pay for the drugs - at least the ones that have insurance. Now, sitting in between those two are the pharmacy benefit managers, and their whole part of this pharmaceutical circle of life is they negotiate with the drug companies on behalf of the health insurance companies.

WOODS: In other words, there is a middleman or a middle player, which, you know - that's generally not a compliment, right? But Alex Chan says there's nothing inherently evil about middle players.

ALEX CHAN: I think it's incorrect to think about them as just, like, supply chain toll collectors - right? - that are performing no legitimate economic function.

MA: Alex is a health economist who studies market design at Stanford, and he also used to work for a company called Optum, which runs one of the biggest PBM companies. He says the existence of intermediaries, or middlemen - you know, whatever you want to call them - they're often a good thing for consumers. For example, how do you think Costco manages to sell all this stuff to its members at a lower price than they could get elsewhere?

CHAN: Costco, you know, provides negotiation leverage as they amass scale by aggregating many small buyers - all the Costco members, right? - and getting better prices from the manufacturers. And the PBM, in a sense, do the same thing.

WOODS: PBMs, by working with health insurers - they pool demand for prescription drugs. That way, they can tell the drugmakers - you want access to these customers? You got to negotiate with us.

MA: Yeah. And on top of that, PBMs also decide which drugs health plans will buy. And that gives them even more leverage because they can say to the drugmakers, if you want your drugs to be covered by our plans, you better give our customers a juicy rebate.

WOODS: If you've ever bought something that comes with a rebate coupon, it's like that. So first you buy the product at the listed price, and then you claim the rebate and get some money back. The same principle works here. So in this case, the health insurers will buy the drugs at the list price, and then it gets a rebate, which the PBM has negotiated. The insurer shares that rebate with the PBM, and this is a key part of how PBMs make money. And so, in theory, these rebate savings should also trickle down to you, the patient/consumer.

MA: But here's where the comparison to Costco starts to break down. While Costco brings down prices, Alex says PBMs may actually be contributing to rising drug prices because of a couple of key flaws in this market's design. And the first flaw, he says, with this whole PBM setup is it's rife with what economists call agency problems.

CHAN: So to give an example, think about someone who is buying a house. So you would use a real estate agent. And that agent - they are supposed to be serving the buyer. But how much that agent is paid is based on how high the price of the house would be. The buyer want the price to be lower, but the agent actually could benefit from the price of the house being higher.

WOODS: In the context of pharmacy benefit managers, they're supposed to be our agents - or at least our health insurer's agents - negotiating with the drugmakers for lower prices. But here's the problem.

CHAN: The issue with the PBMs - right? - they're getting payments both from the health plans, and they're also getting paid by the manufacturers of pharmaceuticals. So, you know, you think about this as sort of a double-agent scenario.

MA: A double-agent scenario, as in pharmacy benefit managers are playing both sides of the deal because remember - PBMs get a percentage of the rebates they negotiate with drug companies, so it's actually in their interest for the drugs to be priced higher so they can get a fatter rebate. All this really bothers Robin Feldman. She specializes in health law at the University of California Hastings Law School. And to illustrate her concern, she came up with a hypothetical.

ROBIN FELDMAN: Imagine you have a drug called life elixir.

MA: (Laughter) What is life elixir do, by the way?

FELDMAN: This is my mythical drug. It will solve all of your health care problems in one nifty pill.

MA: Oh, that sounds great. OK. Get me some of that.

FELDMAN: So imagine that life elixir is, right now, selling for a $100 a month.

MA: OK.

FELDMAN: OK? Now, the PBM says to the health plan, I'll negotiate a good price for you for all of the patients in this health plan with the drug company. If the drug company raises the price of life elixir up to $500 a month, and then the PBM negotiates a discount back down to $100 a month, the PBM goes to the health plan and says, oh, look, I saved you $400 a month.

WOODS: So the insurer pays the inflated price to the drug maker, and it gets back that hefty rebate, which is shared with the PBM. And so in this scenario, the drug price was always going to be $100 anyway.

MA: And we see this thing all the time in the real world, right? Stores saying, hey, we've got a massive sale - 50% off - but we all know it's a deal that's not really a deal because the thing was already overpriced to begin with. And for Robin, this is the nightmare scenario. The PBMs benefit from the inflated price because they can pad their rebate and make more money, and the drug company benefits because offering a bigger rebate makes the PBMs want to do business with them. And Robin says this dynamic is part of why, between the mid-2000s and the mid-2010s, the list price for brand-name drugs has shot up - in some cases more than quadrupled.

WOODS: Now, this might be fine if consumers benefited, too, but it's not clear just how much they are because PBMs keep the details of their deals with the drug companies hidden. They argue that they're trade secrets. But if we can't see what's going on behind the curtain, then there's no way to really know whether these negotiations work more for consumers or for the PBMs.

FELDMAN: Information helps competition flourish. It helps regulators see where the problems are and target those problems, and it helps pesky academics like me point out where the problems are.

MA: Now, the Industry Association for Pharmacy Benefit Managers - they say they can't disclose numbers because that would enable collusion between PBMs, and that would be bad for customers. They also say they have helped to lower drug costs in a variety of ways - for instance, by nudging insurance plans towards more affordable generic drugs and promoting mail-order pharmacies. They also cite their own study, which says that they save health plans and patients an average of $962 a year.

WOODS: Now, Alex Chan, the health economist, says a couple of studies suggest PBMs do create value.

CHAN: The question - right? - of course, is that the profits that a PBM earns by providing all these valuable services in the middle - is it justified?

MA: Is it justified?

CHAN: So that's a tough question. I think that there are some characteristics of this market that suggest to me that some of it, you know, might be too high.

MA: In other words, maybe more of that value could be flowing to consumers in the form of lower drug prices. But with the agency problems - you know, the conflicts of interest and the lack of transparency around PBM deals - it is hard to know for sure.

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MA: This show was produced by senior producer Viet Le. It was engineered by Robert Rodriguez. Sam Yellowhorse Kesler checked the facts. Kate Concannon edits the show, and THE INDICATOR is a production of NPR.

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