The Inflation Reduction Act of 2022 makes the most dramatic changes to American health care since the Affordable Care Act 13 years ago. Of particular note, it empowers Medicare to begin setting ceilings on prescription drug prices.
But the success of the IRA will be measured not just by how much it can lower prices, but also by whether it continues to encourage drug makers to invest in new treatments. There are ways to thread that needle if Medicare engages in some innovative approaches to wielding its newfound authority.
Chiquita Brooks-LaSure, head of the Centers for Medicare and Medicaid Services (CMS), has signaled her desire to engage in a “collaborative process” with manufacturers as her agency writes the implementation guidelines for drug price negotiations. The first 10 drugs subject to negotiations are likely to be identified by Sept. 1 with prices taking effect in 2026.
As researchers at the USC Schaeffer Center, we have studied the IRA, and know how the pharmaceutical industry sets prices and makes capital commitments. Here are four recommendations for getting the most out of the upcoming drug price negotiations.
Measure What Patients Care About
People value gains in health more when they start out with less of it. In studies in the United States and other countries, helping those who are severely ill is considered two to 10 times more valuable than helping those who are less ill.
If Medicare takes that dynamic into account, price negotiations will naturally bifurcate. Medicare will press for lower prices on treatments for less serious conditions while considering the benefits of greater financial rewards for drugs that help those in the most fragile health states.
Medicare beneficiaries need to see more progress in treatments of conditions that affect them disproportionately, such as macular degeneration or heart disease. If drug companies expect a better return on investing in drugs that can deliver that progress, that is where research and development dollars will go.
One size will not fit all in drug price negotiations. The key to achieving overall cost containment while assuring incentives for new drugs will be in assigning values to treatments that reflect the benefits that patients accrue. To do otherwise will likely result in prices that discriminate against Medicare’s own population of beneficiaries.
Keep Information Flowing about Drug Effectiveness
Many drugs approved for one condition are later found to be effective against others. For example, Humira (adalimumab) was approved by the Food and Drug Administration in 2002 for the treatment of rheumatoid arthritis. By 2021, the drug had 11 more indications for diseases ranging from Crohn’s Disease to ankylosing spondylitis. Keytruda (pembrolizumab) was approved in 2014 to treat melanoma but now is approved to treat 20 different types of cancer.
Medicare price negotiations will complicate that favorable cycle. Once a price is established, companies may lack the incentive to pursue additional applications because the return on investment will be effectively capped. To avoid shutting down the flow of information about a drug’s effectiveness, drug companies will need an extension of market exclusivity to recoup investments in clinical trials for additional indications. CMS should also consider delaying price negotiation for a drug if evidence shows that additional indication approvals are probable. Negotiations can begin once real-world or clinical trial information is gathered.
Encourage Evidence-Based Pricing Right after Launch
The IRA orders drug manufacturers to pay a rebate to CMS if their average prices increase faster than the consumer price index. One likely result will be companies setting the highest possible prices at launch because the IRA makes it harder to raise prices down the road, even if the drug ultimately proves more effective than anticipated. To avoid this and make negotiations easier and fairer, CMS could exempt new drugs from the inflation rebate provision in favor of a three-part pricing framework. New drugs would first undergo an “evaluation phase” characterized by a low launch price which would improve uptake in the short term and accelerate the gathering of real-world evidence regarding the drug’s effectiveness. During a subsequent “reward phase,” the drug’s price would adjust depending on what the new evidence shows. Finally, an “access phase” would utilize robust generic competition to accomplish the IRA’s intended goal of lower drug prices and improved patient access in the long term.
Keep Future Patients in Mind
Lowering pharmaceutical revenues leads to less R&D investment and fewer drug discoveries over time. By one estimate, the IRA could decrease U.S. pharmaceutical revenues by approximately 31 percent through 2039 and result in 135 fewer new drug approvals during the same period. But it doesn’t have to be that way. A collaborative and transparent negotiating process that recognizes the importance of new treatments to future generations will incentivize innovation, increase access and reduce costs.
Not all of these reforms are easy to implement. CMS could clearly use some help in measuring value and monitoring access and efficacy. The IRA does not provide for it, so the Biden administration should consider asking Congress to establish an independent, publicly funded Health Technology Assessment office that could serve as a neutral evaluator of studies measuring the costs and benefits of newly approved drugs. If we want health care based on value to patients, we need to measure value fairly and accurately.
Dana Goldman is the dean of the USC Price School of Public Policy and co-director of the USC Schaeffer Center for Health Policy & Economics. Darius Lakdawalla is the director of research at the Schaeffer Center.