Importation will not lower U.S. prices, because it requires a drug company to compete with itself on price.
Importation will not lower U.S. prices, because it requires a drug company to compete with itself on price.
T he FDA recently allowed drugs to be imported into the United States from Canada — a move intended to give American patients access to cheaper medicines. But the price impact in the U.S. will be minimal, while the long-term negative consequences will be severe.
For decades, both Democrats and Republicans have proposed importation as a tool to cut prices. The policy polls well, in large part because it is so seemingly straightforward. Brand-name drugs generally cost less in Canada. So, allowing Americans to buy medicines shipped in from Canadian pharmacies would save them money, right?
I would argue common sense implies the exact opposite. The basic mistake made by proponents of importation is their seeming belief that neither companies nor Canadian officials will alter their behavior in response to the FDA’s policy change.
America’s brand-name-drug market dwarfs that of Canada. Data from Statista show that, in 2021, Canadian brand-name-drug sales amounted to about 4 percent of U.S. brand-name-drug sales. And since manufacturers’ margins are smaller in Canada, the Great White North accounts for an even smaller share of drug companies’ earnings. Therefore, drug companies would have a strong incentive — even a fiduciary duty — to respond to the FDA’s policy change by raising prices in Canada or establishing guardrails to prevent the products sold to Canada from being imported to the United States, thereby cannibalizing their U.S. sales. Basically, proponents of reimportation argue that a drug company will willingly ship its drugs to Canada just to see them come back to compete on price with the drugs it sells in the U.S. In essence, the regulation will not lower U.S. prices because it relies on asking a drug company to compete with itself.
In addition, the current Canadian health minister fiercely opposes the FDA’s new regulation, and has promised that “we’re going to do everything in our power” to thwart it. Canadian officials have long warned that they won’t facilitate widespread importation, since the massive increase in demand from American consumers would quickly clear out Canadian pharmacy shelves.
The underlying source of the policy — the current price differences between Canada and the United States — is consistent with both countries’ acting in their own interests, and is therefore unlikely to change anytime soon.
To understand these price differences, one must first realize that pharmaceutical innovation is fueled by drug companies’ world-wide returns, which disproportionately come from the U.S. market. The United States accounts for 70 percent of drug companies’ global brand-name earnings, despite representing less than half that share of global GDP, according to a 2018 report from the Council of Economic Advisers.
As a result, a biotech company in, say, Sweden almost inevitably develops its experimental-drug candidates with plans to initially launch in the U.S. market, since it cannot recoup its R&D costs from 10 million Swedes alone.
Of course, because pharmaceutical innovation is a global public good paid for with domestic reimbursement policies, there is a classic free-riding problem — namely, that smaller countries don’t pull their weight when it comes to providing the global reimbursement needed.
Canada’s government-run health system has every incentive to mandate artificially low prices, as world returns do not depend much on Canada. This means that, sooner or later, it will be able to take advantage of the same new innovations even with strict price controls. In addition, the country doesn’t have significant drug R&D or manufacturing industries, so these price controls largely aren’t harming domestic firms or workers.
The trade-off is that the low prices do deter, and delay, drug companies from launching new drugs in Canada, so innovations will come to Canada later rather than sooner, and then perhaps only as generics. Consider that, as of 2019, Canadians had access to just 44 percent of all new medicines launched anywhere in the world between 2011 and 2018, while Americans had access to 89 percent of those drugs. This, of course, leads to worse outcomes for Canadian patients. American cancer patients, for instance, have considerably higher survival rates than their counterparts north of the border.
The United States, meanwhile, takes a comparatively free-market approach to drug pricing — though the Inflation Reduction Act’s price controls have recently changed that somewhat. This free-market policy is in our own best interests, as world earnings and the implied innovations benefitting Americans would be cut dramatically if America acted like Canada.
The individually rational, but globally harmful, free-riding explains the peculiarity that larger drug buyers actually pay higher prices than smaller buyers. The largest buyer in the world, the U.S. Centers for Medicare & Medicaid Services (CMS), pays more than Germany, which in turn pays more than the U.K., Sweden, and other smaller countries. The price differences are not due to differences in per-capita incomes; wealthy Luxembourg mandates bargain prices too.
Innovation often cuts the price of health itself more than any government price controls by making previously unavailable health gains affordable. For example, no HIV-positive person could buy a longer life in the 1980s at any price. Then, innovative companies brought antiretroviral drugs to market which cut the price of a longer life, first to brand-level pricing and then to generic pricing.
Importation proponents’ main argument — that the United States should mimic the European Union’s or Canada’s drug pricing — is misguided. We should reduce foreign free-riding through trade agreements and other policies, not increase U.S. free-riding. Otherwise, we will end up dramatically reducing both U.S. and global innovation and thereby harming U.S. citizens and patients across the world.