FTC Staff: Rhode Island Bills Would Raise Prices for Pharmaceuticals

In response to requests from Rhode Island Attorney General Patrick C. Lynch and Deputy Senate Majority Leader Juan M. Pichardo, FTC staff have commented on seven state bills that contain so-called “freedom of choice” and “any willing provider” provisions for pharmaceutical sales. Although the bills are designed to increase competition by letting consumers choose their pharmacy provider, the staff letter concludes that the bills would likely have the unintended consequences of limiting competition, undermining consumer choice, and increasing the cost of pharmaceutical services.

Todd Zywicki, Director of the FTC’s Office of Policy Planning, explained that the bills would discourage pharmacy providers from offering low prices. “Under current law, pharmacies have huge incentives to offer health plans attractive terms like low prices and good service, because they might get an exclusive contract to serve the health plan’s members. By banning exclusive contracts, the bills would destroy those incentives.” Luke Froeb, Director of the FTC’s Bureau of Economics, agreed. “The empirical evidence confirms that, by intensifying competition among providers, selective contracting lowers pharmaceutical prices,” he said.

Analysis of the Rhode Island Bills

All seven bills require health plans to ensure “freedom of choice” for consumers to choose among

all sources of pharmaceutical services and to include in their networks any pharmacy willing to accept the contractual terms offered to other pharmacies. Six of the seven bills would prohibit mail-order pharmacies from inclusion in these pharmacy networks.

The staff letter explains that these bills would likely raise costs. As the letter explains, “When insurers have a credible threat to exclude providers from their networks and channel patients elsewhere, providers have a powerful incentive to bid aggressively. . . . Without such credible threats, however, providers have less incentive to bid aggressively, and even managed care organizations with large market shares may have less ability to obtain low prices.”

The letter also explains that the bills could reduce efficiency: “Restricted provider panels may also lower costs through greater efficiency, because higher sales volumes may allow the provider to lower its unit costs. In the case of pharmacies, for example, a preferential or exclusive arrangement may allow a pharmacy to enjoy economies of scale [and] may facilitate better business planning by making its sales volume more predictable.”

Finally, the letter states that, by banning mail order pharmacies from inclusion in payer networks, six of the bills “would almost surely reduce consumer welfare.” The letter quotes a recent GAO study that found that mail order prices typically were substantially below the prices offered by the retail pharmacies in their sample.

Other empirical evidence also supports the letter’s conclusions. For example, the letter cites one study that found that states with highly restrictive any willing provider/freedom of choice laws spent approximately two percent more on healthcare than did states without such policies. The letter cites other studies showing that any willing provider and freedom of choice laws are more likely to appear in states with limited managed care penetration. As a result, the letter concludes, “such laws appear to protect competitors, not competition or consumers.”

The letter also addresses arguments made in favor of the bills. Although some justify the bills as a way to ensure that consumers have enough pharmacy choices, the letter notes that “Limitations on choice are unlikely to be so severe that consumers’ access to pharmacy services is inadequate. . . . competition also encourages payers (and employers) to establish pharmacy service arrangements that offer the level of accessibility that subscribers prefer.” The letter states that its conclusions hold true “even when a single payer has market power. This payer still would have a substantial incentive to induce pharmaceutical providers to bid aggressively for inclusion in its network, as well as an incentive to pass at least some of these savings on to consumers and employers in the form of lower prices and premiums.”

In concluding its comments, the letter says, “By eliminating an important form of competition in the market for pharmaceutical services, the Bills are likely to increase the cost of those services. These cost increases are likely to undermine the ability of some consumers to obtain the pharmaceutical services they need at a price they can afford.”

Zywicki stated that he was pleased to work with Rhode Island officials. “We’re delighted that General Lynch and Deputy Majority Leader Pichardo asked us to provide these comments. The FTC has a long history of working with the states to promote competition in the health care industry. Such cooperation can lead to better policies and, ultimately, to greater benefits for consumers,” he said.

The Commission vote authorizing the staff to file the comments with the Attorney General Lynch and Deputy Senate Majority Leader Pichardo was 5-0. The comments, which are now available on the FTC’s Web site, represent the views of the staffs of the FTC’s Office of Policy and Planning and Bureaus of Competition and Economics, and not necessarily those of the Commission or any individual Commissioner.

Copies of the document mentioned in this release are available from the FTC’s Web site at http://www.ftc.gov and also from the FTC’s Consumer Response Center, Room 130, 600 Pennsylvania Avenue, N.W., Washington, D.C. 20580. Call toll-free: 1-877-FTC-HELP.

(FTC File No. V040013)