Maryland Rate-Setting Legislation Question and Answer

The National Academy for State Health Policy’s (NASHP) has crafted model legislation – called the Prescription Drug Rate-Setting Model Act – that states can use to regulate drug costs. The legislation creates a drug cost review commission that evaluates the affordability of certain drugs in the same way that states now regulate Medicaid, state employee health care costs, and public utilities to protect consumers.

These questions and answers explore issues that arise as state leaders consider rate setting as a legislative strategy to manage drug costs. More information about NASHP’s model legislation is found here. 

Question 1: Why would Maryland set up a drug cost review commission?
Question 2: Can a single state regulate its drug costs?
Question 3: How is rate setting different than imposing drug price controls?
Question 4: Don’t we already have lots of drug payment rates?
Question 5: How does drug reimbursement work today?
Question 6: How would state reimbursement rate setting help patients?
Question 7: Would rate setting apply to all drugs?
Question 8: What happens if a manufacturer refuses to sell a drug in a state because of rate regulation?
Question 9: What happens to the current system, where manufacturers negotiate rebate deals that lower costs to payers?
Question 10: Does statewide, drug rate setting create a single, statewide list of drugs that all state and commercial insurers will cover (called a formulary) that leaves consumers with few or no drug choices?
Question 11: How would rate setting affect pharmacies and wholesalers?
Question 12: What happens to the cost markup of drugs at each point in the supply chain that occurs today?
Question 13: Why doesn’t the drug rate-setting legislation address the “value” of drugs?
Question 14: The commission is supposed to assess “affordability” and “sustainability.” What does that mean?
Question 15: Won’t creation of a drug cost review commission result in patent law challenges?
Question 16: Won’t a drug cost review commission result in legal challenges under the US Commerce Clause?
Question 17: Is there any benefit to the pharmaceutical industry from a rate-setting commission?

Question 1: Why would Maryland set up a drug cost review commission?
The rate-setting commission proposal builds on Maryland’s ground-breaking price gouging initiative that addresses exceptional price increases of generic drugs. A drug rate-setting commission will be able to look at the cost of:

  • Both generic and brand-name drugs;
  • New drugs; and
  • Current drugs that have dramatically increased in price.

Because drug costs involve many complicated issues and affect numerous stakeholders — including state programs and commercial insurers, providers, consumers, and distributors — a drug cost review commission would be able to look at these complex cost issues and address affordability concerns. It would gather information from all interested parties to make a decision about the prices of new and existing drugs.

Maryland already sets drug rates through its Maryland Health Services Cost Review Commission (HSCRC). The HSCRC establishes what hospitals can charge and what all insurers in Maryland will pay for hospital care. Included in the hospital payment rate are expensive drugs, but the HSCRC’s rate-setting itself does not specifically identify or pay for drugs in the payment bundle. Bottom line, the prices of individual expensive drugs or expensive new medical device prices are not considered in creating a payment rate for inpatient hospital stays. The payment rate used by all insurers in Maryland causes the hospitals to go back through their supply chain and spur them to negotiate the lowest price possible for key products.

However, it should be noted that rising drug costs are making it difficult for hospitals to stay within the waiver.

A prescription drug rate-setting commission will protect Maryland consumers and push the pharmaceutical industry to think of new, more acceptable and sustainable pricing and business models so that rate commissions like this one will not be needed in the future. But the commission is needed now to enable Maryland to create a better prescription drug cost model in order to maintain access to essential drugs.

State rate setting for health care and other public goods has existed for many decades. State employee benefit programs and Medicaid already set rates for most covered health care services, including prescription drugs. All commercial health plans also set payment rate limits for health care service and products. States regulate insurers and other important public goods and services in markets with little or no market competition. In contrast, drug manufacturers often exert their government-issued monopoly power (patents) in ways that may decrease access to life-sustaining medications. A drug cost review commission would build on the various regulatory precedents for drugs that have only a few suppliers, mitigating a particular market failure in health care that appears to grow worse over time.

Question 2: Can a single state regulate its drug costs?
Yes, individual states can regulate how much their health plans (such as Medicaid) and other private insurers pay or reimburse for drugs and what their consumers pay. While controlling the prices pharmaceutical companies charge for their drugs is more challenging and legally complicated, based on existing court decisions, it is well-established legally that states have the power to set rates for what they will pay..

Maryland has a huge stake in the cost of prescription drugs as the payer of medical services for state and local government employees and retirees, Medicaid beneficiaries, prisoners, and university system employees. Maryland state government also has a huge interest in the cost of drugs that every private insurer pays because employer health and insurance costs for individual employees are exempt from state income taxes. When health insurance premiums go up because of drug prices, Maryland losses tax revenue because more employer and employee income is exempt from income tax because of rising drug costs. Also, the uninsured need to be able to afford drugs

As a result, a state’s prescription drug rate-setting bill would regulate what different payers pay for certain drugs – not what manufacturers can charge for drugs. Managing health care costs through rate setting is a fundamental state function in every state. All states set how much they will reimburse providers for every health care service and product covered by their Medicaid and state employee health insurance programs. For drugs, this includes setting maximum allowable cost rates for generics and off-patent brand drugs and establishing payment limits for patent-protected, brand-name drugs. Private insurers also set limits on what they pay for health services. States set consumer rates for industries like electric and transportation – when they are important to public well-being and controlled by just a few companies.

Like all other examples of health care rate setting, a commission’s drug rate setting would put pressure on the wholesalers and distributors to negotiate better deals with drug manufacturers. Rate setting promotes cost-consciousness and helps lower drug costs for both payers and consumers.

Question 3: How is rate setting different than imposing drug price controls?
Price controls limit what a supplier can charge for a product or service. Payment or reimbursement rates establish what the purchaser or payer will be able to pay. A commission has authority to consider many economic factors when it determines what payers (such as state Medicaid programs, insurers, or providers who purchase drugs to administer in their medical practices) pay for a product. Under a drug cost review commission model, the commission would examine the cost a drug would impose on the health system and set payment rate limits that apply throughout the state health care system – from distributors to doctors, pharmacies, hospitals, insurers, and consumers.

Drug companies will have the opportunity to make a presentation to the commission to explain their prices. Other entities, such as insurers and pharmacies, will have the same opportunity. All the information necessary to make an informed decision will be presented to the commission.

Health care rate-setting, which regulates how much insurance payers or state programs pay or reimburse providers for health care and drugs, is an old, well-tested practice. State programs and health care payers step in to set rates when markets don’t work well. It can take a decade before a drug loses its patent protection and becomes a more affordable generic. While patented (brand-name) drugs can and do benefit society, the high costs that some patent holders charge can harm patients, decrease access, and strain state and commercial insurer budgets.

States need to be able to balance innovation and access to branded drugs. An innovative drug that most Marylanders cannot afford does not help the people of Maryland.

Question 4: Don’t we already have lots of drug payment rates?
Yes, states have lots of drug reimbursement rates. It’s a complicated system with lots of different net costs or prices for the very same drug. All insurers (payers) set their own reimbursement rates for every drug. In addition, the federal government controls drug prices that certain providers who treat poor and uninsured people can charge. And, there are lots of back-end rebates that are not public. No one really knows what anyone else pays for drugs, and consumers pay the most in the current system. A rate-setting commission would work on behalf of all residents and insurers in the state.

Question 5: How does drug reimbursement work today?
Payers (including commercial health insurers and federal and state government health programs) already set payment rates (the most they will pay) for drugs. These are often called “upper payment limits” or “maximum allowable cost” payment limit programs. For generic drugs, the various prices of a drug’s brand-name and generic competitors are all factored into a formula to establish a payment that is an average of all those prices. If the brand-name drug is prescribed and purchased by a consumer, the payer pays only the upper payment limit, which is usually less than the brand-name drug’s list price.

Medicare Part B sets the reimbursement rate for all physician-administered drug products (such as chemotherapy administered in a clinic) that it covers, and the manufacturer list price does not matter in Medicare’s formula. The reimbursement rate for a drug is the average sales prices in the market (called Average Sales Price or ASP) and is not related to the manufacturer’s list price. The ASP is lower than the highest prices paid for the drug in the market and is certainly below the manufacturer’s list price. Yet, the ASP is the basis of the Medicare reimbursement rate to physicians for all Medicare Part B-covered drugs.

Another variation on rate setting involves Medicare payment for biosimilars. Biosimilars are akin to generics but because they are biologics and are not manufactured chemicals, they cannot be identical to the original product in the same way that a generic pill is. A biologic is derived from living organisms rather than manufactured chemicals. Biosimilars are currently reimbursed at one rate by Medicare for all biosimilars that treat the same disease and are based on the same original biologic — regardless of the price of any individual biosimilar drug in the group.

Other examples of drug rate setting include insurers’ inpatient hospital reimbursement rates. In Maryland, these all-inclusive rates that apply to a patient’s hospital stay may or may not cover the full price of all elements of the inpatient stay for any specific person.

There are ways in the Medicare program to handle expensive new drugs. Under Medicare, a new drug that is extraordinarily expensive may be covered outside of the all-inclusive rate, but the hospital is only reimbursed 50 percent of the drug’s cost for first three years the drug is on the market — until average costs are factored into the payment bundle.

Finally, there is the 340B program – where the federal government dictates the price that manufacturers must sell brand and generic drugs to certain hundreds of health care providers throughout the country. Notably, this rate-setting is unrelated to the government as insurer – the mandatory rates apply without regard to government payer programs, e.g., Medicare, Medicaid, or federal employee health plans.

In summary, the list price, or even any one price charged for a drug, is not a key factor in current drug payment rate setting. Additionally, governments set drug rates outside their own health insurance programs. A drug cost review commission would follow the strong tradition of health care rate setting, which has historically improved access to health care by protecting consumers against escalating costs, and working to slow down health care cost growth.

Question 6: How would state reimbursement rate setting help patients?
Many patients cannot afford life-saving drugs in Maryland. Hepatitis C is the infectious disease responsible for the most deaths in Maryland (far more than AIDS), but because of the high price of treatment, many people cannot afford hepatitis C drugs. The state of Maryland, for example, is not giving hepatitis C drugs to all prisoners and has restricted access to some Medicaid beneficiaries. Medicare beneficiaries may have to pay $7,000 out-of-pocket for hepatitis C drugs.

Patients purchasing drugs at a pharmacy point of service would pay the commission-established rate for their drugs. Drugs would cost less for everyone — the uninsured, insured people during a deductible period, insured people paying coinsurance, and the State of Maryland. And, there will be less pressure on insurance premiums from drugs, which also benefits consumers.

Question 7: Would rate setting apply to all drugs?
No. Rate setting would only apply to drugs that are very costly and create affordability challenges for Marylanders. The legislation defines the drugs that might be subject to rate setting:

  • New brand-name drugs that cost more than $30,000 per year or per course of treatment or brands that increase in price by more than 10 percent over a 12-month period;
  • Generic drugs price increases of more than $300 or by 25 percent over a 12-month period; and
  • Other drugs that the commission thinks may pose affordability challenges based on their cost and the number of people who should be taking the medication.

Question 8: What happens if a manufacturer refuses to sell a drug in a state because of rate regulation?
The pharmaceutical industry pushback to rate setting is expected to be strong. If the legislation is passed, they will likely sue.

The generic industry sued the state following passage of Maryland’s generic drug price gouging bill. The industry also filed lawsuits in California and Nevada after simple transparency legislation was enacted in 2017. However, industry arguments in all three cases have not been successful in persuading the courts that these laws create such a dire situation that implementation of the laws must be blocked.

The industry is expected to argue that reimbursement rate setting will stifle innovation – but countries around the globe already limit what they will pay for drugs and yet industry continues to support major research and manufacturing operations in those countries. This is hardly the response you would expect from the industry if rate setting truly stifled innovation. And, many US payers have had limited reimbursement for drugs regardless of price for decades and yet the drug industry has continued to develop new drugs.

The pharmaceutical industry is expected to argue that it will no longer make drugs available in Maryland. There are several reasons why that is unlikely to occur:

  • First, it would require major shifts in the supply chain to prevent drugs from reaching Maryland and the generic industry has already argued in court that it is not possible to manage the distribution of drugs to limit geographic distribution.
  • Second, even a low price is a revenue opportunity for a company. The pharmaceutical industry already sells the same drug at many price points to different payers and in different distribution channels—often below list price — in order to make sales. Sales volume matters to Wall Street investors.
  • Third, there are drugs on the market that are therapeutically similar to each other in terms of treatment effect. When one drug manufacturer leaves the market, it means that sales of a competing alternate treatment increase. Bottom line: Markets abhor a vacuum. Manufacturers of different drugs in a drug class will not all exit a market – that defies economic logic and would appear to be an anti-trust violation. To the extent that all manufacturers of drugs in a class won’t exit the market, it is unlikely that one manufacturer would chose to disadvantage itself by doing so.
  • Fourth, rate setting may benefit manufacturers. If payer and consumer costs decline, more patients will be able to afford the drugs and sales will increase. Manufacturers will benefit from having a lower, much-publicized transparent price and they’ll get the public relations benefit that they don’t get when they negotiate back-room rebates with each insurer.

The pharmaceutical industry will say these legislative proposals violate their patent holder rights and violate the US Constitution’s Supremacy Clause. That will have to be decided in court and is discussed further Questions 15 and 16.

Question 9: What happens to the current system, where manufacturers negotiate rebate deals that lower costs to payers?
The rate-setting commission will set an upper limit on the amount that can be paid, but payers and the State of Maryland will be able to negotiate rates below the upper rate limit set by the commission.

The drug rate-setting legislation does not limit rebates or other price concessions negotiated between payers and manufacturers. Rebates and other price concessions would certainly continue for drugs that do not come under-rate setting jurisdiction. For high-priced drugs affected by commission rate setting, the rebate mechanism could easily continue alongside commission-established upper rate limits.

The real change, and the most important, is that more of the front-end financial transactions between wholesalers and pharmacies, pharmacies and customers, and pharmacies and insurers would be based on the rate set by the commission. This front-end effect is important to ensure that all patients and consumers benefit from the lower cost. Rebates and other back-room price deals are not visible to patients and consumers — whereas rate setting is transparent and benefits more patients and consumers directly.

Question 10: Does statewide, drug rate setting create a single, statewide list of drugs that all state and commercial insurers will cover (called a formulary) that leaves consumers with few or no drug choices?
No. State drug reimbursement rate setting would not limit or otherwise dictate what drugs are available to patients and prescribers. What drugs are covered and how they are covered would remain the decision of each health insurer and state health program – just like today. A commission would not make value and coverage decisions about individual drugs.

The commission would only look at drugs that create affordability challenges in the state. Then, it would consider how to address those affordability challenges so more people would have access to important medicines.

Question 11: How would rate setting affect pharmacies and wholesalers?
There should be little or no effect on standard operating procedures in the regular drug distribution systems. For decades, drug manufacturers have distributed their drugs through different market channels and each drug’s price (after rebates and other discount deals) is different in different channels.

One example is the mandatory federal discount 340B program, where the manufacturer must sell drugs at Medicaid-level prices directly to safety net providers who serve uninsured or low-income patients. This is an example of a market that gets a drug at a price substantially lower than the list price, and the drug goes to the exact customers who need those low prices. Manufacturers even provide additional discounts to some providers and practices in the 340B program. That’s an example of a distribution channel with distinct markets and specific price concessions that exists today. This would not change under the commission.

For drugs subject to state rate setting, a similar effect would occur. Pharmacies would not segregate drugs that are regulated by the commission from drugs that are not regulated by the state. There would be only one payment rate for a drug that the commission has acted on. The wholesaler would have to negotiate with the manufacturer for a price that allowed the wholesaler and others in the chain of ownership to not lose money when distributing or dispensing the drug.

Alternately, the manufacturer would approach sales that reach the state to be another 340B-type of program and manage it in a similar manner. Managing these types of sales is already built into manufacturer business models.

Question 12: What happens to the cost markup of drugs at each point in the supply chain that occurs today?
The purpose of the legislation is to protect consumers – to lower costs, make certain drugs more affordable, and improve consumer access. To that end, it would be optimal if pharmacies and distributors made their revenue from new or increased professional fees rather than mark up the cost of the drugs at each point in the supply chain — from wholesalers to distributors and pharmacies. To alleviate any potential concern of pharmacies and distributors about the ability to increase professional fees, the commission would take into consideration how players in the supply chain will be remunerated.

Question 13: Why doesn’t the drug rate-setting legislation address the “value” of drugs?
The bill requires Maryland’s drug cost review commission to consider costs and affordability rather than “value.” The concept of value is highly subjective. There is no national consensus about how to translate value. Instead, the model act leaves the value assessment to payers as they make their drug coverage decisions.

Question 14: The commission is supposed to assess “affordability” and “sustainability.” What does that mean?
The commission will be working to improve access to drugs for all Maryland residents. It will be up to the commission to decide how to implement an affordability assessment and create a reimbursement rate that is sustainable for the state’s health care system.

Affordability is defined by how many people will have access to the drug at different reimbursement rates, with the goal of maximizing access. (Maximizing access will also maximize manufacturer sales – more than would occur without rate setting.)

Sustainability is the idea that the costs to the system are manageable – so insurance premiums do not skyrocket due to drug spending. Ideally, sustainability includes figuring out any savings or offsets that a drug treatment would provide in terms of medical care (avoided treatment with other drugs or surgeries, etc.) and even, in the future, offsets in health care and social services spending (long-term supports and similar services), but the methodology for determining social services offsets is not fully developed yet.

Question 15: Won’t creation of a drug cost review commission result in patent law challenges?
A federal appeals court has held that drug price setting by states violates the rights of a patent holder, but Maryland’s drug cost review commission does not regulate prices, it regulates payment, which Medicare, Medicaid, and the private sector are already doing. This is familiar territory in terms of health care financing policy and law.

States’ rights to manage markets for the benefit of the health and safety of their residents is well-established legally. States manage consumer rates for essential services like transportation and electricity when there is little market competition. States have an interest in drug payment rates as a payer for state employees and retirees, prisoners, university system employees and Medicaid beneficiaries. Additionally, states through their tax laws are essentially second-level health care payers for all state residents and employers because of the tax code. Businesses and individuals can deduct the cost of employer health care spending and employee insurance premiums from their statement of income subject to income tax. To the extent that premiums and spending go up due to drug costs, that is lost revenue for the state.

Finally, the federal government establishes the price at which manufacturers must sell their products to hundreds of 340B program entities across the country. This is a pre-existing price control on patented products that has never been challenged by the brand-name drug industry. This price control is unrelated to the government insurance program reimbursements or payment rates. The 340B program requires deep, Medicaid-level prices to all of its entities and has required this since the early 1990s. The fact that this price control has existed without legal challenge is a significant precedent for the legality of Maryland’s drug rate-setting proposal.

Additionally, the bill provides confidentiality protections to all proprietary pharmaceutical industry information provided to the commission to ensure protection of trade secrets and patent-holder rights.

Question 16: Won’t a drug cost review commission result in legal challenges under the US Commerce Clause?
The Commerce Clause prohibits state laws and policies that place a significant burden on the interstate commerce of a company. This act would not fall under the purview of the clause.

First, it is important to note that the drug industry is wildly complicated. Operating procedures for different markets and various products even within a single company can vary widely. Currently, one drug product can have many markets, market net prices, distribution channels depending on the market, complex and multiple rebate strategies, and complex and multiple patient assistance discount programs – again, all for one drug. And that’s all by choice of the manufacturer.

Given the very complex business model that manufacturers now use by choice, experts do not expect that a traditional rate-setting review process for a small number of drugs would create a significant burden that would violate the Commerce Clause.

The all-payer, rate-setting legislation will be a significant factor in protecting the health and well-being of state residents. This benefit far outweighs any incremental burden on an industry that has chosen to burden itself with a byzantine business pricing and distribution model.

In fact, rate setting fits right into the industry’s business model – drugs sold in a state become just another distinct market and distribution channel – much like a manufacturer’s 340B or specialty drugs customers.

Question 17: Is there any benefit to the pharmaceutical industry from a rate-setting commission?
Yes. There are at least three clear benefits to the industry from Maryland’s rate setting:

  • More transparency about costs and prices will improve the industry’s public image. Maximum reimbursement will be determined in a public process. The public will understand more about what goes into industry price setting, where current discounts and rebates go, and how those rebates and discounts bring down net costs. The industry has been arguing that lack of transparency about these price concession mechanisms creates a distorted image of the industry. (Note that business confidential information will be kept confidential, but the process will discuss these mechanisms without publicly divulging specific business information.)
  • More sales of expensive drugs in Maryland as a result of rate setting and lower costs will generate revenue for the industry. Manufacturers stand to make as much money from a lower-cost/higher-utilization approach than netted by a higher-price/lower-utilization strategy.
  • More patient access will result in a better public image of the industry as people begin to be able to afford their medicines again.

 

For more information, contact Jane Horvath, jhorvath@nashp.org