Six Reasons Why the Rebate Rule Failed—And What’s Next

Yesterday, we all awoke to the unexpected news that the Department of Health & Human Services (HHS) withdrew its plans to reform rebates in federal programs. The world without rebates has been delayed—perhaps indefinitely.

Below, I highlight six key policy and political factors behind this decision. I also discuss winners and losers among drug channel participants.

The underlying problems of the the gross-to-net bubble remain. As H.L. Mencken observed: “There is always a well-known solution to every human problem—neat, plausible, and wrong.” Get ready for a slew of drug pricing policy proposals that perfectly fit these criteria.

WHAT HAPPENED

Here are my top six reasons why the rebate rule was canned.

• Complexity. Rebate reform was always going to be a tough sell. It represents a complex, multifaceted change to an opaque system that few people understand. The effects were highly unpredictable and subject to great debate. Few politicians were willing to roll the dice on the administration’s promises that the rebate rule would reduce drug prices.

• Political risk. Patients often do not benefit from rebates on their drugs. People with chronic, complex diseases generate billions in rebate dollars, which are then applied to lower premiums of healthier patients. This is the reverse insurance problem.
  
  Stand-alone Part D plans, however, have limited flexibility to absorb the removal of rebates. Even the most optimistic scenarios suggested that premiums would rise for a majority of Part D beneficiaries. Though the premium increase would likely have been modest, the prospect of even a few dollars in higher costs scared away many politicians.

• Limited scope. The Department of Health and Human Services (HHS) proposal only indirectly attacked rebates. It removed the safe harbor protections under the Anti-Kickback Statute (AKS) for rebates on prescription drugs paid by manufacturers in Medicare Part D plans and supplemental rebates for Medicaid managed care.
  
  The proposal didn’t—and couldn’t—address the commercial market. This raised the prospect of a bifurcated system in which rebates remain in the commercial market but are eliminated from Part D. My predictions for drug prices in a world without rebates applied only if rebates were removed from both commercial and Medicare Part D plans.

• Perceived price tag. Actuarial analyses by the Congressional Budget Office (CBO) and Office of the Actuary (OACT) placed very high price tags on the proposed rule. Both reports focused primarily on how manufacturers would adjust their overall pricing and rebate strategies.
  
  My $0.02: Actuaries were good at math, but bad at predicting behavior. Neither report modeled the likely countervailing changes in PBM or plan behavior. They also failed to consider how transparency could increase discounts, because PBMs and payers receiving smaller-than-average rebates would demand to be closer to the average. Those receiving greater-than-average rebates would refuse to pay more. Consequently, the average rebate would rise and average net prices would fall. The variance around the new, lower average would also shrink.
  
  These quibbles are irrelevant. The CBO is the official scorekeeper for the federal budget, regardless of its mixed track record on healthcare issues.

• Risk of Congressional mischief. Standard government rules have an unusual quirk. If a proposed rule is blocked by Congress, then by convention 50% of the rule’s cost can be claimed and spent by Congress. If a final rule is blocked, then 100% of the costs can be spent. This spending can happen without any formal budgetary appropriation actions. I referred to this possibility as the Congressional Wild Card during my April webinar on a world without rebates.
  
  The final CBO price tag for the rule was $177 billion over ten years. Speaker Pelosi had been signaling her intent to block the rule, thereby giving a $177 billion blank check to Congress. The risk that this wild-card budget gimmick would have been played was simply too great for the White House.

• A dismal track record. HHS’s proposals have a poor track record of being deemed legal. The agency’s reduction in 340B program reimbursement to hospitals was reversed after a legal challenge by hospitals. This week, a federal judge blocked the agency’s plans requiring list prices in advertisements. It’s not clear if the rebate rule could have withstood a legal challenge from PBMs and health plans.

WHAT’S NEXT?

Some brief thoughts on the fallout for drug channel participants:

• PBMs. The removal of the rebate rule is a big win for PBMs. In the short term, changing the rebate game was an existential threat to an important element of PBMs’ profitability. That’s why Wall Street cheered the news yesterday. Stocks of the public companies behind the three biggest PBMs—CVS Health (including Caremark and Aetna), Express Scripts (Cigna), and the OptumRx business of UnitedHealth—rallied strongly.
  
  PBMs have been decreasing their reliance on rebates. Going forward, I still expect PBMs profit models to evolve along the four paths that I describe in CVS, Express Scripts, and the Evolution of the PBM Business Model.

• Wholesalers. Executives at AmerisourceBergen, McKesson, and Cardinal Health also breathed a sigh of relief. Proposed changes to rebates were likely to trigger fundamental changes to wholesalers’ business models and compensation structure.
  
  I’m not convinced that wholesalers’ management teams were emotionally and intellectually prepared for this shift. AmerisourceBergen and McKesson had outlined plans to become chargeback administrators in a world without rebates, though these efforts seemed highly speculative and unlikely to be fully realized.

• Pharmaceutical manufacturers. It’s frustrating to be a drug maker. Pharmaceuticals account for 15% of U.S. healthcare spending, but absorb 99% of the political heat. Many drugs sell at deep and growing discounts, though benefit designs force many patients to pay ever-higher out-of-pocket costs. Net prices (after rebates and discounts) have barely grown at all. Lower-priced versions of highly-rebated drugs are being blocked from PBM formularies.
  
  Rebate reform was an attempt to reset the system. Now, the regulatory and legislative attention will again shift to attacking pharmaceutical manufacturers and away from addressing the true complexity of U.S. drug pricing.

Addressing patient affordability for beneficial therapies will require more than decrying “high drug prices.” Benefit plans are unfriendly to patients with serious medical conditions and to those who face coinsurance and high-deductible plans. What’s more, most Americans don’t understand their increasingly complex prescription insurance designs. My observations here are still relevant: Drug Prices After the Midterms: Five Crucial Implications of Pharmacy Benefit Design.

The administration’s grand plans for reforming the drug pricing system are faltering. Meanwhile, there seems to be emerging bipartisan consensus on legislation that could shield patients from the excesses of the gross-to-net bubble while also strengthening competitive pressures that would reduce drug prices.

Our elected officials could come to the rescue and be the heroes in this saga. I’ve been tracking the many bills that have been proposed in the Senate and House. I hope politicians resist their worst populist instincts to adopt simplistic policies that sound great but could do serious harm to biopharmaceutical innovation and have unintended consequences for patients’ safety and out-of-pocket costs. State importation laws are a prominent example of unsound policy.

The failure of rebate reform also should remind us of Hofstadter's Law: Major change always takes longer than you expect, even when you take into account Hofstadter's Law.