October 2000 Fraser Forum: Are Prescription Drugs More Expensive in the US than in Canada?
Yes, prescription drugs are more expensive in the US than in Canada, but the story is more interesting than this quick answer reveals. There are three types of prescription drugs: patented drugs, branded off-patent drugs, and generic drugs. Patented drugs are protected from competitors because the government has granted them a patent which lasts for 20 years after the patent application was submitted, or 17 years after the patent was issued. Viagra® (sildenafil citrate) is a well known example of a patented drug. The Canadian patent for Viagra® will expire in 2014. After the patent expires, generic competitors will have the right to copy the formula and market their own versions of the drug. In Canada, generic versions of a drug are usually named after the chemical preparation, prefixed by the first syllable or two of the name of the generic manufacturer. Therefore, if Apotex Inc. decides to manufacture and sell the drug, its version will probably be known as Apo-Sildenafil. Similarly, if Novopharm Ltd. does the same, its drug is likely be called Novo-Sildenafil.
By the time these generic substitutes become available, Pfizer Inc., who manufactures Viagra®, will already have done most of the heavy lifting required to get the drug to market. The generic competitors will not have to make the investment in research and development that Pfizer Inc. did. As well, the generic competitors will not have to invest in educating doctors, pharmacists, and patients about the drug and marketing it to them. Furthermore, generic competitors will spend less to get therapeutic approval for the drug from Health Canada: Pfizer will have done this already. Because of these investments, Pfizer will probably continue to sell brand-name Viagra®, for a higher price than its generic competitors, promoting its role as inventor of the drug as an indicator of superior quality. One drug which is already in this position in Canada is Prozac® (fluoxetine hydrochloride), whose patent expired in 1996, and competes against generic Apo-Fluoxetine and Novo-Fluoxetine.
Two recent Fraser Institute Public Policy Sources, Prescription Drug Prices in Canada and the United States—Part 1: A Comparative Survey, and Prescription Drug Prices in Canada and the United States—Part 2: Why the Difference? publish the results of a survey of the top 60 drugs in the US, by prescriptions written, that found that there are large variances in the Canada-US price differences of these three types of drugs. Although retail prices for branded drugs in our sample, both patented and off-patent, were cheaper in Canada, generic drugs were, on average, more expensive in Canada.
The Canadian government imposes price controls on patented drugs through the Patented Medicine Prices Review Board, with the intent of ensuring that "prices of patented medicines are not excessive." Fraser Forum readers will not be surprised to learn that the actions of the Board have had unintended consequences that have harmed consumers. In our survey, the Canadian discount off the US price for branded, off-patent drugs (which do not face price controls) was 30 percent greater than that for the patented drugs (which do have price controls). Somehow, the free market is giving Canadians a better bargain than price controls are.
It is not easy to debunk the common belief that the Patented Medicine Prices Review Board is the cause of low prices for patented drugs in Canada. In 1987, when the Board was created, US prices were 36 percent higher than Canadian prices. In 1999, American prices were 62 percent higher. This coincidence has led to laws proposing the institution of similar bodies in the United States, such as the Maine Prescription Drug Advisory Commission.
However, the increasing gap is caused by market forces, not government intervention. GDP per capita in the United States was 46 percent higher in the US than in Canada in 1997, whereas in 1987 it was only 20 percent greater. This relative decline in Canadian income has forced producers of internationally-traded goods and services to price their goods lower in Canada than in higher-earning countries such as the US. Prescription drugs are hardly unique. Indeed, the average price for all goods and services in the US in 1998 was 25 percent higher than in Canada, whereas in 1987 the premium was only 6 percent. Another influence on the difference of patented drug prices between the US and Canada is the higher risk of legal liability in the US. US patients have significantly greater legal recourse in case of mishap, and this cost is passed on to them through relatively higher prices (Manning, pp. 203-243).
If the Patented Medicine Prices Review Board has any effect, it is to keep prices high, not only of patented drugs, but of generic drugs too. The method by which the Board determines the launch price of newly-introduced drugs provides a significant disincentive for suppliers to reduce prices of older drugs. This is because prices of those older drugs are used by the Board to set prices of new drugs. As well, since the Board puts strict limits on the ability of manufacturers to raise prices after a drug’s launch, there is an incentive for them to attempt to set a higher initial price than in a free market, where they could raise prices in response to strong demand. These high patented drug prices allow generic competitors to charge relatively higher prices for their substitute products.
If states in the US impose Canadian-style price controls for prescription drugs, they will have unintended results, as they do here. However, those consequences will be much worse as they will affect many more people. By wrongly identifying the cause of low Canadian pharmaceutical prices, and attempting to "Canadianize" drug prices in the US, American politicians threaten to destroy the incentive to develop new patented drugs. This will be the focus of the third in the series on price differences for prescription drugs between Canada and the US.
Bibliography
Manning, Richard (1997). "Products Liability and Prescription Drug Prices in Canada and the United States." Journal of Law and Economics. Vol. XL, April.
John R. Graham is Senior Analyst and Acting Director of the Pharmaceutical Policy Research Centre at The Fraser Institute. He is co-author with Dr. Bev Robson of Prescription Drug Prices in Canada and the United States—Part 1: A Comparative Survey, and sole author of Prescription Drug Prices in Canada and the United States—Part 2: Why the Difference? To order copies (at a cost of $7.49 each including shipping, handling, and GST), call 1-800-665-3558, ext. 580.] The studies are also available on-line at www.fraserinstitute.ca.
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