Drug Reimportation: The Free Trade Solution

Brief Analyses | Health

No. 503
Wednesday, February 16, 2005
by John C. Goodman

Significant numbers of Americans are traveling across the Canadian border or using the Internet to buy prescription drugs at Canadian prices. These sales are illegal, but should they be? Is importing drugs the solution to high U.S. drug prices?

In fact, it is no solution at all, as Canadian officials have recognized. Recently, drug manufacturers have begun restricting supplies to online pharmacies that export drugs to the United States, and officials have threatened to pull their pharmacy licenses. The Canadian drug market is so small that if Americans were to purchase all the prescription drugs in Canada, their supply would be exhausted in about a month. And long before Canadian pharmacies were emptied, prices for exported Canadian drugs would rise close to U.S. levels.

The reason many drug prices are lower in Canada is their government-imposed price controls. And when we reimport Canadian drugs - whether made in the United States or elsewhere - we import Canadian price controls. Still, many Americans feel that government restrictions on their right to buy Canadian drugs are arbitrary and unfair.

Free trade is an answer to this dilemma. Free trade allows drug producers in one country to sell to consumers in any other country. Resale conditions are established by contract. Governments would be obligated to honor those contracts as well as the patent rights of drug manufacturers.

Are Drugs Cheaper in Canada? Today, prescription drug prices in Canada and the United States are vastly different, and the consequences for consumers can be surprising. Although Americans frequently pay higher prices for brand-name drugs, they often pay much lower prices for generics and over-the-counter (OTC) drugs.

For example, a study by the consulting firm Palmer D'Angelo found that Canadians pay more than twice as much as Americans for Canada's 27 top-selling generic drugs. This is consistent with research conducted by the federal Food and Drug Administration (FDA). For five of seven generic drugs studied, the FDA found that Canadians pay more than Americans do; in some cases two to three times more. [See the figure.] Canadian Generic Drug Prices Relative to U.S. PricesConsidering that half of all drugs sold in the United States are generic, it is surprising how little attention has been paid to them in the reimportation debate.

So why do Canadians pay less than we do for brand-name drugs, but more for generics? Since brand-name drugs are principally produced by foreign manufacturers, the Canadian government willingly imposes strict price controls that benefit Canadian consumers. In the generic market, however, Canadian producers dominate. In fact, two companies (Apotex and Novopharm) account for more than half of the total Canadian generic market.

Through regulation, therefore, the Canadian government protects its generic producers from lower-priced American competitors - at the expense of its own citizens. Where it has no domestic producers (for example, brand-name drugs), it flexes its muscle to push prices down.

What is true of Canada is also true of other developed countries. In fact, American consumers pay some of the lowest prices for generic drugs among all developed countries, even as we pay the highest prices for brand-names.

Wharton economists Patricia Danzon and Michael Turukana have found a similar pattern for OTC drug prices overseas. In France and Italy, OTC drugs sell for more than four times the U.S. price. Prices in Japan are three times higher, and in Germany, twice as high.

Negotiated Prices. But what about the market power that governments and quasi-governmental entities in Canada and the United States exercise by bulk buying? In the United States, for example, the Department of Veterans Affairs, buying on behalf of veterans, pays the lowest prices. State Medicaid programs, acting on behalf of their enrollees, typically pay the next lowest. If we allow the V.A. and Medicaid to use their clout to get discounts, how can we complain if the Canadian government chooses to bargain for lower prices on behalf of its own citizens?

The answer is that when Canada "bargains" with Pfizer or Eli Lilly it implicitly threatens to ignore the American companies' intellectual property rights. For example, if "negotiations" break down and the American company refuses to sell at the price Canada is asking, Canada reserves the right to ignore the drug patent and allow its domestic firms to produce a generic equivalent - a procedure called "compulsory licensing." In effect Canada says: Give us your drugs at a price we dictate or we'll ignore your patent and produce them ourselves.

Free Trade Solution. In an ideal world, government would get out of the way and allow markets to work freely. Short of that we need an aggressive trade policy designed to level the playing field.

First, we should insist that other countries respect patent rights, including the right of the patent holder to refuse to sell. The economic purpose of a patent, after all, is to create a monopoly right for a certain number of years in order to allow inventors to recoup their costs of research and development. For politicians in other countries, it is tempting to seize the benefits of American R & D, without contributing to the cost. They want Americans to fund the development of new drugs, while their own country pays only the marginal cost of producing the pills. This practice must end.

Second, we need to allow issues of resale to be settled by contract. Let the pharmaceutical companies negotiate the terms of sale and the right to resell in the market place. Aside from safety considerations, government's proper role is to enforce contracts, not dictate their contents.

Finally, other countries need to open their markets to American producers of generic and over-the-counter drugs. We should not allow regulation to function as protectionism under another name.

The Anti-Free Trade "Solution." Bills introduced by Sen. Byron Dorgan (D-N.D.) and Sen. Judd Gregg (R-N.H.) violate all these tenets of free trade. Both bills would allow Canada and other countries to continue to force U.S. drug companies to sell at government-dictated prices or lose their patent rights. The Dorgan bill would actually force our companies to sell unlimited quantities of drugs to foreign distributors for the express purpose of reimportation to the United States, abrogating their right to limit resale by contract. Neither bill would do anything to open markets in countries that use price controls to protect their own manufacturers and distributors.

Ironically, some members of Congress who have been the loudest critics of job outsourcing to other countries are now proposing to destroy one of America's most innovative, successful industries. Consumers and workers will pay the price.

John C. Goodman is president of the National Center for Policy Analysis. A version of this article appeared in the Washington Times.


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