Demand Inertia and the Hidden Impact of Pharmacy Benefit Managers

Abstract

Do Pharmacy Benefit Managers (PBMs) reduce spending on prescription drugs? Reduced-form evidence suggests that PBMs enforce a tradeoff between net-of-rebate prices and access to drugs within each market. However, net-of-rebate prices grow consistently over time and appear unresponsive to competitor entry. We argue that inertia in drug demand can reconcile these facts. To formally analyze the roles played by PBMs and demand inertia, we build a dynamic structural model of drug pricing and estimate it using net-of-rebate prices of three major statins from 1996–2013. Counterfactuals suggest that, relative to a market with price-setting by drug manufacturers and patients who face coinsurance, PBMs reduce overall spending by 28 percent, without greatly limiting patient access. Without demand inertia, the presence of PBMs would cause prices to fall significantly as competitors enter.

Keywords: Drug Pricing, Pharmacy Benefit Managers, Formulary Design, Dynamic Games, Dynamic Pricing, Consumer Inertia

JEL Classification: L11, L65, I11, I13, H51