The Medicare Innovation Subsidy

57 Pages Posted: 24 Aug 2019 Last revised: 4 Sep 2019

See all articles by Mark A. Lemley

Mark A. Lemley

Stanford Law School

Lisa Larrimore Ouellette

Stanford Law School

Rachel Sachs

Washington University in Saint Louis - School of Law

Date Written: August 22, 2019

Abstract

Policymakers on both ends of the political spectrum have been looking for ways to reduce prescription drug prices. Democrats have also been working on expanding health care coverage, including different versions of Medicare for All. All these proposals have been framed as issues of access and spending. If innovation incentives come up at all, it has primarily been because pharmaceutical companies claim that reducing drug prices will threaten innovation by undermining the value of their patents.

In fact, however, pharmaceutical access and innovation incentives are intimately related. Health insurance can change the structure of market demand. And Medicare in particular does so in a way that gives a very large subsidy to patented drugs, such that current U.S. pharmaceutical profits are often higher than they would be in an unsubsidized market. Medicare reimbursement rules thus can lead to greater-than-monopoly pricing of patented drugs, dramatically expanding the incentive U.S. policy provides to pharmaceutical companies. By not recognizing the Medicare innovation subsidy, policymakers have ignored one of the largest sources of innovation incentives. That extra incentive might be a good thing or a bad thing, depending on how much incentive pharmaceutical developers need. It may well be good for some classes of drugs and bad for others. But it is important for policymakers to understand how access policies like Medicare also serve as innovation incentives. This extra innovation subsidy may open the policy space for hybrid proposals that combine expanded government insurance like Medicare for All with lower drug prices while preserving or even increasing current returns to innovation.

Keywords: innovation policy, intellectual property, insurance, health care, Medicare, Medicaid, prescription drugs

JEL Classification: H41, H51, I13, I18, K23, K32, O34, O38

Suggested Citation

Lemley, Mark A. and Ouellette, Lisa Larrimore and Sachs, Rachel, The Medicare Innovation Subsidy (August 22, 2019). New York University Law Review, Forthcoming; Stanford Law and Economics Olin Working Paper No. 536. Available at SSRN: https://ssrn.com/abstract=3441247

Mark A. Lemley

Stanford Law School ( email )

559 Nathan Abbott Way
Stanford, CA 94305-8610
United States

Lisa Larrimore Ouellette

Stanford Law School ( email )

559 Nathan Abbott Way
Stanford, CA 94305
United States

HOME PAGE: http://law.stanford.edu/directory/lisa-larrimore-ouellette/

Rachel Sachs (Contact Author)

Washington University in Saint Louis - School of Law ( email )

Campus Box 1120
St. Louis, MO 63130
United States

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