As part of its fiscal year 2019 budget, the Trump Administration included a proposal to provide legislative authority for a new demonstration project for up to five states to opt out of the Medicaid drug rebate program, negotiate their own rebates from drug manufacturers and impose “closed” drug formularies for beneficiaries.  Such a proposal raises serious concerns because not only would it be unlikely to result in greater rebates (and could potentially raise costs) but it also could lead to low-income Medicaid beneficiaries in those states losing access to needed medications and facing poorer health outcomes.  It also could undermine the drug rebate program overall, which in turn could drive up Medicaid drug costs and lead to harmful cuts affecting beneficiaries in all states.

Under the Medicaid drug rebate program today, drug manufacturers must provide rebates to the federal government and states as a condition of having their drugs covered by Medicaid.  (They must also agree to participate in the 340B program and provide discounts to the Veterans Administration.) For example, in the case of brand-name drugs, manufacturers must pay rebates equal to 23.1 percent of the Average Manufacturer Price (AMP) or the AMP minus the “best price” provided to most other purchasers, whichever is greater.  (The AMP is generally the average price paid by wholesalers for drugs distributed to retail community pharmacies.) For generic drugs, rebates equal 13 percent of the AMP.  Manufacturers must also pay additional rebates for both brand-name and generic drugs if their prices rise faster than general inflation. States may also directly negotiate with manufacturers voluntary supplemental rebates on top of these federally required rebates.  

These rebates are substantial.  According to the Medicaid and CHIP Payment and Access Commission, in federal fiscal year 2015, manufacturers paid $24 billion in rebates to the federal government and the states, reducing Medicaid prescription drug costs by about 45 percent.  In contrast, the Medicare Trustees found that the rebates negotiated between private insurers and manufacturers lowered Medicare Part D costs by about 18 percent in 2015.  Among select brand-name drugs with the highest Part D expenditures, the HHS Office of Inspector General determined that the median “unit rebate amount” rebate was about three times larger than under Part D in 2012 and ten times or more for many drugs.  

In exchange for these rebates, except for a very limited set of drug classes, state Medicaid programs cannot deny coverage of drugs produced by manufacturers participating in the drug rebate program. This requirement, along with limits on the co-payments that may be charged on each prescription, helps ensures that low-income Medicaid beneficiaries have access to the prescription drugs they need.

The Administration proposal would allow up to five states to opt out of the Medicaid drug rebate program to test whether they could negotiate directly with drug manufacturers and obtain larger rebates than what the rebate program provides today.  The theory is that states would have greater leverage with manufacturers because they could now establish a closed formulary, under which certain drugs (or even entire classes of drugs) could be excluded. Without offering large rebates to state Medicaid programs, manufacturers could see their drugs not covered at all.  However, as noted, current rebates are significantly larger than what are negotiated by Medicare Part D insurers who now use closed formularies (except in the case of select protected classes). Also, more than half of current rebates comes from the inflation-related rebates, rather than the base rebate, even though the base rebate is likely be the primary focus of negotiations between states and manufacturers and the current base rebate is already guaranteed to be at least as large as the “best price” discount provided to most payers.  Finally, states participating in the demonstration would not even know how the rebates they negotiate compare to current rebate levels, as AMP and best price information reported by manufacturers is confidential and not shared by the federal government with the states.

Moreover, the supplemental rebates that nearly all states now negotiate are relatively small — 3 to 6 percent above the federal rebate — according to one study conducted by a Pharmacy Benefit Manager contracting with state Medicaid programs.  Those rebates are derived from preferred drug lists, under which states require prior authorization before a drug is dispensed.  While these are not true closed formularies, they operate under a similar approach: manufacturers provide supplemental rebates in exchange for their drugs being placed on the preferred, rather than non-preferred, Medicaid drug list.  

As a result, it appears highly unlikely that the demonstration project would produce savings and it may actually increase federal Medicaid costs if the negotiated rebates turn out to be less than current rebates.  In fact, the Administration itself is skeptical that the demonstration will yield lower costs; it estimates that the proposal would only reduce federal Medicaid spending by $85 million over ten years.

It is far more likely that if the demonstration results in any substantial reduction in Medicaid drug costs, it would be the result of states unduly restricting access to needed drugs.  The Administration proposal includes no detail on what standards or requirements would apply to participating states in setting their closed formularies:

• Could drugs or entire drug classes be excluded solely based on cost, rather than any clinical criteria?
• How would drug classes be defined?
• Even for on-formulary drugs, would states be able to impose stringent prior authorization requirements that are inconsistent with clinical practice standards?

The only requirement in the proposal is that there would be “an appeals process so beneficiaries can access non-covered drugs based on medical need”.  And even that appeals process may be substantially weaker and more burdensome and time-consuming than what must be provided under current law. (For example, state Medicaid programs must now respond to prior authorization requests within 24 hours, and provide a 72-hour supply in emergency situations.) Low-income Medicaid beneficiaries, especially the most vulnerable like people with disabilities and chronic conditions and children with special health care needs, would thus be at risk of going without needed drug treatments if the medications they need are simply dropped from Medicaid formularies due to cost or they cannot satisfy overly restrictive clinical requirements.

Low-income Medicaid beneficiaries, especially the most vulnerable like people with disabilities and chronic conditions and children with special health care needs, would thus be at risk of going without needed drug treatments…

Lastly, it is important to recognize that state Medicaid programs already have considerable tools to reduce drug costs and manage utilization.  As noted, nearly all states use preferred drug lists with prior authorization. They can require “step therapy” under which a beneficiary must first try other drugs within the same drug class.  States require generic substitution, when a generic version of a drug is available, and deny coverage for drugs that are not used for a medically accepted indication. In addition, state Medicaid programs also must operate drug utilization review (DUR) programs.  This includes screening prospectively for duplication, contraindications, interactions with other drugs, incorrect dosage and abuse and misuse as well as retrospectively reviewing claims and other data for overuse, inappropriate or medically unnecessary care, appropriate use of generics and fraud and abuse.  Many states also conduct provider education to ensure appropriate prescribing patterns on the part of physicians and other health professionals. Unfortunately, states can also set numerical limits on the number of prescription drugs that will be covered in any given month (even for people with multiple chronic conditions who require prescription drugs).

The current Medicaid rebate program is largely successful.  As intended, when it was enacted in 1990, it produces sizable rebates that lower federal and state Medicaid prescription drug costs while ensuring access for beneficiaries.  In contrast, the Administration proposal is likely to only lead to low-income beneficiaries in participating states going without needed medications. Moreover, it could open the door to broader efforts to roll back the entire Medicaid drug rebate program, which both manufacturers and many private insurers strongly dislike.  Manufacturers oppose the magnitude of the rebates they must pay but participate in the rebate program to ensure their drugs are covered without a closed formulary. Some insurers that provide Medicaid managed care would likely prefer to use their Medicaid enrollment as leverage to obtain higher rebates for their other lines of business (private insurance and Medicare). Furthermore, some states like Massachusetts are seeking waivers that allow them to impose closed formularies in order to obtain larger supplemental rebates, although media reports indicate that the Administration is likely to reject such waivers.

Efforts to control the growth in Medicaid prescription drug costs should instead build on the existing drug rebate program.  How the Medicaid drug rebate program could be improved to lower costs while preserving beneficiary access will be the subject of future blog posts.