Blog – Medicaid Cost Containment: There’s No Generic Solution

NCHC Writers
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Krista Maier

July 19, 2010

Issue Areas: 

CostDrug and Device Cost Containment

The July 2010 edition of Health Affairs includes results from a study of state generic substitution laws and the impact that those laws have on Medicaid drug costs. The study compared states requiring a patient’s consent before the pharmacist can substitute a generic drug for the brand that was prescribed to those that do not. Based on the study, the authors predicted that if the states requiring patient consent removed that requirement, those states could save up to $100 million once generic versions of Lipitor, Zyprexa and Plavix are available.  

This study, however, does not include discounts from drug manufacturers in the savings calculation and thus it overlooks the potential for cost savings by sticking with the brand drug. These discounts are paid to each state in the form of rebates each quarter. While both brand and generic manufacturers have to pay rebates to Medicaid, only brand medications are subject to an inflation penalty. If the price of the brand drug increases by more than inflation for a given period, the manufacturer must pay Medicaid the difference between the new price and the price “allowed” when adjusted for inflation. This inflation penalty begins accruing when the drug is first launched, so by the time a generic version is introduced, that inflation penalty can be quite large. This inflation penalty rebate is in addition to the 23.1% base rebate that manufacturers of brand drugs pay to Medicaid. In fact, the Patient Protection and Affordable Care Act acknowledges just how high the Medicaid rebates can grow, by limiting a drug’s total rebate amount to 100% of the average manufacturer price (AMP).  Generic drug manufacturers, on the other hand, pay only a flat 13% rebate.  So, for a brand drug with an AMP of $1.00 per unit, the state Medicaid agency would receive a base rebate (discount) of $0.23 per pill from the manufacturer, and the inflation penalty will be added on top of that. On the other hand, for generic drug with an AMP of $1.00 per unit, the state would receive $0.13 for each pill. When states pay for hundreds of thousands of pills each quarter, those pennies can add up. 

By requiring a pharmacy to use a generic drug in place of a brand, a state could be foregoing a large rebate from the brand manufacturer; instead the state receives a smaller rebate from the generic manufacturer. This is especially true when there is only one generic alternative, because the prices still remain high. Then, once more generics are available and the prices drop, states can use other tools, such as maximum allowable costs (MAC) to limit how much they will pay for that drug—regardless of whether a brand or generic is used. 

In general, there is no silver bullet to prescription drug cost-containment for state Medicaid agencies. States have been facing budget constraints for years, and have already implemented all of the “simple” fixes available. Now it’s time for a more targeted approach to cost-containment. State Medicaid agencies need to do the math for each brand drug that is facing the launch of a generic alternative to determine the net cost for the brand versus the generic. States should require substitution only if the generic has a lower cost. States should then reassess their net costs when more manufacturers have introduced generics, and apply a MAC amount that will result in the same, if not lower net cost. 

The complex reimbursement system for Medicaid prescription drugs shows that there is no “simple” solution to rein in health care costs. However, until a systemic solution is achieved, state Medicaid agencies can use more thoughtful approaches to control drug costs, by using tools already at their disposal. 

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