Reflections on Binding Arbitration Briefing

NCHC Writer

As Congress and the Trump Administration consider policies to address rising prescription drug prices, the National Coalition on Health Care (NCHC) hosted a Capitol Hill briefing on March 15th to put one promising option on the table: the use of binding arbitration in Medicare Part D to determine prices for a limited set of drugs.

Binding arbitration is a formal process for a buyer and a seller to resolve a price dispute by making their respective cases to an impartial arbitrator. The arbitrator decides a price within the range of the two prices proposed.  “Final offer” arbitration requires the arbiter to select one of the two parties’ final offers as the price.

Leading health policy experts and economists provided an overview of trends in rising pharmaceutical prices and spending, followed by discussion of how binding arbitration could be applied to determine fair pricing for prescription drugs. The panel also described Germany’s approach to assessing and pricing pharmaceuticals, which has a role for arbitration. Finally, experts identified considerations for policymakers in structuring arbitration, as well as broader opportunities for reform in Medicare Part D.

Len Nichols on Why We Need to Consider Binding Arbitration

Len Nichols laid out the balancing act sought between two objectives: promoting affordability and encouraging innovation. He credited the Hatch-Waxman Act of 1984 with promoting both innovation and competition in small molecule drugs. By extending exclusivity periods for five years while simultaneously creating a streamlined path for generics, the Act has resulted in approximately 90% of all prescriptions filled by generic drugs.

However, Hatch-Waxman does not apply to biologic drugs, and biologics are some of the biggest drivers of prescription drug spending. Patients and payers, especially Medicare, are bearing the costs with limited tools for controlling them. Dr. Nichols observed that the “non-interference clause” in the Medicare Part D law, which restricts the Secretary of Health and Human Services’ authority to engage in direct negotiations with manufacturers for Part D covered drugs, amounts to “unilateral disarmament.”

Dr. Nichols sought to dispel the notion that negotiation equates to price control. To illustrate, he compared the pharmaceutical industry and defense procurement, commenting that the U.S. military has an acceptable process of fixed price contracts. When buying nuclear submarines, the U.S. Navy and its supplier enter fixed price contracts with upside and downside risk. Congress seeks to purchase at a price that protects both taxpayers and national security. Similarly, Congress seeks to lower drug prices for taxpayers and patients while promoting medical innovation.

Richard Frank on How We Might Adapt Arbitration to Pricing Certain Pharmaceuticals

Richard Frank contrasted the jump in the costs of branded drugs in Part D, which have increased 269% from 2006-2015. A sharp decline in prices of generics has occurred over the same period. Medicare’s actuary projects an annual 4.6% increase in Part D spending through 2027.

Dr. Frank identified two factors driving Part D spending on branded drugs:

  1. The design of Part D’s reinsurance component

Reinsurance compensate plans for expensive claims above a threshold amount. The costs of the Medicare Part D reinsurance benefit are allocated among stakeholders, with beneficiaries responsible for 5%, Part D plans liable for 15%, and the federal government and taxpayers picking up the largest share of 80%. This imbalance in risk sharing between Part D plans and the Medicare program gives plans little incentive to hold per beneficiary spending below the catastrophic amount of $5,000. As a result, reinsurance has risen from 25% to 56% of total Part D spending between 2007 and 2017.

2. The role of unique drugs with strong exclusivity protections

Medicare Part D drug spending is concentrated among a small list of branded drugs, suggesting that Part D plans have little bargaining power to restrain prices for these drugs. Even if Congress reformed Part D to put private plans at risk for more of Part D spending, experience suggests plans lack the tools to bargain better prices for the so-called “blockbusters” with no real therapeutic substitutes.

According to Dr. Frank, in circumstances where extreme pricing power exists, such as the launch of new therapies protected with market exclusivity, binding arbitration is preferable to administrative price setting as a method for limiting prices. Countervailing buying power is needed to balance the power of sole suppliers. Medicare has such size as a buyer, and could be given authority by Congress to use its power in a limited set of circumstances. Importantly, policymakers need to strictly define the criteria for which drugs would be subject to a negotiation, the period of negotiation, and how the arbitration procedure would be carried out to promote administrative simplicity.

Looking beyond health care, binding arbitration is used to resolve a range of economic disputes or determine a fair price or settlement in certain circumstances. The well-known examples are wage settlement cases when negotiations have reached impasse.

Leigh Purvis on How Germany Uses Binding Arbitration to Set Pharmaceutical Prices

The 2010 German law, Pharmaceutical Market Restructuring Act (AMNOG), mandates the use of binding arbitration to set prices for certain classes of drugs when negotiations fail. Germany uses a payment system with multiple private payers governed by a non-governmental “Federal Joint Committee” that sets rules and coverage policy.

AMNOG established a process for assessing the value of new drugs using comparative effectiveness research conducted by a non-governmental institute. New drugs can enter the market once deemed safe and effective, and manufacturers can set a price and sell the drug for twelve months. During the twelve months, the institute evaluates and rates the clinical effectiveness of the new drug, comparing it to existing therapies when substitutes exist.  The drug maker then begins negotiating with the Federal Joint Committee to determine a price.

In rare instances when the Federal Joint Committee and the drug maker cannot agree on a price, the arbitration process may be invoked. Disputes are brought to a five member board, which includes one representative of the drug maker and insurers. The Chairman casts a deciding vote in the event of a tie. The decision is binding, although it can be challenged by either party and revisited with new evidence after one year.

The German AMNOG process appears to be working without stifling access, with more than 300 drugs assessed over approximately seven years and less than 30 drugs being withdrawn from the market from May 2018 to March 2019.

Joe Antos on Why There is No Need for Arbitration

Joe Antos criticized arbitration to set drug prices and questioned what underlying data and assumptions would be used by Medicare to justify its offer price in negotiation. He asserted that competition works in pharmaceutical markets, citing the falling prices among competitive therapies for Hepatitis C. Dr. Antos called for structural reforms that re-balance incentives for innovation and competition, and recommended Congress repair the flawed Part D reinsurance program to give plans more incentive to negotiate more aggressively for high-priced drugs.

Key Takeaways:

  • Binding arbitration can be an effective counterbalance to drug manufacturer’s extreme price setting power (e.g. where Part D plans have little to no bargaining power for high-cost drugs with few substitutes). However, it should be accompanied by other reforms that promote value and encourage competition in the pharmaceutical market.
  • “Final offer” binding arbitration requires the arbitrator to select one of the two party’s final offers. This encourages parties to bargain in good faith and reach a settlement, rather than take their dispute to binding arbitration.
  • Germany has created an evidence-based process for establishing prices and rewarding innovative drugs based on genuine clinical benefits. Arbitration is used as a last resort when an agreement on price cannot be reached through negotiations.
  • In structuring binding arbitration, policymakers would need to specify a number of factors, the type of drugs included, the criteria used by an arbitrator in evaluating price, and the time period for negotiation. Congress would also need to amend the “non-interference clause” in the Medicare Modernization Act to clear a pathway for arbitration over Medicare Part D drugs.
  • Panelists agreed that Congress should prioritize reform of the Part D reinsurance program while examining other reforms in benefit design, such as formularies and cost-sharing. There was also consensus that comparative effectiveness research has an important role to play to inform market participants.

This briefing was supported by Arnold Ventures and the Commonwealth Fund.