CBO Underestimates How Price Controls Would Devastate Innovation and Entrepreneurship in Biopharmaceutical Industry

By SBE Council at 10 September, 2021, 12:12 pm

by Raymond J. Keating –

Regulations – including price controls – always fall heaviest on smaller, entrepreneurial enterprises. That is very much the case in the biopharmaceutical industry. Price controls on prescription drugs would undermine entrepreneurship and private investment in the industry, and therefore, would undermine the creation of new and improved drugs, medicines and vaccines.

It’s straightforward economics. That is, government-imposed price controls mean limiting potential returns, which in turn, mean fewer startups, less investment for entrepreneurial ventures, and reduced innovation in the industry. That is especially the case in the pharmaceutical industry given the high degrees of risk and uncertainty in bringing new treatments to the marketplace.

After all, according to a report from PhRMA, it takes 10 to 15 years on average to bring a drug to market, and only 12 percent of medicines entering clinical trials get approved by the FDA. The average estimated cost to get a drug to market, including the costs of failed drugs, is $2.6 billion.

Of course, lost innovation due to price controls is bad news for patients in that they will be denied life-enhancing and life-saving drugs.

While the new Congressional Budget Office study (“CBO’s Simulation Model of New Drug Development”) gets the direction right in terms of the impact that price controls – such as via Elijah E. Cummings Lower Drug Costs Now Act (H.R. 3) – would have on new drug development, it is off in terms of degree. The fundamental point that price controls would be negatives for new drug development is, once again, confirmed. For example, the CBO concluded:

“The model considers the firm’s decision at the start of the various phases of human clinical trials. The firm considers expected cost and expected returns of entering the phase. The paper considers what happens when a policy is introduced that reduces the top quintile of expected returns by 15 percent to 25 percent. Using the model, CBO estimates that such a policy would reduce the number of drugs entering the market by 0.5 percent in the first decade under the policy. Owing to an accumulated effect through the phases, CBO estimates the number of drugs entering the market decreases by 8 percent in the third decade under the policy.”

So, even with unrealistically conservative estimates, the CBO study points to some 60 treatments and cures being lost due to government imposing price controls. That translates into lost health and lives.

Meanwhile, this study suffers from numerous shortcomings. In fact, assorted question marks are noted in the study itself, including:

● “The paper discusses various forms of uncertainty affecting those estimates. In addition to the uncertainty associated with the value of the model’s parameters, inherent uncertainty is associated with the drug development process. Uncertainty also exists in how manufacturers react to the major change in the government’s role in price determination.”

● “The results presented here are uncertain. Uncertainty exists around both the values of inputs used in the simulation model and the impact of the illustrative policy. Using the illustrative policy, the section shows how uncertainty over the model’s input values and inherent uncertainty in the simulation affect predictions of the policy’s impact on the number of new drugs.”

● “The illustrative policy’s exact implications for the health of families in the United States are unclear. CBO has estimated neither which types of drugs may be affected nor how the reduction in the number of new drugs will affect health outcomes.”

However, the major missing piece in this study is lost innovation. The study effectively underestimates the impact on entrepreneurship and investment. In fact, small biopharmaceutical companies are ignored. Yet, these are the firms that drive innovation. As reported in a study from the IQVIA Institute for Human Data Science (“Emerging Biopharma’s Contribution to Innovation,” June 2019):

“The majority of biomedical innovation is developed by emerging biopharma companies, many of which have never marketed a therapy before. Over time, those companies either successfully bring their products to market or, in many cases, their assets or whole companies are acquired by others. These emerging biopharma (EBP) companies are at the root of early-stage drug development and their performance, the environment in which they operate, and their relationship to other stakeholders in the health system play a critical role in determining the future of many novel therapies and health technologies.”

Specifically, it was reported:

● “Emerging biopharma companies now represent 73% of late-stage research, up from 52% in 2003, and the number of molecules under development by EBPs grew by 15% in each of the past two years. EBP companies also represent 84% of early-phase research.”

● “EBP companies conducted 65% of all clinical trials in 2018 and are now running more trials than larger companies across all phases. Products developed by emerging biopharma companies have a composite success rate of 17% – greater than other company segments.”

● “EBPs increasingly contribute to innovation, and these companies were the original patentees for 29 of the current top 100 drugs, which account for 40% of sales in the United States in 2018. For drugs launched in 2018, EBPs originated and launched 42% of the new drugs, a higher percentage than in past years and up from 26% in 2017.”

The study also highlights the importance of venture capital investment and collaborative deals between EBPs and larger companies in the development of new treatments and cures.

None of this is surprising given that the data on the number of firms operating in this sector reveal an industry overwhelmingly populated by smaller, entrepreneurial firms. According to the latest U.S. Census Bureau data (2018), consider the breakdown of the pharmaceutical and medicine manufacturing sector by firm size:

● 34.2 percent of employer firms in the pharmaceutical and medicine manufacturing sector have fewer than 5 employees.

● 47.6 percent have fewer than 10 employees.

● 59.4 percent of employers firms in the pharmaceutical and medicine manufacturing industry have fewer than 20 employees.

● 78.9 percent have fewer than 100 employees.

● 91.3 percent of employer firms in the pharmaceutical and medicine manufacturing industry have fewer than 500 employees.

That’s overwhelmingly small business.

A report at BioCentury.com tied in the impact of price controls to small businesses – that is, early-stage biopharmaceutical companies – and venture capital in a way that the CBO report ignored. That is, BioCentury explicitly recognized that lost revenues for highly profitable drugs will undermine venture capital investment. The BioCentury report offered insights from three experts.

First, Amitabh Chandra, director of health policy research at the Harvard Kennedy School of Government, a professor of business administration at Harvard Business School, and a member of CBO’s Panel of Health Advisors, said, “VC’s invest about $22 billion every year and the outcome is 30 or 40 drugs many years later. That $22 billion is going to be very sensitive to the upper tail of profits being lopped off,” adding that “a transformational drug for Alzheimer’s — not Aduhelm — or diabetes, is almost definitely in this tail.”

Second, Dan Durham, EVP of health at BIO, was quoted, “The report only takes the large company perspective. CBO states that it takes preclinical decision-making as a given. Specifically, it looks at decision-making for a company with drugs in the clinic making decisions about whether to stop development after Phase I, II or III based on estimates of profitability. It leaves out preclinical development, which is where most BIO companies are.” He added that the CBO model “completely misses out on the incentives of VCs and others to invest in prerevenue, preclinical companies.”

And third, Peter Kolchinsky, managing partner at RA Capital, pointed out the impact that price controls would reduce incentives for venture capitalists to invest in biopharmaceutical companies. He said, “They are going to go after the biggest winners after it’s clear what they are. What they’re basically doing is saying, we’re going to wait for you to invest in the seeds of all these drugs and then, after you’ve risked all that money, and it’s clear which of those are the biggest winners, we’re going to clip those… CBO’s report grossly underestimates the impact of gutting expectations of return on willingness to invest… My investors will run for the hills and my companies will get defunded and patients will have the drugs we already invented at whatever price CMS dictates, but there won’t be new drugs.”

If we want the U.S. to remain as the global leader in the development of new prescription drugs, medicines and vaccines, then the policies that provide a foundation for that to occur must be maintained, that is, strong property rights and the absence of price controls. When government abandons or violates these essentials, the blows to entrepreneurship, investment and innovation in enterprises that develop treatments and cures promise to be severe.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council.