Smothering Medical Innovation
Increased efficiency in regulation. A major source of innovation is the extension of existing drugs and devices to new uses, a process that depends heavily on the “wisdom of the crowds” of the medical profession. Calfee said:
Even for devices that, like drugs, go through the pre-marketing approval process, what really counts, again, is what we learn after approval. Most cardiac stents, for example, are used in ways not strictly in accordance with the FDA label, while new applications of MRI (magnetic resonance imaging) machines are a staple of the medical literature.
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As the government gets more efficient at extending its control down to the working level of the health industry, an inevitable by-product of the digital revolution, the freedom of the profession to act on such opportunities declines. The rapacity of the liability bar reinforces this trend, of course.
Reimbursement levels and cost controls. The R&D necessary for innovation constitutes the capital investment of the pharmaceutical and device industries, just as a generator constitutes the capital of a utility provider. The old story is that the second pill of a particular drug costs only 10 cents – but the first pill costs about a billion dollars.
This creates difficult pricing problems, because in the abstract world of the economics texts the assumption is that the price “ought to” equal the marginal cost, the 10 cents. The assumption has no validity in the real world, because it does not allow for the recapture of capital or compensation for risk, but the idea has seeped into public debate, where it puts the pharmaceutical and device companies on the continuous defensive.
In systems in which costs are paid by third parties, such as insurers or the government, the gap between marginal cost and fully allocated cost presents a temptation. The payer cares about today’s drugs, not the long-term system of innovation. If the price can be driven down to marginal cost, a lot of money can be saved.
The specific drug under review would still be produced, because the seller would still make a profit on immediate production, even if it had to write off its capital investment. Screwing down the price discourages new investment, naturally, and dams the flow of innovation for the next possible drug, but that is tomorrow’s problem, and in any case the public will not blame the payers, who can talk loudly about the greedy drug and device companies that failed to innovate.
This issue is not at all hypothetical. Efforts to impose marginal cost price controls are a continuing theme of the regulatory state. The issue is also at the heart of the continuing controversies over reimportation of drugs (basically, U.S. prices provide the cushion needed for R&D, and other nations pay something nearer marginal cost), and over allowing Medicare and Medicaid to negotiate drug prices instead of using the benchmark of prices in the private sector (the government has such clout that it could push its costs toward marginal cost, and devil take investment in innovation).
Relentless federal budget problems dictate no let up in the pressures in this area.
Moral hazard. The third-party payment system creates another hazard for innovation. New treatments are expensive, and often the cost-benefit calculation is far from clear. End-of-life issues present particularly difficult dilemmas.
In a fine post on PJM last week, Beth Haynes explained the unpleasant truth that once health care expenses are collectivized, rationing is inevitable. No individual can be given a blank check to draw on the communal resources for as much as they want in a desperate effort to stave off the inevitable hour for an extra minute or so.
From the point of view of a third party payer, this situation is awful. Treatments must be denied. There will be some mistakes, and there will always be rage. Anyone making the decisions would rather that the controversial treatments not exist. Then he/she could not be blamed for refusing to pay for them, the company or the government could keep costs and premiums down, the patient and his/her family could blame fate and not some malevolent organization, and everyone would be less unhappy.
In this calculus, a lack of innovation is not a bug but a feature.
Reimbursement Rates and Industry Structure. Christensen devotes considerable space to the problems of reimbursement rates and their reinforcement of inefficient industry structure – see Chapter 7, in particular. He notes:
Today’s methods of health assistance . . . create three major distortions to the efficacy and efficiency of health care. First, they preserve costly providers rather than enabling disruptive ones to emerge. Second, they dictate the price of services, and as a result create artificial bubbles of profitability and unprofitability in different sectors of the industry — thereby misdirecting the flow of investment in new products and services. And third, their contracting practices actually drive hospital costs up, not down.
Existing institutions complain, but buy into the system, especially when they have invested in reaction to its incentives, and they then join the government agencies in resisting any serious innovation.
Intellectual Property. Because medical innovation requires heavy up-front investment, and because innovative products and drugs are easily replicated once proven out, the industry has always relied on intellectual property protection to protect its wellsprings of creativity.
This is a complex area, and there are many tough issues of how far to extend intellectual property so as to optimize the balance between supporting investment and allowing broad use of new discoveries. Reasonable people have substantial differences. But on the Left, there has arisen a generalized hostility to the basic institution of intellectual property and patent rights, and pressure to replace the system with government funding and regulation.
Investments in medical devices and drugs are very long term, and, while this movement may not be dominant at the moment, it adds to the long-term incalculability of the possible pay-off from investment. It becomes yet another barrier.
Corporate “Reform.” Both Sarbanes-Oxley and Dodd-Frank have added to the expense and uncertainty of venture investment. Since medical technologies are already in the high-risk category, the impact of these laws has an impact.
One can argue that these pressures, while real enough, need not hinder innovation unduly. Some innovations will surely save money as well as lives or health, and will replace less efficient existing therapies, to the advantage of the system’s finances. Further, the restless energy of medical professionals will create pressure for improvement, as will the forces-in-being of the research community and the drug and device makers.
These points are valid, thank heavens, and they will exert counterpressures against the forces of stasis. Nonetheless, over time, the constant problems will have a strong impact, especially as the government’s fiscal situation becomes more desperate and the imperative grows to cut anywhere that weakness, especially political weakness, can be found.
Under the current structure of our health care system, especially as it will be changed if ObamaCare survives, there is no effective response to these drags against innovation. People can hold all the conferences and write all the strategy papers they want about the need for innovation; the incentives at work will still grind down the innovators.
Innovators will also find that other nations appreciate them more, and there will be a steady shift out of the U.S., to nations willing to be more flexible and long-term oriented, nations which eye our medical innovation industries covetously, and would love to give them a good home if we send them to the dog pound.
Oddly, from the standpoint of our health system, the effect of off-shore migration might be muted. If other nations took over innovation leadership, then the U.S. could piggyback on them, paying manufacturing costs but not development, just as they have piggybacked on the U.S. in the past. Indeed, federal budgeteers and political demagogues might well congratulate themselves on their perspicacity in encouraging such a shift.
This development would be a disaster for the nation’s overall financial well-being, since medical innovation is an important source of good jobs, potential exports, and high-tech synergies, but since when did budgeteers or demagogues take such a big view?
The question, of course, is “given these pressures, what can be done?”
The exact answer is uncertain, but the first part of it is clear : no half-way measures will suffice. Beth Haynes has it right; once the system turns into a commons, bad things follow inevitably, including rationing and pressures for stasis:
The only way to escape the need for centralized rationing is to recognize that health care expenditures are not a national phenomenon, but an individual one. We have to stop thinking of medical care in collectivist terms, such as a “national resource” available for dispersal through political wrangling. Medical care is of, for, and by private individuals.
The proper alternative to the increasingly top-down, coercive central planning integral to our current system is restoring to each of us the right and responsibility for making our own rationing decisions.
So the first part of the answer is more innovation, but focused not on devices and pharmaceuticals, but on incentives and institutional structures. Get those right, and the detailed innovations will follow.
The Heartland Institute has an interesting idea in its Free to Choose initiative, also written up in PJM last week.
Clayton Christensen’s work is important, because of its broad focus on organizational and institutional structures and how they might and must change to improve quality, provide incentives for innovation, bring the organization of the industry into the 21st century, and cut costs. (I am a big fan of Christensen and his theories of disruptive innovation.)
The American Enterprise Institute has just issued a new book that “proposes five specific reforms to improve the ability of markets to create a lower-cost, higher-quality health care system that is responsive to the needs of individuals, including increasing individual involvement, deregulating insurance markets and redesigning Medicare and Medicaid, improving availability and quality of information, enhancing competition, and reforming the malpractice system.”
We don’t lack for understanding. Nor do we lack for ideas. There are many good proposals to push for.
The one thing we cannot do if we want to maintain our innovative mojo is continue down the road we are on of socializing the whole system, which leads only to more conferences on innovation, strategy papers, committees that promise to identify the very best innovations no matter how long it takes, new government institutions to compensate for the destruction of the old private ones, and ultimate paralysis, probably while China and other Asian tigers zip by us by adopting market-oriented systems.
“Unpredictable, inefficient, and expensive regulatory processes put the U.S. at risk of losing its global leadership position in medtech innovation.”
In my former career in Biomedical Engineering, I would routinely replace DC fan motors (a high failure item) in Infant Incubators. I could purchase this replacement part from Radio Shack at that time for about $5. However, regulation forbade that, and this part therefore had to be purchased from an authorized medical device vendor.
From whom the same DC fan motor cost $225 each.
And that was in 1990.
Yes, I’d say a problem exists.
Most physicians can tell very similar stories. At the start of the laparoscopic surgery revolution, I remember well using ziplock baggies (yes, from the grocery store) to remove diseased tissue from the abdomen. Part of the reason they worked so well is that one side of the bag opening is blue and the other yellow, so it was easier to see both edges to grasp and bring out without spilling the tissue. And we really didn’t have anything else yet- techniques outstripped devices for a few years.
Fast forward a couple of years the devices caught up. Unfortunately, my little 5 cent baggie was replaced by a $75 model, and all the equipment went from being reusable to disposable. The cost of this particular procedure doubled. While I do believe that the procedure was made a little easier- and possibly safer- I have to wonder if the marginal benefit was worth it. To my knowledge, there was never any data to show it either way. However, I think there is no doubt that equipment advances made many other laparoscopic procedures possible that couldn’t be done before.
Technology is a double-edge sword. It’s almost always more expensive than older treatments and often no better at all- the laser fad is (was) a good example of that. Hopefully, the changes like those proposed in this article will help with the former problem, but the latter problem isn’t up to the FDA or any government organization- it’s up to the doctors who have to be able to tell the difference between revolutionary technology and the gadget-of-the-day, and we don’t seem to have good ways to do that efficiently.
Good points. I have been working in the medical device business for 20+ years from breast implants to urology to heart & brain catheters to drug device combination product to treat cancer.
Incentive to innovate falls off the cliff under FDA’s recent unwarranted regulatory aggressiveness by career bureaucrat physicians and PhDs with zero commercial experiences. Case in point is people like FDA’s Head of Urology and FDA’s revising the old rules on 510(k) clearance by raising the bar. Granted many foreign regulatory agencies like Korea and Japan are not easy deal with BUT they demand that the device must be approved in US before they consider approving the device for use in their countries. Canadian FDA on the other hand is pleasure to work with and breath of fresh air.
Obamacare will make it worse under social medicine disguise punishing the device companies by lowering the reimbursable rate for treatments. Physicians push back to the device makers resulting in less investment in cutting edge technologies. I personally witnessed a promising technology dropped as not economically viable under the current Medicare reimbursable rate as these are driven down further with each passing year. Many of the therapies may find use for other ailments (often thru off label use which gets adopted later) but again no incentive in socialized medicine. What’s WORSE was Obama slipped in additional medical device tax increase under Obamacare further constraining an industry once known as the best in the world.
Great article. This issue was largely ignored in the debate over Obamacare but it’s probably the most important consideration in the long run. Comparing European health care costs with ours is similar to comparing their defense costs because their approach to both medical innovation and defense are essentially “let the Americans handle that”.
We still have a chance to stop socialized medicine in this country. Please keep speaking out and get Congress to pay attention!
“Comparing European health care costs with ours is similar to comparing their defense costs because their approach to both medical innovation and defense are essentially “let the Americans handle that”.”
We have a winner. European socialism would have gone broke and been heaped upon the dustbin of history along with the Nazis and Soviets LONG ago if it wasn’t for the blanket of freedom GIVEN to them by America.
It’s interesting how quiet the medical community has been regarding the direction our government has ‘chosen’ for them and for the future of ‘medicine’ (as defined by the new definition government is assigning to the word) in this nation.
Traditionally, obviously, America has been the epicenter of medical advancements on almost every front. Not the least of which was funding, both here and abroad, of research and development as well as prevention and therapeutic medicine.
All I hear is crickets.
The regulatory and uncertainty assault on the industry goes back to HillaryCare. Even though that boondoggle was squelched, the pharmaceutical industry reacted with a huge contraction, consolidation, and mass exodus of manufacture and development overseas. Next came the defensive strategy of making “me-too” drugs over investment in truly innovative drugs. The rise of small biotechs was supposed to be “the answer,” but it’s more like a thoroughbred farming operation. Big pharma picks a potential winner; but if the horse doesn’t win big in the first race, it’s put out to pasture.
In the meantime, places like China and India, which have no compunction about stealing patents, will invade the pasture, steal the horses, and make winners out of them.
My entire career has been in the field of medical innovation. I have told friends numerous times that the worst thing a doctor can tell you is not that your treatment is expensive but that there is no effective treatment and you should get your affairs in order.
There is no doubt we have issues with the delivery of healthcare but these all represent discrete problems which can be addressed independently 1) defensive medicine = tort reform, 2) pre-existing conditions = risk pools (and a variety of other solutions, 3) excessive insurance costs = make it really insurance again and promote a competitive market for those medical services which are not truly unforeseeable 4) regulatory burdens = safe harbors for manufacturers that promptly report adverse events, etc.
The problems for medical innovation are also compounded by Sarbanes-Oxley (another government fiasco) which has strangled the capital raising process by reducing available funding sources and exit strategies. I have watched my industry consolidate to the point of absurdity. We used to build business plans to excite the imagination of the general public investor. Now we design business plans to please a handful of narcissistic oligarchs (private international funds and large pharma).
Technology is a part of the cost of medicine (compare an ICU room in 2011 to one from the 1970′s – the difference is almost medieval). The only way to ultimately tackle the technology cost of medicine is to push forward and develop new technology. Sadly, from my perspective in the industry there is no doubt that American efforts in medical innovation are stalled and likely in decline.
This is an excellent, well written piece. Proprietary prescription drugs follow one of two pathways in this country. Eventually the patent runs out and they all become generic. Some fade into obsolescence while others inexplicably hold on. One pathway is the journey to OTC status. Magically, they’re only “safe enough” for OTC sale AFTER the patent has expired. Some examples include ibuprofen, naproxen, cimetidine, ranitidine, omeprazole, loratadine, fexofenadine, etc. Once generic manufacturers can produce generic versions of the “Rx Only” medications, the brand name manufacturer releases their proprietary version OTC and is granted market exclusivity for a period of time to wring all possible profit out of the drug and the brand before generic OTC manufacturers enter the market. The reason these drugs were available as “Rx Only” until the patent expired is because that’s where the money is. The pharmaceutical manufacturers have more latitude in what they charge to a 3rd party payer. Further, insurers pay for Rx drugs but seldom for OTC medications. When these drugs are first released as branded OTC products the price to the consumer is almost always significantly greater than the price to a pharmacy for an “Rx Only” labeled generic version. The reason (i.e. excuse) given for this is that the brand name manufacturer jumped through all the necessary hoops with the FDA to obtain OTC approval and are therefore rewarded with extended market exclusivity. Other drugs (e.g. albuterol inhalers) are remarkably safe yet remain Rx Only largely to protect physicians’ interests. The specious argument offered up is that patients might self medicate symptoms that would indicate a more serious problem to a physician. This is a load of crap. The very same thing can be said of ibuprofen or omeprazole. The regulations are “adjusted” to meet the demands of the various special interests. The big fear is that if albuterol inhalers were to become OTC, insurers might not pay for them anymore. The horror! Patients having to pay for their own medications.
The other path is for the brand name Rx Only product to become a generic Rx Only product. Over time the price really drops. A pharmacist described to me that with their contract pricing, a 30 day supply of some of these drugs cost less than the vial he puts them in. The generic manufacturers base their unit price on volume. Lisinopril just became generic within the last decade or so yet pharmacies go through tons of it so the generic price is cheap. Spironolactone has been generic for over 25 years. It is still an important drug but considerably less is used, therefore it is considerably more expensive.
What annoys me is that the US consumer subsidizes the rest of the world by paying for the R&D for new, proprietary drugs. Generics should cost the same in Canada and Mexico as they do in the US (especially if they’re made in India or Israel). Canada and Mexico (and everybody else) should pay the same for new, innovative, proprietary drugs as well. But this is the reason that all of the UK’s drug concerns have all their research facilities in the US. The US consumer pays for their R&D and then they can sell the drugs back to their NHS at a discount.
Aside from all the protectionism of special interests, questionable regulations, lopsided marketing and inherent unbridled avarice, pharmaceuticals are still provide the most bang for the healthcare dollar. Along with the surgeon and the dentist…the drug actually DOES something for your health.
As a nation, we’re risk adverse, over-regulated and over-lawyered, a bad combination for innovation of any kind, but deadly for medical technology and drug innovation. No small part of the problem is the mind-set that for every bad thing that happens or even might happen, someone somewhere is responsible and consequently must pay. What a strange pass we’ve come to. I hope we can find our way around, over or through it.
Every stifled innovation reduces the number of Boomers on SS/Medicare.
20 years in medical devices and physician’s offices, starting with billing and moving up to contracts and budgeting.
Christensen’s piece resonated clearly and is one of the discussions on why pricing in health care is so high. A discussion no one seems to be willing to say much about in the open media. Very simply, the cost of healthcare in the last twenty years is at least by half the fault of continuing government encroachment into what was once a private industry.
If people understood half of the lobbying that goes on to congress from manufacturers and providers, they might be appalled. This lobbying ranges from demanding price increases to medicare and Medicaid, defending against price cuts and lobbying for the inclusion or exclusion of products, regardless of their real benefit or cost savings.
Just as a for instance, I remember about eight years ago, a new product for delivering oxygen to patients had been developed. Essentially, it was a compressor that could take the common oxygen we breath every day, scrub it and deliver the same quality of oxygen that could be delivered by a tank or a compressor (which is essentially a simple machine that takes regular air and compresses, no scrubbing involved, then delivers it through pressure).
The product even had a portable unit, like a portable compressor. The last was important because many oxygen patients are actually a fairly mobile group, even if it is something as simple as travel to the grocery store or physician or moving around their own homes. They aren’t all tied to their beds.
While the initial cost of the machine was slightly higher than the existing compressor and mobile units, it had a potential for decreasing the over all cost of oxygen therapy because it would eliminate the need for the filling, delivery and storage of many oxygen tanks. Most mobile patients would use a minimum of two to four tanks a day. People in the DME industry were excited about the development because the most costly aspects of the service were delivery and storage.
When looking at the mobile device, that could also stand as a stationary device, the cost of that single item was actually less than both of the devices commonly accepted and provided. So, the cost of service would have decreased, the equipment cost eventually decreased and that would have allowed a lower price to the payer, lower cost to the patient in co-pays, etc.
What happened? Well, first, the manufacturers of the commonly used compressor and tank (mobile) regulators lobbied congress good and hard to protect their place in the market and on the Medicare/Medicaid fee schedule. Companies who provided and filled tanks for hospitals and home patient DME joined in because they, of course, would lose an entire market. A market that was growing, as we all know, because the aging population was growing. There were vast amounts of money at stake.
You can imagine the obscene amounts of money that was floating around, events held, donations to PACs and campaigns. Lots of talking points including the “danger” of putting important providers of nationally “imperative” companies (because, of course, there are other uses for compressed oxygen in tanks, including the military) out of business.
Eventually, congress labeled the device “experimental” (the curse of oblivion for many innovations) and the compressor, tank regulators and tank fillers retained their places on the provider list as the devices of choice, the devices that Medicare/Medicaid would pay for. Of course, what happened next?
Well, DME providers began to lobby for an increase in the monthly fee for oxygen equipment because the “tanks” were not covered separately and the cost had to be made up somewhere. Especially as rising costs in fuel made the frequent delivery of tanks increasingly higher for both the producers as well as the service providers. Let’s not even talk about increasing regulatory demands for patient tests and documentation that increased administrative costs.
Certainly, it was not like the service provider could deliver a month’s supply to these home bound patients. Patients who were at home because it was common sense that the cost was lower than keeping them in hospitals and nursing homes. We’re talking about a month of tanks being from an average minimum of 30 to a maximum of 120 or greater (depending on mobility and prescribed use). There are all sorts of issues with storage from space to safety.
As you might have noticed, the price of fuel has continued to rise and so, then the cost of service and the demand for a higher fee reimbursement.
Where might we find this nifty “experimental” device? It is now sold on television, like a novelty item, marketed under “convenience” for oxygen patients that travel, are highly mobile or who just don’t want to have a big compressor (with the long extension cord) or tanks laying around the house. The people who buy it can afford to because they are not solely bound to the fixed income of social security and paying for medical services by Medicare/medicaid. Those where the benefit and cost savings would be greatest.
Private insurers won’t even touch it because, once it is labeled “experimental” by the federal government, that is where it reins on their fee schedule (due to the incestuous nature of price and coverage fixing between government and private industry).
We could blame these industries for lobbying congress to maintain their place on the approved provider list and fee schedule. How dare they stand in the way of innovation and saving tax payers millions. They could have just faded away gracefully. However, we are talking about money to be had by providing services to an ever growing market, the aging, and the only way to get access to the majority of that market is through government health care systems, on their provider list and fee schedule. This is simply business adopting to the system and every business is about edging out the competition. Even if it means leaving innovation behind.
Please don’t get me started with what is happening to providing services to rural communities or the government’s implementation of non-competitive, competitive bidding in healthcare markets. Suffice it to say that this and many other experiences have convinced me that a government healthcare system and any derivative where it is largely involved in the healthcare market (or any market), is the worst, most costly initiative anyone could have conceived.
Some place else, in some other time, this collusion of business and government to control a market, even to the adversity of the consumer, would have been called corruption, but today it is called “business as usual”.
As a disclaimer, I no longer work in the industry and was never employed by the manufacturer of the aforementioned device. Due to those issues of “consolidation”, I am now one of the “underemployed” who is happy just to get a check to pay the bills. A check that is about to be even smaller when the Obamacare program kicks in and I am forced to purchase the really cr@ppy, over priced insurance (I should know, I worked in the industry)of the small franchise I work for or be penalized by the government or forced to choose a probably even worse public sector insurance. I would rather to do as I do now which is pay for services out of my own pocket. It is one tenth the total cost of just my share of the premium.
I would like to make a plea to congress to repeal this disaster and really get a grip on the real fraud that is currently being perpetrated through government control of healthcare. However, I hold out no hopes because that would be like asking the fox to stop going through the open gate to the chicken house and eating all the chickens.
It is a sad day when stifled innovation can reduce the number of boomers. But much sadder is when it reduces the numbers of the following generation.
Poor health is no respecter of persons and devastating accidents have no favorites in exemption. It can happen to anyone.
Yet the socialist/marxist path the lefties have chosen to walk down will not lead them to health. The policy of enslaving the intellectual brain will bring about the failure of innovation that could save their own lives and the lives of their loved ones. They literally shorten their days on earth in the persuit of an imaginary utopia.
A sobering and insightful analysis. One key question: if medical innovation wanes in the United States, will it shift to other nations?
There’s no incentive so answer is no. Not going to happen.
Innovation is good. How can government promote innovation?
Promoting innovation in medicine is not the the same thing as paying for care. Neither are they unrelated. You can go to Abu Dahbi and check into the plush Cleveland Clinic.
Israel has had socialized medicine. They are also leaders in medical innovation. I think that they have a unique set of circumstances which will not work here.
What we need is an American approach, not a borrowed one. We too are unique.
Shifting resources to medical education and research sounds easy. Yet it is more cultural than that. How to capture the young minds and get them excited. How to make them feel that it is worth trying something new. Words alone are not enough.
There is some role for government there but it is more comprehensive than this narrow focus. Seems like government is always too busy swatting alligators to get back to draining the swamp.
These are all superb points and I agree with them, but what group at a town hall meeting or subcommittee in Congress is going to have the patience to listen to all this, or even understand it, since most people have no knowledge of how the health insurance and medical device industries work
Jim,
Thank you for this really useful, valuable synthesis. I was (and continue to be) profoundly disappointed about how little attention the issue of medical innovation received during the healthcare-reform debate. Thanks for reminding me and others of the continuing importance of focusing attention on the critical issues you have raised. –Tom