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President Obama and most congressional Democrats say a public plan would be a superior negotiator of the prices of medical services and technology. It's true that relatively small European nations routinely obtain better drug prices than are achieved by mammoth American pharmacy benefit managers like Express Scripts (50 million patients) and Medco (60 million patients). Even New Zealand (pop. four million) gets better prices than negotiators in the American private market.
Their success is due to what economists call monopsony power. Monopsony occurs when a single buyer negotiates prices with several competing sellers.
For example, the various sellers of cholesterol drugs (Lipitor, Crestor, and so on) have to compete with one another while they all face a single government negotiator. If one seller balks at government prices, it leaves competitors to pick up more sales. This uneven battle ensures that negotiated prices will be well below those in a competitive market.
But here is where the huge risks of creating a "public plan" to compete with private insurance firms come into focus.
The United States is unique because it alone is the source of half of worldwide profits that provide the payoff for the lengthy and expensive process of developing new treatments. Competitive markets have generated the profits necessary to induce a steady flow of medical innovation in this country. A public-plan option would tend to dismantle that system. The people in charge will not know how to set reimbursement levels to motivate reasonable R&D efforts, and there is no reason to expect them to try.
Who knows what drugs will not be developed if reimbursement levels are too measly? In virtually every advanced economy but our own, pricing authorities simply make sure prices are high enough so that existing drugs continue to be made available. We can expect a public plan here to do the same. The inevitable result will be to undermine incentives to develop more of the immensely valuable medical technology that is central to all of health care.
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