Drug Pricing Reform In The Inflation Reduction Act: What Are The Implications? Part 2

The Inflation Reduction Act (IRA), signed by President Biden on August 16, 2022 is the most substantial drug payment and coverage legislation enacted since the Medicare Modernization Act of 2003. The IRA promises to have important consequences, both intended and unintended, across the health care system. Further, the new law gives the Centers for Medicare and Medicaid Services (CMS) considerable discretion to implement a multidimensional “maximum fair price” (“MFP”) for affected drugs at or below the regulated MFP ceiling, putting a substantial burden on CMS to implement a sustainable and predictable price determination framework.

Major features of this legislation have been summarized previously. In this two-part article, we highlight some important consequences that flow from the IRA’s Medicare coverage and drug pricing provisions. In Part 1, we explored likely impacts of the IRA related to drug prices. Here, in Part 2, we explore the IRA’s probable effects on drug rebates, alternative payment arrangements, drug development, and evidence to guide drug use.

What’s Ahead For Drug Pricing, Costs, And Innovation?

Manufacturers likely will take a variety of steps in and out of Medicare to mitigate the impact of the law on their net revenues. As we noted, one important area is likely to be altered pricing and rebating practices in the Medicare and commercial drug markets, especially where the new IRA pricing benchmarks do not account for payer and pharmacy benefit manager (PBM) rebates (i.e., rules based on average manufacturer price [AMP]). In Part 1 of this article, we described some of these changes, focusing on pricing practices; below, we describe likely impacts of the IRA on rebates as well as other potential impacts of the new law.

Impact On Drug Rebates

Much has been written about the prevalent use of manufacturer rebates to plans. Plans use rebates to lower enrollees’ monthly premiums, but rebates also lead to higher out-of-pocket costs for those beneficiaries using the drugs, as rebates are generally not passed on to beneficiaries at the point of sale (i.e., patients generally pay coinsurance based on the list price, not the net price). With the complex incentives inherent in Part D’s pre-IRA benefit structure and plan financial responsibility, PBMs and plans could favor higher-cost drugs with rebates over cheaper but equally effective alternatives in certain circumstances.

The IRA does not directly address the use of drug rebates. In fact, it further delays the never-implemented Trump administration’s “rebate rule” that sought to assist beneficiaries with high drug costs by essentially requiring rebates to be passed on to them at the point of sale. While that rule was expected to reduce out-of-pocket costs substantially for beneficiaries who used highly-rebated drugs, it also had other major expected consequences, including raising net drug prices and premiums for all Part D enrollees. The IRA achieves a significant part of its “scored” Medicare savings by delaying the rebate rule’s potential implementation to 2032, delayed from the prior legislation start date of 2027 that similarly used a temporary delay to offset the costs of new spending programs.

Nonetheless, as we have described, the IRA will likely affect rebates. First, the redesigned Part D benefit puts new pressure on plans and manufacturers to limit their greater financial responsibilities in the catastrophic phase of the benefit, at least in part through lower list prices. Second, especially if AMPs can be differentiated between commercial and Medicare plans, the law’s inflation penalty provisions likely will have a restraining effect on manufacturers’ willingness to offer contracts with large list price increases and large rebate increases to Medicare PBMs and drug plans. Third, as we also noted, when the MFP takes effect for a Part D drug, manufacturers will have further incentives to reduce rebates to maintain their net prices. Fourth, if Medicare’s selection of Part D drugs for negotiation is based on gross rather than net Part D spending (this appears subject to government discretion), it will add more pressure on list prices, further limiting Part D rebates. We believe that all these reasons, especially the new pressures created by the redesign of the Part D benefit, will tend to offset the preference manufacturers might otherwise have to increase AMP and rebates in Part D to raise the MFP ceiling. (Such countervailing pressures will not exist for Part B drugs, where manufacturers face new financial pressures to raise the non-FAMP for both commercial and Medicare sales, especially as inflation penalties will be calculated based on ASP (net) and not “list” price increases.)

Finally, we note that there may be some converse pressures for higher list prices and larger rebates resulting from the 6 percent year-to-year limit on Part D premium growth through 2029.

Impact On Alternative Payment Models For Drugs

While far from widespread, alternative payment models for drugs have been proposed and implemented as another mechanism for increasing the population health impact and value of pharmaceuticals. These models have sometimes included payments linked to uptake and impact on utilization and outcomes.

Medicaid Best Price has been cited often as one of the key obstacles for manufacturers to enter into value-based payment (VBP) arrangements with payers because providing a substantial rebate to a single commercial payer could require them to extend the same rebate to the entire Medicaid program. Recently finalized policy changes created Medicaid Best Price flexibilities to address these concerns and protect drug VBP arrangements. Similar concerns may be raised in the context of VBP and the impact on Medicare MFPs created by the IRA. However, we expect less disruption for VBP arrangements from the IRA requirements. Unlike Medicaid Best Price, where a bad result for a single patient in a single contract could potentially reset Best Price for the entire Medicaid market, the prices leveraged in the IRA (such as non-FAMP and ASP) are weighted averages that will be less influenced by low payments in alternative payment models, so long as such arrangements remain a relatively small part of the market. Moreover, because non-FAMP and AMP do not include payer and PBM rebates, manufacturers and private payers can implement alternative payment models that rely on adjusting performance rebates without affecting MFP determinations based on these prices.

At the same time, limiting the use of such outcome-based payments for drugs is not fully aligned with CMS’s strategic priority of shifting to payment models that encourage better outcomes and lower total costs. Reducing the unit price of drugs to improve access is an important policy goal, but the key CMS strategic priority is to improve population outcomes and equity while limiting total costs of care—not just drug costs.

Indeed, higher drug utilization and drug spending can support the goal of lowering total costs of care through improving drug access. To this end, “subscription models” that pay for drugs on a population and not per-unit basis would be better aligned with the complementary shifts in payments to health care organizations on a risk-adjusted, per-person basis. If the payment amounts are further linked to population outcomes (e.g., lower disease complication rates leading to lower total costs of care) as is the case for a growing share of health care providers, these payment incentives have the potential to encourage manufacturers further to collaborate with providers to expand access to drugs in ways that significantly benefit patients as well as payers.

For example, consider a drug pricing arrangement that involves a low net price linked to steps by manufacturers (e.g., outreach to particular patients who could most benefit from screening and drug treatment) and by plans (e.g., less or no utilization review) and that provides for additional payments to the manufacturer (i.e., higher net price of a drug) when costly complications and non-drug spending for these patients decline. Such a contract could add to manufacturer inflation penalties if widespread enough, even though it lowers total medical costs.

To provide a path to align drug payments with the broader adoption of population-focused Medicare payment reforms, Medicare could implement a pilot program that exempts a drug payment contract from influencing inflation penalties or MFP if it is expected to lead to significantly lower total costs of care in conjunction with much higher drug utilization and larger outcome-based revenues. Medicare, thus, could leverage its new negotiating authority to get more manufacturer engagement in achieving not just more sales but actual improvements in drug access, appropriate utilization, and the resulting outcomes for affected patients. In the absence of a regulatory safe harbor for such arrangements that lower total spending, manufacturers could be deterred from implementing alternative purchasing arrangements with payers and providers who are accountable for total costs of care, despite the alignment of these reforms with overall CMS payment reform goals.

Impact On Drug Development And Evidence

The impact of the IRA on drug innovation has spurred several estimates, mainly focusing on the number of new drugs likely to come to market. But what matters more than the number of drugs is the impact on patient outcomes of drugs that reach the market. Some commenters have noted a range of potential impacts on investments in drug development, such as a shift toward developing drugs more likely to be prescribed to commercially-insured populations, and toward biologics because small-molecule drugs will be subject to MFPs sooner. As we have noted, further CMS clarity and predictability around the implementation of price negotiation could help avoid any adverse effects on investment due to uncertainty, and help avoid any unintended consequences for drug development.

In this section, we consider the law’s potential impacts on the use of real-world evidence (RWE) to inform how to use drugs effectively once they are on the market. We also explore potential impacts of the IRA on competitor markets (primary biosimilars), alongside positive impacts on innovation from the law’s expanded coverage and increased affordability of many drugs.

Postmarket Evidence To Improve Drug Use

Postmarket clinical trials have led to important evidence on additional or refined uses of many products, and real-world studies that could extend a drug’s labeled, evidence-based indications for use have been growing in importance in recent years. Consequently, there are concerns that the IRA’s negotiation provisions could reduce postmarket label expansion studies that lead to greater benefits and more value from a drug. This IRA provision may be most challenging for small-molecule drugs, where negotiations could start within seven years of approval with MFP implementation at nine years. Many drugs have had important indications added long enough after initial marketing, often five to six years after approval, or later.  The potential to learn more about drugs after they are on the market will be even greater in the future, with increasing use of richer digitized and interoperable data, and progress in such areas as precision medicine, postmarket trial platforms, and statistical methods using increasingly rich data.

The IRA gives the Secretary the discretion to renegotiate the drug’s MFP if the drug is approved for an additional indication. But without clarity about how additional evidence generation would affect the MFP years before the MFP takes effect—for example, would the MFP rise, or would it be possible to implement a differentiated MFP for the additional indication?—uncertainty about the impact of RWE may lead to reduced investment in postmarket evidence.

Further work by the Food and Drug Administration (FDA) and other health care stakeholders to clarify faster paths and additional opportunities for timely RWE studies—an area of considerable FDA activity and bipartisan Congressional interest—could further encourage product developers to front-load such studies and obtain results faster and more efficiently. CMS should support these activities, particularly in areas of postmarket evidence development highly relevant to Medicare and Medicaid beneficiaries.

Competitor Products

The IRA’s negotiation provisions seem particularly concerning for follow-on competitors, especially biosimilars. Evidence from biosimilar entry under current laws and regulations suggests that biosimilars have little chance of earning substantial revenues before the originator’s MFP takes effect, 13 years after FDA approval. This long timeframe is due to the long development time for biosimilars in the US—up to 10 years under current regulatory standards, which typically require substantial clinical trials to demonstrate biosimilarity—and because various patents for the reference product are often still in effect at this point. Given the typical length of the biosimilar development process, biosimilar companies will not know whether the biologic that they plan to reference will be selected for negotiation by HHS, or what the MFP will be, when they need to make critical investment decisions to develop a biosimilar. This substantial uncertainty is likely to reduce biosimilar investment and entry.

The law provides a limited negotiation exception for biologics and biosimilars. But the HHS authority to delay price negotiation for up to two years for a biologic depends on a “high likelihood” of a biosimilar entering the market. What constitutes “high likelihood” should be clarified quickly in further guidance or rulemaking. But even so, it seems likely that ambiguity and lack of predictability could deter investments. Moreover, the biosimilar entry exemption is only available to originator biologics that have been on the market for 12-16 years (the “extended monopoly” category) and not for products in the “long monopoly” category after that time. Some originator patents can extend beyond 16 years, so biosimilars to those originators may not be able to use the negotiation delay to enter the market.

Many supporters of the law have noted that biologic markets could experience larger (and earlier) price reductions through the law’s MFP provisions, instead of relying on price competition from biosimilars. But this approach could have a negative impact on the biosimilar market more generally, including on potential biosimilars to originator biologics ultimately not selected for negotiations, thus encouraging monopoly pricing and contributing to potential lost savings and access opportunities.

In conjunction with administrative guidance to provide much more clarity for biosimilar investment, the Administration and Congress could address this issue by implementing other policy reforms to enable less costly and more straightforward biosimilar entry, supporting a more vibrant biosimilar market, like the markets that are developing in Europe and elsewhere.

Potential For Long-Term Originator Company Strongholds

Using the combination of the new law and current requirements for biosimilar marketing, an originator company may be able to establish a long-term stronghold against competition.

As we noted, manufacturers that bring new biologic products to market often benefit from a patent exclusivity period that is effectively longer under current law than the time to implementation of the MFP. The originator biologic manufacturer could make it clear they intend to remain in the market after the MFP takes effect, likely deterring biosimilar entry. In conjunction with this step, the manufacturer could use its greater expertise in the product area to introduce an “improved” version of the biologic soon after the 13-year point—for example, a longer-duration product, or other incremental improvement via a similar (but not biosimilar) molecule. This new product entry would start a new 13-year “clock” before the MFP for the similar product takes effect. Part B reimbursement rules, which tie reimbursement not to a competitive or value-based price but to the average net price set by the (monopoly) manufacturer, would then support another 13 years at a high price, compounded by the deterred biosimilar competition. This outcome would be the opposite of the intended effect of the law.

Generic entry for small-molecule drugs is much easier, and robust generic competition in larger markets can reduce prices far below the effects of the IRA’s MFP. But the shorter timeline—often with patents for the branded product still in force at nine years or beyond—also shifts the competitive balance in favor of incumbent manufacturers. They too can establish a long-term stronghold by investing in bringing an alternative version of an existing drug to market, so long as they can restrict generic competition for the first nine years. Part D plans still will encourage generic entry through formulary placement and benefit design. But for drugs with relatively small markets, this strategy could at least incrementally reduce effective generic competition and raise prices.

Under these “stronghold” scenarios, the number of new biologics and drugs introduced may not decline, but actually rise. However, the impact of those “me too” drugs for both price competition and health outcomes will not be as favorable.

More Comprehensive Coverage Will Promote Innovation

As we noted, the most far-reaching reforms in the law related to medical product innovation involve the expansion of the Medicare Part D benefit to provide more comprehensive coverage to Part D enrollees. The more generous coverage will increase demand for pharmaceuticals, and the higher Part D plan financial liability will increase pressure to limit total and out-of-pocket drug costs. These changes should enhance incentives for developing drugs that address the unmet and complex needs of Medicare beneficiaries, since manufacturers will have more negotiating leverage for drugs that address truly unmet needs than for “me-too” products where plans can more easily leverage lower prices.   

Similarly, the IRA provision that requires Medicare Part D plans to cover vaccines with no cost sharing, even if the beneficiary is in the deductible phase of the benefit, is likely to increase uptake of most vaccines that can be administered in pharmacies. Finally, the $35 enrollee spending caps on insulin will significantly lower out-of-pocket costs for the many Medicare beneficiaries who use these drugs, even if it leads to incremental increases in premiums.

Summing Up

The IRA’s provisions bring more comprehensive coverage to Medicare’s drug benefit, as well as new government tools that will reduce some drug prices in Medicare. While leading to lower drug costs for many Medicare beneficiaries as well as Medicare savings, these provisions also will likely result in some unintended effects, potentially including higher launch prices for new drugs, list and other pricing adjustments in commercial and Medicare markets that offset the law’s intended impact on net prices, some adverse impacts on potential competitor products, and incremental adverse shifts in evidence development and innovative product development. Further administrative actions could significantly mitigate any undesired effects, or aggravate them, in an already complex US drug pricing system. A timely process for public input on how the MFP for a drug will be determined, like “notice and comment” rulemaking even if not required in advance for many of the law’s negotiation provisions, would help assure effective and sustainable implementation. The IRA’s Medicare Part D modernization has the potential to improve affordability and access for current and future seniors with unmet needs, providing important new financial support for the development of innovative drugs.

Authors’ Note

The authors thank Dr. Steve Miller, Dr. Fiona Scott Morton, and Dr. Marianne Hamilton Lopez for their helpful comments. Mark McClellan MD PhD is an independent director on the boards of Alignment Healthcare, Cigna, Johnson & Johnson, and PrognomIQ; co-chairs the Guiding Committee for the Health Care Payment Learning and Action Network; and receives fees for serving as an advisor for Arsenal Capital Partners, Blackstone Life Sciences, and MITRE. The views expressed are those of the authors alone.