The soaring costs of prescription drugs is one of the issues this election year. One of the proposed solutions is to import drugs from Canada which a few states have done despite a federal law against it. The federal government keeps refusing to officially allow the practice citing “safety” concerns. But people seem to want drugs imported from Canada because they are cheaper since the Canadian government sets the price. Cheap medicine from Canada sounds attractive to the American consumer, but it doesn't get to the root of the problem that the federal government isn't bold enough to state.
The root of the problem is Canada. Canada has socialized medicine as do most of the countries in Europe. Canada dictates the price that a certain drug will be sold at resulting in prices that are lower than in the United States. By setting a drugs price, Canada indirectly raises the price that Americans have to pay.
This can be proved with a little thought experiment. The thought experiment consists of a pharmaceutical company, Billy & Co., that has developed a new drug called CureAll, and a market of twenty people who will be taking the drug while CureAll's patent is still valid. Before we delve into the details of the experiment, some background on the business model of a pharmaceutical company is needed.
Pharmaceutical companies spend years developing a new drug. As they develop a new drug they seek patents on any novel chemicals they make during development, any processes used to make the drug, as well as the drug itself. They seek patents so they can protect their investment in the new drug and to make a return without having to worry about any competition. That means they have to pay for the development, the costs to bring the drug to market, and make a profit. In the US, companies have seven years from the time the patent is granted until it expires to pay for the all those costs.
For the thought experiment, the patent will expire in five years. The hypothetical drug, CureAll, cost Billy & Co. $200,000 to develop. That is the minimum amount of money they need to recoup the cost of development. Billy & Co. will also want to make a profit along with paying for manufacturing and distribution costs. Billy & Co. estimate that it'll cost $300,000 more to manufacture and distribute the drug to their market of twenty people while the patent is valid. To pay for CureAll, Billy & Co. need to make $500,000 from the twenty people.
In a capitalistic world, this cost would ideally be distributed evenly over all twenty people over the five year period that the patent is valid. So each person will end up paying $5000 per year for CureAll. That will pay for the complete costs of developing, manufacturing, and distributing CureAll to the twenty people before the patent expires.
In a socialistic country like Canada, Billy & Co. are forced to charge each person no more than $1500 per year for CureAll. Obviously if all twenty people paid that price Billy & Co. would not be able to pay for all the costs that were incurred to produce CureAll before the patent expires. So how does a company make up the difference? The difference is made up by charging the people who live in the country without price controls more.
Here's how it works out: If we divide the market in the thought experiment into two halves, one in the US and the other in Canada we can determine what Billy & Co. will have to charge. So if the ten Canadians only have to pay $1500 per year for CureAll, Billy & Co. will only make $75,000 selling to the Canadians before the patent expires. $500,000 minus $75,000 leaves $425,000 that needs to be charged to the ten Americans. Dividing that out, each American will have to pay $8500 per year for CureAll just so Billy & Co. can break even. That's an additional $3500 per year for each American! All thanks to the Canadians.
Does the above thought experiment match reality? Everything but the numbers. To make it match reality you would only need to start out with larger populations, larger costs, and a longer amount of time before a patent expires. The business model behind it is accurate, because drug companies do make use of patents to have a monopoly for a limited amount of time, and the price that they set during that time period is set to pay for the costs of bringing the drug to market.
No matter how much a new drug costs to develop and produce, a new medicine will always cost more in the country with the freer economy than in the country that dictates the medicine's price. The higher price isn't due to corporate greed—unless breaking even is considered greedy in your book. They are due to one government having price controls while the other does not.
The conclusion that can be drawn from the thought experiment is that Canada is the cause of our high drug prices. Our prices are high because of the price controls that Canada imposes on drugs causing drug companies to charge the American consumer more. If we allow the importation of drugs from Canada we implicitly accept the price that they dictated for the drug leaving our pharmaceutical companies high and dry.
If the pharmaceutical industry is left high and dry they would not be able to pay for the cost to develop new drugs. If they can't pay to develop a new drug, the new drug will not get developed. The pharmaceutical industry would stagnate, and so would any industries that serve the pharmaceutical companies—unionized or not.
That would be the result from allowing drugs to be imported from Canada. The better solution would be to force Canada and any other socialist countries to remove their price controls on medicines, and let the companies decide on the price that they will charge for the drugs they sell. That'll raise prices in the other countries, but prices would lower here in the US. Which is what we want—to lower the cost of drugs for Americans.