100 Hours of Bad Economics

Rep. Pelosi has won an apparent Speakership -- fair and square, mind you -- based on "the first 100 hours." A nice play on the Contractor With America in '94, Pelosi promised 100 hours of bad economics and rode it to victory.

I'll not belabor the bad economics of increasing the minimum wage. Thomas Sowell owns that one lock, stock and barrel. He has shown it is ineffective, rife with unintended consequences, and racist in nature as it removes a new minority's ability to break into a labor market with advantageous pricing.

The next snap of the gavel will be to "fix Medicare" by allowing the government to negotiate drug prices with pharmaceutical companies. "Use their bargaining power like Wal*Mart," claim the Democrats. Trouble is, Wal*Mart has market power but not coercive power. Like the minimum wage, this plan is both unfair and rife with unintended consequences.

Stanford Professor Emeritus Alain Enthoven and grad student Kyna Fong. point out the difficulties in a guest editorial in the WSJ today.

In fact, the government negotiating on behalf of Medicare beneficiaries may lead to some unintended adverse consequences. Since direct-to-consumer advertising is legal in the U.S., there is nothing preventing pharmaceutical companies from funding a torrent of advertisements for the "latest and greatest" drug, thereby creating a strong demand within the Medicare population for coverage of the drug. How firm can the government stand when negotiating for a drug being clamored for? This is not the sort of bargaining power that will lead to lower prices.

Secondly, by acting as one large buyer, the government will cause price discounts to become more expensive for pharmaceutical companies. In other words, the minimum price that the pharmaceutical company is able to accept increases. All else equal, this will lead to higher, not lower, prices. When private drug plans are negotiating individually with pharmaceutical companies, those companies have the power to "price discriminate," meaning they can charge lower prices to some drug plans and higher prices to others. This ability allows for large discounts. If Pfizer is able to give a deep discount to Kaiser without giving a similar discount to United, then it is less costly for Pfizer to give Kaiser that discount. If, however, Pfizer can give a deep discount to Kaiser only if the same discount is granted to all other Medicare drug plans, then the discount becomes very expensive.

Some may pay attention to the fact that it might backfire and raise drug prices for everybody, I was more interested in their closing point:

Finally, there is the familiar economic argument that the market-determined price is the only fair price. How can the government determine what price is "fair," what price appropriately reimburses pharmaceutical companies for all their research and development efforts? How can the government determine what prices will encourage the right levels of future innovation? The government negotiating prices only leaves room for additional gains through political lobbying and campaigning, activities at which pharmaceutical companies have proven themselves rather adept.

No wonder pharma stock prices are tumbling. Hope you don't get sick, kids, the government’s taking over.

110th Congress Posted by jk at November 13, 2006 10:06 AM