Working Paper: NBER ID: w5717
Authors: Fiona Scott Morton
Abstract: In 1990 the Federal Government included a Most Favored Customer (MFC) clause in the contract (OBRA 90) which would govern the prices paid to firms for pharmaceutical products supplied to Medicaid recipients. The firms had to give Medicaid their best (lowest) price in some cases, a percentage below average price in others. Many theoretical models have shown that an MFC rule commits a firm to compete less aggressively in prices. We might expect prices to rise following the implementation of the MFC rule, yet the work done to date on OBRA 90 has found this result somewhat difficult to show empirically. I also conclude that the effects of the law are small and relatively weak; however, the results are strongest where the product's characteristics match the incentives in the law. I find that after the MFC rule was implemented the average price of branded products facing generic competition rose - the median presentation's price rose about 4%. Brands protected by patents did not significantly increase price. Generics in concentrated markets should display a strategic response to the brand's adoption of the MFC. I find support for the strategic effect; generic firms raise their prices more as their markets become more concentrated. I find little change in hospital prices. The results suggest that the MFC rule resulted in higher prices to some non-Medicaid consumers of pharmaceuticals.
Keywords: Medicaid; Pharmaceutical Pricing; Most-Favored Customer Clause
JEL Codes: I18; L11
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Medicaid rebate rules (I18) | average price of branded pharmaceutical products (L65) |
| absence of generic competition (D43) | price response of branded products (L11) |
| pricing behavior of branded competitors (D49) | strategic response of generic firms (L21) |
| MFC clause (Y20) | price competition among branded firms (L11) |
| market concentration (L11) | prices of generic firms (L11) |