Newer Drugs Cut Health Care Costs

Reducing the mean age of drugs used to treat a given condition from 15 years to 5.5 years will increase prescription drug spending per medical condition by $18 for the entire population, but will lower other medical spending by $129.

Newer prescription drugs may be more costly than the drugs they replace, but a reduction in the age of drugs - defined as the years since approval by the U.S. Food and Drug Administration - decreases other expenditures for the entire population by more than 7 times as much as it increases health expenditures. Moreover, in Benefits and Costs of Newer Drugs: An Update (NBER Working Paper No. 8996), NBER Research Associate Frank Lichtenberg finds that people who take the new drugs are significantly less likely to die by the end of the period under study because the newer drugs are more effective. They drugs may obviate or reduce the need for costly hospitalization, institutionalization, or surgery.

Using data on expenditures of those Americans receiving Medicare benefits, Lichtenberg calculates that a reduction in the age of drugs used reduces non-drug healthcare spending by all payers (that is Medicare and various forms of Medicare supplemental insurance, Medicaid for dually eligible individuals, and Medicare beneficiaries' out-of-pocket payments) by more than 8 times as much as it boosts drug expenditures. It reduces the Medicare non-drug costs alone by 6 times as much as it increases spending on drugs.

Lichtenberg estimates that reducing the mean age of drugs used to treat a given condition from 15 years to 5.5 years will increase prescription drug spending per medical condition by $18 for the entire population, but will lower other medical spending by $129. That yields a $111 net reduction in total health spending per medical condition. Most of the savings are attributable to reductions in hospital expenditures ($80 or 62 percent) and in physician office-visit expenditures ($24). Other smaller savings occur in home health care ($12), outpatient visits ($10), and emergency room visits.

For the Medicare population, average medical expenditure per condition is 57 percent higher ($1,286 versus $817) than for the entire population. Thus the savings from newer drugs are also somewhat higher. The total prescription drug expenditure per medical condition will increase by about $21,but the reduction in total non-drug spending per condition falls $176, yielding a $155 net reduction. Hospital cost reduction accounts for 58 percent of the savings ($102). Home health care is trimmed $37, and office visits $34.

Lichtenberg also finds that the mean age of drugs used by Medicare enrollees with private prescription insurance is about 9 percent lower than the mean age of drugs used by Medicare enrollees without either private or public prescription insurance.

-- David R. Francis