Federal Drug Prices: Effects of Opening the Pharmaceutical Schedule Are
Uncertain (Testimony, 07/10/97, GAO/T-HEHS-97-171).

GAO discussed its recent report on the potential implications for the
Department of Veterans Affairs (VA) and other government purchasers of
opening the federal supply schedule (FSS) for pharmaceuticals to state
and local governments, focusing on the factors that could affect
schedule price negotiations between VA and drug manufacturers if the
pharmaceutical schedule was opened, as well as the opening's potential
effects on the schedule prices that would be available to federal,
state, and local government purchasers.

GAO noted that: (1) the effects of opening the pharmaceutical schedule
on schedule prices ultimately depend on the outcome of negotiations
between VA and drug manufacturers; (2) because of many uncertainties
related to these negotiations, it is not possible to predict how the
schedule's prices would change or what the ultimate impact on VA and
other government purchasers would be; (3) although many factors would
influence the negotiations between VA and drug manufacturers, two
primary ones are VA's negotiating ability and manufacturers' pricing
strategies; (4) both of these factors would be influenced by the size of
the market represented by combined federal, state, and local purchasers
that would have access to schedule prices; (5) the larger the market,
the greater the economic incentive would be for a manufacturer to raise
schedule prices to limit the impact of giving low prices to more
purchasers; (6) at present, federal purchases from the schedule
represent about 1.5 percent of the total dollar value of domestic
pharmaceutical sales; (7) estimates of the size of a combined federal,
state, and local market, however, vary widely because of uncertainty
about which state and local entities would be eligible for schedule
prices; (8) if eligibility is not narrowed, VA, the Pharmaceutical
Research and Manufacturers of America (PhRMA), drug manufacturers, and
the Public Hospital Pharmacy Coalition agree that the size of the
combined market could be significantly larger than the current federal
market; (9) although the Coalition estimates that limiting eligibility
as it suggests could keep state and local purchases from the schedule at
between 0.5 and 4.4 percent of domestic pharmaceutical sales, this would
result in a combined market about 33 to 300 percent larger than the
federal market; (10) federal efforts to lower Medicaid drug prices
suggest how opening the schedule could put upward pressure on schedule
prices; (11) in 1990, the Congress required drug manufacturers to give
state Medicaid programs rebates for outpatient drugs based on the lowest
prices they charged other purchasers; (12) because of the size of the
Medicaid market, however, many drug manufacturers sought to minimize the
impact of the rebates on their business by raising outpatient drug
prices to some private sector purchasers; and (13) if the pharmaceutical
schedule was opened to state and local governments and drug manufacture*

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  T-HEHS-97-171
     TITLE:  Federal Drug Prices: Effects of Opening the Pharmaceutical 
             Schedule Are Uncertain
      DATE:  07/10/97
   SUBJECT:  Drugs
             Price regulation
             Pharmaceutical industry
             State governments
             Local governments
             Health care programs
             State and local procurement
             Cooperative agreements
IDENTIFIER:  Federal Supply Schedule
             Medicaid Program
             
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Cover
================================================================ COVER


Before the Subcommittee on Health, Committee on Veterans' Affairs,
House of Representatives

For Release on Delivery
Expected at 9:30 a.m.
Thursday, July 10, 1997

FEDERAL DRUG PRICES - EFFECTS OF
OPENING THE PHARMACEUTICAL
SCHEDULE ARE UNCERTAIN

Statement of Bernice Steinhardt, Director
Health Services Quality and Public Health Issues
Health, Education, and Human Services Division

GAO/T-HEHS-97-171

GAO/HEHS-97-171T


(108338)


Abbreviations
=============================================================== ABBREV

  VA - ABC
  DOD - ABC
  FCP - ABC
  FSS - ABC
  GSA - ABC
  HIGPA - ABC
  PhRMA - ABC
  CBO - ABC

FEDERAL DRUG PRICES:  EFFECTS OF
OPENING THE PHARMACEUTICAL
SCHEDULE ARE UNCERTAIN
============================================================ Chapter 0

Mr.  Chairman and Members of the Subcommittee: 

We are pleased to be here today to discuss our recent report on the
potential implications for the Department of Veterans Affairs (VA)
and other government purchasers of opening the federal supply
schedule (FSS) for pharmaceuticals to state and local governments.\1
During fiscal year 1996, the federal government purchased almost $1.3
billion worth of pharmaceuticals from this catalog of drug prices. 
As you know, schedule prices are often substantially lower than
retail prices and are available primarily to federal purchasers.  VA
used this schedule to purchase about $922 million in
pharmaceuticals--about 71 percent of the government's total purchases
from the schedule. 

In 1994, the Congress authorized the General Services Administration
(GSA) to administer a cooperative purchasing program that would allow
state, local, and Indian tribal governments, as well as the
Commonwealth of Puerto Rico, to purchase pharmaceuticals and other
goods and services from federal supply schedules.\2 VA, to which GSA
has delegated administration of the pharmaceutical schedule,
expressed concern that prices on the schedule could increase if it
was opened to a larger group of purchasers.  As a result, GSA
proposed that the pharmaceutical schedule be excluded from the
cooperative purchasing program because GSA did not plan to open any
schedule to nonfederal entities if higher schedule prices would
result. 

Because of concerns about the potential effects of opening more than
140 federal supply schedules, the Congress directed GSA to delay
opening any schedule pending completion of our assessment of the
potential impact.\3 GSA is currently developing its final
implementation plan for opening the schedules. 

Today I would like to discuss the factors that could affect schedule
price negotiations between VA and drug manufacturers if the
pharmaceutical schedule was opened, as well as the opening's
potential effects on the schedule prices that would be available to
federal, state, and local government purchasers. 

To assess the potential impact of opening the schedule, we contacted
VA, other federal agencies, and the Congressional Budget Office
(CBO).  We also contacted the Public Hospital Pharmacy Coalition,\4
the Health Industry Group Purchasing Association (HIGPA),\5 the
National Association of Chain Drug Stores, the Pharmaceutical
Research and Manufacturers of America (PhRMA), and several drug
manufacturers.\6 In addition, we analyzed schedule prices and
reviewed assessments made by VA, HIGPA, and the Coalition concerning
how opening the schedule could affect schedule and other drug prices. 

In summary, the effects of opening the pharmaceutical schedule on
schedule prices ultimately depend on the outcome of negotiations
between VA and drug manufacturers.  Because of many uncertainties
related to these negotiations, it is not possible to predict how the
schedule's prices would change or what the ultimate impact on VA and
other government purchasers would be. 

Although many factors would influence the negotiations between VA and
drug manufacturers, two primary ones are VA's negotiating ability and
manufacturers' pricing strategies.  Both of these factors would be
influenced by the size of the market represented by combined federal,
state, and local purchasers that would have access to schedule
prices.  Moreover, the size of this market could affect the size of
any resulting price changes.  The larger the market, the greater the
economic incentive would be for a manufacturer to raise schedule
prices to limit the impact of giving low prices to more purchasers. 

At present, federal purchases from the schedule represent about 1.5
percent of the total dollar value of domestic pharmaceutical sales. 
Estimates of the size of a combined federal, state, and local market,
however, vary widely because of uncertainty about which state and
local entities would be eligible for schedule prices.  If eligibility
is not narrowed, VA, PhRMA, drug manufacturers, and the Public
Hospital Pharmacy Coalition agree that the size of the combined
market could be significantly larger than the current federal market. 
Although the Coalition estimates that limiting eligibility as it
suggests could keep state and local purchases from the schedule at
between 0.5 and 4.4 percent of domestic pharmaceutical sales, this
would result in a combined market about 33 to 300 percent larger than
the federal market. 

Federal efforts to lower Medicaid drug prices suggest how opening the
schedule could put upward pressure on schedule prices.  In 1990, the
Congress required drug manufacturers to give state Medicaid programs
rebates for outpatient drugs based on the lowest prices they charged
other purchasers.  Because of the size of the Medicaid market,
however, many drug manufacturers sought to minimize the impact of the
rebates on their business by raising outpatient drug prices to some
private sector purchasers. 

If the pharmaceutical schedule was opened to state and local
governments and drug manufacturers succeeded in raising their
schedule prices in response, the impact on different government
purchasers would vary.  VA, along with the Department of Defense
(DOD), the Public Health Service, and the Coast Guard, would be
somewhat protected from price increases because the Veterans Health
Care Act of 1992\7 sets maximum prices for these agencies for over
one-quarter of the drugs on the schedule.  Other federal purchasers
would not have that protection.  State and local government
purchasers, meanwhile, would benefit to the extent that schedule
prices were lower than the prices they or their representatives could
negotiate with drug manufacturers. 


--------------------
\1 Drug Prices:  Effects of Opening Federal Supply Schedule for
Pharmaceuticals Are Uncertain (GAO/HEHS-97-60, June 11, 1997). 

\2 See the Federal Acquisition Streamlining Act of 1994, P.L. 
103-355, sec.  1555 (1994). 

\3 See the National Defense Authorization Act for Fiscal Year 1996,
P.L.  104-106, sec.  4309 (1996) and accompanying conference report,
H.R.  Conf.  Rep.  No.  104-450, at 970 (1996).  The implications of
opening other schedules are discussed in Cooperative Purchasing: 
Effects Are Likely to Vary Among Governments and Businesses
(GAO/GGD-97-33, Feb.  10, 1997). 

\4 The Coalition represents 70 public hospitals that are owned or
controlled by state and local governments and serve a
disproportionate share of Medicaid and indigent patients. 

\5 HIGPA is a national trade association that represents 84
organizations and vendors that purchase pharmaceutical and other
medical products. 

\6 The manufacturers we contacted were Eli Lilly and Company; Johnson
& Johnson; Merck & Co., Inc.; Pfizer Inc.; and SmithKline Beecham
Corporation. 

\7 See P.L.  102-585, sec.  603. 


   BACKGROUND
---------------------------------------------------------- Chapter 0:1

The FSS for pharmaceuticals currently contains almost 23,000 products
available to federal agencies and institutions and several other
purchasers.  The purpose of the pharmaceutical schedule, like other
supply schedules, is to provide eligible entities an efficient and
economical option for purchasing.  These entities can purchase
pharmaceuticals, however, through other methods.  For example,
although VA depends on the FSS for most of its drug purchases, VA has
awarded several national contracts on a competitive basis for
specific drugs it considered to be therapeutically interchangeable. 

Under the Veterans Health Care Act of 1992, drug manufacturers must
make their brand-name drugs available through the FSS in order to
receive reimbursement for drugs covered by Medicaid.\8 The act also
requires drug manufacturers to sell drugs covered by the act to four
agencies--VA, DOD, the Public Health Service, and the Coast Guard--at
no more than 76 percent of the nonfederal average manufacturer's
price,\9 a level referred to as the "federal ceiling price" (FCP).  A
drug's FSS price may be higher or lower than its FCP.  If it is
higher, the protected purchasers pay no more than the FCP. 

GSA published in the Federal Register on April 7, 1995, its initial
proposed plan for opening the federal supply schedules to state and
local governments.  The plan proposed excluding from cooperative
purchasing the schedule for drugs and pharmaceutical products and one
medical equipment and supplies schedule\10 because GSA concluded that
opening them would have the unintended effect of increasing costs to
federal users of the schedules.  The plan also proposed that
participation in the cooperative purchasing program be optional for
sellers and purchasers. 


--------------------
\8 See P.L.  102-585, sec.  603.  The act does not cover generic
drugs. 

\9 The nonfederal average manufacturer price is the weighted average
price of each single form and dosage unit of a drug that is paid by
wholesalers in the United States to a manufacturer, taking into
account any cash discounts or similar price reductions.  Prices paid
by the federal government are excluded from this calculation. 

\10 VA contended that some items on this schedule, which includes in
vitro diagnostic substances, reagents, test kits, and sets, could
also increase in price if it was opened.  The implications of opening
this schedule are covered in GAO/GGD-97-33, Feb.  10, 1997. 


   IMPACT OF OPENING THE FSS
   DEPENDS LARGELY ON PRICE
   NEGOTIATIONS
---------------------------------------------------------- Chapter 0:2

Price negotiations between VA and drug manufacturers will ultimately
determine the extent to which opening the pharmaceutical FSS affects
the schedule drug prices available to federal, state, and local
governments.  Opening the schedule could change the dynamics of
negotiating FSS prices for both VA and drug manufacturers.  Up to
now, VA has been able to obtain significant discounts from drug
manufacturers by seeking the most-favored customer price.  This price
represents the same discount off a drug's list price that the
manufacturer offers its most-favored nonfederal customer under
comparable terms and conditions, such as length of contract periods
and ordering and delivery practices.  Many FSS prices are more than
50 percent below nonfederal average manufacturer prices.\11

Representatives of several drug manufacturers explained that their
companies have been willing to negotiate low FSS prices because they
consider the FSS to be a special, limited category of pricing. 
Representatives of two manufacturers specifically noted that their
companies agreed to such prices to help ensure that their drugs were
widely used in VA hospitals, where many of the nation's physicians
receive part of their training.  Some drug manufacturers have
indicated an unwillingness, however, to continue to offer such low
prices if the FSS is opened to a larger group of purchasers and
federal purchasers are combined with other types of government
purchasers that the manufacturers have considered to be part of a
separate market. 

Although VA would be negotiating on behalf of a larger market if the
schedule was opened, the increased market share might not in and of
itself improve VA's leverage to negotiate lower prices.  Drug
manufacturers have historically offered different prices for the same
product to different purchasers largely on the basis of the
purchaser's ability to influence drug utilization (sometimes referred
to as the ability to move market share).\12

For this reason, volume of sales, while integral to price
negotiations between purchasers and drug manufacturers, is not the
only important consideration.  A common technique used by
large-volume purchasers to influence market share is to establish a
formulary.  A formulary is a list of drugs that a health plan prefers
its physicians to prescribe for patients.  Drugs are included on a
formulary not only for their medical value but also for their
favorable prices.  Both inclusion of a drug on a formulary and the
drug's cost can affect how much it is prescribed and purchased and,
therefore, have an impact on its market share.  Because formularies
have the potential to significantly affect the sales of drugs, large
purchasers that use them have greater leverage in negotiating
discounts or rebates with manufacturers who want their drugs listed
as preferred drugs.  However, because the FSS is a catalog of prices,
not a formulary, VA lacks that kind of leverage. 

If drug manufacturers are unwilling to extend low FSS prices to state
and local purchasers, VA could experience a "showdown" with
manufacturers over price increases, which it has not experienced
before.  Drug manufacturers could respond in several ways.  First,
they could simply refuse to offer their products to state and local
purchasers at FSS prices, an option that is permitted under GSA's
current proposal.  Representatives of several manufacturers told us,
however, that they do not consider this option realistic because some
competing manufacturers would be likely to offer FSS prices to state
and local purchasers, and no manufacturer would want to concede the
potential business.  Second, drug manufacturers could try to increase
FSS prices by raising prices to most-favored customers to change the
base on which prices are negotiated with VA.  Several manufacturers
indicated that this option would depend on the size of the market
represented by all government purchasers.  Third, drug manufacturers
could attempt to negotiate higher FSS prices without linking them to
most-favored customer prices.  This strategy could result in lengthy,
difficult negotiations, which VA has not experienced before with
manufacturers. 


--------------------
\11 The cost of drugs covered by the Veterans Health Care Act that
had FSS prices below federal ceiling prices as of Sept.  30, 1996,
was, on average, 52 percent below the nonfederal average manufacturer
price.  See GAO/HEHS-97-60, June 11, 1997. 

\12 See CBO Papers:  How the Medicaid Rebate on Prescription Drugs
Affects Pricing in the Pharmaceutical Industry (Washington, D.C.: 
CBO, Jan.  1996). 


      SIZE OF MARKET ELIGIBLE FOR
      FSS PRICES WOULD BE KEY
      FACTOR
-------------------------------------------------------- Chapter 0:2.1

The size of the FSS market if the schedule was opened would be a key
factor in determining what would happen to drug prices.  The larger
the market, the greater the incentive would be for manufacturers to
raise FSS prices to limit the impact on their business of giving low
prices to more purchasers.  GSA's proposed implementation plan for
opening the schedules included participation by a state and any
department, agency, or political subdivision of a state, including
local governments.  Representatives of VA, PhRMA, drug manufacturers,
HIGPA, and the Public Hospital Pharmacy Coalition agree that unless
this definition of an eligible entity is narrowed, the FSS market
could expand significantly from its current size of about 1.5 percent
of domestic pharmaceutical sales.\13

The Coalition has suggested that GSA's definition be narrowed to
limit access to FSS prices to state and local government entities
that purchase drugs for their own use and dispense drugs in their own
facilities.  The Coalition estimated that defining eligibility this
way would result in a state and local FSS market of about 4.4 percent
of total dollars in domestic pharmaceutical sales.\14 But the market
might actually be considerably smaller, according to the Coalition,
because some state and local purchasers are subject to procurement
laws or regulations that would restrict their participation in
cooperative purchasing.  Also, eligible state and local purchasers
would not buy all their drugs from the FSS because it is likely that
not all FSS prices would be lower than other prices available to
them.  If these two assumptions were considered, the Coalition
estimated that state and local FSS purchases would fall from about
4.4 percent to 0.5 percent of the total drug market.  Therefore, the
Coalition's estimates mean that the total FSS market would expand by
about 33 to 300 percent if state and local governments are given
access to FSS prices. 

As for the impact of procurement laws or regulations on state and
local participation, 27 of 50 respondents\15 reported in a September
1996 survey we conducted that current state competitive-bidding and
other laws would limit their use of federal supply schedules.\16 But
most state and local government purchasing officials we contacted
indicated that they want the option of purchasing items from the
schedules.  How many states and localities would change purchasing
laws and regulations so that they could participate in the
cooperative purchasing program is uncertain.  It is also uncertain
how many and to what extent eligible state and local entities would
choose to buy drugs through the FSS. 

Although the size of the combined federal, state, and local market
that could have access to FSS prices is unclear, past federal efforts
to lower drug prices for a significant market caused many
manufacturers to raise prices.  Before the Medicaid rebate program
was enacted in 1990, state Medicaid programs, which represent about
11 percent of the domestic pharmaceutical market,\17 paid close to
retail prices for outpatient drugs.  Other purchasers, such as
hospitals and health maintenance organizations, paid considerably
less.  Under the program, the Congress required drug manufacturers to
give state Medicaid programs rebates for outpatient drugs on the
basis of the lowest prices they charged other purchasers. 

After the rebate program's enactment, the prices many large private
purchasers paid for outpatient drugs increased substantially.\18 In
particular, prices paid by health maintenance organizations rose, on
average, more than twice as fast as the year before the program.  On
the basis of its analysis of these price changes for outpatient
drugs, CBO concluded that, because of the size of the market
represented by Medicaid, "pharmaceutical manufacturers are much less
willing to give large private purchasers steep discounts off the
wholesale price when they also have to give Medicaid access to the
same low price."\19


--------------------
\13 According to IMS America, a private vendor of pharmaceutical
information, in 1996 the U.S.  pharmaceutical market totaled about
$85.4 billion in sales, including sales to federal, state, and local
government entities.  FSS drug sales of about $1.3 billion for fiscal
year 1996 represent about 1.5 percent of U.S.  pharmaceutical sales. 

\14 See PRIME Institute, College of Pharmacy, University of
Minnesota, Section 1555 of the Federal Acquisition Streamlining Act: 
Impact of Cooperative Purchasing on the Pharmaceutical Market,
prepared for the Public Hospital Pharmacy Coalition (Washington,
D.C.:  Jan.  15, 1997). 

\15 Respondents represented 48 states and 2 territories. 

\16 See GAO/GGD-97-33, Feb.  10, 1997. 

\17 According to IMS America, in 1995 total sales for the U.S. 
pharmaceutical market were about $77.1 billion.  According to the
Health Care Financing Administration, Medicaid drug expenditures for
fiscal year 1995 totaled about $8.4 billion, including rebates. 

\18 See Medicaid:  Changes in Drug Prices Paid by HMOs and Hospitals
Since Enactment of Rebate Provisions (GAO/HRD-93-43, Jan.  15, 1993)
and Medicaid:  Changes in Best Price for Outpatient Drugs Purchased
by HMOs and Hospitals (GAO/HEHS-94-194FS, Aug.  5, 1994). 

\19 See CBO Papers. 


   FSS PRICE CHANGES WOULD AFFECT
   GOVERNMENT PURCHASERS
   DIFFERENTLY
---------------------------------------------------------- Chapter 0:3

Although it is uncertain how FSS prices would change if the
pharmaceutical FSS is opened, the factors involved in negotiations
between VA and drug manufacturers have the potential to produce, in
general, an upward pressure on FSS prices. 


      FOR VA AND OTHER FEDERAL
      PURCHASERS, IMPACT OF ANY
      FSS PRICE INCREASES WOULD
      VARY
-------------------------------------------------------- Chapter 0:3.1

If FSS prices rise after the schedule is opened, all federal
purchasers could pay higher FSS prices for many drugs covered and not
covered by the Veterans Health Care Act.  About 73 percent of the
roughly 22,800 drugs on the FSS are not covered by the act.\20
However, these drugs represent a smaller portion of federal
expenditures because they are primarily generic equivalents of
brand-name drugs.  A VA official estimated that about three-quarters
of VA's total drug expenditures are for covered drugs.  For these
drugs, VA and the three other protected federal agencies would not
have to pay FSS prices that are higher than the FCPs.  But as figure
1 shows, they may have to pay more for the 8 percent of all FSS drugs
that currently have FSS prices below their ceiling prices if prices
rise to or above the FCPs.  The FSS prices for these drugs are, on
average, about 28 percent below the FCP. 

   Figure 1:  FSS Price Relative
   to the FCP for Schedule Drugs
   as of September 30, 1996

   (See figure in printed
   edition.)

Note:  Percentages are based on the number of FSS products, rather
than on FSS expenditures. 

Source:  VA data. 

In February 1995, VA presented GSA its analysis of the potential
effects of opening the pharmaceutical schedule on FSS prices and VA
drug costs, taking into consideration the protection the Veterans
Health Care Act provides VA against drug price increases.  On the
basis of discussions with representatives of numerous drug
manufacturers, VA made two key assumptions in its analysis about the
potential effects of opening the pharmaceutical FSS:  (1) drug
manufacturers would eliminate FSS pricing for all drugs not covered
by the Veterans Health Care Act, forcing federal purchasers to buy
these generic drugs at higher wholesale prices, and (2) FSS prices
for all drugs covered by the act would rise to their FCPs. 

VA applied those two assumptions to drug purchases it made during the
first 6 months of 1994.\21 According to VA, it spent about $37.8
million on 4,877 generic drugs not covered by the act.  If it had
purchased the same drugs at wholesale rather than FSS prices, VA
estimated that it would have paid over $79.7 million, or about 111
percent more.  In the same period, VA spent about $118.3 million on
911 brand-name drugs that were covered by the act and that had FSS
prices below their FCPs.  Had the manufacturers of those drugs raised
the FSS prices to their FCPs, VA estimated that it would have paid
over $152.9 million, or roughly 29 percent more.  Thus, VA calculated
that, on an annualized basis, the impact of giving state and local
governments access to the FSS would have been a $153.1 million
increase in its yearly drug expenditures. 

Those federal purchasers that, unlike VA, have no protection from the
ceiling prices established by the Veterans Health Care Act would pay
full FSS prices on all drugs bought from the schedule.  As of
November 1996, only 25 of 162 drug manufacturers had FSS prices that
were above the FCP.  But, manufacturers may offer purchasers not
protected by the act prices above the FCP.  Representatives of
several drug manufacturers told us that their companies would
consider this option attractive if the pharmaceutical schedule was
opened because it would allow them to offer prices above the FCP to
state and local purchasers.  Federal purchasers not protected by the
ceiling prices would pay the full amount of such price increases. 

The potential impact of FSS price increases on different government
purchasers when purchasing from the pharmaceutical schedule is
summarized in table 1. 



                                     Table 1
                     
                     Potential Effects of FSS Price Increases
                         on FSS Prices Paid by Government
                                    Purchasers

                                FSS price paid
                    --------------------------------------
Purchaser           Before FSS opened   After FSS opened    Implications
------------------  ------------------  ------------------  --------------------
VA, DOD, Public     Lower of FSS or     Lower of FSS or     FSS price for 8% of
Health Service,     FCP for covered     FCP for covered     drugs could increase
and Coast Guard     drugs; FSS for      drugs; FSS for      up to FCP; FSS price
                    drugs not covered   drugs not covered   could increase for
                                                            many drugs not
                                                            covered.

Other federal       FSS                 FSS                 FSS prices could
government                                                  increase for many
entities                                                    drugs covered and
                                                            not covered.

State and local     Not applicable--    FSS                 FSS prices, even if
government          negotiated prices                       they increase, could
entities                                                    be lower than prior
                                                            negotiated prices;
                                                            if they are not,
                                                            purchasers could try
                                                            to negotiate lower
                                                            prices.
--------------------------------------------------------------------------------
Note:  For the purpose of this table, federal purchasers are
considered to be dependent on purchasing many of their drugs from the
FSS rather than from alternative sources. 


--------------------
\20 As of Sept.  30, 1996, the FSS included 22,828 products--6,243
were covered drugs and 16,585 were not covered. 

\21 According to VA, calculations were based on actual contract
purchase prices from VA's prime vendor network from Jan.  1 through
June 30, 1994. 


      STATE AND LOCAL PURCHASERS
      COULD CHOOSE BETWEEN FSS AND
      OTHER DRUG PRICES
-------------------------------------------------------- Chapter 0:3.2

Opening the pharmaceutical schedule would give state and local
purchasers the choice of buying drugs from the FSS or from other
sources.  The Public Hospital Pharmacy Coalition contends that state
and local purchasers would benefit from having access to the schedule
and manufacturers would have little incentive to raise FSS or other
drug prices because

  -- a manufacturer's participation in the cooperative purchasing
     program is voluntary, thus allowing a company to opt out of the
     program if it anticipates any adverse economic consequences;

  -- if a manufacturer concludes that it must participate in the
     program for competitive reasons, the same competitive forces
     will keep prices from rising;

  -- the potential size of the state and local market will be small,
     given the Coalition's proposal for determining eligibility to
     access FSS drug prices; and

  -- market size is but one of many factors drug manufacturers
     consider in developing drug pricing strategies. 

Assuming negligible adverse effects on FSS prices if the schedule is
opened, the Coalition anticipates considerable financial benefits for
many state and local purchasers.  For example, a Coalition analysis
of the differences between FSS prices and the prices nine public
hospitals paid for the 100 drugs each hospital spends the most on
showed that FSS prices, on average, were lower than the hospitals'
purchase prices for about 83 percent of the drugs.\22 FSS prices
were, on average, about 17 percent lower than the prices the
hospitals paid. 

If the pharmaceutical schedule is opened and FSS prices rise, the
extent to which state and local government purchasers could benefit
is unclear.  The drug prices paid by the hospitals in the Coalition's
analysis show that many FSS prices could rise and still be lower than
what some state and local purchasers currently pay.  If FSS prices
remained higher than what state and local purchasers were accustomed
to paying, they could try to negotiate better prices for themselves. 
However, the incentive for a drug manufacturer to negotiate a price
below the FSS price would be limited because the negotiated price
could become the most-favored customer price and, thus, potentially
affect the manufacturer's FSS price negotiations with VA.  In any
case, VA and other federal purchasers would still face an increase in
FSS prices. 


--------------------
\22 The analysis was based on FSS and hospital purchase prices as of
Oct.  1, 1996. 


-------------------------------------------------------- Chapter 0:3.3

Mr.  Chairman, this concludes my prepared statement.  I would be
pleased to respond to any questions you or Members of the
Subcommittee may have. 


*** End of document. ***