China’s new drug lists and associated pricing rules aim to provide low-cost drugs to patients but raise questions about the impact on hospitals and drug manufacturers.Anyone who has visited the Dongyue Daoist Temple in Beijing knows that this temple reflects key societal values that date back 600 years or more. One hall is dedicated to the gods who oversee support for healthcare and medication. Simply put, the cost and availability of drugs and medications has been an issue for many, if not all, countries throughout history, and China is no exception.
Today, drug cost and distribution remain challenges. To resolve these issues, China has launched another chapter of its healthcare reforms. A core component of China’s current efforts is the National Essential Drug System, which aims to provide essential drugs at affordable prices in all government hospitals. A central part of this system is the new National Essential Drug List (NEDL) and its associated price caps.
The PRC Ministry of Health (MOH) released the new NEDL in August 2009. This list is comprised of 307 drugs—205 chemical and biological drugs and 102 traditional Chinese medicines—deemed essential to the treatment of common medical conditions (see Table). (China puts molecular names, not brand or product names, on its drug lists.)
A second step in the development of the National Essential Drug System came in October 2009, when the PRC National Development and Reform Commission (NDRC) released a notice that set price caps on 296 NEDL drugs. The new caps limit the retail prices that patients pay for 133 drugs and prohibit hospitals from marking up prices for NEDL drugs. According to an NDRC press release, the price caps are intended to relieve the financial burden on patients and encourage drug companies and healthcare providers to offer quality medicines. Price reductions average 12 percent: Price caps for roughly half (49 percent) of NEDL drugs will not change, and price caps for 6 percent of drugs on the NEDL will increase slightly. The new price system is being rolled out gradually, starting with about 30 percent of government-run hospitals by the end of 2009 and nationwide implementation in government-run hospitals by 2011.
NEDL drugs added to revised Basic Medical Insurance List
China has developed various drug lists, each associated with a different government insurance program. Of these lists, the Basic Medical Insurance (BMI) National Drug Reimbursement List, which covers urban workers, has historically had the biggest impact on pharmaceutical companies and urban patients. The BMI list is divided into category-A and category-B drugs. Category-A drugs are classified as “essential” drugs, and hospitals must carry all category-A products. In contrast, provincial governments are required to carry only 85 percent of the drugs listed in category B, and provincial health bureaus may select the category-B drugs that are most relevant to their province for reimbursement.
On November 30, 2009, the Ministry of Human Resources and Social Security (MOHRSS) issued an updated BMI drug list, which
- Adds 260 new drugs, 53 of which are included in category A;
- Includes all therapeutic medicines selected for the NEDL in category A;
- Replaces certain older drugs with more effective new ones; and
- Requires local authorities to establish a declaration system for appointed medical institutions to report drugs not in the catalogue that are necessary for emergency rescue and special disease treatment.
Implications for hospitals
The new NEDL and accompanying price regulations will affect hospitals and drug manufacturers in a number of important ways.
More central-level control over drug use
As part of the NEDL reform package, MOH has announced that it will implement new policies that aim to better enforce mandatory use of NEDL products. Measures implemented on a trial basis in 12 cities require 70 percent of primary healthcare facility drug sales to be NEDL products. Whether similar prescription requirements will apply to second- and third-tier hospitals is less clear, but MOH statements reported in a November issue of Pharma China suggest that use of NEDL products will become one metric used in hospital evaluations, which affects the funding hospitals receive, and individual physicians’ annual performance reviews, which affect promotions. How stringently MOH plans to implement these measures remains to be seen, but hospitals and physicians will likely have new incentives to change their historical preferences for more expensive branded products.
Potential loss of drug sales revenue
Hospitals’ preference for higher-priced drugs is in part tied to historical pricing policies. Traditionally, when a drug enters the BMI reimbursement list, NDRC selects one brand to receive an “innovator” price, while all others receive a “normal” price. The innovator price is generally awarded to the brand with the original drug patent (often from a multinational corporation [MNC]), allowing the brand to be reimbursed at a 30 percent premium over the normal price. This practice allows drugs to receive favorable reimbursement rates even after the company’s patents expire.
Government-run hospitals can mark up drug prices 15 percent above the price they paid for the drugs. Hospitals earn a significant portion of their revenue through these markups. Because “innovator” prices are higher than “normal” prices under the BMI reimbursement system, hospitals earn more by prescribing the expensive “innovator” brand than its lower-priced generic competitors. Thus, “innovator” drugs are prescribed more often.
Under the proposed National Essential Drug System program, hospitals will not be allowed to mark up NEDL drugs. Given that these drugs are commonly prescribed products, hospitals stand to lose a significant amount of revenue as a result of the zero-mark-up policy. The central government has claimed that it will compensate hospitals for the difference with increased direct funding, but this funding may come reluctantly, if at all, from local governments, throwing into question whether hospitals will receive compensation for lost revenue. Without substitute funding, hospitals could resist implementing the NEDL prescription requirements, as losing the revenue generated through the sales of higher-priced BMI brands would quickly put most hospitals in the red.
Implications for MNC pharmaceutical manufacturers
Loss of pricing advantage
The current BMI system generates significant sales and revenues for many MNCs because most “innovator” prices are awarded to MNC brands. Though the policy is not explicit, it is highly likely that drugs that enter the NEDL will be subject to price caps and that no brands will be eligible for innovator pricing. MNCs that produce drugs on the NEDL will need to generate a much higher volume of sales to compensate for the loss of the innovator pricing advantage. To do so, MNCs must compete successfully against cheaper generics in provincial bidding and generate sufficient pull by creating demand in hospitals. Generating enough demand to offset the lower prices could be difficult, especially if hospitals resist prescribing large volumes of zero-margin NEDL drugs.
The loss of innovator status will likely be extended to all products covered under BMI, not just the NEDL. NDRC comments suggest that the innovator pricing scheme will be phased out and a different set of conditions will be introduced for brands with expired patents to command premium pricing. What the conditions will be or how they will be decided remains unclear, and it is also unclear whether a similar set of conditions would apply to compounds covered under the NEDL.
Rise in market uncertainty
All drugs included in the NEDL must be purchased through a provincial-level, public bidding process (see Drug Procurement Bidding). This policy creates two issues for manufacturers. First, province-by-province bidding makes it difficult for manufacturers to gauge annual sales volume, as the number of bids a company wins each year can vary. This in turn makes it hard for manufacturers to calculate their annual production volumes, and therefore to determine an appropriate bidding price.
Second, provincial governments tend to support local industries, and it will be difficult for one generic producer to gain significant scale by winning bids across several provinces. There are roughly 5,000 pharmaceutical manufacturers in China, resulting in a fractured generic drugs market. Provincial BMI lists carry one or two MNC brands for any given drug compound and a group of generics, some of which are national and many of which are local. With many small manufacturers competing in a low-margin market, the temptation to cut corners to preserve revenue will likely be great. Without careful monitoring and stringent quality control on smaller local producers, the risk of low-quality or dangerous products entering hospitals through NEDL bidding may grow.
Questions about implementation remain
Sticks and carrots
The government intends to promote the use of NEDL drugs through a mixture of sticks and carrots. Different ways of measuring and evaluating hospital and physician prescription behavior could lead to different results, however. If NEDL quotas are enforced at a hospital level, NEDL prescriptions may be concentrated in therapeutic areas such as anti-infectives, where the markups on BMI drugs is smaller, and the loss incurred using zero-markup NEDL substitutes would thus be lower. If, however, the NEDL is enforced at the compound or therapy-area level, hospitals may be forced to use older, generic products instead of newer, more expensive products. This would be particularly damaging for MNCs, which typically offer newer products to treat major chronic conditions such as diabetes and cardiovascular disease.
It is still too early to predict the full impact of the NEDL and accompanying pricing regulations on the healthcare system. Previous reform efforts suggest that the government will finalize the details of implementation after evaluating the results of various trials. Early reactions from hospitals and patients could provide clues to the direction of policy development.
The government is determined to use the new policies to lower drug prices and make drugs more widely available. The new developments could shift current prescription patterns in favor of generics, lowering prices for patients and raising overall sales volume. But low price levels and localized bidding systems will likely also raise questions about quality control: Just one incident of tainted products entering hospitals could paint the NEDL system as lowering prices at the expense of quality.
MNCs will be watching provincial-level implementation and the reactions of key central-level officials. As implementation details become clearer, it will be easier to assess the long-term implications of the NEDL and new pricing regulations.
[author] Gordon Schatz ([email protected]) is a Life Science partner at Reed Smith Richards Butler LLP. He is based in Beijing and Washington, DC. Patrick Nowlin ([email protected]) is a consultant at ZS Associates Inc. He is based in Shanghai. [/author]