Why Do Drugs Cost Less in Canada?

Prescription drugs, even those manufactured by American companies, cost much less in Canada than in the United States. Why?

The simple answer is price controls. A Canadian law authorizes a review board to order a price reduction whenever the price of a drug exceeds the median of the prices in six European countries plus the United States. Since all the European countries intervene in various ways to hold down drug costs, Canada in effect piggy-backs on other countries’ price controls.

So why not do the same thing south of the border? Trouble is, drug companies are willing to sell for less in Canada and elsewhere only because they can sell for more in the United States. They are engaging in what economists call “price discrimination”–that is, charging different prices to different buyers of the same product. Price discrimination works in the drug industry because drugs are very expensive to develop, but fairly cheap to manufacture. As long as companies can recoup their research and development costs by charging high prices in the United States, they can make a profit in Canada and elsewhere by merely covering the cost of making the pill (or tube of ointment or whatever). Similar price discrimination occurs within the United States, with HMOs and other large buyers able to negotiate lower prices while the uninsured pay top dollar.

In recent months, members of Congress from both parties have introduced bills to stop this drug price discrimination, either by allowing the re-importation of drugs from Canada and Mexico or by requiring U.S. drug companies to offer drugs at one price for all of North America. If drug companies had to charge the same price in the U.S. and Canada, what would that price be? It would have to cover R&D costs, so it would be higher than the current Canadian price. But those costs would be spread over more pills, so it should be lower than the current American price. (This assumes that companies will maintain the same profit levels they currently enjoy.) Canada would have to abandon or modify its price controls, or its citizens would not be able to buy these drugs.

Price discrimination seems, and often is, unfair. But there is a case for it in some circumstances. Mexico is a clearer example than Canada. Most Mexicans simply cannot afford to pay much higher prices for drugs. When price discrimination leads to sales that otherwise wouldn’t take place, it costs the higher-paying customer nothing. In fact, if the lower price includes at least some contribution to R&D expenses, price discrimination can even reduce the higher price. Thus allowing Mexicans and Africans and other poor people to buy drugs for much less than they cost in America may not only help them but may make drugs a bit cheaper in the United States as well.

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