The Devil is in the Tiers

Abstract

Drug prices are widely recognized to be out of control for the American healthcare system. One crucial aspect for containing prescription drug costs is the insurance formulary tier system, which is supposed to incentivize consumers to prefer less expensive drugs by charging lower copays. When health insurers place drugs on preferred tiers, patients have lower cost-sharing burdens; when health insurers place drugs on less-preferred tiers, the patient’s burden is higher. In prioritizing certain drugs over others, the tiering system drives utilization, consumer choice, and the cost of drugs for individuals. This paper empirically demonstrates the formulary tier system is not working as designed with the number of drugs placed on inappropriate tiers increasing from 43% in 2010 to 65% in 2015. Generally generics are losing out by being placed on less competitive tiers with the percentage of generics on the most competitive tier decreasing from 73% in 2010 to 31% in 2015. Over this six year period, the dysfunctional formulary system cost society, conservatively, $15.5 billion. The trends seem to be getting worse and costing individuals and society more each year. To fix the formulary system, this paper suggests basing tiers on drugs’ list price, thereby simplifying and clarifying the currently opaque system. Making list price determine tier placement would decrease the prevalence of the incentive-distorting rebate schemes while recognizing that many people, unfortunately, do already pay the full list price.