How Bureaucracy and Big Government Ruined American Health Care

The price system works. Our health care system does not.

Among the many maddening things about the American health care market, few are so exasperating as its baroque and opaque pricing. The typical hospital bill makes the untranslatable Voynich manuscript seem like a child's grade-school reader by comparison.

Such complexity is partly owing to a simple fact: Much of the market is managed by huge, bureaucratic organizations that employ thousands of people to do nothing all day but grind through minutiae. This leads to things like the ICD-10, a diagnostic coding system that governs the classification and reporting of diseases and injuries.

With 16,000 different codes, the ICD-10 gets rather specific. Was the patient struck by a turtle? Enter code W5922XA. Was she struck by a sea lion? That's a separate code—W5612XA. Code S30867A covers nonvenemous insect bites to the anus. There's one code for assault with a hockey stick, another for assault with a baseball bat. And then there is V91.07XA, for patients who have been burned by flaming water skis. (Burned by flaming water skis a second time? That's V91.06XD.)

American health care providers must update from ICD-9 to ICD-10 this year. It says so right in the Federal Register, under a rule titled "Administrative Simplification."

Drug pricing represents another area that seems to have been designed by a circus clown on quaaludes. Most products drop in price over time as new and better ones come on the market. Not so for some drugs. Take Avonex, a prescription drug for multiple sclerosis. According to a piece in Bloomberg Businessweek, prescriptions for Avonex have been declining—while its price has more than doubled. The price for Gleevex, a drug used to treat leukemia, has risen from about $118 per pill seven years ago to more than $300 now.

Indeed, prices for numerous drugs have shot up in recent years by twofold, fourfold and even more. And that doesn't even count new wonder drugs such as Sovaldi, the life-saving hepatitis drug that costs $84,000 for a 12-week course, or Kalydeco, a treatment for cystic fibrosis that costs more than $300,000 per year.

There are various explanations for such eye-popping charges. Pharmaceutical companies spend billions of dollars a year on research, and they need to recoup that money. If they don't, then the stream of new wonder drugs eventually will dry up. But R&D is not the sole explanation, especially regarding those drugs whose prices suddenly jump after they've been on the market for years.

Other factors include pharmaceutical industry consolidation, which leads to larger companies with more bargaining clout, and a federal law, much in need of repeal, that prevents one of the largest market participants—Medicare—from haggling. Confronted with a useful drug that carries an outlandish price, Medicare has two choices: take it or leave it.

Then there's the patent-and-exclusivity system, which allows drug companies to recoup the costs of developing a drug by granting them exclusive sales rights for only a limited time. The exclusivity period for orphan drugs—those created to address rare conditions—lasts only 7 years, for example.

In 2013, drug companies lost more than $19 billion when patents expired and competitors started replicating various treatments. By a remarkable coincidence, the industry collected $20 billion by marking up other prescription drugs.

Sky-high prices present a serious dilemma: How much should people pay, or be forced to pay, for life-saving and life-changing treatments?

Insurance spreads the cost around. For run-of-the-mill prescriptions, co-payments usually constitute a fixed dollar amount, such as $25. For some advanced and expensive drugs, insurers have been asking policyholders to pay a percentage, such as 25 percent. For a drug that costs thousands of dollars, that can put a big dent in the patient's bank account.

According to some, there oughtta be a law against that. And in a few states, such as New York and Vermont, there is. Del. Jennifer McClellan would like Virginia to have one, too. The Richmond Democrat has introduced a bill that would forbid insurance companies to charge more than a $100-per-month co-payment for such specialty drugs.

This seems an odd way to go about addressing the problem of high drug prices, which is not caused by insurance companies. In fact, the legislation is likely to make the problem worse, not better, by hiding the true prices of the drugs instead of bringing them down.

Like the flat rate at an all-you-can-eat buffet, flat co-payments are an invitation to overconsume. A patient asked to pay 10 percent of a drug's price will object if the price doubles. But a patient who pays no more than $100 regardless of the price won't care.

What's more, pharmaceutical companies often know they can jack up prices without fear that insurers will drop coverage for a particular drug—because Obamacare requires prescription-drug coverage, and each state sets the formulary determining which drugs must be included. That robs insurance companies of bargaining leverage against drug companies. Allowing insurers to choose what they cover would help solve the drug-price problem.

Proponents of McClellan's bill say people shouldn't have to choose between paying for medicine and paying for food. That's like saying people shouldn't have to choose between paying for clothes and paying for shelter. It sounds high-minded, but it ignores economic reality.

Capping co-payments doesn't lower prices one cent—it simply forces some people to pay more so others don't have to. In the process, it renders the health-care market even more opaque and obscure.

They should have an ICD-10 code for that, too.