Stocking Under the Influence: Spillovers from Commercial Drug Coverage to Medicare Utilization
When administering drugs in an outpatient setting (e.g., hospital outpatient departments and physician offices), physicians need to account for restrictions from two types of formularies: the prescription drug formulary of the patient's health plan and the formulary of the facility where the doctor is prescribing.
Prescription drug formularies are tiered menus listing all drugs covered by the health plan. Tiers determine the out-of-pocket cost to the patient. Manufacturers obtain better tier placement by granting higher rebates to payers. To encourage more aggressive competition on rebates, drug formularies often exclude drugs with close substitutes.
Facility formularies determine what drugs are stocked in the facility. Facilities restrict formularies to unlock additional discounts from manufacturers through volume or percentage-based guarantees.
Figure 1. Diagram for impact of facility formularies
When deciding which products to include on the formulary, the facility is incentivized to favor drugs broadly covered by commercial drug formularies to avoid situations where a patient receives a drug not covered by her health plan. This incentive creates a spillover effect from commercial drug formularies to facility formularies. In turn, because facility formularies determine what is administered to all patients receiving care in that facility, this spillover effect introduces a channel through which equilibrium outcomes in the commercial market can influence the utilization of patients in government-sponsored plans, such as Medicare.
Testing for the Spillover Effect
To confirm the existence of this spillover effect, we study variation in commercial formulary coverage and utilization in Medicare Part B. Since unobserved preferences could drive both commercial formulary coverage and Part B utilization, we use an instrumental variable strategy that leverages coverage changes in national formularies—stock products that Pharmacy Benefit Managers sell across the entire US.
Table 1: Impact of Commercial Coverage on Part B Utilization
Results
We find that a 10pp higher exclusion rate in commercial formularies leads to 1.7pp lower utilization in Medicare Part B. This effect is robust to including controls for detailing payments to physicians, and re-weighting observations by state population or market size. In substitution classes defined by a biologic product and its biosimilar competitors, the effect increases to 3pp.
The result is driven by facility-level factors: we find that physicians who work in two facilities often change their prescription patterns to mimic the behavior of other physicians at each facility.
Figure 2. Variation in prescribing that is explained by facility-level factors
The effect of facilities is more pronounced in substitution classes with more homogeneous products, such as antinausea medications and paramagnetic contrast media (i.e., MRI dyes), but exists in virtually all substitution classes we consider.
Takeaways
Our results show that market equilibria in commercial insurance can affect the care received by patients in government-sponsored health plans. These effects arise because commercial and government-insured patients receive care at the same facilities. As facilities tend to provide standardized care, any care decision made in response to commercial market incentives may also affect other patients. These findings raise two important policy issues:
The effect we identify implies that commercial market failures can affect government spending. In particular, we show that poor coverage of cheaper biosimilar drugs in commercial formularies leads to higher Medicare spending.
Our research suggests that changes in physician prescribing behavior could sometimes be more appropriately attributed to facility-level decisions. Recognizing this distinction is crucial because policies aimed at altering physician behavior (e.g., letter campaigns) may prove ineffective when ignoring the restrictions imposed by facilities.