How Moral Hazard and Budget Constraints Complicate the Pricing of Gene Therapy

The Institute for Clinical and Economic Review is a non-governmental research institute that studies the cost-effectiveness of various drug regimes. It released a report on a new gene therapy treatment for spinal muscular atrophy. While it concluded that the treatment was effective and potentially more cost-effective than existing drugs, it averred that its long-term benefits were unknown and that its price should be substantially reduced.

This declaration — and the weight that the government gives this private entity — raises an important question: What is it worth to save a life, and who decides?

For instance, it may be difficult to object to a demand that a government erect guardrails along a particular road. However, the job of regulatory economists is to assess the cost of doing this, discern the benefits (in terms of injuries avoided or lives saved) and ask whether we could spend that money more effectively elsewhere. Resources are finite, and choices have to be made regarding how much we spend on safety and where we spend scarce dollars.

This is relevant to health care. While we may agree that nothing is more important than a life, we must — and do — draw a line all the time. Medicare objects to aggressively treating nonagenarians with cancer, for instance, reasoning that an expensive course of chemotherapy will likely reduce the patient’s quality of life and do little to extend their lifespan.

What complicates this calculus is that the time horizons of insurance companies — and the government, for that matter — may differ from the patients or society. This reality has made the advent of gene therapy — a way to develop drugs that holds the promise of curing otherwise deadly, debilitating or costly illnesses — complicated for policymakers.

Developing such drugs is costly, with prices approaching $1 million for a course of treatment. Pharmaceutical companies have faced a backlash to these high prices, and for several drugs, it is not clear that Medicare will pay anything close to their asking price — or any price — for them.

These treatments hold the promise to create large benefits for society and those struggling with severe illnesses. For instance, the standard treatment for acute lymphoblastic leukemia, a cancer (to which my sister succumbed) is especially costly, with first-year hospitalization costs alone averaging about $40,000 a year. The average lifetime cost of treatment for someone with the disease is many times that, implying that a curative gene therapy treatment that approaches $1 million may be cost-effective even without accounting for any ancillary benefits we might see from saving a life.

And if we do account for broader economic benefits of an increased life span, the gains from gene therapy become enormous.

When economists place a value on a human life in the context of regulatory policy, they typically use a metric called the value of a statistical life, which represents the implicit value we place on our lives through the decisions we make to avoid or incur risk.

For instance, economists have estimated the wage premium workers require to work at a more dangerous job and used that to impute an implicit valuation we place on our lives. They do likewise by looking at how much people pay for safety improvements, such as a better bicycle helmet or anti-lock brakes before they became mandatory. Alan Krupnick at Resources for the Future has devised ingenious ways of presenting risk probabilities to people and directly asking them how much compensation they would require to incur incremental increases in risk.

A meta-analysis that examined a wide variety of studies concluded that each approach arrives at an implicit value on a life up to $3 million. Most government agencies use a number close to that figure when doing their own cost-benefit analysis of proposed regulations, although the Environmental Protection Agency uses a much larger number.

In health care, economists employ a different statistic called the quality-adjusted life-year, that takes into account how long the person lives and the quality of that life. Unlike the VLS, however, policymakers assign a more-or-less arbitrary number to the QALY. About $100,000 per life-year is the standard value used by ICER.

A value of a life remotely close to the VSL number used in regulatory analysis would render nearly all gene therapy treatments cost-effective from a societal perspective, but that may not hold for health insurers. Upon curing an enrollee, there is no guarantee that he will remain with the insurer: If he obtained his insurance through his employer, future coverage will depend on his continued employment as well as the annual negotiations the insurer has with his employer. If he bought insurance on the exchange, he can switch companies during the next open enrollment period — with no incentive to remain with the insurer that financed the life-saving treatment.

The government has a similar myopia: While we assume that our government is durable and therefore should be able to make decisions with a long-term perspective, the reality is that short-term budget exigencies reign supreme, which means that most government entities cannot look beyond the next year or two. A cure for leukemia largely borne by Medicaid wreaks budgetary havoc, while the long-term gains from these children eventually working and paying taxes accrue to someone else’s budget.

There is no elegant way to eliminate this time horizon mismatch; we might consider allowing insurers to offer longer-term contracts, or perhaps encourage our government to budget on a longer time horizon, but neither would fix the problem entirely.

Gene therapy has produced myriad cures for diseases that until recently had been considered death sentences, a feat we should celebrate. The costs necessary to finance these cures are for the most part well worth the cost, at least for the majority of people with these illnesses, and objections to this reality reflect genuine moral hazard problems regarding how we finance health care. Our government needs to resolve this issue soon — and not punt it to a privately funded entity — or else we risk deterring future research and innovation.


Ike Brannon is a senior fellow at the Jack Kemp Foundation.

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