Disadvantaging Rivals: Vertical Integration in the Pharmaceutical Market
While integration between upstream suppliers and downstream buyers—i.e., vertical integration—can have procompetitive effects (e.g., elimination of double marginalization), it can also have anticompetitive effects. For example, vertically integrated firms can engage in input foreclosure by raising the costs of upstream supplies to unintegrated downstream rival firms. In “Disadvantaging Rivals: Vertical Integration in the Pharmaceutical Market,” Dr. Charles Gray and his co-authors assess this tradeoff by analyzing vertical integration of prescription drug insurers in Medicare Part D with their upstream input suppliers known as pharmacy benefit managers (PBMs).
Historically, PBMs were stand-alone firms that sold services to health insurers, including processing of claims, contracting with pharmacies, and negotiating with drug manufacturers for discounts on prescription drugs (i.e., rebates). Over time, however, some PBMs and insurers consolidated, thereby segmenting firms into two types: insurers vertically integrated with a PBM and unintegrated insurers.
Leveraging a unique dataset on insurer-PBM contracts, Dr. Gray and his co-authors establish three facts: First, the share of Part D enrollment in the plans of vertically integrated insurers increased substantially from 30% to 80% between 2010 and 2018. Second, the premiums for plans of unintegrated insurers increased by 40%, relative to integrated insurers, after the last stand-alone PBM in the Part D market was acquired by a vertically integrated insurer. This result is consistent with vertically integrated firms raising the cost of PBM services to rival insurers (i.e., input foreclosure) when unintegrated insurers could no longer substitute to using a stand-alone PBM. Third, the insurer that acquired the last stand-alone PBM did not reduce its premiums after the acquisition compared to other already vertically integrated insurers. This suggests that any efficiency gains from the acquisition were not passed onto consumers in the form of lower premiums.
Although there have been many academic studies documenting the effects of vertical integration between healthcare providers (e.g., hospitals and physicians), this paper is the first to provide empirical evidence on the consumer welfare impacts of vertical integration in the insurance market for healthcare.
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Senior Economist
