Virginia lawmakers recently passed Virginia Senate Bill 271 (SB271), legislation that extends federal Medicare drug price caps to state-regulated health plans, forcing pharmaceutical companies to sell patented medicines at lower prices. The bill, also known as the Affordable Medicine Act, is intended to save taxpayers, plans and patients money. However, price controls are proven to cause shortages. And the government’s ability to control prices through its dominant buying power and threats to regulate and tax drugmakers who don’t comply, is likely to deter research and development, leading to fewer new cures and harm to Virginia’s innovation economy and job market.
SB271 builds on the price-setting regime of the Inflation Reduction Act (IRA). This law requires drugmakers to sell selected drugs to Medicare at a government-determined “maximum fair price.” In theory, the program involves negotiation. In practice, it’s effectively coercion.
From Jan 1, 2027 onwards, manufacturers who withdraw their drugs from sale to avoid the price cap, will face severe civil sanctions, amounting to up to $500,000, or tax penalties totaling the annual savings created by the capped price of the drug. With such punishments, refusal is not a realistic option. And since governments stand as dominant buyers of medicine under programs servicing over 160 million Americans, suppliers of drugs are obligated to lower their prices. Although an intermediary or wholesaler obtaining lower prices from their suppliers usually increases competition and benefits consumers through cost savings, this isn’t the case where suppressing the value of the input reduces final product output to below competitive market levels. This is known as monopsony pricing.
Researching, developing and bringing new drugs to market is expensive and risky. The average cost of research, clinical trials, and regulatory approvals can average $879.3 million. Since most research projects fail, commercially successful drugs must generate enough revenue to cover both their own development costs and the sunk costs of unsuccessful trials. The Congressional Budget Office determines that drug companies must achieve profit margins of 62.2% on successful drugs just to obtain a 4.8% return on their overall assets. Firms and investors base R&D investment decisions on future revenue expectations. Price caps, or even the threat of them, drastically curtail these incentives, diverting investments from capital-intensive projects that produce cutting-edge cures and medicines toward safer bets.
Ironically, this can result in taxpayers paying more to fund public healthcare since hospitalizations are a much more significant driver of costs than drugs. Many new drugs- especially those that treat or lower risk of lifestyle illnesses and chronic conditions, like Diabetes and heart disease, significantly reduce future hospitalizations. In 2019, Virginia spent $3 billion on Type 2 Diabetes treatment, making it the leading cause of health spending in the Commonwealth. Notably, the first set of drugs chosen for the “negotiation” program address such conditions, imperiling future research into new treatments.
Our federal antitrust laws recognize the risks and harms of monopsony power. The Sherman Act prohibits private firms from abusing their buying power in ways that distort markets or suppress innovation. Courts have extended this principle to several industries. In 2022, a federal court blocked the proposed merger between Penguin Random House and Simon & Schuster because it could have allowed the combined company to depress payments to authors, reducing incentives to produce new books. Similarly, the Supreme Court ruled that the National Collegiate Athletic Association had unlawfully suppressed compensation for student-athletes below competitive levels through coordinated buyer power. In both cases, consumers would have been worse-off through fewer talented authors and athletes entering into their respective markets, thereby harming competition.
Price caps will also likely harm Virginia’s healthcare, pharmaceutical, and biotechnology sectors, which provide thousands of high-skilled jobs. Companies like Eli Lilly have recently announced major manufacturing investments in the state, including a facility in suburban Richmond that is expected to create hundreds of permanent jobs. Policies signaling hostility toward intellectual property and threatening to suppress drug revenues, discourage future investments of this kind and may put existing projects at risk.
Americans pay two to three times more for patented medicines than citizens of other developed countries- a result of foreign governments using their own monopsony purchasing power to push prices down. This means that the United States shoulders a disproportionate share of the global costs of funding pharmaceutical innovation.
This imbalance can be addressed through trade negotiations that encourage foreign governments to pay closer to market value for American-developed medicines, spreading research costs more fairly across countries, and reducing their free-riding off US-funded innovation. For instance, the US recently negotiated a deal with the UK under which its National Health Service will pay 25% more for patented US drugs. Encouraging greater global participation in funding innovation would reduce the burden on American patients and taxpayers without undermining incentives for new discoveries.
Price controls may deliver quick political wins, but they come with hidden costs. By extending federal drug price caps into state policy, SB271 will weaken incentives for medical innovation. This will discourage investment and reduce access to next generation life-saving treatments. Virginia should think carefully before expanding a federal policy that promises short-term gain, but will deliver long-term pain.
Satya Marar is a postgraduate research fellow at the Mercatus Center at George Mason University.
Archita Aggarwal is a research associate at the Mercatus Center at George Mason University.
