This week, the Senate is expected to vote on an amendment to the healthcare overhaul bill that would incorporate the chief features of Senator Byron Dorgan’s drug importation bill. The Dorgan amendment would essentially require U.S. pharmaceutical manufacturers to supply importers from foreign nations with unlimited quantities of low-priced drugs, which could then be resold in the U.S. market. (The topic is often referred to as “reimportation,” but most of the affected drugs would simply be imported rather than first exported from the United States and then reimported.)

The issue is hardly new. In the 1990s and especially during the 2000 elections, the disparity between prices here and prices abroad, especially in Canada, provoked dismay and political uproar. I wrote about this at the time and several times since, most recently here. Some states and cities, almost all of them at or close to the northern tier, embarked upon their own plans to permit and even encourage importation from Canada.

The dismantling of foreign price controls, accompanied by unprecedented increases in foreign healthcare costs, would precipitate a diplomatic crisis.

Large international price disparities are caused mainly by national price controls, although pharmaceutical manufacturers voluntarily cut prices in poor nations as long as they can prevent trans-shipment to wealthy nations. Several studies have found persistent gaps between prices here and in Canada, the European Union, Australia, New Zealand, and, sometimes, Japan. Recent studies include International Trade Administration 2004 (International Trade Administration, U.S. Department of Commerce, 2004, “Pharmaceutical Price Controls in OECD Countries: Implications for U.S. Consumers, Pricing, Research and Development, and Innovation”; Danzon, Patricia M., and Michael F. Furukawa, 2008, “International Prices And Availability Of Pharmaceuticals in 2005,” Health Affairs, v. 27, no. 1, p., 221-233; and Calfee and DuPre 2006, available here). In our study, we found almost no international differences for unique biotech drugs but very large differences for drugs in competitive therapeutic classes. Earlier studies were generally similar, although ours was the only one to separate out the most innovative drugs.

Congress passed the Medicine Drug and Safety Act in 2000, permitting importation if the Secretary of Health and Human Services certifies that imported drugs would be safe and would reduce U.S. prices. No secretary has made such a call, so drug importation remains a political issue. Dorgan’s bill is very different. It greatly eases the task of assuring safety. That makes sense because the large importers would be organizations such as CVS and Wal-Mart, who will do all they can to avoid selling adulterated or fake drugs. My colleague Roger Bate recently published a study showing that even Internet sales to individuals are probably safe nearly all the time.

The real issue is economics. Drug R&D is funded by profits. Wealthy nations—every one but ours—enact price ceilings in the expectation that the drugs will continue to be sold because they are cheap to manufacture, leaving plenty of room for profit even at controlled prices. Drugs that compete with one or a few others, which includes almost all the most-used drugs, suffer the largest discounts because price controllers can play the manufacturers against each other. The net effect is lower profits abroad, sometimes cutting out half or more of profits, leaving the United States as the prime source of profits and therefore of R&D funds.

Even if the importation legislation survives a constitutional challenge, manufacturers will not supply the entire U.S. market at Greek prices.

The significance of the Dorgan bill lies not in drug safety but in how it deals with sales. The central feature is “forced sales,” not in the sense that any sales are literally required, but because a manufacturer that sells to any particular nation has to sell as much as buyers want at whatever price those buyers pay in that nation. The implications are bizarre. If Lipitor is 40 percent cheaper in Germany, a German importer could order enough to supply not only Germany but also the entire U.S. market. The manufacturer (Pfizer) could try to meet domestic German demand and no more, but the Dorgan bill includes provisions to make that difficult. But why worry about Germany? Prices are certainly cheaper in, say, Greece, Portugal, or one of the Eastern European nations (the Dorgan bill includes a list of acceptable nations). A lot of drugs could flow through Portuguese seaports, assuming that anyone bothered to ship them back and forth instead of directly to the United States.

The expectation, written into the preamble to the Dorgan amendment, is that the forced-sales version of drug importation will cut U.S. healthcare spending. And indeed it would if it worked the way its sponsors seem to have in mind. Small European governments are quite capable of figuring out that they can dominate worldwide pharmaceutical shipments simply by posting the lowest prices in the developed world. It is easy to envision a downward race toward marginal costs and zero profits—and a great slowdown in drug development, of course.

Who would support such a strange law? As it happens, the bill S. 242, the precursor to the Dorgan amendment, had quite a few co-sponsors in the previous Congress, including the senior senator from Arizona and the junior senator from Illinois, one of whom became president by beating the other one in 2008. On December 8, however, Obama’s Food and Drug Administration Commissioner Margaret Hamburg announced her opposition to the Dorgan amendment.

We now have an administration eager to experiment with radical intervention in markets foreign and domestic.

I don’t think importation legislation will work as intended by many of its supporters. If it survives a constitutional challenge (can we really make firms do this?), manufacturers will not supply the entire U.S. market at Greek prices. Instead, they will stop serving Greece—or Portugal or the Czech Republic—whatever it takes. Any low-priced qualifying nation that cannot rein in its exporters (something Canada has thought about doing) will be forced to relax its own price controls or go without drugs.

That may be music to a lot of American ears, including some on Capitol Hill. But whether the net result will be a good thing is anything but obvious. There are sound reasons for selling drugs at lower prices where per capita incomes are lower (which is pretty much everywhere) and healthcare costs are lower (because preventing three days of hospitalization is worth less in France than here). When prices equalize, U.S. prices would probably not be a lot lower than they are now—but prices would be a lot higher everywhere else.

That would disappoint most supporters of the Dorgan amendment, but the geopolitical fallout would be far more worrisome. The dismantling of foreign price controls, accompanied by unprecedented increases in foreign healthcare costs, would precipitate a diplomatic crisis. Our allies and trading partners will want to know why our prices are so high. Why are you the only holdouts on price controls, which have been praised in elite medical and health policy journals around the world? Is it not time to sit down and work out a compromise between our price controls and yours, just as soon as you have some?

We now have an administration that is eager to experiment with radical intervention in markets foreign and domestic, has had hardly a good word to say about recent drug development, and will be desperate to curtail healthcare costs if it passes an overhaul bill that is advertised to, well, curtail healthcare costs. There are good reasons to worry about the prospect of adding drug importation to health reform legislation. A substantial part of future drug development hangs in the balance.

John E. Calfee is a resident scholar at the American Enterprise Institute.

FURTHER READING: Calfee recently wrote “Tough Challenges at the FDA,” on how Obama’s Food and Drug Administration commissioner should avoid actions that make the drug development process more costly and inefficient, and “A Troubling Supreme Judgment” on the Supreme Court’s decision in Wyeth v. Levine. He also wrote “A Public Health Disaster in the Making” on how Congress is poised to pass one of the worst public health laws ever conceived and “What Do Vitamins and Fish Oil Tell Us about Drug Research?”

Image by Darren Wamboldt/Bergman Group.