This post was written by Adelaide Masterson, our health care research intern.
The Trump administration is trying a new version of pharmaceutical price regulation that we haven’t seen since the Inflation Reduction Act of 2022 (IRA). Will this new approach save us money on our prescription drugs? It’s certainly possible, but it’s not inevitable.
Understanding the Most Favored Nation Executive Order
During his first term, President Donald Trump attempted to reform the pharmaceutical industry using two major rules. The first was the “Most Favored Nation” (MFN) rule, which established international reference pricing. The second essentially banned rebates from Medicare Part D. Both faced backlash and were delayed by the Biden administration and federal courts.
In May of his current term, Trump announced a plan to reinstate the MFN rule. This move means that pharmaceutical manufacturers will need to bring US prices in line with similarly developed nations. Trump has found recent industry proposals from major drug manufacturers in response to the MFN rule unsatisfactory, so he required each company to propose new plans to meet the specified targets.
At the end of July, Trump sent letters to these companies that describe the steps that must be taken by September 2025 to reduce prescription drug prices to MFN pricing. These components include price transparency for Medicaid patients, enforced MFN pricing, alternative sales avenues without middlemen, and trade policy support. If manufacturers choose not to comply, the US government will do what it can to enforce these price regulations, including leveraging trade policy and regulatory authority to restrict pharmaceutical development. Letters describing US requirements were sent to 17 prominent pharmaceutical companies, including Amgen, Novo Nordisk, Pfizer, Eli Lilly, Johnson & Johnson, GSK, Sanofi, and Merck.
Where have we seen this before?
We’ve seen some attempts at price regulation for the pharmaceutical industry in the past. The most recent is the IRA, which was signed into law by then-President Joseph Biden in August 2022. The prescription drug provisions in the IRA include:
- increased federal negotiation responsibility for Medicare Part B and D;
- enforced rebate payments from drug companies to Medicare as inflation requires;
- capped out-of-pocket spending for Medicare Part D;
- limited monthly cost-sharing for insulin for those with Medicare;
- improved access to adult vaccines for Medicare, CHIP, and Medicaid;
- expanded eligibility for full benefits of the Medicare Part D low-income subsidy program; and
- delayed implementation of Trump’s drug rebate rule.
It was expected that these regulations would reduce pharmaceutical companies’ revenues and possibly impact innovation and research and development (R&D) spending. This set of regulations is fairly new, and the long-term impacts are still unfolding, but experts say that the IRA will likely result in many companies shifting their business strategies in anticipation of market changes. These changes will likely be most evident in reductions to R&D.
Theory’s predictions for the pharmaceutical market
Similar to the IRA, the MFN approach has the potential to shift business strategies both within and outside of the US. Clayton Christensen’s Theory of Disruptive Innovation can help us take a look at what may be coming our way.
Disruptive Innovation Theory describes the phenomenon where simpler, more affordable, and often lower-performing products or services enter a market and gradually displace established competitors. These innovations can be “new market” (i.e., serving nonconsumers), low-end (i.e., serving those who can’t afford the existing solutions), or a hybrid of both. These innovations have the potential to transform industries by redefining value and shifting consumer expectations.
It’s possible that imposing international reference pricing is an attempt to disrupt entrenched US pharmaceutical incumbents and, thus, the prevailing pricing system. The current industry is characterized by high margins and high costs, supported by a value network that includes expensive R&D, patent protection, and profit maximization. Additionally, pharmacy benefit managers (PBMs) have served as the middleman between the manufacturer and the patient in the US for years. These PBMs take significant portions of manufacturer revenue, which contributes to the high costs patients are seeing.
By enforcing this reference price ceiling, MFN could challenge the sustaining innovation model, where companies have been producing high-end, high-cost drugs that are then sold to patients through PBMs. Sustaining innovations are improvements to existing solutions (i.e., products or services) that can maintain the current trajectory of competition. Challenging this model with an executive order can make space in the market for low-cost, and possibly disruptive, players.
In summation, the MFN Executive Order released at the end of July this year describes an avenue for manufacturers to cut out PBMs and sell medicine directly to patients, while falling under the proposed price ceiling. As a result, Trump’s regulation is opening up a pathway for new market entrants to disrupt incumbent drug manufacturers and PBMs.
Generic manufacturers and other potential low-end disruptors can take advantage of this pathway to claim the bottom of the pharmaceutical market, which incumbents don’t prioritize. More low-end entrants could then sell directly to the patient, which could drastically reduce market demand for PBMs.
In a high-margin, high-cost industry like pharmaceutical development, limiting revenue from the US will hurt many large manufacturers. These incumbents likely won’t be able to drop prices enough to maintain their desired margins and associated cost structures, leaving room for potential disruption in the form of lower-cost business models. Theory tells us that low-end disruptors will attempt to claim more and more of the market over time, ultimately displacing incumbents. We’ve seen Mark Cuban’s Cost Plus Drugs begin this trajectory. What started as a direct-to-consumer online pharmacy charging low prices for a few dozen generic drugs has transformed into a company selling thousands of drugs and partnering with PBMs, health systems, and employers.
If entrants with disruptive potential continue to enter this market, patients will see more lower-cost prescription drugs available as incumbents struggle to meet the reference price regulations due to their existing business models that leverage PBMs.
Pharma’s next steps
Trump is still waiting on the new proposals from major drug manufacturers following his letters. Incumbents have a choice as to whether they are willing (and able) to take a significant revenue cut in order to still sell prescription drugs in the US. Even without considering the new tariffs on imported medicines from Europe, this decision is difficult. A revenue cut would mean less investment into R&D and possibly fewer pharmaceutical innovations from these manufacturers, further opening the door for competition.
By eliminating middlemen and capping prices, Trump aims to create a viable market for disruption. Innovations don’t exist in a vacuum—they require coherent value networks to succeed. Trump is attempting to force the hand of health care to allow disruption where there hasn’t been much in years. If he gets his way, it’s possible—but not assured—that patients may be paying less for prescriptions in the future than they are today.
