Preferred Pharmacy Networks and Drug Costs

Selective contracting is a popular tool for reducing health care costs, but these savings must be weighed against consumer surplus losses from restricted access. In public and private prescription drug plans, issuers utilize preferred pharmacy networks to reduce drug prices. We show that, in the Medicare Part D program, drug plans with restrictive preferred pharmacy networks pay lower retail drug prices; however, enrollee insensitivity to preferred pharmacy copay discounts leads to higher prices. We then estimate plan and pharmacy demand models to quantify the costs and benefits of selective contracting with heterogeneous enrollee sensitivity to benefit design.