There are many arguments for why prescription drug prices are so expensive in America. In 2024, the Federal Trade Commission (FTC) released a document pointing the finger at one key player: Pharmacy Benefit Managers (PBMs). Allegedly, PBMs mark up drug prices and keep the profits for themselves instead of passing savings on to consumers. Now, state legislatures in Arkansas, Wisconsin, Illinois, and North Carolina are all pursuing bills that restrict the activities of PBMs.
PBMs are essentially the middleman in the prescription drug market. They negotiate drug prices with manufacturers on behalf of insurance providers. Historically, middlemen have been blamed for raising prices, and as the FTC document shows, the health market is no exception.
However, the underlying logic behind the middleman’s role reveals that this accusation is misplaced. Far from increasing prices, PBMs are a key market institution that improves efficiency and actually reduces prices. Moreover, they perform several functions consumers want or need. Restricting their activities would raise prices and leave consumers worse off.
Critics accuse the middleman of simply buying low and selling high. That is precisely why they are blamed for higher prices. In the case of PBMs, critics argue they “buy low” by negotiating steep rebates from manufacturers and then “sell high” to insurers and patients, keeping part of the difference for themselves.
Yet this very process — buying low and selling high — actually reduces prices overall. In doing so, the middleman engages in arbitrage: noticing price discrepancies, acquiring undervalued products, and selling them to the highest bidder. Arbitrage compresses price differences, pushing them toward convergence. The result is a final price that is higher for manufacturers but lower for consumers than it otherwise would have been.
Consider food distributors. They buy from farmers at lower prices and sell in cities to supermarkets that offer the highest bids. To succeed, they must pay farmers a little more and charge supermarkets a little less than what each would get by dealing elsewhere. Otherwise, neither side would work with the distributor. This process compresses the price gap, leaving both farmers and supermarkets better off.
This principle applies even in complex markets like prescription drugs. Economist Dennis Carlton's research shows that PBM-affiliated pharmacies consistently offer lower prices than independent competitors. A comprehensive Management Science study found that PBMs reduce overall U.S. prescription drug spending by approximately 28% compared to a world without them.
Still, there are other problems in the prescription drug market. In fact, this market is the textbook example of asymmetric information — situations where one party knows more than another. This leads to inefficiencies such as patients buying expensive brand-name drugs when equivalent generics exist. In this context, how can consumers decide between different options of the same product or service? How can they assess the quality of these different options, and where can they go to find the lowest price?
The answer, as Milton Friedman noted, is that consumers do not have to handle these tasks themselves. Instead, there is a market institution that solves these problems: the middleman.
PBMs function as the prescription drug market’s middlemen, alleviating these burdens. They evaluate a wide variety of products and make available those most acceptable to consumers. They also assess product and service quality so that patients do not have to spend time and money doing so. They also ensure drugs reach remote or poorly connected areas, improving logistics. In short, they develop specialized expertise that simplifies market complexity.
PBMs’ role in evaluating products is demonstrated by their ability to negotiate with major drug companies such as Merck to maintain access to asthma and diabetes medications that consumers need. In addition, to review product and service quality, PBMs monitor fraud and waste by examining claims, unnecessary refills, and overprescription by doctors. Finally, PBMs also facilitate logistics by encouraging prescription drug home delivery, a service especially valuable for elderly patients and people in rural areas.
The FTC and the state legislatures seeking to restrict PBMs are misdiagnosing the problem. PBMs not only help reduce prices but also perform services that are highly valued by consumers. To lower drug prices for everyday Americans, lawmakers should instead address the real drivers of high prices — regulatory delays, trade barriers, patent abuses, and restrictions on competition — and allow Pharmacy Benefit Managers continue doing their essential work.
