Canada has the third-highest prescription-drug prices in the world, behind only the United States and Germany. That's because our regulatory regime for pricing drugs is outdated and ineffectual, a self-inflicted wound that costs taxpayers and employers billions of dollars annually.

Canadian prescription drug prices are 35 per cent higher than the average among other developed countries. To put that in more digestible form, consider that $13.7-billion in patented medicines were sold in this country in 2014; if Canadians had paid the OECD average instead of our own inflated prices, the bill would have been $3.6-billion less.

And that's just part of the drug-spending puzzle. Prices for identical drugs vary between provinces, for no good reason; brand-name drugs are too often prescribed when similarly effective and much cheaper generics would do the job; and generic prices in Canada are also among the highest in the world.

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To understand how we got ourselves into this expensive pickle requires a bit of history. In 1987, the Conservative government of Brian Mulroney granted drug manufacturers greater patent protection in exchange for a promise they would bolster investment in research and development. (The law provides 20 years of patent protection but, practically, market exclusivity lasts seven to 10 years because of research and regulatory hurdles and legal challenges.) The law also created the Patented Medicine Prices Review Board to ensure Big Pharma didn't abuse patent rights by charging excessive prices.

The PMPRB set drug prices at the median of seven countries – France, Germany, Italy, Sweden, Switzerland, Britain and the United States. These countries have some of the world's highest drug prices. But they were chosen because they had the highest rates of pharma research and development – the assumption being that the companies would follow suit in Canada. It didn't work out that way.

Today, in the PMPRB7 countries, companies spend more than 20 per cent of their revenues on R&D. But in Canada, it's a paltry 5 per cent, the same as it was in 1987. Turns out that some things matter a lot more than patent protection, such as good head-office location, clinical-trials investment, scientific clusters and government investment in research – and Canada doesn't excel in any of those areas.

The upshot is that we got drug prices and little investment/jobs in return. Using international comparators to set prices is not a bad idea – most countries do it. But only Canada and South Korea include the United States in their formulas because U.S. prices are so out of whack.

The list price of drugs is roughly 250 per cent higher in the United States than in Canada, so that skews our price setting. The other problem is that list prices are now largely meaningless, because manufacturers offer extensive discounts and rebates. But the PMPRB can't include that fact in its calculations because the real prices are confidential.

This is particularly problematic with so-called "me too" drugs (chemically similar products from competitors), which make up about 80 per cent of all prescription drugs. The lack of transparency in pricing means that companies negotiate different drug prices with each province. But if each jurisdiction paid the lowest negotiated price, it is estimated the savings would be in the order of $600-million annually.

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This is why the provinces created the pan-Canadian Pharmaceutical Alliance but, so far, the pCPA has conducted joint pricing negotiations for only 149 drugs, and there are roughly 4,400 drugs on most provincial formularies.

What would be most sensible is a single national formulary – a list of drugs covered by public drug plans. This would revamp the PMPRB pricing formula to bring our costs in line with other OECD countries. Increasingly, countries are using their price-setting powers not only to rein in costs but to encourage innovation. The way to do that is to pay for results: Drugs are only reimbursed if they are effective.

The PMPRB does not have that power but another body, the Common Drug Review, conducts economic evaluations of drugs based on their therapeutic merits, and it should be flexing its muscle, too.

The aim, ultimately, is fair pricing. Fair doesn't necessarily mean cheap. But the drugs that are covered by public insurance should provide value for money – for individuals and society.

There is a lot of talk these days in Canada about pharmacare – extending public insurance to prescription drugs. If that's going to happen, one of the precursors must be reasonable drug prices. Canadians have overpaid for drugs for far too long and its well past time Ottawa restored some balance.