California Governor Gavin Newsom has joined the growing war on pharmacy benefit managers (PBMs) by signing SB-41. The bill contains a raft of technical regulations designed to make life difficult for PBMs. This is the wrong approach. Attacking PBMs will send drug prices up, not down.
PBMs serve consumers. They negotiate drug prices with large pharmaceutical companies and campaign for lower list prices. They are an essential check on the power of drug producers to raise prices. Unfortunately, in recent years, they have earned an unfair reputation as “middlemen,” leading some — including Governor Newsom — to the incorrect belief that attacking PBMs will help lower drug prices. SB-41 and other anti-PBM measures will send drug prices climbing faster than they already are.
California’s new regulatory push
By signing SB-41, California joins a national trend of tightening regulation on PBMs, but in an especially aggressive way. The new law requires all PBMs to be licensed by the Department of Insurance, prohibits spread pricing, mandates that all discounts and rebates be fully passed on to plans or patients, and limits relationships between PBMs and pharmacies within the same corporate group.
This approach is excessively cautious. It ties PBMs’ hands by presuming they will abuse their position in the market — even though there is no evidence they do. According to a JAMA Health Forum study, PBMs retain just 0.4% of rebates in Medicare and between 9% and 22% in the commercial market. These figures do not support the idea that PBMs pocket excessive margins or systematically exploit their position, and there is no reason to believe they are about to start doing so.
The legislation assumes vertical integration — where PBMs have corporate relationships with pharmacies — is an abusive practice. In reality, it is an efficiency mechanism that helps keep the system financially sustainable.
PBMs as market stabilizers
Newsom presents SB-41 as a victory for consumers, ignoring the fact that PBMs are restraining the surge in drug prices. The imposition of new fiduciary duties, administrative controls and structural limitations will raise costs and reduce the reach of large-scale discount programs. California will add bureaucracy and create market distortions, which will hurt PBMs and, therefore, patients.
PBMs aggregate millions of consumers through insurers and employers, acting as large-scale buyers in a market dominated by a few manufacturers with pricing power. This scale allows PBMs to negotiate volume-based discounts, which would be impossible in a fragmented system.
Manufacturers lower their list prices to secure access to formularies — the lists of covered drugs — which, in pure market terms, is competition at work: whoever offers the best price gains access to millions of consumers.
The savings from these negotiations are largely passed on to health plans and patients, resulting in lower premiums and reduced costs at the counter. What’s more, PBMs promote the use of generics and biosimilars (medicines that provide the same clinical value as brand-name drugs but at a fraction of the cost), encouraging competition and accelerating price declines once patents expire.
Politicians and lawmakers who oppose PBMs often portray them as predatory middlemen. When in fact, they are a necessary counterweight to the pharmaceutical industry’s pricing power.
How SB-41 undermines cost controls
SB-41 moves in the opposite direction. By banning spread pricing — where a PBM charges a health plan slightly more than it reimburses the pharmacy — and limiting vertical integration, the law strips flexibility and negotiating power from the only entities capable of reducing costs through coordination and scale.
Spread pricing is a legitimate and essential contractual model. It allows PBMs to cover operating costs, offset market fluctuations and maintain price stability over time. It’s not like PBMs are getting rich from their models. PBMs operate on profit margins as low as 2%. Eliminating spread pricing forces PBMs to operate on even tighter razor-thin margins and reduces their incentive to negotiate aggressive discounts from drugmakers.
Restrictions on vertical integration, which prevent the same group from owning both a PBM and a network of pharmacies, also end up hurting consumers. Integration reduces administrative costs, improves logistics and ensures drug delivery in rural areas where small independent pharmacies rarely survive. Without it, the system becomes fragmented and loses the collective bargaining power that helps keep prices under control.
The likely result is the opposite of what lawmakers promise: less competition, less access and higher prices. SB-41 is a mistake. It is an intervention that weakens those who negotiate lower prices and empowers those who set them.
Other states have already illustrated the risks of this approach. In Arkansas, a law barring PBMs from owning pharmacies was blocked by a federal court after warnings it would lead to store closures and higher plan costs. In Alabama, a new pharmacy reimbursement formula tied to Medicaid benchmarks has drawn warnings that it could raise drug costs for the consumer. These cases demonstrate that political intervention cannot override basic market logic.
A better path forward
Regulating abusive behavior is legitimate and necessary, but prohibiting or restricting efficient business models is not. Transparency should be achieved through audits and targeted sanctions, not through government interventions that strip flexibility from the market.
When the state tries to “fix” a mechanism that already works, it ends up handing more power to manufacturers, the only players who truly determine the initial price of drugs. SB-41 does not solve the cost problem; it will likely make it worse. Instead of strengthening negotiation and competition, it weakens both.
PBMs are an example of how a free and competitive market can generate savings and improve access in a difficult sector. If the goal is to make prescription drugs more affordable, California should invest in innovation and let the market work.
After all, prices don’t fall when the government legislates. They fall when the market functions. That’s what laws like SB-41 seem to forget.
[Kaitlyn Diana edited this piece.]
The views expressed in this article are the author’s own and do not necessarily reflect Fair Observer’s editorial policy.
