This piece is co-authored by Rachel Sachs, associate professor of law at Washington University Law School. It’s cross-posted at the Health Affairs Blog.

Although drug formularies are ubiquitous in Medicare and the private insurance market, they’re absent in Medicaid. By law, state Medicaid programs that offer prescription drug coverage (as they all do) must cover all drugs approved by the U.S. Food and Drug Administration, however expensive they are and however slim their clinical benefits may be.

Massachusetts would like to change all that. In a recent waiver proposal, Massachusetts asked the Centers for Medicare and Medicaid Services (CMS) to allow it to adopt a closed formulary in Medicaid. That would allow Massachusetts to exclude certain brand-name drugs from Medicaid, increasing its leverage in price negotiations beyond what it can achieve through existing utilization management techniques like prior authorization.

Among Medicaid advocates, the proposal is controversial. Some fear that state budgets would be balanced on the backs of Medicaid beneficiaries, who could be denied access to expensive therapies. But Massachusetts thinks there’s room to drive down drug spending without threatening access to needed medications. In any event, the state has to do something. Drug spending in Massachusetts has increased, on average, 13 percent annually since 2010, threatening to “crowd out important spending on health care and other critical programs.”

By all rights, CMS should welcome Massachusetts’s proposal. Closed drug formularies are tried-and-true, market-based approaches to fostering competition over drug prices, and the Trump administration’s Council on Economic Advisers recently released a report saying that “government policy should induce price competition” in Medicaid. If Secretary of Health and Human Services (HHS) Alex Azar means it when he says that “drug prices are too high,” letting Massachusetts try out a formulary makes a ton of sense.

But The Waiver Is In Trouble

Recent press accounts, however, report that Azar is likely to reject the Massachusetts waiver. Details are sketchy, but the agency is apparently concerned that the pharmaceutical industry would sue CMS if it approved the state’s request for a closed formulary.

As law professors, this explanation mystifies us. Yes, PhRMA might sue CMS if it approves the waiver. This is America; you can sue anyone for anything. The right question is whether PhRMA could win.

We don’t see how. CMS’s legal authority to grant the waiver is secure. Under section 1115 of the Social Security Act, CMS can “waive compliance with any of the requirements” of section 1902 of the Medicaid statute. One of the requirements of section 1902 is that state Medicaid programs must cover all medically necessary drugs. CMS is therefore free to relieve states of that obligation through an 1115 waiver.

To be more precise: Section 1927 of the Medicaid statutesays that, “[i]n order for payment to be available” from the federal government for a drug, a state has to agree to cover the drug whenever it’s medically necessary. In exchange, manufacturers must sell the drug to the state’s Medicaid program at a rebated price. But states have to adhere to section 1927 only because, under section 1902(a)(54), they must “comply with the applicable requirements of section 1927.” And section 1115 allows CMS to waive compliance with any provision of section 1902, including the part that incorporates section 1927.

Once a state’s waiver is approved, the “costs of such [waiver] which would not otherwise be included as expenditures … shall, to the extent and for the period prescribed by the Secretary, be regarded as expenditures under the State plan,” and thus eligible for matching payments from the federal government. In other words, CMS can grant waivers allowing states to receive federal Medicaid dollars for a drug that isn’t purchased in conformity with section 1927.

There are some conditions on the approval of 1115 waivers. Any waiver must be “likely to assist in promoting [Medicaid’s] objectives” and must be a genuine experiment. But both conditions appear satisfied here: Making Medicaid a smarter purchaser of drugs likely advances the program’s purposes, and Massachusetts has said it will evaluate the effects that its formulary has on price and access. In any event, CMS is in no position to be finicky about the limits of 1115 waivers—when it comes to the approval of state waivers for work requirements, it’s already pushing the legal envelope. If it’s not worried about the lawsuits over work requirements, why worry about similar lawsuits from PhRMA?

What About The Rebates?

The industry’s legal objection to the Massachusetts waiver may run deeper. There’s been some suggestion that Massachusetts can’t secure a selective waiver of section 1927 of the Medicaid statute. On this argument, maybe section 1927 is an all-or-nothing deal: In exchange for guaranteed access to state Medicaid markets, drug manufacturers promise to offer substantial rebates. If access is restricted, those rebates evaporate too.

We haven’t seen a fully developed version of this argument and we have no idea if CMS is taking it seriously. But the Medicaid statute doesn’t support it. Section 1927 may have been the product of a negotiated legislative compromise—a “‘grand bargain’ struck 28 years ago,” as The New York Timesput it—but nothing in that section purports to limit CMS’s waiver authority. That’s a telling omission. Other parts of the Medicaid statute (section 1916(f), for example) do place constraints on waivers, suggesting that Congress knows how to constrain waiver authority when it wants to.

Indeed, CMS selectively waived section 1927 just a few weeks ago when the agency granted Arkansas’s request to waive “Section 1902(a)(54) insofar as it incorporates Section 1927(d)(5).” A Massachusetts waiver would look almost identical: It would waive section 1902(a)(54) to the extent that it incorporates section 1927(d), which is the part of section 1927 that curtails states’ authority to exclude drugs from coverage. Left intact would be sections 1927(a), (b), and (c), which require drug manufacturers to offer rebates. We could be missing something, but we don’t see any legal objection to that approach.

Preemption

Even more misguided is the suggestion that federal law might somehow preempt Massachusetts’ closed formulary. State laws are subject to preemption where Congress says they’re preempted (express preemption) or where a state law conflicts with the purposes of a federal statutory regime (conflict preemption). The pharmaceutical industry might look to support a preemption theory by invoking Biotechnology Industry Association v. District of Columbia, a 2007 Federal Circuit decision invalidating a Washington, D.C. law that prohibited drug manufacturers from charging “an excessive price.” In the court’s view, Washington, D.C.’s effort to regulate prices conflicted with the federal patent system’s policy of offering lucrative financial rewards for inventors.

The court’s decision is questionable, to say the least. Right or wrong, however, the decision speaks to a state effort to impose direct price controls on drugs. It doesn’t speak to the question of whether a closed drug formulary is unlawful. And it certainly doesn’t speak to the question of whether a formulary adopted with the explicit consent of the federal government is unlawful. Here, Massachusetts wouldn’t be adopting a formulary in the teeth of a federal statute. It would be adopting a formulary pursuant to a federal statute—in particular, pursuant to the terms of a Medicaid waiver contemplated by the Medicaid statute.

So What’s Going On Here?

To our eyes, the legal objections appear to be pretext. Why, then, is CMS apparently so reluctant to grant Massachusetts’ waiver? We can envision a number of possible reasons, some benign and others less so. It could be, of course, that the reporting overstates the case against the waiver. Two weeks ago, Secretary Azar said that HHS would unveil “a whole slate of” proposals on the topic in “about a month.” Maybe Secretary Azar will use the opportunity to endorse Massachusetts’ waiver.

Perhaps more plausible is the idea that CMS wants congressional buy-in before taking a step—approving closed formularies—that would undermine the legislative bargain struck between rebates and coverage. The Trump administration’s budget proposal, for example, calls for “new statutory demonstration authority to allow up to five states more flexibility in negotiating prices with manufacturers.” Maybe that reflects a genuine desire to act through legislation instead of through a waiver. Then again, CMS knows that Congress has been unable to take real action on drug prices. Waiting for Congress is tantamount to doing nothing.

There is another possibility. CMS reportedly fears that other states may request similar waivers if Massachusetts’ is approved. (Indeed, Arizona has already made such a request.) But if other states come to think that closed formularies are a good idea, why shouldn’t they follow Massachusetts’s lead? That’s how federalism is supposed to work: When a state lights on a good idea, the idea proliferates. It’s sensible for CMS to worry about copycat states when a state waiver might lead to a big increase in federal Medicaid spending, but closed drug formularies should reduce federal spending. The more states jump on board, the better.

In any event, CMS’s reticence here is in sharp contrast to its eagerness to promote the spread of work requirements. CMS has already approved work requirements for three states, and applications are pending from at least eight other states. We do not see a principled argument for distinguishing between the two policies on this basis.

If none of these explanations hold water, a more alarming possibility comes into focus. The Trump administration may have succumbed to lobbying from the pharmaceutical industry. We hope that’s not the case. It would be unlawful for CMS to deny an otherwise-legal waiver just because it threatens industry’s bottom line.

Whatever is going on here, however, it does not bear the hallmarks of good policymaking. CMS should also keep in mind that it faces litigation risk no matter what it does. PhRMA might sue if the waiver is approved, but Massachusetts might sue if it’s denied.

Secretary Azar has only been in office a few months, and he is still working to develop the agency’s policies on drug pricing. His tenure has already marked a significant improvement over Tom Price’s in a number of ways, and we are optimistic that he will prove us wrong about what’s going on at CMS. If he does not, however, we anticipate further legal battles for the administration.

@nicholas_bagley and @RESachs