In order to enhance its market power, a large medical device manufacturer and distributor named Covidien bought up the small and competitive Newport Medical in 2012, canceled its federal contract to manufacture 40,000 ventilators, and shut down its ventilator business. That acquisition was part of longstanding consolidation in the medical industry that left the United States unprepared to face the pandemic.

The New York Times had an important story about the ventilator market a few days ago, with Nicholas Kulish, Sarah Kliff, and Jessica Silver-Greenberg reporting why a government effort to stock up on the machines after the SARS epidemic failed.

In 2006, in attempt to learn from what might happen should a SARS-like disease hit here, civil servants in government decided to stockpile ventilators.

They wanted both more ventilators and better ventilators than were on the market. So government officials found a small innovative corporation called Newport Medical and contracted with the corporation to design a cheaper and better version.

Ventilators at the time typically went for about $10,000 each, and getting the price down to $3,000 would be tough. But Newport’s executives bet they would be able to make up for any losses by selling the ventilators around the world.

“It would be very prestigious to be recognized as a supplier to the federal government,” said Richard Crawford, who was Newport’s head of research and development at the time. “We thought the international market would be strong, and there is where Newport would have a good profit on the product.”

At first, the project seemed on track. Newport built a working prototype, and the government was on track to order 40,000 ventilators to put into the national stockpile. Newport would then be able to sell additional units into the health care market, as well as abroad. But in 2012, Covidien, a large medical device manufacturer and distributor, bought up Newport Medical, canceled the federal contract, and shut down Newport’s ventilator line of business.

The result, in 2020, is that we don’t have enough ventilators in a pandemic.

There are three failures of policy here. I’ll start with the simplest, which is that the merger should have been blocked.

Antitrust Failure

By any standard, the merger was a clear-cut antitrust violation. There are two theories as to why Covidien sought to buy Newport. First, Covidien already had a ventilator product and didn’t want to compete with a lower-priced and better version. Covidien bought Newport to take its competitive product out. That’s called a “killer acquisition,” meaning that the goal is to undermine a potentially innovative or lower-priced product line.

The second is that roll-ups were part of a broader consolidation trend in the industry in general. “Manufacturers,” as the Times reported, “wanted to pitch themselves as one-stop shops for hospitals, which were getting bigger, and that meant offering a broader suite of products.”

Both theories are likely true.

From 2008-2014, Covidien bought 17 other corporations. Covidien pitched itself not just as a device maker, but as a device distributor to hospitals. It even called itself a platform, bleating in its press release about the acquisition that the acquisition would strengthen its “ventilation platform” for patients around the world. In other words, Covidien was both trying to take out a potential competitor and strengthen its own bargaining posture against hospital purchasers, who were themselves getting bigger.

The merger should have and could have been blocked on many different grounds, the simplest being the killer acquisition theory. Yet the Federal Trade Commission, led by Edith Ramirez, just waved the illegal merger through without even asking any questions. Now there are calls, by both FTC Commissioner Rebecca Kelly-Slaughter and antitrust thinkers across the board, to reexamine this merger. In Congress, Antitrust Committee Chairman David Cicilline made this point on Twitter:

But this was not a one-off failure. There are two other aspects of this catastrophe that deserve some mention.

Concentration Creep and Power Buyers

The roll-up of device makers that Covidien was pursuing was part of a longstanding consolidation in the medical industry that correlated to consolidation more broadly. Because our antitrust laws focus on low consumer prices, what has happened across the economy is the creation of “power buyers.”

Most people look at monopolies who made commodities—say, steel—and believe a monopoly manifests by how much that company can raise the price of what it sells. But monopolies can operate on the buying side too. Walmart is a buying monopoly, able to use its market power to push prices down against suppliers and workers. I mean if you sell a large chunk of your product to Walmart, they can tell you what price to take.

The price to consumers may be low, but that’s because Walmart is using market power against the supplier and not the consumer. But because our antitrust enforcers don’t see anything but consumer prices, corporations like Walmart became far more powerful from the 1980s to the 2000s.

As Olivia Webb noted, there was a Walmart-ization of the medical industry as well, as hospitals combined purchasing power in cartels called Group Purchasing Organizations. GPOs buy supplies for hospitals, and they are supposed to get better prices. But they often don’t. In 1986, Congress exempted them from anti-kickback laws, so there are huge conflicts of interest in how they operate.

GPOs are also big. In 1996, the Clinton administration basically said GPOs wouldn’t be subject to antitrust prosecution. Today, for context, just four GPOs account for 90 percent of generic pharmaceutical purchasing. GPOs also handle medical devices.

Throughout the 2000s and 2010s, one of the results of these choices, as well as the refusal to enforce merger law or antitrust, was the concentration in these corporations that sell things to hospitals, everything from syringes to software.

During the HIV epidemic, a corporation called Retractive Syringes developed a safer syringe that doctors and nurses wanted to prevent accidental needlesticks, but GPOs prevented them from selling their product to hospitals.

None of this went unnoticed. Congress held hearings, to no avail, on all sorts of innovative medical devices that couldn’t make it into hospitals. Retractible won a private antitrust lawsuit, but more recently it lost one on appeal. Without legal redress, much of the medical device industry consolidated. Covidien itself was bought by Medtronic a few years ago.

Today, hospitals, pharmaceuticals, chemical inputs for drugs, medical devices, and nearly every aspect of our medical supply chain is consolidated and fragile. This ventilator story is just the best example of what that means in real terms in a pandemic.

Procurement Problems

The final notable aspect is a failure of government procurement policy. One of the more problematic columns about this catastrophe was written by Steve Kelman, a critical voice on government purchasing. Kelman counter-intuitively observed that the ventilator episode shows how government can actually do things correctly. Civil servants, he noted, were proactive and skilled, and were on the verge of getting the ventilators we needed.

Then, “sadly, the effort went south—but not because of anything the agency did wrong.” Kelman pins the problem purely on the merger and says the government did a good job. He congratulates the procurement officers, saying that “the most important story for students of public management is a story of feds doing their jobs very well.”

This may seem correct on first blush. I mean, clearly public servants saw a need in 2006 and pursued a sound strategy. But Kelman is avoiding something important.

The contracting officers in government should have mandated as a part of the contract that Newport Medical give the government all its research and proprietary information on the product, and put in safeguards to ensure that the product would be delivered. The government paid for the development of the intellectual property, it should have had rights to that property.

But the government didn’t. And why not? Largely it’s because of the work of Kelman himself. From 1993-1997, Kelman reorganized government procurement through his job as the Administrator of the Office of Federal Procurement Policy in the Office of Management and Budget.

On his bio, Kelman brags about helping pass two of the most important laws in procurement history, the “Federal Acquisition Streamlining Act of 1994 and the Federal Acquisition Reform Act of 1995,” both of which were part of the Reinventing Government privatization initiatives that eroded our capacity to govern.

These laws stripped power from contracting officers and made it much harder to shape markets through procurement. As a result, the government had no ability to take the research it had paid for, and give that to another contractor or just do the work itself. Had contractors put these provisions in place, the merger likely would have not gone through. After all, why would Covidien buy Newport if the government could ensure that cheap good ventilators would be produced regardless?

But we didn’t have rights to products developed with taxpayer money. Instead, that money and research evaporated. And the net effect is we don’t have enough ventilators.

Lessons?

There are a lot of lessons here. The first is, don’t allow illegal mergers to consolidate power over product markets. The second is, don’t let consolidation happen throughout industries in general. And the third is make sure that when the government pays for research and development, it can serve as a latent competitive threat if its contractors get bought out.

So those are the lessons. Hopefully, we’ll learn some of them before too many of us suffer.

Matt Stoller is the author of Goliath: The Hundred Year War Between Monopoly Power and Democracy and Director of Research at the newly-founded American Economic Liberties Project. This column originally appeared in BIG, Stoller’s newsletter on the politics of monopoly. You can subscribe here. 

ProMarket is dedicated to discussing how competition tends to be subverted by special interests. The posts represent the opinions of their writers, not necessarily those of the University of Chicago, the Booth School of Business, or its faculty. For more information, please visit ProMarket Blog Policy.

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