A revealing study of Medicare Advantage competitive bidding

In Competitive Bidding in Medicare: Who Benefits From Competition? (AJMC, ungated), Zirui Song, Mary Beth Landrum, and Michael Chernew examine how plan bids in the current Medicare Advantage program respond to changes in the government’s maximum payment to plans (i.e., the maximum allowable subsidy plans receive to cover beneficiaries, also known as the “benchmark”).

The conventional wisdom (or, perhaps, naivete) is that plans bid their costs. Indeed, that’s what they’re supposed to do. A plan bid is interpreted as its estimate of the cost of providing the standard Medicare benefit. When bids are below the benchmark, as they usually are, plans receive 75% of the difference in a rebate, which they are obligated to use to provide extra benefits or reduced cost-sharing. If a plan bids above the benchmark, it receives the benchmark as a subsidy and must charge the difference as premium.* If this is unfamiliar to you, it’s all explained in the paper. See, in particular, Figure 1. (You won’t find Figure 1 online. However, if you click to the end of the paper as it appears in HTML online, you will see a link to a PDF, which I believe you can obtain with free registration.)

If plans actually bid their costs of providing the standard Medicare benefit, then that cost ought not change in response to an exogenous change in benchmark (i.e., assuming the benchmark is not itself responding to cost changes). The authors make an argument for why benchmarks are, in fact, disconnected from plan costs, and they toss in a bunch of controls just in case that’s not a perfect assumption. You can either trust me or read the literature on this: their argument and approach are standard and widely accepted.

Contrary to simple models of competition that suggest that bids should not respond to changes in benchmarks (holding costs constant), we found that bids increased by about $0.33 to $0.50 for every $1 increase in benchmarks. This left only $0.34 to $0.38 for rebates to beneficiaries. Our results reject the notion that the private Medicare market is perfectly competitive. This has implications for current debates as well as prior literature on Medicare Advantage. […]

Our findings have potential implications for proposals to expand the role of competitive bidding in Medicare such as the Ryan-Wyden plan. They suggest that markets for health insurance for Medicare beneficiaries may not be perfectly competitive and thus simple bidding systems may not drive bids down to plan costs. Thus, these findings should temper the enthusiasm for replacing Medicare with a bidding system. Of course, other models of bidding, including those in which the benchmark is not known in advance, may yield better results and thus attention to the rules surrounding bidding is important. Moreover, any bidding system must be compared with alternative strategies and administratively set prices have their own faults. While administratively set prices can mitigate concerns about plan market power, they may be subject to political manipulation that sets prices too high and therefore result in excessive spending (as many felt was the case in the pre-PPACA Medicare Advantage program). Alternatively, administratively set prices could be set too low, impeding access to care. Thus careful attention to the mix of markets and regulation will be needed as the debate over Medicare reform escalates. Any reliance on, and design of, market-based bidding mechanisms should balance the concerns over imperfect competition with the imperfections of administratively set prices.

That’s a reasonable interpretation of the findings. At a minimum, they strongly suggest that the current Medicare Advantage market is far from perfectly competitive. Nobody expects perfect competition, but losing as much as 50 cents on the dollar to market imperfections is a large deviation. It does suggest that premium support without a strategy for increasing the degree of competition might come with a large dead weight loss. However, the very fact that the second lowest bid would set the subsidy level in Ryan-Wyden type premium support should increase price competition. By how much? Nobody knows.

Still, there’s not much to love about today’s administrative pricing system. We’re wasting a lot of money on Medicare Advantage. A heap of it is not helping beneficiaries.

* Read all this as applying to an beneficiary of average health. Actual plan subsidies are risk-adjusted.


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