HME Business

Study: NCB Flaws Result in ‘Disastrous’ Outcome

New Caltech research using computer models demonstrates bid program’s problems.

• By David Kopf
• Jun 07, 2012

CMS’s national competitive bidding program is fundamentally flawed, and will eventually end in Medicare directly negotiating reimbursement, according to a new a new study conducted by researchers at Caltech.

The study, conducted by two Caltech seniors Brian Merlob and Yuanjun Zhang, along with Charles Plott, Caltech’s Harkness Professor of Political Science and Economics, was published in the May issue of the Quarterly Journal of Economics and online at the QJE’s website in April. The report is available at http://qje.oxfordjournals.org/content/127/2/793.abstract

The study demonstrates what many academic experts have warned about CMS’s NCB: That the program, as designed and implemented, leads to companies submitting low-ball bids that drive down the median price, making it impossible for many of the bid winners to conduct business at those prices.

“The auction crashes,” Plott said. “It's just not an effective auction."

And this will ultimately lead to companies not being able to conduct business at the bid amounts, and that will in turn lead to Medicare having to directly negotiate reimbursement with those companies, the report states. 

“You can see immediately from theoretical arguments that the potential for disaster is built right in the strategic structures,” Plott explained.

So, Plott took those argument and put them to the test. Merlob and Zhang, two of Plott’s students, took up the challenge and spent a year researching, designing, and conducting experiments to test that behavior. The team used computers at Caltech and the University of Maryland to run a simplified version of the CMS auction and several other auction types; one, for example, followed more standard rules, with binding bids and prices set at the lowest bid that did not win, instead of the median of all winning offers. Each auction involved 12 or 16 bidders (student volunteers from Caltech and the University of Maryland), who first had to pass a quiz showing that they understood how the auctions worked. The volunteers were given just one item to sell—a generic “thing” (since the bidders’ behavior should be the same in a given auction type, regardless of the item being sold)—each at a different cost to them.

The Caltech team also examined the effect of other auction features, such as whether the costs of each item for each bidder are public knowledge and the effect of charging bidders to participate.

The results, the researchers say, upheld the arguments against CMS’s NCB design.

“It’s pretty disastrous what the bidders ended up doing,” Zhang said.

In the simulated CMS-type auction, some people bid $0, and the “government” was not able to buy all the items it needed. The experiments also showed that a standard auction is much more efficient and successful: the government was able to buy all the items it needed, and the bidders who had the lowest costs were the winners.

A preliminary analysis of the pilot program by University of Maryland Professor Peter Cramton, who has led efforts such as the letter to Congress and President Obama from 244 experts calling for the program’s halt – and who was not part of the Caltech study – found that the auction did in fact suffer from the problems predicted by theory and experiment. Because of the auction design, prices plunged to unsustainable levels, and suppliers dropped out, forcing Medicare to find new suppliers. Cramton also found that the number of submitted claims for equipment declined, which, he says, led to increased rates of visits to the emergency room and hospitalization. As a result, not only were overall costs higher, but so were health risks.

“The theory gives a rather clear picture about the implications of the auction architecture,” Plott said. “But only the data can tell us how these ideas actually play out in such a complex application with variables too numerous to be considered in the theory.”

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