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Designed To Fail: The Medicare Auction For Durable Medical Equipment

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  • Peter Cramton
  • Sean Ellermeyer
  • Brett Katzman

Abstract

We examine the theoretical properties of the auction for Medicare Durable Medical Equipment. Two unique features of the Medicare auction are (1) winners are paid the median winning bid and (2) bids are nonbinding. We show that median pricing results in allocation inefficiencies as some high‐cost firms potentially displace low‐cost firms as winners. Further, the auction may leave demand unfulfilled as some winners refuse to supply because the price is set below their cost. We also introduce a model of nonbinding bids that establishes the rationality of a lowball bid strategy employed by many bidders in the actual Medicare auctions and recently replicated in Caltech experiments. We contrast the median‐price auction with the standard clearing‐price auction where each firm bids true costs as a dominant strategy, resulting in competitive equilibrium prices and full efficiency. (JEL D44, I11, H57)

Suggested Citation

  • Peter Cramton & Sean Ellermeyer & Brett Katzman, 2015. "Designed To Fail: The Medicare Auction For Durable Medical Equipment," Economic Inquiry, Western Economic Association International, vol. 53(1), pages 469-485, January.
    • Handle: RePEc:bla:ecinqu:v:53:y:2015:i:1:p:469-485
    DOI: 10.1111/ecin.12101
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    References listed on IDEAS

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    1. Peter Cramton & Emel Filiz-Ozbay & Erkut Ozbay & Pacharasut Sujarittanonta, 2012. "Discrete clock auctions: an experimental study," Experimental Economics, Springer;Economic Science Association, vol. 15(2), pages 309-322, June.
    2. Cramton Peter & Katzman Brett E, 2010. "Reducing Healthcare Costs Requires Good Market Design," The Economists' Voice, De Gruyter, vol. 7(4), pages 1-4, October.
    3. Kagel, John H & Levin, Dan, 2001. "Behavior in Multi-unit Demand Auctions: Experiments with Uniform Price and Dynamic Vickrey Auctions," Econometrica, Econometric Society, vol. 69(2), pages 413-454, March.
    4. John McMillan, 1994. "Selling Spectrum Rights," Journal of Economic Perspectives, American Economic Association, vol. 8(3), pages 145-162, Summer.
    5. Coppinger, Vicki M & Smith, Vernon L & Titus, Jon A, 1980. "Incentives and Behavior in English, Dutch and Sealed-Bid Auctions," Economic Inquiry, Western Economic Association International, vol. 18(1), pages 1-22, January.
    6. Kagel, John H & Levin, Dan, 1993. "Independent Private Value Auctions: Bidder Behaviour in First-, Second- and Third-Price Auctions with Varying Numbers of Bidders," Economic Journal, Royal Economic Society, vol. 103(419), pages 868-879, July.
    7. Brian Merlob & Charles R. Plott & Yuanjun Zhang, 2012. "The CMS Auction: Experimental Studies of a Median-Bid Procurement Auction with Nonbinding Bids," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 127(2), pages 793-827.
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    Cited by:

    1. Jose Alcalde & Matthias Dahm, 2016. "Proportional payoffs in legislative bargaining with weighted voting: a characterization," Discussion Papers 2016-03, The Centre for Decision Research and Experimental Economics, School of Economics, University of Nottingham.
    2. Ehrhart, Karl-Martin & Hanke, Ann-Katrin & Ott, Marion, 2020. "A small volume reduction that melts down the market: Auctions with endogenous rationing," ZEW Discussion Papers 20-014, ZEW - Leibniz Centre for European Economic Research.
    3. Alcalde, José & Dahm, Matthias, 2019. "Dual sourcing with price discovery," Games and Economic Behavior, Elsevier, vol. 115(C), pages 225-246.
    4. Tan, Lijia & Wei, Lijia, 2020. "Evaluating car license auction mechanisms: Theory and experimental evidence," China Economic Review, Elsevier, vol. 60(C).
    5. John Kautter & Gregory Pope, 2014. "Competitive bidding for Medicare Part B clinical laboratory services," International Journal of Health Economics and Management, Springer, vol. 14(2), pages 95-108, June.
    6. Peter Cramton, 2012. "Medicare Auction Reform," Papers of Peter Cramton 12cmaft, University of Maryland, Department of Economics - Peter Cramton, revised 2012.
    7. Lijia Tan & Lijia Wei, 2014. "Car License Auction: Theory and Experimental Evidence," Working Papers 1401, Xiamen Unversity, The Wang Yanan Institute for Studies in Economics, Finance and Economics Experimental Laboratory, revised 02 Sep 2014.

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    More about this item

    JEL classification:

    • D44 - Microeconomics - - Market Structure, Pricing, and Design - - - Auctions
    • I18 - Health, Education, and Welfare - - Health - - - Government Policy; Regulation; Public Health

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