Len Nichols explains why his "level playing field" is misunderstood by the Congressional Budget Office.

Washington is a place where politics and economics often aren't on speaking terms. Nowhere is this more apparent than in the twilight struggle to create a "public option" government health-insurance program. After protracted negotiation with conservative "blue dog" Democrats, House Speaker Nancy Pelosi passed a health care bill that included a watered-down public option that would not be permitted to align physician and doctor fees with Medicare rates, which typically are below the rates paid by private insurers. Even so, public-option advocates like me argued, the advantages inherent in government health insurance would price public-option premiums lower than premiums for private insurance, exerting downward competitive pressure on the private market. This was health care reform's most effective tool for curbing medical inflation.

We were wrong. Not in any cosmic sense, mind you, but, rather, in the narrow sense that this particular version of the public option, known to the cognoscenti as the "level playing field" option because it would operate identically in most respects to its private competitors, would not, in fact, price its premiums below the private market. That, at any rate, is what the Congressional Budget Office concluded and what it is likely also to conclude with respect to the "opt-out" version of the public option that Senate Majority Leader Harry Reid has submitted to the CBO for scoring. It's also the conclusion of Richard Foster, chief actuary of the Centers for Medicare and Medicaid Services, in a Nov. 13 memo on the House bill.

How did we not see this coming? Seeking an answer, I paid a visit to Len Nichols, director of health policy at the New America Foundation.

The public option was invented by Jacob Hacker, a political scientist at Yale (and former New America fellow), but the level-playing-field variation was dreamed up partly by Nichols, an economist. There's some irony here, because Hacker's original vision was shrewder economically than it's proven to be in the political realm, while Nichols's variation (since endorsed, I suspect reluctantly, by Hacker) turned out to be sharper about politics than economics. Possibly, the greater real-world pungency of Nichols' version can be attributed to his collaborator on the March 2009 paper  that first proposed the idea: John M. Bertko, former chief actuary for Humana Inc., a major health insurer. *

In reviewing Nichols and Bertko's paper, I was reminded that that they never made any great claims to extravagant cost savings. In comparison with "price-control centered strategies"—e.g., Medicare—"our approach to cost containment relies on a more market-oriented approach to value-based purchasing, which admittedly could take some time to materialize." The paper continues:

Yet, this kind of policy is also more likely than the buying power of one public payer to find a politically sustainable balance between access, quality, and affordability over time. In addition, there is widespread agreement that the main source of health care cost growth in the long run is not provider price inflation, but rather inappropriate use of new technology. … We think payment reform and best-practice information is more likely to enable sustainable cost growth reduction than price controls from public plan market power alone.

If you're gonna squeeze somebody, Nichols and Bertko were saying, don't squeeze insurers. Squeeze doctors and hospitals gently over time. I didn't like this approach when they first suggested it (I called it "lemon capitalism"), but over time, I came to recognize that the level playing field was the only version of the public option that had much chance of becoming law. And, anyway, it would still be cheaper than private insurance, right?

Wrong, said the CBO on the accursed sixth page of its analysis of the Pelosi bill. The CBO had earlier said that a public plan tied to Medicare reimbursement rates "would be about 10 percent cheaper than a typical private plan offered in the exchanges." Not so with the level playing field: Roughly one-fifth of the people purchasing coverage through the exchanges would enroll in the public plan, meaning that total enrollment in that plan would be about 6 million. According to the CBO report:

That estimate of enrollment reflects CBO's assessment that a public plan paying negotiated rates would attract a broad network of providers but would typically have premiums that are somewhat higher [italics mine] than the average premiums for the private plans in the exchanges. The rates the public plan pays to providers would, on average, probably be comparable to the rates paid by private insurers participating in the exchanges. The public plan would have lower administrative costs than those private plans but would probably engage in less management of utilization by its enrollees [including "cherry picking" healthy customers and "lemon dropping" sick ones, which would be reduced but not eliminated by health reform's new regulations] and attract a less healthy pool of enrollees.

The analysis of the House bill by the chief actuary of the Centers for Medicare and Medicaid Services said much the same thing, estimating premiums for the public option would cost 4 percent more than those for private plans. Were adverse selection not a factor, it said, premiums for the public plan would be 5 percent cheaper than for private plans.