Unless the video card has onboard support for such a feature, dynamically doing it would actually cause slowdowns.
If LODs were generated when the ibx were made, it'd look worse, but would require coming up with a poly-reduction algorithm.
Edit: Because I feel like explaining a little better.
The whole vertex buffer upgrade thing took advantage of the ability of video cards to store model geometry on the on-chip RAM, much faster than sending it over the AGP bus every frame. Doing on-the-fly LOD calculations would mean that the model would have to be re-sent over the AGP bus, taking up bandwidth that could be used for textures and stuff, possibly forcing the video card to wait on the model. The end result would be that the effects of the vertex buffer upgrade would be nullified, or reduced, depending on how often a lower-poly model was generated and sent. Not to mention the time the CPU would spend calculating it all out.