Big Subsidies Will Push States to Expand Medicaid

July 11 (Bloomberg) -- Timing. That’s the crucial element missing from the rancorous debate, prompted by the U.S. Supreme Court’s health-care ruling, over whether states will decide not to expand Medicaid.

Officials in the Obama administration confidently predict that few, if any, states will opt out of the expansion. Opponents say most of them will.

My guess is, both sides are right. Many states seem likely to opt out at first, judging by what their governors have said. Over time, however, assuming the law stays in place, most states will find it hard to resist the substantial subsidies for new enrollees. After all, over the past few decades, states have gradually added optional benefits and expanded the number of beneficiaries beyond the bare minimum required by the federal government. And they have done so in response to much smaller subsidies than offered under the 2010 health-care-reform law.

Before the court’s ruling, the Affordable Care Act was projected to reduce the number of uninsured Americans by 30 million to 33 million in 2016 and beyond. More than half of those additional insured -- 16 million to 17 million -- were expected to gain coverage through the enlargement of Medicaid and the Children’s Health Insurance Program.

During the first three years, 2014 to 2016, the federal government is to fully subsidize this expansion. Then, the subsidy is scheduled to gradually decrease, but only to 90 percent in 2020 and thereafter. The average federal subsidy for current Medicaid beneficiaries is much lower; it varies from state to state but averages less than 60 percent.

State Share

Looking at the decade ahead as a whole, the Congressional Budget Office has projected that the federal government will pay 93 percent of the Medicaid costs added under the health-care-reform law. The 7 percent state share would generate less than a 3 percent increase in total state Medicaid spending over that time, the Center on Budget and Policy Priorities has calculated.

The additional costs depend on current Medicaid eligibility patterns, which vary from state to state, research from the Kaiser Family Foundation shows. Some states, such as Maine and Massachusetts, are projected to experience a reduction in their own costs because the federal government will pay a higher matching rate on beneficiaries that those states already cover. Other states, such as Texas, would face higher costs because their existing coverage is so skimpy. Even in Texas, though, state Medicaid costs would rise by only about 5 percent over the coming decade. That’s not nothing, but it’s also not a tidal wave.

On average nationwide, the additional state spending would amount to less than $600 per year for each additional insured beneficiary. So what do state governments get in exchange for that $600?

First and most important, they help their residents. Both common sense and hard evidence (see, for example, the ongoing randomized study of Medicaid recipients in Oregon) indicates that access to Medicaid reduces people’s financial strain and improves their self-reported health (while also increasing their use of health-care services).

Second, state governments enjoy reductions in other costs, so that the net impact on their budgets is less than $600 per beneficiary. For example, as the number of uninsured decreases, so does the cost of uncompensated care. In 2008, state and local governments paid roughly 20 percent of the hospital costs for uninsured people, according to an Urban Institute study. State governments also save on mental-health services for the uninsured.

The bottom line is that given the steep federal subsidies being offered, it seems likely that states will eventually take up the additional coverage, even if they resist at first.

Subsidy Effect

To see how federal subsidies make it attractive for states to expand coverage, just look at the Medicaid program as it exists today. In 2007, about 60 percent of Medicaid costs were not federally required, according to research by Brigette Courtot and Emily Lawton of the Urban Institute and Samantha Artiga of the Kaiser Commission on Medicaid and the Uninsured. Instead, they reflect additional benefits that state governments have chosen to cover, or optional beneficiaries that states have decided to include in the program.

In other words, an average federal matching rate of less than 60 percent has proved sufficient incentive for state governments to include optional add-ons -- to the point that those add-ons account for the majority of Medicaid costs. This suggests that states will find it hard to resist a match rate of 90 percent for very long.

The process, moreover, will probably be asymmetrical: Once a state takes up the highly subsidized additional coverage, it will be very likely to keep it. But even if it refuses the offer initially, it can easily change its mind later on.

Two important factors affect this analysis. First, if Medicaid is turned into a block grant, as some policy makers favor, the federal government’s payments would be fixed, no longer providing an incentive to expand coverage on the margin. (A future column will explain why block-granting Medicaid, though it may seem superficially attractive, would cause problems.)

Second, even without a fundamental change in Medicaid, some state policy makers are legitimately worried about whether the 90 percent matching rate will remain in place, given the federal government’s own long-term deficit challenges.

That concern once again highlights the benefits of a barbell fiscal policy: stimulus today coupled with deficit reduction that is enacted, but not carried out, right away. By providing more certainty about how the long-term fiscal gap will be narrowed, such an approach would attenuate the wavering governors’ concern that they will one day have the rug pulled out from under them.

(Peter Orszag is vice chairman of global banking at Citigroup Inc. and a former director of the Office of Management and Budget in the Obama administration. The opinions expressed are his own.)

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Today’s highlights: the editors on Washington’s inability to move on and Israel’s debate over Jewish settlements; Mark Buchanan on living cells as a model for a stable financial system; Margaret Carlson on presidential vacations; Alex Marshall on health care and the rising bar for government services.

To contact the writer of this article: Peter Orszag at

To contact the editor responsible for this article: Mary Duenwald at

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