Reforming Medicaid in light of ACA expansion

In spite of the Supreme Court’s rejection of the Affordable Care Act (ACA)-required penalty for states not choosing to expand their Medicaid population, it is projected that by the close of 2015 more than one-fourth of the U.S. population will be receiving Medicaid benefits. This projected increase is a result of relaxed standards that allow adults under the age of 65 who have income up to 138 percent of the federal poverty level eligible in states that choose to participate.

Twelve of the 15 highest-income states have chosen to participate in Medicaid expansion while only six of the 15 lowest-income states have chosen to expand Medicaid. Certainly, this expansion is tempting for states. After all, the federal government will cover 100 percent of the spending by the newly eligible population and the federal contribution only declines to 90 percent of the cost for the newly eligible population by 2020 and later. However, the expansion leaves little room for individual state innovation and best serves only the highest income states, encouraging population reallocation from states that chose not to participate to those that have opted in.

On the individual level, the effects of the ACA’s Medicaid expansion are multidimensional. In states that expand Medicaid, there will not be a discontinuity in eligibility at the poverty level. However, there will be a discontinuity between Medicaid coverage at 138 percent of poverty and the insurance available on the exchanges. This discontinuity is either in the form of less complete insurance coverage at low additional expense to the consumer or in the form of higher premiums for comparable coverage. In all states, the tax subsidies are phased out as income rises, which acts as a tax on labor earnings.

Yet, perhaps the more interesting effect of the differential Medicaid expansion will be revealed through state-to-state migration, affecting both the population as well as individual states. Newly eligible individuals and families will have the incentive to move from states that do not expand coverage to states that have chosen to participate. This effect will be greatest in bordering states that share metropolitan areas but chose differently in regards to expanding Medicaid, for example in the Tri-State area of Pennsylvania, New York and New Jersey, where Pennsylvania opted-out of participating, but New York and New Jersey opted-in.

Without reform, by the end of this decade Medicaid expenditures will be absorbing more than 3.5 percent the nation’s GDP, up from just 2 percent at the turn of the century. Along with the expansion of a myriad of other redistributive programs, programs like this are continuing to make not working more attractive, as is clearly indicated by the alarming fall in the willingness of the working-age population to participate in the labor market.

If we are to get control of Medicaid, we must unleash the forces of innovation. Specifically, we must recast the Medicaid program to not only allow, but to encourage states to innovate.

What reform would accomplish the goal of allowing states to design their own program? Simple: replace the current federal participation formula with block grants where initially states receive a block grant in the amount they currently receive for Medicaid. Over the course of the first decade the block grants would gradually be adjusted based on the coverage provided and eligibility criteria.

States would be free to innovate in the ways they deliver and structure their Medicaid, but the federal portion of spending would be indexed so per capita Medicaid spending grows at a rate tied to per capita GDP growth. These innovations would likely include the coupling of catastrophic insurance with health savings accounts, somewhat as Indiana has done with its Healthy Indiana Plan.

The expressed intent of the ACA was to extend health insurance coverage to the uninsured. But underlying the expressed intent was the desire by health care providers to shore up their financing of delivered care that is originally uncompensated. The expansion of Medicaid in the ACA was another inefficient way to accomplish the goal of relieving providers of their incurred “bad debts” for emergency room visits by the uninsured.

We can and must do better. Let’s give the states the freedom to design their own Medicaid. The good ideas will win out so long as we don’t continue to subsidize the bad ones.

Thomas R. Saving and Andrew J. Rettenmaier, Texas A&M University

Dr. Thomas R. Saving holds the title of Distinguished Professor of Economics and is director of the Private Enterprise Research Center (PERC) at Texas A&M University. Dr. Andrew J. Rettenmaier, also an economics professor, is executive associate director of PERC. Dr. Rettenmaier, along with Dr. Saving, has presented the Center's Medicare Reform proposal to U.S. Senate Subcommittees and to the National Bipartisan Commission on the Future of Medicare.