Medicaid, State Finances, and the Bottom Line for Businesses

Any way you measure it-covered lives, dollars spent, or historical spending growth rates-Medicaid is huge and important to the U.S. healthcare system (Bond, 2003). The only coverage for most low-income adults and children, Medicaid pays nationally for one out of five children, 37 percent of births

The growth of Medicaid spending is receiving attention from policy makers on behalf of the state and federal taxpayers who share in the costs of the program. While the federal government struggles with Medicaid's costs, the states struggle even more. Medicaid now eats up nearly a quarter of state budgets, so Medicaid matters a lot to state fiscal officers. By contrast, Medicaid makes up only about nine percent of the total federal outlays (Office of Management and Budget, 2006). This percentage will gradually move upward over the next two decades, but will probably not rise any higher than 15 percent of the federal budget. Because the states are closer to the practical and political realities of the local health care delivery system, they are forced to deal more acutely with cuts or expansions to the rolls and to benefits. The paths that they take will affect business through taxes on firms and their customers and through initiatives to shift Medicaid expenditures to employers.

The purpose of this paper is to examine the recent path of Medicaid toward expenditures, the prospects for state budget deficits driven by rising Medicaid spending in any future recessions, and the cost-shifting implications for employers.

The Recent Record on Spending

Private expenditures on health services have increased by seven percent per year on a consistent basis since at least the early 1990s. Yet expenditures for Medicaid from public sources have outpaced that growth every year (Table 1). For example, state Medicaid spending increased ten percent in 2004 and 11.8 percent in 2005 (versus 7.6 percent and 6.9 percent growth for spending from private funds). Even in the earlier period, 1970-1993, Medicaid spending growth was double digit and exceeded that of Medicare or private payers.

The actuaries at the Centers for Medicare and Medicaid Services (CMS), who made the projections in Table 1, fore see lower Medicaid spending growth rates in coming years (8.9 percent in 2010 and 8.3 percent in 2015). Yet these rates are higher than those forecast for Medicare and for private insurance. Even this rosier scenario puts the states on a continued path of Medicaid spending growth.

Figure 1 shows that CMS actuaries forecast a slight shift away from private sources toward public sources for health services, but still not veering very far from the 50 percent mark. All the while, health services are projected to consume almost 20 percent of gross domestic product in 2015.

What about recessions?

The possibility of recessions adds uncertainty to these projections. During recessions, tax revenues decline while Medicaid rolls swell with people who lose their jobs or are newly eligible due to reduced income. In the last recession, states legislated major retrenchment; and more than one state threatened to drop out of the federal-state Medicaid partnership (Smith et al., 2004). If we include a recession or two in the spending projections through 2015, we could imagine another round of state reductions in Medicaid eligibility, coverage and provider payments similar to what we saw in the last recession. But at the moment, much of the state action regarding Medicaid revolves around a bundle of actions all called "Medicaid reform."

Medicaid reform

To some, Medicaid reform means making Medicaid more flexible for the states in terms of eligibility and/or the amount, duration and scope of benefits. To others, it means state Medicaid programs trying to combine their coverage with private employer coverage to provide a stable revenue stream for low-income workers to purchase a private health plan. A number of states have been experimenting for years with initiatives that combine state dollars with employer and employee dollars-at the upperincome levels of Medicaid eligibility-to purchase private or basic health coverage (AcademyHealth, 2006). Using computer game terminology, the states "plug and play"they plug the holes in the cost of health coverage with federal, state, employer, and employee dollars and play in the private insurance market to get coverage for low-income families not otherwise eligible for Medicaid.

Public Demands Coverage without Taxes

Medicare and Medicaid are popular and receive pressure from interest groups for increased spending, but at the same time voters constantly exert pressure for more services with lower taxes. The best recent example of this phenomenon is the new Medicare Part D coverage for prescribed medicines, which is expected to cost over $700 billion in the next ten years, accounting for much of the federal deficit over the same period of time (Congressional Budget Office, 2005). Because of the constant pressure to expand coverage and benefits without raising taxes, Congress has sought ways shift the costs to other sources. For example, we have seen Congress cutting payments to hospitals and doctors or setting caps on spending increases.

Difficult to achieve Medicaid efficiencies

These federal policies are difficult to enact in Medicaid, primarily because the program is financed by federal-state sources, yet is operated by the 50 states. In addition, Medicaid covers a group whose costs are particularly difficult to moderate. Figure 2 shows that elderly and disabled people make up 25 percent of Medicaid enrollees but account for 70 percent of expenditures. Adults under the age of 65 make up 27 percent of the total number of enrollees, and they only account for 12 percent of the spending. A large portion of these adults, when they are employed, are probably receiving just over minimum wage and are offered no health coverage at their place of employment; thus they qualify for Medicaid.

While Medicaid is a federal-state partnership, the burden of cuts in enrollment and benefits falls mostly on the states. State policy makers are the most likely to be blamed by constituents for failing to provide adequate coverage. Because they are closer to the health care delivery system, state policy makers hear the requests from pro-viders not to cut payments. But cuts in enrollment and benefits also affect employers: fewer dollars than otherwise are flowing through local economies when there are cuts in enrollment and benefits, and the safety net for laid off employees is reduced. Medicaid fosters a healthier populace that is more efficient and productive (Ku, 2005).

Newest form of cost shifting

Based on income alone, families at 175 percent to 300 percent of the poverty level might be eligible for Medicaid in some states. However, they are often not eligible because they own assets (e.g., automobile, property). They may also cycle off of and onto Medicaid as their incomes change from switches in jobs or periods of disability. This is the group that can fall through the cracks, winding up with Medicaid coverage or no coverage at all if someone in the family is employed but does not receive health coverage from the employer. What is the source of health coverage for this income group? The answer is that they may be in a constant state of uncertainty-at one point qualifying for Medicaid, at another point obtaining employment-based coverage, and too frequently qualifying for neither.

The situation is prompting a cost-shifting debate for some states and their employers. The debate revolves around forcing employers-especially large ones-to offer minimal benefits. Maryland recently made headlines by requiring all companies employing over 10,000 people in the state to spend eight percent of their payroll on health benefits (Wagner and Barbara, 2005). Instead of Medicaid covering employed persons and their families, the state is mandating that employers with means (large employers) provide the coverage, thereby shifting the costs to the private sector. This could be viewed as a response to the argument that the private sector was trying to shift the costs to Medicaid.

What Does this Mean for Business?

Medicaid, a federal-state partnership primarily serving low-income adults and children, is 40 years old and showing it. The states are looking for ways to moderate the growth and keep a cap on enrollment and benefits. In spite of that, a major federal expansion in the State Children's Health Insurance Plan in the 1990s added millions of children and adolescents to the Medicaid rolls and spurred a crowding out of private coverage for children (Buchmueller et al., 2005 and Hudson et al., 2005).

Medicaid is expanding while state budgets are in more turmoil than ever. Yet Medicaid is not the only budgetary concern of the states; transportation and higher education are just two highly visible examples of important state functions competing for dollars. Because many states possess constitutionally mandated balanced budgets, unlike the federal government, states are much more susceptible to the budget woes caused by economic downturns. In fact, over the past decade a majority of the states were forced to make substantial budget cuts after passing their budget bills in the previous year because of revenue shortfalls (Kaiser Commission on Medicaid and the Uninsured 2003, 2004, 2005). This means cutting vital programs relating to education, law enforcement, and transportation. These cuts are likely to affect worker productivity and costs of doing business. There is no reason to think the same will not happen in the next recession.

Forced to shoulder an ever-larger Medicaid bill, states will have to continue adapting to meet their statutorily imposed budget constraints. The Kaiser Commission on Medicaid and the Uninsured (2003, 2004, 2005) reports that all 50 states have made major alterations to their Medicaid programs. Most of these changes have focused upon changing eligibility requirements to pare down the number of people covered by the program and reducing the benefits for those who are eligible. This is likely to shift more of the costs to business by mandate, as in the Maryland case or to increase the costs of attracting workers, who will demand more employer-sponsored health insurance to compensate for the Medicaid cuts.

The states are also likely to design policies that pass some of the costs off to health care providers (while implementing price ceilings on services) and that impose cost control measures on pharmaceuticals. Such unilateral actions to balance the state budgets raise the specter of hospitals and doctors shifting costs to employers who pay the majority of private health insurance costs. To the extent providers have market power in their local markets, doctors and hospitals will be able to shift the costs of under-funded Medicaid recipients if they are also experiencing normal profits or losses. They do so by continuing to serve Medicaid patients for a payment that exceeds marginal cost while seeking private reimbursement that equals or exceeds average costs. The negotiations with private payers become more rigorous in bad times when Medicaid roles are rising and Medicaid payments are being cut by the states.

What's Needed?

Medicaid costs will continue to be the source of pressure on state budgets and the major culprit for state deficits, especially in recessionary periods. A balanced approach that adequately addresses the interests of the states, providers, and recipients is needed to modify the impact of Medicaid spending. Certain policies can be pursued that will equitably improve the overall situation of Medicaid.

First, small businesses, whose employees account for a disproportionate amount of the uninsured, should be given access to voluntary risk pools. Risk pools allow small businesses to aggregate their employees into insurance programs with the employees of other small businesses for the purpose of lowering administrative costs and dealing with moral hazard issues associated with adverse selection (Taylor et al., 2006).

State-sponsored catastrophic health insurance pools could also be created for everyone in the state not covered by another type of insurance. Offering or even mandating individuals to have basic catastrophic health insurance would encourage insurance companies to offer low-cost, reliable coverage, while lowering the cost to consumers and lowering the pressure put on the state budget (Commonwealth of Massachusetts, 2006). Massachusetts has recently been the first state to legislate such an individual mandate (Haislmaier, 2006), and other states are watching to see if the approach could work for them.

Second, more consumer-directed health care in Medicaid is necessary. Health Savings Accounts and Medicaid buy-in and buy-out would encourage a more market-oriented Medicaid in the states. Allowing Medicaid recipients at the higher-income levels of eligibility to make their own health spending decisions would encourage them to be more cost-conscious with the money that they have to spend out-of-pocket for health care. The connection between good health behaviors and the cost of health care would be obvious and foster more responsible health decisions.

Medicaid does not need to be drastically reformed, but it does need to be altered in order to restore fiscal stability to the states. Medicaid is a program that serves more people than any other health coverage. It needs to continue to serve those who need it the most, by making less expensive market-based options available to those who are on the edge of eligibility. Doing so would lower the cost shifting that occurs when someone seeks and receives health care without coverage and any means to pay, and it would help to make the U.S. Healthcare system more efficient and effective. It would also make business costs lower and more predictable than if Medicaid remained in its present form.