Medicaid May Change Dramatically; a Chat with Two Ratings Analysts

S&P Global Ratings
Written By: John Kingston
S&P Global Ratings
Written By: John Kingston
  • Share:
  • Tools:

With the election of Donald Trump as President, and Republicans firmly in control of Congress, one significant area of government spending that may see enormous changes is Medicaid. The health care program for a variety of categories—children, low income, the elderly where Medicare does not fully cover their needs—is a $330 billion expenditure, funneled through states and localities in a flow of funds that is the largest chunk of federal aid to those entities.

In a recent report, S&P Global Ratings’ Gabriel Petek, a managing director in Ratings’ Public Finance group and a state credit analyst, and Martin Arrick, also a managing director in Public Finance with a health care focus, looked at the overhaul that could hit Medicaid. The basis for their analysis is a set of various Republican plans discussed over the years about the future of the program, and they looked at these proposals primarily through the prism of how the changes could affect state financial health. They were interviewed by John Kingston, S&P Global’s Director of Global Market Insight.

 


 

Kingston:
There are two major proposals that have been kicking around for many years to reform Medicaid, which is now an entitlement program with strict federal rules on eligibility and coverage. One would turn it into a block grant; the other would make payments based on a per capita system. Why is this a concern for state finances?

Petek:
The proposals would increase flexibility over the design of their programs. It is possible that the states could achieve efficiencies or find cost savings, but overhead already has a low share of Medicaid spending. It’s unclear how ripe the program is for a lot of cost savings to be realized. “It remains to be seen” is the short answer, but on balance, if there are changes to the program, it could result in less funding and more pressure on state finances.

Medicaid is certainly a health insurance program, but as much as anything, it’s a vehicle for delivery of fiscal aid to the states during economic downturns. Under the leading proposals, like the block grant, the change would reduce or even eliminate the responsiveness of the fiscal aid to the states in economic downturns.

The states operate under balanced budget requirements, and they are ill-suited to be the agents of Medicaid, because it is a precisely countercyclical program. Enrollments are up during economic downturns, yet the state has legal requirements to balance their budgets and their ability to fund their share of the Medicaid program is under pressure just at the  time when they are least able to respond. The influx of federal aid that goes with rising enrollments is the way the program functions and helps provide timely countercyclical relief.

 


 

Kingston:
Couldn’t Congress simply increase the allotments that flow through block grants or per capita spending when economic conditions weaken?

Petek:
During a period of weak economic activity, Congress to counter this could add more funding to the block grants or the per capita payments, but that is not the idea behind the reform proposals. The idea is to give the states a fixed amount of funding and over time allow the states to adjust their programs accordingly. The payouts over time would increase but at a lower rate than current Congressional Budget Office projections. 

One idea would be that the block grants could have some formula in them where their size would be increased by economic stress indicators, like the unemployment rate rising above a threshold. But frankly, while those proposals may have been discussed, we have not seen them more specifically in any proposal at this point.

Arrick:
This gets to the essential point. Currently, it’s an automatic increase in spending. Yes, you could increase the size of the block grants, but that takes an act of Congress.In theory,  Congress could approve more money at some point. Now, it’s automatic because it’s a an entitlement that does not need extra Congressional action.

 


 

Kingston:
Understanding the block grant proposal is fairly basic. How would the per capita approach work?

Petek:
Under the per capita proposal, the fixed dollar amount will increase if you have more people enrolled. So states would receive more funding when enrollments increase. The block grant doesn’t have that feature, and so from the state fiscal perspective, the per capita allotment seems more favorable. But in either case, the per capita amount is not necessarily corresponding with the cost of providing health care services. Unless you’re somehow tackling the growth rate of medical cost inflation, then there’s a disconnect. I’m not sure what you do about that.

Arrick:
The underlying assumption in these proposals is that medical cost inflation reflects the cost of a given item. However that’s a fundamental misunderstanding. While medical cost inflation includes price increases, they  also reflect  the costs for new treatments that didn’t exist last year. New beneficial treatments are often quite expensive and are not factored into the program’s historical cost base.

Petek:
A system where the funding is per capita doesn’t account for that important add on. It is non cyclical. It doesn’t have anything to do with the economic situation. It has to do with what’s going on with health care.

 


 

Kingston:
But what about the idea that this slows the growth curve for the states, which have been groaning under the weight of their share of increased Medicaid expenditures? You cite some statistics about the growth in the program that are sobering and back up the suggestion by some officials that there needs to be reform in the program, or it’s going to start eating up an unsustainable amount of state and local budgets.

Petek:
That’s a good question. The cost of Medicaid in state budgets increased from 8% in 1987 to 19% of their general fund expenditures in 2015. There’s no indication that trend is going to change. It’s going to continue to absorb more of their budgets.

The fact is, it might sound draconian, but in a block grant scenario, if the Feds give a fixed amount, for the states, this is no longer an entitlement. States could discontinue covering some people that previously were eligible. It will be up to the states to make that decision.

I’ve heard some states talk that, well, if they do that and they also reduced federal incomes taxes, that’s more for the average taxpayer and we could increase our own taxes and we could use that money to offset the loss in federal Medicaid funds. So that’s an option. I could see some states give serious consideration to that, and it presents a long-term credit concern. We already see a lot of financial pressure across the state sector, despite the fact that we’re in the 8th year of an expansion. We had eight downgrades to the state sector in 2017, including two to Illinois, so that’s seven states with downgrades. Ten states have negative outlooks. There are structural and demographic headwinds exerting pressure on their finances. To undertake a large funding for such a commitment, without the same level of federal support, it’s hard to envision fitting that into their budget.

 


 

Kingston:
If the funding through block grants or per capita spending doesn’t cover the amount of money being spent now, what fills in the gap?

Arrick:
On the health care provider side, we know that when people show up at a hospital’s emergency room, they have to be treated. Hospitals can expect to see growth in their uncompensated care costs, so it’s a negative for a hospital’s credit quality.  In addition, you end up with a lot of under-treatment for illness. But in emergencies, people  still get care and get treatment, and those unreimbursed costs will likely be borne by hospitals.

 


 

Kingston:
Are there any states that have been particularly creative in trying to hold down Medicaid costs, and which could be a model for states facing a new reality?

Petek:
We’ve seen a good one in Oregon. They converted to a coordinated care organization, known as CCO. By delivering a range of health care services through CCOs, the state has achieved slower annual health care cost growth per person of 3.4% this biennium, down from 5% to 6% in other recent years. This may not sound like much but it adds up. If the state can maintain its current health care spending trajectory, it would save $11 billion over the next 10 years.  The CCO approach shifts the state away from the traditional fee for service model and focuses more on outcomes than paying for each discrete service provided. Some of the state's efforts have involved coordinating physical and behavioral health care, as well as stressing preventative care and improved management of chronic diseases.

 


 

Kingston:
One of the key components of the Affordable Care Act was a significant expansion of Medicaid, not only in widening the eligible population but in greatly increasing reimbursements for the new categories of people enrolled under the expansion. Those federal reimbursements started at 100%, are going to drop to 90%, but that still compares to reimbursements under other parts of the program around 60%. Is that expansion affected by a move to a block grant or per capita model?

Arrick:
In a way, it’s almost independent. But it is hard to imagine that legislation that moved all of Medicaid to a block grant wouldn’t also address the repeal aspects of the ACA. We’ve seen many proposal to repeal the ACA and they would impact overall funding levels, lowering state costs, but also reducing insurance coverage for the state’s population.  The coverage most likely to reduced or dropped is the more recent coverage ,which is more likely to be fully federally funded. States could find small incremental savings if their overall programs diminished in size as they may be able to reduce state funded administrative costs at the same time.