Medicaid Math

Steven Kappel (February 2009)

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When is a dollar only worth 40 cents? When the state cuts Medicaid spending. When does saving 40 cents cost Vermonters a dollar? When the state cuts Medicaid spending.

Before the Legislature takes the ax to Medicaid in hopes of balancing the budget, it needs to understand Medicaid math. Cutting Medicaid may appear to save the state money, but it’s a false economy, because it ultimately costs Vermonters more than it saves.

The key to Medicaid financing is the matching mechanism. State dollars are matched with federal dollars in a ratio known as the federal medical assistance percentage, or FMAP. Currently, Vermont’s FMAP is about 60 percent. This means that every dollar of Vermont Medicaid spending costs the state 40 cents and the federal government 60 cents. FMAP is determined by a state’s per capita income and varies among the states from about 50 percent to about 80 percent.

As part of the stimulus package just passed by Congress, the FMAP is being increased to help states balance their budgets. That means any changes to Medicaid policy in Vermont will be magnified for the next three years: the 40 cents we have to spend on each Medicaid dollar could be reduced to 32 cents—and the feds’ share increased to 68 cents. So it is essential that policymakers and elected officials do the math.

Two Examples

Raising premiums. One technique for reducing Medicaid spending is to increase the premiums that beneficiaries pay. The money collected in premiums is not treated as state dollars—that is, it doesn’t qualify for the federal match. Under federal law, the premiums are deducted from the overall cost of Medicaid, and the balance is divided between the state and federal governments. Suppose the state Medicaid program spends $1 billion on care and collects $5 million in premiums. The federal share is calculated based on $995 million ($1 billion minus $5 million).

This means that higher premiums reduce federal contributions as well as state costs. If we raise a beneficiary’s premium by $1, the state saves only 40 cents—and loses 60 cents from Washington. With the FMAP increase contained in the stimulus plan, every dollar of cost shifted to premiums will save even less for the state budget. Increasing deductible payments has the same effect.

Provider Reductions. Another common technique for saving Medicaid spending is to reduce payments to doctors and hospitals that provide services. Medicaid math kicks in again. Out of every $1 reduction, the state saves only 40 cents and the federal government saves 60 cents. Meanwhile the service provider loses the entire $1.

Who Really Pays?

The logic of cutting a dollar to save 40 cents arises from a phobia of taxes and a narrow definition of state spending. State government spending—call it the “tax pocket”—is just one of the pockets we have to pay for health care. We also have a “premiums pocket” and an “out-of-pocket pocket,” which we use to pay providers directly. When we reduce spending out of the tax pocket, we give up federal funds and have to spend more from our other pockets. Health care that would have cost us—the people of Vermont —40 cents if we paid it out of the tax pocket is going to cost $1 because it is coming out of our premiums pocket. By cutting state government spending, the amount Vermont pays for health care actually goes up.

Another perverse consequence of cutting Medicaid is that it shifts costs onto those who are least able to pay. The money that comes out of our tax pocket is based largely on taxpayers’ ability to pay. That’s not the case with money coming from the premiums or out-of-pocket pocket.

Some people might argue that when times are tough, as they are now, getting only 40 cents to the dollar is worth it if we can reduce our overall spending. But we aren’t reducing it. When we cut Medicaid spending, the state and federal government save a dollar, but the cost is simply shifted to someone else in Vermont.

There’s no doubt that we need to slow the growth of health care costs. But what we learn from Medicaid math is that cutting state spending for health care isn’t the same as cutting the cost of health care for Vermont.

© 2009 by Public Assets Institute

This research was funded in part by the Annie E. Casey Foundation and the Public Welfare Foundation. We thank them for their support but acknowledge that the findings presented in this report are those of the Public Assets Institute and do not necessarily reflect the opinions of the foundations.

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