What would you call a health-insurance program that has worse health outcomes for cancer and heart disease than Medicare or private insurance, that pays doctors and specialists so little that they often refuse to see patients, and that’s driving state budgets into bankruptcy? If you’re the Obama administration, apparently, you call it a success and make it the cornerstone of the Patient Protection and Affordable Care Act, the health-care-reform legislation passed in March 2010 that is better known as Obamacare.

The program in question is Medicaid, the joint federal-state program for low-income, uninsured Americans. Despite Medicaid’s terrible track record, President Obama built his reform around it, largely for budgetary reasons. Obama had promised that health-care reform would cost less than $1 trillion, so the Affordable Care Act relies heavily on expanding Medicaid, which pays much less for physicians’ services than Medicare and insurance, to cover the uninsured. The new law would bring 16 million Americans—one-half of the estimated 32 million who will receive new insurance coverage—into Medicaid, covering Americans making up to 133 percent of the federal poverty level.

But without substantial Medicaid reform, Obamacare will result in a human and fiscal disaster. Medicaid coverage looks much better on paper than it does in reality. The program often pays only 70 percent of what Medicare pays physicians—which itself is about 20 percent below private rates—and reimbursement is slow. Small wonder, then, that more than half of primary-care physicians and 35 percent of specialists have either limited the number of Medicaid patients they see or refused to accept new ones. With so many doctors unwilling to treat them, Medicaid patients often have to wait longer before receiving a diagnosis or treatment. This can have lethal consequences: in 2007, a Maryland boy, Deamonte Driver, died from an abscessed tooth because his mother had trouble finding a dentist who accepted Medicaid.

Adding financial insult to medical injury, Medicaid spending currently consumes about 20 percent of state budgets, crowding out spending on everything from education to infrastructure. It is also part of the trifecta of federal programs—Medicare, Medicaid, and Social Security—driving the federal budget over a deficit cliff. In 2011, the federal and state governments are projected to spend $466 billion on Medicaid, with costs rising about 8 percent a year. Under the new law, Medicaid will spend an additional $443 billion by 2019—hardly evidence of the cost control that Obama promised for health-care reform.

Defenders of Obamacare’s Medicaid expansion point out that the federal government will pick up 100 percent of those new costs for the first several years after 2014, when the law goes into effect, paring back to 90 percent in 2020. This will leave the states on the hook for just $21 billion in new costs by 2020, they say.

But the Medicaid expansion remains fiscally intolerable nonetheless. For one thing, $21 billion isn’t an insignificant sum, especially at the state level; for another, it doesn’t include up to $12 billion more in administrative costs. Many state budgets are in such perilous condition that they can’t afford any new outlays; they need, in fact, to cut spending. Also, those who claim that Obamacare won’t impose new costs on the states don’t take into account the 11 million uninsured Americans who are currently eligible for Medicaid but have never bothered to enroll. In 2014, once Obamacare’s mandates require everyone to carry insurance or pay a penalty, many of these eligible but nonenrolled people will presumably sign up. And unfortunately for the states, these enrollees would be covered not under the generous federal matching rate that the Affordable Care Act establishes but under the pre-Obamacare rate, which varies by state but is much more onerous. Finally, even federal spending doesn’t come free of charge to the states. That $443 billion will come either from higher federal taxes, which will drain funds from an already anemic private economy, or from cuts elsewhere in the federal budget, which will leave less money available to support state budgets.

A state revolt against Medicaid may be brewing. As the Wall Street Journal recently reported, “huge budget shortfalls are prompting a handful of states to begin discussing a once-unthinkable scenario: dropping out of the Medicaid insurance program for the poor.” Texas governor Rick Perry, for one, has said, “We feel very comfortable that we could come up with a more equitable, a more efficient, and obviously a more cost-effective way to deliver health care” than Medicaid.

The fact that Washington pays 57 percent of Medicaid’s program costs, on average—and that hospitals and nursing homes are critically dependent on Medicaid—makes a full opt-out unlikely. On the other hand, the Affordable Care Act may contain a loophole, though it is a subject of considerable dispute, that would allow at least some Medicaid recipients to qualify for federal insurance subsidies if their states opt out. The loophole might give states enough leverage to force changes on the federal government. Here are some steps they could take.

For starters, federal rules sharply limit states’ ability to control Medicaid costs without losing federal matching dollars. Governors could demand the same program flexibility that they received in welfare reform, which proved one of the most successful domestic-policy developments of the last 35 years, as states innovated and eventually came up with welfare-to-work programs that became models for national reform. In a grand Medicaid bargain with the states, Washington would remove all strings from the program, so states could try different approaches in covering the low-income uninsured, in return for a one-time increase in funding (funding would be capped thereafter). Congressman Paul Ryan and Clinton budget guru Alice Rivlin, members of the president’s current deficit commission, have proposed a plan along these lines.

A second change might be to let people eligible for Medicaid use their funding to purchase private health insurance. One of Medicaid’s biggest flaws is that it traps the poor in a government-price-controlled ghetto. As part of a 2009 proposal for the Manhattan Institute, we suggested that the low-income uninsured in each state receive a sliding-scale, income-based subsidy from the feds. Adding that subsidy to their current Medicaid funding, they could then purchase insurance coverage in whatever form their states chose to make it available—through either a government plan or a private marketplace. In either case, we proposed that states sign agreements that combined enhanced federal funding with targeted timelines for achieving universal coverage—say, over the next ten years. Senators Ron Wyden of Oregon and Scott Brown of Massachusetts recently proposed a similar program, which would funnel Obamacare spending through the states. Conservatives should take such proposals seriously, even though they mean increased federal spending—but only if states receive much wider latitude in designing insurance choice and competition than Obamacare currently allows.

Finally, today’s state insurance markets and the insurance exchanges envisioned under Obamacare should become more competitive, giving people broader and more affordable purchasing options. Currently, small employers and the uninsured must shop for insurance in state markets burdened by expensive provider and coverage mandates. These mandates drive up the cost of even basic insurance. Under Obamacare, states will be able to make compacts with one another to sell insurance across state lines. New York, Connecticut, and Pennsylvania, say, could let their residents purchase coverage in any of those states. But the law imposes too many restrictions on how the states can operate; for instance, the Department of Health and Human Services reserves the right to dictate requirements for minimum insurance coverage sold on all exchanges, which are very much like the cost-inflating state mandates. Indiana governor Mitch Daniels recently proposed a solution, calling for states to band together to create broader multistate insurance pools—provided the feds give them more flexibility in what kinds of insurance they offer. Ideally, America would move to a pure interstate market system in which people could purchase coverage from any state—or to a federal charter system, similar to the system we use for banks, in which insurance providers were licensed to sell coverage anywhere in the country.

Each of these approaches would improve Medicaid for recipients, free up states from Medicaid’s ruinous funding scheme, and inject much-needed competition into state insurance markets—while also improving health outcomes. But none of them can happen unless Washington lets states figure out what really works.


City Journal is a publication of the Manhattan Institute for Policy Research (MI), a leading free-market think tank. Are you interested in supporting the magazine? As a 501(c)(3) nonprofit, donations in support of MI and City Journal are fully tax-deductible as provided by law (EIN #13-2912529).

Further Reading

Up Next