Policy Brief: Medicaid Matching Formulae and the Democrat “Stimulus”

SUMMARY AND BACKGROUND

Debate in the Senate this week on economic “stimulus” legislation may focus on the differences between the House and Senate plan to spend a proposed $90 billion increase in Medicaid matching funds to the States.  While this week’s debate may focus on providing an appropriate level of additional assistance to the States in greatest economic need, some Members may note that the underlying Medicaid matching formula itself has resulted in wealthier states spending more on their Medicaid programs than poorer ones.  Some Members may therefore support more enduring reforms to the Medicaid matching formula that would remedy this underlying inequity as a way to pay for the “temporary” increases in Medicaid spending being proposed and as a down payment on comprehensive entitlement reform.

The federal share of spending on States’ Medicaid programs is determined through the Federal Medical Assistance Percentage (FMAP).  Based on a formula that compares a State’s per capita income to per capita income nationwide—a mechanism designed to gauge a State’s relative wealth—the FMAP can range from a low of 50% to a maximum of 83%.  The federal match rate averages 57% of total Medicaid spending, which the Congressional Budget Office estimated to be $184 billion in 2008 (exclusive of State payments).  For Fiscal Year 2009, 13 States have a match rate of 50% (the statutory minimum), while eight States have match rates at or above 70% under the current funding formula.[1]

LEGISLATIVE STATUS

The Senate version of “stimulus” legislation under consideration this week, like the House-passed legislation (H.R. 1), would spend nearly $90 billion to increase federal Medicaid payments to the States—but would do so using different formulae.  The House would provide an across-the-board increase in the Federal Medical Assistance Percentage (FMAP) of 4.9% for a total of nine calendar quarters—from October 1, 2008 through December 31, 2010.  Both the scope and the length of the FMAP increase exceed the 2.95% increase in the federal match rate for five fiscal quarters passed to help States during the last economic downturn as part of tax and budget reconciliation legislation (P.L. 108-27).

The House bill includes further increases in the FMAP percentage for “high unemployment States,” which are defined by using a 3-month average unemployment rate.  If, when compared to any prior 3-month period after January 1, 2006, unemployment in a State has increased 1.5%, the FMAP will be increased by 6%; if unemployment has increased 2.5%, the FMAP will be increased by 12%; and if unemployment has increased 3.5%, the FMAP will be increased by 14%.  Once qualifying as having high unemployment, a State’s FMAP increases outlined above will remain until at least July 1, 2010, even if unemployment in that State falls prior to that date.

On the other hand, the Senate bill, while providing the same net increase in federal Medicaid funding over the same nine calendar quarters, dedicates more of the increased FMAP funding to all States, rather than those with high unemployment.  As passed by the Senate Finance Committee, the “stimulus” legislation would provide an across-the-board FMAP increase of 7.6%, as opposed to the House bill’s 4.9% blanket rise.  As a result, the increases for States with high unemployment would be reduced—States with unemployment rises over 1.5% would see an additional 2.5% increase (compared to 6% in the House bill), States with unemployment increases over 2.5% would see an additional 4.5% increase (compared to 12% in the House bill), and States with unemployment increases of 3.5% would see an additional 6.5% increase (compared to 14% in the House bill).

 

Both the House and Senate bills include language providing that no State’s FMAP percentage (exclusive of any across-the-board or unemployment-based increase) shall decline during the nine calendar quarter period.  Finally, both bills include “maintenance of effort” provisions such that States wishing to receive the FMAP increases may not impose more restrictive eligibility standards than those in effect on July 1, 2008 (unless the States retroactively remove such restrictions) and may not deposit any amounts “directly or indirectly” into a State’s rainy day fund or reserve account.

CONCERNS WITH THE FEDERAL FORMULA

Health policy experts have for some time raised questions about two distortions caused by the FMAP formula.  First, the matching formula inherently encourages States to spend money on their Medicaid programs, because the federal government is guaranteed to pay at least half of the costs.  A State receiving the minimum 50% match would need to cut $2 million from its Medicaid budget to generate $1 million in State budgetary savings, while a State receiving a 70% match would need to reduce Medicaid expenses by $3,333,333 in order to yield a net savings of $1 million to the State.  Thus the FMAP formula, by ensuring that federal expenditures will always meet or exceed State outlays, encourages States to increase their Medicaid entitlement spending during strong economic times and discourages States from enacting Medicaid reductions during times of fiscal austerity.

The end result has been a Medicaid program that in many States has increased in both good economic times and bad.  One study—titled “What Goes Up May Not Go Down”—found that during the economic expansion of the 1990s, Medicaid expenditures for the period 1994-2000 increased at a rate faster than both the general economy and State revenues—even while poverty rates were falling.  Some Members therefore may not be surprised that these significant expansions of spending necessitated $10 billion by Congress in 2003—and may question the structural deficiencies in the current Medicaid formula that encourage such fiscal behavior.

Second, the statutory 50% minimum matching percentage encourages wealthier States greatly to expand their Medicaid programs—because the State share of such increased spending is less than otherwise would have occurred absent the minimum threshold.  An independent analysis compared State Medicaid expenditure data provided by the Centers for Medicare and Medicaid Services (CMS) to State poverty counts issued by the Census Bureau, and found an inverse relationship between a State’s number of poor citizens and Medicaid spending.  For example, the study found that in Fiscal Year 2006, Vermont spent more than $8,032 per poor citizen on its Medicaid program—highest in the nation—despite having a poverty rate of just over 10.2%—the ninth lowest overall, and well below the federal average of 13.3%.[2]  In other words, the behavioral effects of the current FMAP formula mean that wealthier States spend more on Medicaid than poorer ones—exactly the opposite of FMAP’s intended goal.

ALTERNATIVES

While the current Senate debate regarding the “stimulus” provisions surrounds what portion of a “temporary” FMAP increase should be targeted to States currently experiencing high unemployment, some Members may believe that the distortionary effects created by the FMAP as explained above warrant a review of the Medicaid matching mechanism itself.  The Congressional Budget Office in its December 2008 Budget Options report noted that “the floor of 50% provides a number of States with FMAP rates well above the rates they would be assigned in the absence of such a floor;” in one case, a State’s FMAP level would be 15% absent the statutory minimum percentage.

The same Budget Options paper noted that reducing the statutory minimum FMAP percentage from 50% to 45% would yield $53 billion in savings, while removing the statutory minimum percentage entirely would, if phased in over three years, yield a total of $88 billion in savings—virtually the entire cost of the “temporary” FMAP increase included in both the House and Senate bills.  If the current debate in the Senate is designed to achieve a “fair” solution that provides the most federal assistance to the neediest States, lowering or removing the statutory floor on the FMAP percentage would enable all federal Medicaid dollars—including dollars currently being spent—to go to those States in greatest economic need, rather than to wealthier States most able to expand their Medicaid programs to middle-income populations.

Therefore, some Members may agree with the need for a thorough examination of the current financing arrangements for the Medicaid program.  The open-ended nature of the Medicaid match, particularly when coupled with the 50% minimum federal contribution rate, encourages States to shift their spending priorities towards receipt of the federal match.  The end result has often been a perpetual “tug of war” between States and the federal government, whereby States use various accounting mechanisms to shift additional costs (whether directly health related or not) on to the federal government’s books.[3]

The Government Accountability Office (GAO) has examined the inequities of the current FMAP formula for more than a quarter-century, first proposing a reduction in the minimum FMAP percentage from 50% to 40% in a 1983 report.[4]  Other policy-makers have advocated for a system of capped allotments—similar to that which fund the State Children’s Health Insurance Program (SCHIP)—as a way to provide fairer and predictable payments to States while controlling the growth of federal Medicaid costs.[5]  Because the “stimulus” provisions as currently drafted would not eliminate these perverse incentives—indeed, by increasing the FMAP match rate, would likely expand them—some Members may agree with the experts who have called for a new approach.

CONCLUSION

Over and above the concern that an increase in the federal Medicaid match by definition provides no “stimulus,” instead substituting federal expenditures for State spending, some Members may believe that both the House and Senate provisions as drafted would not achieve their intended goal of providing greater federal aid to States with the largest economic need.  By contrast, altering the minimum FMAP formula would provide funds to offset this “temporary” Medicaid expansion in the short term—and in the longer term would ensure that wealthy States neither consume a disproportionate share of federal matching dollars nor expand their Medicaid programs to middle-income populations for whom the program was never intended.  Some Members may therefore believe that fundamental FMAP reform, rather than adding more federal spending to an already flawed funding formula, would be consistent with President Obama’s call for the federal government to re-examine and reform its current entitlement programs.

For further information on this issue see:



[1] Fiscal Year 2009 FMAP Table, available at http://aspe.hhs.gov/health/fmap09.htm (accessed January 31, 2009).  Note that the data cited above exclude the FMAP percentages for the District of Columbia and federal territories, which are set by statute and do not vary from year to year.

[2] Testimony of Robert Helms, House Energy and Commerce Subcommittee on Health hearing on “State Fiscal Relief: Protecting Coverage in an Economic Downturn,” July 22, 2008, available at http://energycommerce.house.gov/images/stories/Documents/Hearings/PDF/Testimony/HE/110-he-hrg.072208.Helms-Testimony.pdf (accessed January 31, 2009); U.S. Census Bureau Small Area Income and Poverty Estimates, available at http://www.census.gov/cgi-bin/saipe/national.cgi?year=2006&ascii=  (accessed January 31, 2009).

[3] The phrase frames the title of an August 2006 white paper issued by the National Academy for State Health Policy regarding ways to improve the fiscal integrity of the Medicaid program.  See Sonya Schwartz, et al., “Moving beyond the Tug of War,” available online at http://www.nashp.org/Files/Medicaid_Fiscal_Integrity.pdf (accessed February 2, 2009).

[4] Government Accountability Office, “Changing Medicaid Formula Can Improve Distribution of Funds to States,” Report GAO/GGD-83-27, March 9, 1983; available online at http://archive.gao.gov/f0102/120787.pdf (accessed February 2, 2009).

[5] Robert Helms, “The Medicaid Commission Report: A Dissent,” American Enterprise Institute Health Policy Outlook #2, January 2007, available online at http://www.aei.org/docLib/20070111_200701AHPOg.pdf (accessed February 2, 2009).