Manatt Analyzes Fiscal Impact of Capped Funding Medicaid Demonstrations

Barry LeePartner, Manatt, Phelps & Phillips, LLP

The Centers for Medicare & Medicaid Services (CMS) recently issued guidance inviting states to apply for the Healthy Adult Opportunity (HAO), a Section 1115 demonstration that permits states to accept a cap on federal Medicaid funding in exchange for fewer federal rules and less federal oversight. By reducing and capping federal financial support for the Medicaid program, the initiative fundamentally alters the way Medicaid is financed for the demonstration population. In a new analysis for the Commonwealth Fund, Manatt Health estimates the potential financial impact of the HAO block grant option for states and the Medicaid program.

Background

The new HAO capped funding demonstration is a state option targeted to the Affordable Care Act’s (ACA) Medicaid expansion adults (parents as well as childless adults), as well as to a small number of pregnant women and parents covered by Medicaid at state option under other eligibility pathways. States can convert populations they currently cover to the demonstration or use the demonstration to expand coverage.

Caps may take the form of either a per capita cap or an aggregate cap (“block grant”); the caps are set based on historical spending for the group covered under the demonstration and trended forward based on the lesser of a state’s historical spending growth rate or a national trend rate that is below current projections of Medicaid spending growth. States must still spend state dollars to draw down federal funding, but once spending reaches the cap, the federal government will not provide any additional federal matching funds. To keep spending below the caps, states can rely on the programmatic flexibility offered under the guidance; for example, to reduce benefits, charge premiums or copayments above statutory limits, and impose new conditions of eligibility such as work requirements and lockouts. States would also have new flexibility in how they meet federal managed care requirements, including those relating to network adequacy and rate setting. In addition, states that opt for the block grant model may qualify for a provision referred to as “shared savings,” which allows states to divert some of the capped federal dollars into other state priorities, resulting in additional cuts in Medicaid.1 See Manatt Health’s analysis for the Robert Wood Johnson Foundation’s State Health & Values Strategies program for a more detailed description of the guidance.

The newly released fiscal impact analysis examines how funding under the block grant model compares with the funding states could expect to receive in the absence of a cap (that is, under current law) and also estimates the impact on Medicaid funding if a state spends below the cap to capture “shared savings.” It then considers how funding losses change if real-world events occur, such as if healthcare costs or enrollment grows at higher-than-projected rates. Given that most non-expansion states currently have only very small populations that could be subject to the demonstration, to assess the potential impact of the demonstration on these states our modelling assumes they expand Medicaid through the HAO.

Key Findings

Using Manatt Health’s Medicaid Financing Model, the analysis shows that in all scenarios examined, the HAO would result in substantial cuts in federal funding for states that pursue the initiative as compared with the funding states would receive without the caps.2 The key findings are as follows:

  • All States Taking Up the Demonstration Would Need to Make Significant Cuts That Deepen Over Time. Because the block grant model cap is set below current projections of Medicaid spending, all states that take up the HAO would need to implement substantial cuts to avoid violating their caps, and some states would need to make deeper cuts than others.
    • For illustrative purposes, if all states take up the block grant and spend their full capped allocations, nationwide the reduction in Medicaid expenditures would be $110.4 billion relative to projected spending without the block grant for fiscal years (FYs) 2021-2025, a 10.5 per cent cut.3
    • Not all states, of course, will take up the HAO; the analysis shows that the magnitude of the cuts varies by state and that the depth of the cuts widens steadily over time as the capped allotments fail to keep up with enrollment growth and healthcare cost increases. In the first year (2021), the median state (Washington) would need to reduce Medicaid expenditures by $210 million (5.7 per cent) to remain below its cap. By 2025, it would need to cut expenditures by $675 million (14.6 per cent). Some states would see substantially deeper cuts; Tennessee and Vermont, for example, would need to reduce expenditures by 25.0 per cent and 33.6 per cent, respectively, by 2025.
  • States Must Make the Cuts but the Federal Government Accrues Most of the Savings. Because the federal government finances 90 per cent of the cost of covering expansion adults, the federal government would be the primary beneficiary of the reductions in Medicaid spending. If a state’s block grant includes only the expansion population, fully 90 per cent of all savings from the cuts accrue to the federal government. Even after considering that a block grant may include other populations covered at a lower federal Medicaid matching rate (i.e., optional pregnant women and low-income parents), the federal government would still realize an average of 83 per cent of the savings associated with states taking up the block grant.
  • The “Shared Savings” Policy Deepens the Cuts to Medicaid and Still Leaves the Federal Government as the Primary Beneficiary of Reductions. In order for states to access any federal “savings,” states must reduce their total Medicaid expenditures for the block grant population beyond what is required to simply live within the caps while meeting CMS’ performance standards. If states reduce spending to 80 per cent of their caps to take advantage of the “shared savings” option, the size of the cuts in the median state for FYs 2021-2025 would balloon from 10.5 per cent to 27.6 per cent.4 In the median state, 89 per cent of the reductions in Medicaid expenditures would represent savings to the federal government. States could divert a share of the unspent federal Medicaid funds to other state priorities under the “shared savings” option (at a lower match rate, assuming they are covering expansion adults in the block grant). Even under this scenario, the federal government retains more than three-quarters of the total savings.
  • States Using the Demonstration to Expand Would Give Up a Significant Portion of the 90 Percent Match They Would Otherwise Receive. If all non-expansion states expanded through the block grant option, they would receive 11.9 per cent fewer federal dollars over the five years of the demonstration than if they expanded without a cap (a $32.1 billion reduction across all non-expansion states). The loss of federal dollars relative to expansion without a cap would be deeper in some states; for example, if Oklahoma were to expand Medicaid through a block grant, it would receive 17.2 per cent less federal funding than under an expansion without a cap ($1.9 billion fewer dollars through 2025). In addition, newly expanding states taking up the block grant would not have access to the “shared savings” feature until year four of the demonstration.5 Nor may they (or any other state) cap enrollment or implement a partial expansion—flexibilities sought by some states to reduce their expansion costs—without giving up the ACA’s enhanced matching rate.
  • Real-World Events Could Lead to Significantly Sharper Cuts. If any of the projections (drawn from the Congressional Budget Office and the CMS Office of the Actuary) used in the baseline scenario are off by even a modest degree—a near certainty given the difficulty of predicting what will happen with the economy and healthcare costs—the size of the cuts would be much higher. The analysis estimates the financial impact across several such scenarios, including if the national block grant trend rate is slightly lower than what it has been in recent years, if per-enrollee spending growth is one percentage point above projections or if enrollment grows faster than projected but consistent with recent historical levels. These scenarios would result in cuts to the median state of 13.0 per cent, 13.9 per cent and 19.7 per cent, respectively, compared with a cut of 10.5 per cent under the baseline scenario.

Conclusion

Manatt Health’s estimates show that—consistent with the fundamental “bargain” of all block grant proposals—states would receive significantly less federal funding and be subject to increased financial risks if they take up the block grant option. The magnitude of the cuts would vary based largely on each state’s recent expenditure growth, but the basic picture is the same across the country. The caps would require states to reduce benefits, increase cost-sharing, lower provider payment rates or otherwise reduce Medicaid expenditures as compared with spending levels under current law or expected spending levels for states implementing new expansions. The cuts grow over time, and they deepen still further if states pursue “shared savings,” or if healthcare costs or enrollment grow at rates that, while higher than projected, are well within a recent historical experience. And under all scenarios, the financial benefits of spending cuts accrue overwhelmingly to the federal government, not to the states.

Once they take a close look, many states are likely to decide that the block grant is not an appealing option. It requires them to give up the financial partnership under which the federal government shares the risk for all Medicaid expenditures, including those driven by rising prices, breakthrough technologies, economic downturns, unforeseen epidemics and other healthcare factors.6 Meanwhile, much of the “flexibility” that CMS offers under the guidance is already available through waivers that do not cap funding. And as noted, the strategies that some states have sought to limit their financial exposure—partial expansion and enrollment caps—are off the table for the expansion population unless states give up the ACA’s enhanced matching rate. In addition, any state that pursues the policy can expect a time-consuming and costly legal fight.7 Careful review and analysis are warranted in light of the potentially sweeping implications for Medicaid beneficiaries, providers and other stakeholders.

1 Note that states using the HAO to cover new populations (for example, a newly expanding state) must rely on the per capita cap model for at least two years, deferring their access to “shared savings.”

2 The methodology applied is described in the Appendix of the Commonwealth Fund report.

3 Cuts for newly expanding states are measured against the level of funding (and therefore coverage and services) that would be available under expansions without a cap.

4 States must spend at least 80 per cent of their block grant in each year or CMS may reduce their base amount in subsequent years. For illustrative purposes, we assume in this scenario that states spend exactly 80 per cent of their block grants in order to maximize “shared savings.” In reality, states are unlikely to target spending to exactly 80 per cent of the cap, as this puts states at risk of inadvertently having their block grants rebased.

5 As explained above and more fully in the report, newly expanding states would need to operate under a per capita cap for at least the first two years of the demonstration. This would limit their access to “shared savings,” since this feature is available only once a state is operating under the aggregate cap model. If a newly expanding state moves to the block grant in year three, and in that year spends below the cap and meets performance standards, the savings would be accessible beginning in demonstration year four.

6 The guidance states that CMS may adjust block grants in the case of a “public health crisis or major economic event.” Such events are not defined nor is the adjustment assured.

7 Rosenbaum S., Somodevilla A., Velasquez M., and Handley M. “The Medicaid Block Grant (Experiment) Cometh.” Health Affairs. February 7, 2020. Available here.