David R. Henderson  

Are the Savings from Cutting Medicaid Illusory?

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Answer: It depends.

Chicago Tribune columnist Steve Chapman, and also my long-time friend, reminds us of one of the most important principles in economics: There's no such thing as a free lunch. Indeed, this principle is so important that I've made it Numero Uno in my Ten Pillars of Economic Wisdom. Steve makes his point in "The Illusory Savings from Cutting Medicaid," June 25, 2017.

Steve thinks that if we apply that principle to the Senate Republicans' plans for cutting the federal government's subsidies to Medicaid, we must conclude that others will pay more. His key bottom line:

Cutting back Medicaid coverage would save taxpayers some cash, but only by taking it from others. The reduction would raise costs for low-income people and most likely degrade their health.

He's almost certainly right that it would mean taking more cash from taxpayers at the state level, since the Senate Republican plan would change the current federal subsidy to state Medicaid plans to a block grant to states. But would it save taxpayers cash only by taking it from others?

That depends. One argument for turning over Medicaid to state governments and letting them set the terms is that state governments can try different methods. Some will work better, some worse, and then state governments that want to can imitate the ones that work better. Is there a way to have Medicaid work better? There certainly is. It is to have small co-payments for medical services: say $5 for a doctor visit and $50 for a day in the hospital. The purpose of such copayments is not to, green eyeshade style, extract small amounts of money from poor and near-poor people. The purpose is to have them put "skin in the game" so that their use of health care costs them something and they don't treat an incredibly expensive resource as a free resource. With a smaller federal role in setting the rules for Medicaid, surely some states would experiment with small co-payments. This could save substantial money without increasing taxes.

Another way state governments could save money without making health care worse is to let the Walmarts of the world deliver low-cost but high quality care using people who are health care professionals but not high-cost doctors. Some state governments allow this; others don't. But if state governments had to bear more of the cost of Medicaid, some of them would likely respond to this incentive by allowing more such innovation.

And that might also mean that poor people's health would not be degraded. We already know from the Oregon Medicaid study that Amy Finkelstein et al have written about that Oregon's Medicaid doesn't seem to have done much for the physical health of Medicaid beneficiaries there. (See Megan McArdle's article for a very nice treatment of the issues.) And even if the effects are positive but too small to detect, the odds are good that those positive effects would still occur if poor people, responding to co-pays, dropped the marginal uses and kept the important ones.

The above paragraph is an application of two other important pillars of economic wisdom: Pillar #2--incentives matter--and Pillar #3--economic thinking is thinking on the margin.

Steve also writes:

Some recipients would get cut off under the GOP plans, and some would get less coverage. That--surprise!--would leave them worse off, because comprehensive health insurance is a good thing to have.

He and I probably think of health insurance the same way: it's really good to have. But another important Pillar of Economic Wisdom is Pillar #7: The value of a good or service is subjective. I might think you should have health insurance but you might think you should not. If you lose health insurance solely because of a reduction in subsidy, then Steve is right: by your own standards, you are worse off. But the Congressional Budget Office, whom Steve quotes about the number of people who will lose health insurance due to Republicans' proposed plans, found in its study of the House Republicans' bill that a substantial number will lose Medicaid not because they will lose eligibility for Medicaid--many won't lose eligibility--but because they will no longer be forced by law--the individual mandate--to sign up for it. The same is likely to be true of the Senate Republicans' plan. So, whatever Steve or you or I think of the wisdom of their decision, by their standards, losing Medicaid means they are better off: they choose to lose it.

Steve Chapman is right: there is no such thing as a free lunch. But sometimes there are more efficient ways of delivering subsidized lunches.


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COMMENTS (15 to date)
Thomas writes:

This is a phony argument: "Cutting back Medicaid coverage would save taxpayers some cash, but only by taking it from others." In fact, the "others" are taking it from taxpayers, that is, those persons who bear the actual costs of Medicaid but aren't eligible for it. The savings aren't illusory to those people.

I do wish that (some) economists would quit pretending that there's such a thing as a social-welfare function.

Matthias Görgens writes:

Economics is full of free lunches. That's eg the whole point behind trade, and other market based solutions in general.

There's no free lunch when you are already at some kind of efficiency frontier: then any change becomes some kind of tradeoff.

Dan C writes:

I have been an infrequent user of Medicaid in my state (Texas) and one other state due to my role as a foster parent as well as one other special situation. Medicaid does not function like insurance or like Medicare. My experience with Medicaid is as follows: Emergency room and general hospital care is free, available, and fully funded. Specialist care is very difficult to find, and often not covered anyway. GP care is very limited, as most doctors refuse to take Medicaid, usually because of reimbursement rates. Medicaid appears to make special efforts to limit an deny coverage to participants through bureaucracy and "errors". Trust me, these errors are not unintentional. Medicaid suffers from an obsolete funding mechanism.

I would generally recommend replacing Medicaid with subsidies to purchase insurance (at least equal to what the middle class receives), or better yet, federally funded health care savings accounts. It won't solve the problem of pre-existing conditions, which is basically what sunk Obamacare and what will sink GOPcare. Those with pre-existing conditions are uninsurable, by definition. Ironically, Medicare is designed to handle the most common pre-existing condition (old age).

Thomas Nagle writes:

True that many young, healthy people might choose not to buy the high cost, comprehensive health insurance coverage that Obamacare mandates. (The difference between a "Bronze" and a "Gold" Obamacare plan is not what is covers since every plan is required to cover virtually everything; the difference is just in the % of that high cost of care that is covered.) However, many people who would not buy an Obamacare plane may well be willing to buy a cost-effective plan that was priced at half as much. Most people in the UK and Canada like their health coverage--which has more spartan coverage than what insurance must cover in the US--but costs about half as much. Unfortunately, the people who point to Canada and the UK to argue for a government-run health system are now aghast that a state might allow insurers to offer a cheap, more "bare bones" plan that they would be allowed to sell across state lines. Neither the DEM's not the GOP's plans will prove viable unless middle-income people can buy a cost-effective policies that may deny them some treatments (even life extending ones when facing terminal illness).

Jake writes:

If you want to transfer then do it in cash, not income-in-kind. Keeps things simple and relatively free of distortions.

Jim writes:

Thomas Nagle - Which mandated coverages in Obamacare would you toss?

An ACA bronze policy with a $6k deductible isn't exactly full of extra stuff. Mandated Maturity coverage adds about 4% to premiums. Mental Health care adds another 1-2%. First dollar preventative care (no deductible) adds maybe 5%. So we get rid of all three and premiums drop by 12%.

Beyond that, what do we drop? Outpatient care? Prescription drugs? Cancer treatment? I just don't see where the big premium savings come from.

Jon Murphy writes:

@Matthias Gorgens:
Economics is full of free lunches. That's eg the whole point behind trade, and other market based solutions in general.

There's no free lunch when you are already at some kind of efficiency frontier: then any change becomes some kind of tradeoff.

This is incorrect. All transactions involve trade-offs. Whether or not you're at a frontier or in a market-transaction is irrelevant. Because, at the very least, time is a scarce resource, we must all give up something to get something.

Thaomas writes:

I agree that it would be good to allow states to find ways to deliver health care services paid for by Medicaid at lower cost. Any of these good ideas (if they work) can be carried out without reducing expenditures on Medicaid.

I fear, however that the current efforts to reform health insurance policy are being driven only by the desire to reduce federal level expenditures, rather than by the desire for greater efficiency in health care delivery.

JFA writes:

"a substantial number will lose Medicaid not because they will lose eligibility for Medicaid--many won't lose eligibility--but because they will no longer be forced by law--the individual mandate--to buy it"

Asking for a point of clarification: do people buy Medicaid? My understanding of it is that states can impose cost sharing payments but not premiums (see this). The quoted passage from your previous blog post only mentioned a reduction in Medicaid recipients, not why they would lose coverage. The point about the mandate was applied to the overall number of people losing coverage, not Medicaid specifically.

Thus, your conclusion ("losing Medicaid means they are better off: they choose to lose it") rest on whether or not Medicaid recipients have to pay premiums, and it is unclear that they do.

Note: you could say that the price they pay comes in the form of the difficulty of signing up (and that may be the case) but that is not how the argument was presented.

David R. Henderson writes:

@JFA,
Thanks. Correction made.

pyroseed13 writes:

This is a good post but I think you are being much too kind to Steve. I thought his column was quite poor actually. He talks about how terrible it would be for hospitals and health care consumers if Medicaid was cut, but never considers that there may be better ways to provide coverage to the population. Honestly, when reading the article I had to double check to make sure that I hadn't accidentally stumbled onto Salon.

David R. Henderson writes:

@Thaomas,
I fear, however that the current efforts to reform health insurance policy are being driven only by the desire to reduce federal level expenditures, rather than by the desire for greater efficiency in health care delivery.
You may well be right. It doesn’t necessarily undercut my point, though.

John B Egan writes:

Providing medicaid to the poor falls into a 'damned if you do, damned if you don't' category. You 'save money' by not funding their care, and local police, fire department, and hospital ERs get stuck with the major emergencies. That cost just gets passed on to society through higher hospital fees, more local taxes for police and emergency response, etc. Then you have to ask; if you had treated that guy's diabetes, would he have had his foot amputated? Would we be paying as much to care for him now? Now you have a homeless cripple staggering around your town. The same is true of our absurd war on drugs, fighting over why we should not raise the minimum wage, etc. People tend to focus on the immediate issue and ignore all the ongoing fallout surrounding it.

ZC writes:

@John Egan

"Then you have to ask; if you had treated that guy's diabetes, would he have had his foot amputated?"

Yes, he'd still get his foot amputated. Many people eligible for Medicaid don't take the time to enroll (revealed preference as to how much they value it). And many who are eligible are just as irresponsible with their personal healthcare as they are with other parts of their lives, such that even if they had Medicaid, they'd continue to do things damaging to their health (smoke, high fat and high cal diets, IV drug use, etc).

No amount of social engineering and expenditure can save people from their own stupidity or proclivities.

Gerald Arcuri writes:

Here's another "pillar" of economic wisdom: healthcare and insurance are two vastly different things. Healthcare is a mix of goods and services ("lunch") which must be paid for. ( see Pillar #1, above ) Insurance is a mechanism by which goods and services may be paid for under an agreement in which the insured pays the insurer a fixed amount (premium) to assume the actuarial risk of having to pay for goods and services which may or may not be needed. Healthcare "coverage" is therefore an ill-defined concept. It conflates lunch with the method used to pay for it. Yet, it is the talisman by which elected officials sttempt to hornswaggle a gullible public into believing that, through the magic of insurance regulation, healthcare can be given to one and all. Poppycock. Insurance is about paying for protection against uncertain risks. Or, at least it used to be. It was a way of paying for your lunch... or your healthcare. There is no such thing as "universal healthcare insurance". Because if something is universal, there is no real risk to the "insured" beneficiary in such a comprehensive system. There might be such a thing as universal healthcare benefits, but again, that's a different animal altogether. Until the public understands this - and politicians stop prevaricating and obfuscating about it - and either accepts or rejects the notion that healthcare (lunch) should be paid for based on insurance (a risk calculation and agreement) we will have nothing but a jumbled mess of payment and coverage in this country.

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