A privatized, exchange-based Medicaid will not be cheaper than public Medicaid

I’ve heard that there are folks who think that Arkansas’s plans to move the Medicaid expansion population onto the state’s ACA exchange will save money. Now, it is not completely out of the question that it could, on net, save the state money, though that claim itself would require careful calculation and explanation. But if some are claiming that it will save money overall, even to the federal government, which is on the hook for nearly all the cost, they’re wrong. It won’t happen. Here’s why:

First of all, what motivates privatizing coverage for the expansion population? There are several possibilities. Let’s put aside the obviously political benefit of pumping more money to private enterprise. Another idea is that private plans will innovate in ways that the public Medicaid program cannot or does not. I have no argument with that. Yet another is that the exchange will offer choice, which, to a point, is good for consumers. Sure! And then there’s the idea that private plans offer better quality.

Let’s pause here and dissect this. Do private plans cause better health outcomes than public Medicaid? You’ll find a lot of studies that show an association on this score, but not causation. Private plans enroll a healthier pool of patients (even controlling for observable diagnoses). Private plans serve a less vulnerable population in terms of socioeconomic status and community resources (even controlling for observable income, education, and the like). What you will not find is any study that shows outcomes are better for private plans than public Medicaid using a research design that any health economist would buy as valid for causal inference. I’ve asked the experts on this, and they agree. (Sorry, no name dropping. But think of the leading health economists who definitely know this literature and you’ve got the idea.)

So, the notion that private plans cause better outcomes than public Medicaid is empirically unfounded. But, it is theoretically plausible. Why? Because private plans have more expansive networks than Medicaid, offering policyholders easier access to (presumably) higher quality services. And how, pray tell, do they conjure up these more expansive networks. THEY PAY PROVIDERS MORE!!! This is the very limitation that critics of Medicaid (myself included) raise. It pays providers too little, so too few participate. On the margin, perhaps those that do are of lower quality, but that is itself debatable. Still, less participation is less access, and that can harm outcomes.

And that brings me to the final motivation for privatizing Medicaid, that it will lower overall costs due to competition. This is magical thinking, but not for the standard (and sometimes flawed) reasons people attack the concept of markets. Markets can and do reduce costs and improve quality, if they’re sufficiently competitive and in the right ways. But the ACA exchanges will not be competitive in the right way and certainly not for the Medicaid expansion population.

The vast majority, about 80-85%, of insurers’ spending is on medical care. The customary ways to substantially reduce costs is to lower payment rates to providers or reduce the volume of care insured.* Either one of these reduces policyholders’ access to care. This, in large part, is why Medicaid is so cheap. Of course, policyholders won’t like this. Nobody likes to be told, “No.” The way they are compensated for less in the market is through lower prices. People are willing to get less if they pay less. Sometimes they prefer it, since they have other uses for their money.

But wait, who’s paying the bills here? It’s not individuals, mostly. It’s the government. Most exchange enrollees and all of those in the Medicaid expansion population will buy highly subsidized coverage.** We know that this reduces sensitivity to price. It’s the very reason employer-sponsored plans are so generous and expensive. The government is paying a big subsidy through the tax exclusion of such plans.

The same reasoning applies to exchange coverage. There is very little motivation by consumers to willingly trade less generous coverage for lower cost. Under such conditions, competition can’t drive costs down very far. Consumers won’t stand for it when they’re paying with someone else’s money. A plan that tries to go too far will likely lose market share and experience reduced profit. This is not a set-up in which I would expect private plans in competition to beat Medicaid on price. (It doesn’t happen in Medicare Part D either. As beneficial as competition has been in that market, it has not brought prices down to the level paid by Medicaid or the VA.)

Of course, consumers don’t necessarily like Medicaid either. But Medicaid is not in competition with anyone. It can reduce generosity and have a sparse network without concern for market share or profit. That’s a perverse incentive too, but it is the very reason it is so cheap, and why it will remain cheaper than private, exchange-based plans. Count on it.

* There is a third way: deliver care more efficiently. It is possible private plans could do this, but it would require big changes in the delivery system to close the gap between Medicaid and private costs. I’m deeply skeptical they could pull this off. It certainly can’t happen quickly. There is no precedent for it. But that doesn’t mean it’s impossible, eventually for private plans to induce tremendous efficiency. And, for the record, I’m not opposed to letting private plans try. But it will require an investment of more spending in the short run, and, if it doesn’t work (which is my bet), forever.

** Crucially, the complete premium and cost sharing subsidy scheme does not expose enrollees to the full marginal cost of care. One could design one that does, but this isn’t it.


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