Monthly Archives: March 2025

Medicaid Funding Scam Tolerated For Years

18 Tuesday Mar 2025

Posted by in Medicaid, rent seeking

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It’s been underway in various forms for a long time, at least since the early 1980s. It’s a basic variant of what the National Library of Medicine once called “creative financing” by some states “to get more federal dollars than they otherwise would qualify for” under Medicaid. It was even recognized as a scam by Joe Biden during Barack Obama’s presidency, and more recently by a number of legislators. Perhaps DOGE can do something to bring it under scrutiny, but ending it would probably take legislation.

Here’s the gist of it: increases in state Medicaid reimbursements qualify for a federal match at a rate known as the Federal Medical Assistance Percentage (FMAPs). First, increases in Medicaid reimbursements must be funded at the state level. To do this, states tax Medicaid providers, but then the revenue is kicked back to providers in higher reimbursements. The deluge of matching federal dollars follows, and states are free to use those dollars in their general budgets.

FMAPs vary based on state income level, so states with poorer residents have higher matching rates. The minimum FMAP is 50%, and it ranges up to 90% for marginal reimbursements falling under expanded Medicaid under Obamacare. The dollar value of the federal match is not capped.

The graphic at the top of this post highlights the circularity of this funding scheme. The graphic is taken from the Government Accountability Office’s “Medicaid Managed Care: Rapid Spending Growth In State Directed Payments Needs Enhanced Oversight and Transparency”. Here’s how Issues & Insights puts it:

“Let’s say, for example, a state imposes a provider tax on hospitals that raises $100 million. And then it returns that $100 million to the hospitals in the form of higher Medicaid reimbursement rates. There’s been no increase in benefits. Providers aren’t better off. But the state gets an extra $50 million from the federal government’s matching fund, money that it can use for anything it wants.“

However, whatever the increment to state coffers, and no matter what state programs are funded as a result, the increment is always expressed as a federal contribution to state Medicaid spending. That bit of shading helps cover for the convoluted and pernicious nature of the scheme. The lack of transparency is obvious, cloaking the circular nature of the flow of funds from providers to states and then back to providers. It’s possible that the arrangement inflates total annual Medicaid costs by as $50 – $65 billion a year, or by 6% – 8%.

Of course, this is also a blatant example of bureaucratic waste, and the allocation of “supplemental reimbursements” are a potential seedbed for cronyism and graft.

It would be better for the federal government to simply give states the money under block grants without the rigmarole. But of course that would change the character of the rent seeking already taking place, and the political daylight might not serve beneficiary states and providers well.

Putting aside the deception inherent in the funding mechanism, states vary tremendously in their reliance on federal matching revenue. States with large populations and high average incomes rely more heavily on the circular inflating of Medicaid reimbursements. California and New York lead the way in both Medicaid provider taxes and federal matching funds. Alaska, however, imposes no Medicaid provider taxes, and smaller states like Wyoming collect little in provider taxes.

High income states receive lower FMAPs, which seemingly encourages both higher Medicaid provider taxes and more “generous” provider reimbursements in order to harvest more federal matching funds. In addition, states have an incentive to participate in expanded Medicaid under the Affordable Care Act in order to receive higher matching rates.

The reciprocal nature of state-level Medicaid provider taxes and provider reimbursements implies a substantial but fictitious component of state Medicaid costs. The purpose is to qualify for federal matching dollars under Medicaid. The governments of 49 states have carried on with this escapade for years. Their misguided defenders insist that the federal contribution is necessary to protect benefits that states might otherwise have to cut. But even that stipulation would not justify the pairing of taxes on and reimbursements to Medicaid providers, which inflates the spending base upon which federal reimbursements are calculated. You have to wonder whether federal taxpayers should forgive the overstatement of costs and misallocation of funds.

DOGE Has Yet To Bite Into Treasury Yields

10 Monday Mar 2025

Posted by in Deficits, Trump Administration

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No sooner had I posted this piece on the bond market’s bemused reaction to DOGE’s cost-cutting potential than Treasury rates began to drop sharply. The 10-year Treasury note fell by about 30 basis points over the course of a week. It’s stabilized and up a little since then, but that drop had little to do with DOGE and everything to do with uncertainty about Trumpian policies and signs of a flagging economy.

Despite those probable causes, the excitement of falling rates prompted the author of this article to dive headlong into fantasy: “Interest Rates Are Falling Thanks to Cuts in Government Spending”. I hope he’s right that real cuts in government spending will be forthcoming, but that’s highly speculative at this point.

In fact, markets are grappling with massive uncertainties at the moment. Under these circumstances, a preference for safety among investors means a flight to low-risk assets like treasuries, forcing their prices up and yields down.

Tariff threats against long-time allies and adversaries alike are a huge source of uncertainty for markets, especially given Trump’s unpredictable thrusts and parries. The burden of U.S. tariffs falls largely on American buyers and tariffs are of limited revenue potential. They have already prompted announcements of retaliation, so the possibility of a trade war is real, which would create a major disruption in economic activity. This portent comes atop growing signs that a slowdown is already underway in the U.S. economy. As Eric Boehm notes, tariffs are all costs and no benefits, and their mere prospect adds significant risk to the economic and political outlook.

Budgetary developments have also been unsettling to markets. Despite promises of reduced federal spending, signs point to even larger deficits. The budget resolution passed by the House of Representatives in late February calls for various spending reductions, but it would extend the Trump tax cuts and increase defense and border control spending. On balance, deficits under the bill would be higher by $4 trillion over 10 years. That is not reassuring, and Trump still wants to eliminate taxes on tips, overtime, and Social Security benefits, which would require separate legislation. State and local tax deductions are also a hot topic. All this obviously undermines the notion that investors should take a rosy view of the outlook for reduced Treasury borrowing under Trump. Of course, higher deficits would be expected to push Treasury rates upward, but the point here is that on balance, DOGE and the Trump Administration have yet to provide a convincing case that rates should decline.

Every week the administration finds a way to demonstrate its lack of seriousness with respect to paying off the public debt. First we had the $5,000 “DOGE dividend” to all Americans. And last week a Strategic Bitcoin Reserve was authorized by Executive Order, to be funded by crypto asset forfeitures and civil penalties. While this type of funding technically qualifies as “budget neutral”, the better alternative would be to put those funds toward paying off debt. In any case, the whole idea makes about as much sense as a Hawk Tuah coin reserve.

The desire for safe assets is perhaps made more urgent by the bellicosity of Trump’s foreign policy initiatives. His multiple mentions of World War III simply can’t go over well with risk-averse investors. Rightly or wrongly, he’s thrown down the gauntlet with both Iran and Hamas, and he’s taken a fairly confrontational line with Greenland, Panama, Canada, Mexico, Venezuela, China, Russia, and especially (and unfairly) Ukraine. Ah, yes, all in the spirit of negotiating deals. We shall see.

As for DOGE, I’m a big fan of its mission to reduce waste and fraud in government, though its reporting of specific accomplishments thus far has been shrouded by inconsistencies and confusion. DOGE claims to have secured $105 billion in savings in the first six weeks of the Trump presidency, but that figure includes asset sales, which can pay down debt but aren’t deficit reduction. It’s also not clear how adverse court orders are reflected in the figure. For that matter, the reported savings are not given with any time dimension. The real savings thus far certainly don’t add up to $105 billion per year. And even at face value, those savings won’t get DOGE to its goal of $2 trillion in deficit reduction by July 2026 without some spectacular wins along the way. Medicaid fraud might be a big one, but that remains to be seen. This report on DEI initiatives by agency also offers some promising targets. (But now, apparently DOGE’s goal has been scaled back to $1 trillion in savings).

And there is one other hurdle: even after DOGE and the Administration identify and impound amounts already authorized, the savings will not be permanent without congressional action on budgetary recissions. That could be tough.

So the bond market is rightly skeptical of whether DOGE and the Administration can achieve major and permanent reductions in federal deficits. The recent drop in rates has much more to do with the economy and an array of uncertainties surrounding the values of risk assets.

Macro Policy As a Hindrance To Growth

03 Monday Mar 2025

Posted by in Growth, Stimulus

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Creative destruction takes place when inefficient producers are outcompeted by other firms, especially those brandishing new technologies. The concept, originally developed by Joseph Schumpeter in the 1940s, came to be accepted as a hallmark of market dynamics and capitalism. Successful market entrants rise to compete and eventually cripple incumbent producers who’ve grown stale in their offerings, inputs, or methods.

Creative destruction encourages long-term economic growth in several ways. First, it allows unproductive firms to fail, freeing resources to be absorbed by firms having solid growth opportunities. Second, creative destruction enables the diffusion of new technologies. Third, it motivates incumbents to improve their game, adapting to new realities in the marketplace. This is a continuous process. There are always firms that fail to keep pace with their competitors, whether old-line producers or failing risk-takers, but this is especially the case during periods of economic weakness.

Harmful Policy Menu

Attempting to prevent creative destruction via public policy is counter-productive, anti-competitive, and it impedes economic growth. Yet we constantly expend well-meaning energies to short circuit the process by attempting to promote uneconomic technologies, shield established firms from competition, and resuscitate dying firms. These efforts include industrial policies, barriers to foreign trade, excessive regulation of new technologies, selective taxation, certain bankruptcy reorganizations, and outright bailouts.

Creative destruction is a sign of flourishing competition, but it is subverted by industrial policies that subsidize politically-favored firms that otherwise would be uncompetitive. These policies create artificial advantages that waste public resources on what are often just bad ideas (see here and here).

Likewise, protectionism breeds weakness while shielding domestic producers from competition. And selective taxes, such as those on online sales, create an uneven playing field, blunting competitive forces.

Policies that encourage the survival of “zombie firms” also thwart creative destruction. These are companies with chronic losses that manage to hang on, sometimes for many years, with refinanced debt. Companies and their lenders can expend a great deal of internal effort forestalling bankruptcy. However, it’s not uncommon for zombie firms to languish for years but ultimately fail even after bankruptcy reorganizations, especially when the sole focus is on financial restructuring rather than business operations.

Government sometimes steps in to prolong the survival of struggling firms via subsidies, loan guarantees, and protracted efforts to keep interest rates low. Bailouts of various kinds have become all too common. Bailout activity creates perverse incentives with respect to risk. It also wastes resources by propping up inefficient operators, trapping resources in uses that return less to society than their opportunity costs.

Macro Maleficence

Ben Landau-Taylor makes a provocative but sensible claim in an article entitled “Industrial Greatness Requires Economic Depressions”. It’s about an unfortunate side effect of government policies intended to stabilize the economy: business failures occur with greater frequency during economic contractions, and that’s when policymakers are most apt to render aid via expansionary fiscal and monetary actions. No one likes economic downturns and unemployment, so “stimulative” policy is easy to sell politically, despite its all-too-typical failures in terms of timing and efficacy (see here and here). One intent is to support firms whose travails are revealed by a weak economy, including those relying on obsolete technologies. It might buy them survival time, but on the public dime. Ultimately, by forestalling creative destruction, these policies undermine economic growth.

Landau-Taylor emphasizes that creative destruction is not costless. Business failures and job losses are painful. And creative destruction brought on by dramatic advances can actually cause recessions or even depressions. Is that a rationale for delaying the inevitable failure of weak incumbents and impeding the broad adoption of new technologies? Our long-term well-being might dictate that we allow such transitions to take place by shunting aside interventionist temptations.

As a rationale for intervention, it’s sometimes said that we can’t regain the output lost during contractions. An appropriate riposte is that government efforts to counter recessionary forces are almost always futile. Furthermore, the lost output might be a pittance relative to the growth and permanent gains made possible by allowing creative destruction to run its course, liberating resources for better opportunities and growth.

On this point, Landau-Taylor says:

“If we want our descendants in 2125 to surpass our living standards the way we surpass our ancestors from 1925, then we will have to permit economic transformations at the scale that our ancestors did, including bankruptcies, job losses, and the cascading depressions that result. The individual pain of depressions does not have to be quite so severe as it once was. Because we are richer, we can and do spend vastly more on welfare, but this should be directed at individuals rather than at megacorporations. But there will always be some pain.“

Conclusion

Too often public policy creates obstacles to natural and healthy market processes, including creative destruction. This prevents the economy from reaching its true growth potential. Subsidies, bailouts, protectionism, and arguably macroeconomic stimulus, too often give safe harbor to struggling producers who manage to retain control over resources having more valued uses, including firms relying on obsolete and impractical technologies. Recessions typically expose firms with the weakest market prospects, but countercyclical fiscal and monetary policy may give them cover, forestalling their inevitable decline. Thus, we risk throwing good resources after bad, foregoing opportunities for growth and a more prosperous future.