Medicaid and the State Fiscal Crisis of 2000-2003

Medicaid and the State Fiscal Crisis of 2000-2003

Order Code RL31773
CRS Report for Congress
Received through the CRS Web
Medicaid and the State Fiscal Crisis of 2000-2003
Updated December 2, 2005
Christine Scott
Specialist in Tax Economics
Domestic Social Policy Division
Congressional Research Service ˜ The Library of Congress

Medicaid and the State Fiscal Crisis of 2000-2003
Summary
Medicaid, a health insurance program funded jointly by the federal government
and the states, is facing a period of quickly escalating costs at a time when the need
(as measured by the number of uninsured) among the population it serves — the low-
income disabled, families and elderly — is rising. The pressures of quickly rising
costs and increasing need are driving legislative attention both at the state and federal
levels. Between FY2000 and FY2003, the annual growth rate of federal Medicaid
expenditures was 11.3%.
During the FY2000 through FY2003 period, states, unable to use deficit
spending, faced fiscal pressures from a decline in (or slower) growth rates for general
state revenues due to the economic downturn and constraints on the states’ use of
creative financing mechanisms for Medicaid. Medicaid was frequently pointed to as
a significant contributor to the fiscal pressures. This was not the first time that
Medicaid has been a fiscal flash point. In the mid-1990s, Congress passed legislation
to repeal the Medicaid program and replace it with a fixed grant program. President
Clinton vetoed this effort. The period of economic growth in the 1990s relieved
some of the fiscal pressures. However, the fiscal pressures returned in the early
2000s.
The joint nature of the Medicaid program means that program policy changes
can occur at either (or both) the federal and state level. For states, making significant
cuts in the Medicaid program is challenging because some of the quickly growing
cost items such as nursing facility care are federally required. In addition, cutting the
program when unemployment is high and the number of uninsured is growing is
politically unpopular. As a result, states combined to lobby for fiscal relief from
Congress.
In the 108th Congress, the Jobs and Growth Tax Relief Reconciliation Act of
2003 (JGTRRA, P.L. 108-027) provided temporary fiscal relief to states through a
combination of grants and an increase in the federal medical assistance percentage.
Alternatively, the Bush Administration proposed various options to control Medicaid
spending including waivers through the Health Insurance Flexibility and
Accountability (HIFA) initiative and a Medicaid reform proposal. The Medicare
Prescription Drug, Improvement, and Modernization Act of 2003 (P.L. 108-173)
provided some fiscal relief to states by temporarily increasing disproportionate share
to hospital (DSH) allotments and increasing the floor for DSH allotments for certain
states. However, P.L. 108-173 also created a prescription drug benefit under the
Medicare program. The prescription drug benefit, which will begin in 2006, will be
partially funded by the states.
This report describes Medicaid financing mechanisms, some of the factors that
contribute to the program’s spending growth, how Medicaid fits into state budgets,
what avenues some states used to control Medicaid spending growth in their budgets,
and federal legislative and administrative proposals aimed at affecting the program’s
fiscal impact. This report will be updated as legislative activities warrant.

Contents
Medicaid . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Medicaid Financing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Federal Medical Assistance Percentage . . . . . . . . . . . . . . . . . . . . . . . . . 2
Disproportionate Share Payments and Provider Taxes . . . . . . . . . . . . . 5
Upper Payment Limits (UPL) and Intergovernmental Transfers
(IGT) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
Federal Medicaid Expenditure Growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Comparing Medicaid and Medicare Growth . . . . . . . . . . . . . . . . . . . . 11
Medicaid and State Budgets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Impact of the Medicare Prescription Drug Benefit Program . . . . . . . . . . . . 15
The 2000-2003 State Fiscal Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
State and Federal Responses to the Current State Fiscal Crisis . . . . . . . . . . 18
States . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
Federal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Fiscal Year 2006 Reconciliation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
The Bush Administration Medicaid Reform Proposal . . . . . . . . . . . . . 24
Other Recent Proposed Federal Initiatives . . . . . . . . . . . . . . . . . . . . . . 24
List of Figures
Figure 1. Federal and State Medicaid Expenditures, FY1992-FY2003 . . . . . . . . . 5
Figure 2. Actual and Projected Federal Medicaid Expenditures,
FY2003-FY2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Figure 3. State-Funded Medicaid Expenditures as a Share of State-Funded
Budgets, State Fiscal Years (SFY) 1989-2003 . . . . . . . . . . . . . . . . . . . . . . 12
Figure 4. Annual Growth Rate in State-Funded Total and State - Funded
Medicaid Expenditures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
List of Tables
Table 1. FMAPs for FY2002 through FY2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Table 2. State-Funded Medicaid Expenditures as a Share of State-Funded
Total Expenditures by State, Selected State Fiscal Years . . . . . . . . . . . . . . 13
Table 3. Share of Total State Funded Expenditures by Function, State
Fiscal Year 2003 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Table 4. Actions Taken by States to Close Budget Gaps in SFY2003,
SFY2004, and SFY2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
Table 5. Medicaid Cost Containment Actions Taken by States in SFY2003,
SFY2004, and SFY2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
Table 6. Examples of State Benefit Changes to Reduce Medicaid Costs in
SFY2003, SFY2004, and SFY2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
Table 7. Total Revenue Changes Enacted by States By Type of Revenue,
SFY2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22

Medicaid and the State Fiscal Crisis of
2000-2003
Medicaid
Medicaid is a health insurance program jointly funded by the federal
government and the states. While states have considerable flexibility to design and
administer their Medicaid programs, certain groups of individuals must be covered
for certain categories of services. Generally, eligibility is limited to low-income
children, pregnant women, parents of dependent children, the elderly, and people
with disabilities. The federal government’s share of Medicaid costs is determined
by a formula included in statute; states must contribute the remaining portion of costs
in order to qualify for federal funds.
In fiscal year (FY) 2004, Medicaid enrollment was estimated at 54.9 million
including 25.7 million children, and 14.0 million aged, blind, or disabled
individuals.1 In FY2002,2 total (state and federal) Medicaid (medical assistance and
administration) payments were $258.2 billion. Medical assistance payments were
$246.3 billion, with the four largest categories being: nursing facilities, 19.3% of the
total; prepaid health care (capitation payments-managed care organizations), 13.3%;
inpatient hospital services, 12.7%; and prescription drugs, 9.5%.
The 10 largest states in terms of total medical assistance payments in FY2002
were New York, California, Texas, Pennsylvania, Florida, Ohio, Illinois,
Massachusetts, New Jersey, and Michigan. They accounted for 57.1% of total
Medicaid medical assistance payments. Nine of the 10 are also in the top 10 states
for total population.3
Medicaid Financing
Medicaid is jointly funded by the states and the federal government. Generally,
the federal share of Medicaid is based on a matching percentage. A state must pay
its share of Medicaid program costs to receive matching federal payments. However,
the simple mechanism of a federal matching percentage for Medicaid program
1 Centers for Medicare and Medicaid Services, 2004 CMS Statistics, Table 11, available at
[http://www.cms.hhs.gov/researchers/pubs/CMSstatistics/2004CMSstat.pdf]. The balance
of the enrollees (15.3 million) are adults. Children participating in the State Children’s
Health Insurance Program (SCHIP) through a Medicaid expansion are not included.
2 Calculations by the Congressional Research Service based on Form 64 data (Financial
Management Report) provided by the Centers for Medicare and Medicaid Services, Jan.
2004.
3 Massachusetts ranks 13th in terms of population.

CRS-2
service costs becomes more complicated when combined with two special provisions
for reimbursement: (1) the required payment adjustments for hospitals
(disproportionate share payments to hospitals, known as DSH) that serve a large
number of low-income or Medicaid patients; and (2) the upper payment limits
(UPLs) for services by type of provider and provider ownership (private or public).
These two financing mechanisms allowed under law made it possible for states to
finance their Medicaid programs with less than their required state match, in effect
increasing their federal match rate. However, these sources of financing have been
restricted, just as other sources of state revenues are also decreasing.
Federal Medical Assistance Percentage. The federal government’s share
of a state’s expenditures for Medicaid is called the Federal Medical Assistance
Percentage (FMAP). The FMAP for each of the 50 states and the District of
Columbia is determined annually based on a statutory formula that uses the average
per capita income of each state and the United States for the three most recent
calendar years for which data are available from the Department of Commerce. This
formula is designed to pay a higher FMAP to states with lower per capita income
relative to the national average (and vice versa for states with higher per capita
incomes). FMAPs must not fall below 50% or exceed 83%.4 There is an FMAP of
50% for administrative expenses and a higher match for certain services and
administrative functions. In FY2003 and FY2004 the Jobs and Growth Tax Relief
Reconciliation Act of 2003 (JGTRRA, P.L. 108-027) provided fiscal relief to the
states through a temporary increase in the FMAP for states that met certain
requirements. For the last two quarters of FY2003 and the first three quarters of
FY2004, eligible states were held harmless (protected) from any decline in the FMAP
from FY2002 levels, and the resulting FMAPs were increased by 2.95 points for
these quarters. In general a state was eligible for the higher FMAP if the Medicaid
program eligibility was not more restrictive than their program eligibility on
September 2, 2003. Table 1 provides the FMAP for each state, the District of
Columbia, and the territories for FY2002 through FY2006.
Table 1. FMAPs for FY2002 through FY2006
FY2003
FY2003E FY2004E FY2004
State
FY2002 (first 2
(last 2
(first 3
(last
FY2005 FY2006
quarters) quarters) quarters) quarter)
Alabama
70.45
70.60
73.55
73.70
70.75
70.83
69.51
Alaska
57.38
58.27
61.22
61.34
58.39
57.58
50.16
Arizona
64.98
67.25
70.20
70.21
67.26
67.45
66.98
Arkansas
72.64
74.28
77.23
77.62
74.67
74.75
73.77
California
51.40
50.00
54.35
52.95
50.00
50.00
50.00
Colorado
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Connecticut
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Delaware
50.00
50.00
52.95
52.95
50.00
50.38
50.09
District of
70.00
70.00
72.95
72.95
70.00
70.00
70.00
Columbia
4 For the District of Columbia, the FMAP was permanently set to 70.00% starting in
FY1998. For Alaska, the state percentage is calculated using the three-year average per
capita income for the state divided by 1.05, for FY2001 through FY2005 only.

CRS-3
FY2003
FY2003E FY2004E FY2004
State
FY2002 (first 2
(last 2
(first 3
(last
FY2005 FY2006
quarters) quarters) quarters) quarter)
Florida
56.43
58.83
61.78
61.88
58.93
58.90
58.89
Georgia
59.00
59.60
62.55
62.55
59.58
60.44
60.60
Hawaii
56.34
58.77
61.72
61.85
58.90
58.47
58.81
Idaho
71.02
70.96
73.97
73.91
70.46
70.62
69.91
Illinois
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Indiana
62.04
61.97
64.99
65.27
62.32
62.78
62.98
Iowa
62.86
63.50
66.45
66.88
63.93
63.55
63.61
Kansas
60.20
60.15
63.15
63.77
60.82
61.01
60.41
Kentucky
69.94
69.89
72.89
73.04
70.09
69.60
69.26
Louisiana
70.30
71.28
74.23
74.58
71.63
71.04
69.79
Maine
66.58
66.22
69.53
69.17
66.01
64.89
62.90
Maryland
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Massachusetts
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Michigan
56.36
55.42
59.31
58.84
55.89
56.71
56.59
Minnesota
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Mississippi
76.09
76.62
79.57
80.03
77.08
77.08
76.00
Missouri
61.06
61.23
64.18
64.42
61.47
61.15
61.93
Montana
72.83
72.96
75.91
75.91
72.85
71.90
70.54
Nebraska
59.55
59.52
62.50
62.84
59.89
59.64
59.68
Nevada
50.00
52.39
55.34
57.88
54.93
55.90
54.76
New Hampshire
50.00
50.00
52.95
52.95
50.00
50.00
50.00
New Jersey
50.00
50.00
52.95
52.95
50.00
50.00
50.00
New Mexico
73.04
74.56
77.51
77.80
74.85
74.30
71.15
New York
50.00
50.00
52.95
52.95
50.00
50.00
50.00
North Carolina
61.46
62.56
65.51
65.80
62.85
63.63
63.49
North Dakota
69.87
68.36
72.82
71.31
68.31
67.49
65.85
Ohio
58.78
58.83
61.78
62.18
59.23
59.68
59.88
Oklahoma
70.43
70.56
73.51
73.51
70.24
70.18
67.91
Oregon
59.20
60.16
63.11
63.76
60.81
61.12
61.57
Pennsylvania
54.65
54.69
57.64
57.71
54.76
53.84
55.05
Rhode Island
52.45
55.40
58.35
58.98
56.03
55.38
54.45
South Carolina
69.34
69.81
72.76
72.81
69.86
69.89
69.32
South Dakota
65.93
65.29
68.88
68.62
65.67
66.03
65.07
Tennessee
63.64
64.59
67.54
67.54
64.40
64.81
63.99
Texas
60.17
59.99
63.12
63.17
60.22
60.87
60.66
Utah
70.00
71.24
74.19
74.67
71.72
72.14
70.76
Vermont
63.06
62.41
66.01
65.36
61.34
60.44
58.49
Virginia
51.45
50.53
54.40
53.48
50.00
50.00
50.00
Washington
50.37
50.00
53.32
52.95
50.00
50.00
50.00
West Virginia
75.27
75.04
78.22
78.14
75.19
74.65
72.99
Wisconsin
58.57
58.43
61.52
61.38
58.41
58.32
57.65
Wyoming
61.97
61.32
64.92
64.27
59.77
57.90
54.23
America Samoa
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Guam
50.00
50.00
52.95
52.95
50.00
50.00
50.00
N. Marina Islands
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Puerto Rico
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Virgin Islands
50.00
50.00
52.95
52.95
50.00
50.00
50.00
Source: Table prepared by the Congressional Research Service (CRS) from HHS regulations
published in the Federal Register; letter to State Medicaid Directors SMDL #03-005, June 12, 2003.

CRS-4
In FY2002, total Medicaid expenditures (including administration) were $258.2
billion. The federal government share was $146.6 billion, or about 56.8%. For the
period FY1992 through FY2002, the federal share of total Medicaid expenditures
ranged from 56.5% to 57.4%, with the annual average share for the period being
56.7%. The temporary increase in the FMAPs provided by JGTRRA for FY2003 and
FY2004 did not significantly increase the federal share. The Congressional Budget
Office estimated that the temporary FMAPs changes only increased federal Medicaid
expenditures in FY2003 by $4 billion or 2.5%.5
In the 50 states and the District of Columbia, Medicaid is an individual
entitlement. There are no limits on the federal payments for Medicaid as long as the
state pays its share of the matching funds. In contrast, Medicaid programs in the
territories are subject to federal spending caps.
Figure 1 illustrates total expenditures for Medicaid for FY1992 through
FY2003. For FY2003, federal expenditures for Medicaid were $160.7 billion, with
state expenditures estimated at $122.6 billion and total expenditures estimated at
$283.6 billion.6
5 Congressional Budget Office, The Budget and Economic Outlook: Fiscal Years 2005 to
2014, Jan. 2004, p. 59.
6 The estimates for total and state Medicaid spending in FY2003 are based on the federal
government spending of $161 billion reflecting the same share of total (56.8%) as in
FY2002.

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Figure 1. Federal and State Medicaid Expenditures, FY1992-FY2003
Source: Congressional Research Service based on analysis from Centers for Medicare and Medicaid
Services (CMS), Form 64 for FY1992 through FY2002. The Form 64 data excludes Vaccines for
Children program expenditures and includes current year expenditures, prior period adjustments, and
collections. For FY2003, federal Medicaid expenditures are from the Congressional Budget Office
report The Budget and Economic Outlook: Fiscal Years 2005 to FY2014, Jan. 2004, and state
expenditures are estimated using the federal share of total expenditures in FY2002. FY2003 reflects
actual federal expenditures and estimated state expenditures.
Disproportionate Share Payments and Provider Taxes.7 The
disproportionate share hospital (DSH) adjustment was established in 1981 to give
states greater flexibility to use payment methods for Medicaid other than the
Medicare reimbursement principles and to provide protections for hospitals,
particularly those with a high level of low-income and uninsured patients. In effect,
hospitals designated as DSH hospitals receive a higher reimbursement for services
than other providers. A portion of the reimbursement, paid to the state by the federal
government through the FMAP funding mechanism, is called the DSH adjustment.
Originally, there was no upper limit placed on DSH adjustments.
In the early 1990s, the combination of a high growth rate in medical costs
generally and an economic downturn resulted in states combining creative financing
mechanisms, particularly provider taxes or donations, with DSH adjustments, which
had no limit, to increase federal Medicaid payments. The increased federal
payments, in effect, permitted the states to transfer part of the medical costs normally
paid for by states (such as support for public hospitals) to the federal government.
Between 1990 and 1992, DSH adjustments grew from less than $1 billion to $17.4
7 For a more complete history and analysis of DSH payments, see CRS Report 97-483,
Medicaid Disproportionate Share Payments, by Jean Hearne.

CRS-6
billion. After 1992 DSH adjustment growth slowed considerably, although the level
of national DSH adjustments remains high — $15.9 billion in 2002.
Under provider taxes and donations, the state would impose a provider-specific
tax or accept a “donation” from a Medicaid provider. These funds would be included
as part of the state share of Medicaid funding and matched by the federal
government. The providers would then have their taxes or donations returned by
receiving higher payments than they would have otherwise received, including higher
DSH adjustments, with any remaining funds retained by the state for other uses.
Because DSH adjustments had no limit at the time and did not have to be tied to
particular beneficiaries or services, they became a popular means of drawing down
federal dollars. Not all states used this financing mechanism, but some states were
very aggressive in their use of the mechanism with a large share of the federal
payments diverted to other uses, including meeting the state’s required matching rate.
An example of the financing mechanism using the provider tax would be as
follows: the state Medicaid agency paid a DSH designated hospital $100 for services
provided (reflecting a higher reimbursement level for a DSH adjustment), then
claimed and received a $60 federal match (the state has a 60% FMAP). The hospital
returned to the state, via a donation or tax, $80 of the $100 it was paid. At the end
of the transaction, the hospital had been paid $20 by the state, but the federal
government had reimbursed the state for $60, leaving an additional $40 the state
could use for any purpose.
To curb the use of provider taxes and donations, the Medicaid Voluntary
Contribution and Provider-Specific Tax Amendments of 1991 (P.L. 102-234)
restricted the use of donations to limited situations, and permitted states to impose
any provider-specific taxes they wished. However, the federal match would be
reduced dollar for dollar for any donations or taxes that did not meet specific
requirements. Specifically, the provider-tax had to be broad-based and subject to a
cap on the amount of state Medicaid program expenses the taxes could be used to
support.
The Medicaid Voluntary Contribution and Provider-Specific Tax Amendments
of 1991 also established national and state limits on DSH adjustments. The national
limit was 12% of Medicaid expenditures in any year. The state limits were based on
1992 DSH adjustment levels. States with 1992 adjustment levels greater than 12%
of the state’s total Medicaid expenditures would receive adjustments at the 1992
dollar levels until the adjustments became 12% of total Medicaid spending. States
with 1992 adjustment levels below 12% of Medicaid expenditures could receive
allotments increasing their adjustments up to a limit of 12%. In essence, states could
continue to receive DSH adjustments, which are not based on actual services, up to
12% (generally) of Medicaid expenditures.
The size of total DSH adjustments and the lack of reliable data on what the
adjustments accomplished focused attention on the payments, and they became a
target of federal budget cutters. The Balanced Budget Act of 1997 (BBA 1997, P.L.
105-33) established specific levels of DSH adjustments for 1998 through 2002, with
later years increasing by the growth in the Consumer Price Index (CPI). The annual
limits were to decline during the 1998 to 2002 period, but the Medicare, Medicaid,

CRS-7
and SCHIP Benefits Improvement and Protection Act of 2000 (BIPA, P.L. 106-554)
relaxed the levels for 2001 and 2002. In 2003 the DSH allotment returned to the
levels set by BBA 1997, resulting in a decline in the allotment compared to 2002.
The Medicare Prescription Drug, Improvement, and Modernization Act of 2003
(MMA, P.L. 108-173) provided a 16% increase in adjustments for FY2004 and
altered the calculation of future adjustments. In future years, if the calculated
adjustment is less than or equal to the FY2004 adjustment, the adjustment for that
fiscal year will be the prior fiscal year adjustment increased by the CPI.
In FY2002, six states (New York, California, Texas, New Jersey, Louisiana, and
Pennsylvania) accounted for over half of total DSH adjustments. DSH adjustments
in FY2002 were $15.9 billion, or 6.2% of total Medicaid (medical assistance and
administration) payments.
Upper Payment Limits (UPL) and Intergovernmental Transfers
(IGT).8 In 1987, the Secretary of HHS issued regulations establishing upper payment
limits (UPL) for different types of Medicaid covered services. Interacting with this
policy was a provision of Medicaid law that allows state governments to fund up to
60% of the non-federal share of Medicaid expenditures with local government funds.
It is this source of intergovernmental transfers that plays a role in state accounting
practices for UPL and that has drawn the attention of Congress.
In 2000, it became apparent that some states were using the combination of UPL
and intergovernmental transfers to receive payments in excess of what the federal
share of payments would have been based on the actual rate paid for services.9 Those
states were paying county or city service providers at rates above the usual payment
rates to claim a higher federal match. The local providers would be required to return
the excess payments to the state to cover part of the state Medicaid expenditures or
for other purposes.
In the 1987 rules, states were allowed to pay all providers, regardless of
ownership, up to 100% of the Medicare payment rate. As part of the financing
mechanism, populations in private and public (city or county) hospitals were
combined to determine the total expenditures for federal match, up to 100% of the
Medicare rate. The private facilities were paid the normal Medicaid reimbursement
rate (below 100% of the Medicare rate) with the excess (the amount that would bring
total expenditures up to 100% of Medicare) going to public (city or county) facilities
which were required to return the excess to the state through an IGT.
As part of the new rules imposed during the Clinton administration, public (city
or county) hospital reimbursements had a UPL of 150% of the Medicare payment rate
while private facilities remained at 100%. States had to treat private and public (city
or county) patient populations separately in calculating total expenditures for the
federal match. The Bush Administration changed the rules to impose the 100% of
8 For a more detailed history and analysis of UPL and IGT, see CRS Report RL31021,
Medicaid Upper Payment Limits and Intergovernmental Transfers: Current Issues and
Recent Regulatory and Legislative Action, by Lisa Herz.
9 Ibid, pp. 2-3

CRS-8
Medicare payment rates on public facilities, a move that has reduced this source of
revenue for states during the current period of budget pressures.
However, states can still claim federal Medicaid reimbursement for payments
to providers at the upper payment level regardless of the provider’s actual cost of
services. To the extent the UPL is above actual service costs, the state will receive
additional or excess revenues. Intergovernmental transfers are still permitted for use
in calculating state Medicaid expenditures within the program match requirements.
This is because of the nature of state and local government relations. Local
governments derive their authority, including taxing authority, from the state
government, and can be viewed as units of state government. Therefore, funds the
local government transfers to be used for Medicaid are no different from state funds
used for Medicaid.
The Administration’s FY2005 budget proposal contained two provisions which
would impact state Medicaid financing through the use of the UPL and
intergovernmental transfers.10 In the budget, there were two new proposed initiatives
to ensure the proper use of federal Medicaid payments: (1) limiting federal
reimbursement to the cost of services provided; and (2) restricting the use of certain
types of intergovernmental transfers. The budget proposal did not provide specifics
on the two initiatives.
Federal Medicaid Expenditure Growth
It has been noted that the history of Medicaid expenditure growth has five
distinct periods.11 These periods are defined as follows:
! 1965-1972. This was the period when Medicaid was introduced and
states began to develop programs resulting in a growth rate for
federal Medicaid spending of 53% a year. By 1972 every state
except Alaska and Arizona had a program.
! 1973-1980. During this period the Supplemental Security Income
(SSI) program for aged and disabled persons began and states had
new options for institutional coverage. Federal Medicaid
expenditures grew at a 15% annual rate.
! 1981-1989. During this period there were a number of legislative
changes to Medicaid at the federal level, some to reduce costs and
others to expand eligibility. The annual growth for federal Medicaid
expenditures was 11%.
10 U.S. Department of Health and Human Services, Budget in Brief: FY2005, Jan. 2004,
p. 6.
11 Andy Schneider, and David Rousseau, “Medicaid Financing,” The Medicaid Resource
Book, The Kaiser Commission on Medicaid and the Uninsured, July 2002, Chapter 3, pp.
81-127.

CRS-9
! 1990-1992. During this period federal Medicaid expenditures grew
at a 28% annual rate reflecting the states use of creative financing
mechanisms to maximize federal payments, particularly DSH
payments at a time of economic downturn.
! 1993-1998. During this period reforms were made to DSH
payments, welfare reform took place, and Medicaid spending
restrictions were imposed on DSH, provider taxes, and provider
donations to reduce federal Medicaid expenditures. The average
annual rate of growth was 6%, but between 1995 and 1998 the rate
of growth was only 3.7%.
Since 1998, Medicaid costs appear to have entered a new phase of growth,
particularly for certain services. While Medicaid (federal and state) fee-for-service
prescription drug expenditures grew at an annual rate of 19.0% between 1998 and
2002, estimates from the Office of the Actuary at CMS12 suggest that prescription
drug expenditures will have grown by 17.0% between 2002 and 2003, and are
projected to grow by 15.4% between 2003 and 2004. The projections by the Office
of the Actuary also show an increase in total (public and private) expenditures for
prescription drugs of 84.1% between 1998 and 2002, with the public share of
prescription drug expenditures increasing during this period from 21.1% to 21.7%.
The growth in Medicaid expenditures for prescription drugs therefore reflects general
changes in the price and usage of prescription drugs and is not necessarily a by-
product of Medicaid program rules or changes. Medicaid expenditures for nursing
home care grew between 1998 and 2001 by 17.0% and are projected to grow by 8.5%
in 2002 and at annual rate of about 6.0% in 2003 and 2004. The public share of total
nursing home expenditures is projected to increase from 58.8% in 1998 to 64.1% in
2002. The impact of these growth rates is significant because in FY2002,
prescription drugs and nursing home facilities represented 9.6% and 19.0% of net
federal Medicaid assistance payments.
Although the growth in total federal Medicaid expenditures was 10.4% between
FY2002 and FY2003, the Congressional Budget Office (CBO) projects13 a slower
annual average growth rate of about 4.5% for the FY2004 through FY2007 period.
This is because during this period the higher temporary FMAPs will expire, the
Medicare prescription drug benefit program14 will begin, and there are likely to be
other changes to state programs that will reduce the growth in costs. After this period
of slow growth, CBO projects that increasing medical prices and enrollment for
Medicaid will result in an average annual rate of growth for total federal Medicaid
expenditures of about 8.6% for the FY2008 through FY2014 period. Figure 2 shows
12 Office of the Actuary, Centers for Medicare and Medicaid Services, National Health Care
Expenditures Projections: 2002-2012. Available on the CMS website at [http://www.cms.
hhs.gov/statistics/nhe/projections-2002/proj2002.pdf].
13 Congressional Budget Office, The Budget and Economic Outlook: An Update, Sept. 2004.
14 For more information on the new Medicare benefit, see CRS Report RL31966, Overview
of the Medicare Drug, Improvement and Modernization Act of 2003, by Jennifer O’Sullivan,
Hinda Chaikind, Sibyl Tilson, Jennifer Boulanger, and Paulette Morgan.

CRS-10
CBO actual and projected federal Medicaid expenditures for FY2003 through
FY2014.
Figure 2. Actual and Projected Federal Medicaid Expenditures,
FY2003-FY2014
Source: Congressional Research Service (CRS) based on information provided in the Congressional
Budget Office Report The Budget and Economic Outlook: An Update, Sept. 2004.
Note: FY2003 reflects actual federal Medicaid expenditures, all other fiscal years are estimates.
Beginning in 2006, the Medicare prescription drug benefit program will shift
federal expenditures for drug benefits for the Medicaid population known as “dual
eligibles” — those eligible for both the Medicaid and Medicare programs — from the
Medicaid program to the Medicare program. This shift from Medicaid to Medicare
however will not provide significant relief to the states for Medicaid prescription
drug expenditures for dual eligibles. Currently, the Medicare program does not cover
prescription drugs, but state Medicaid programs do include prescription drugs as an
optional benefit not required by the federal government. Under a provision of the
new Medicare prescription drug benefit program known as the “claw-back”, states
will be required to remit funds to the federal government based on their inflation-
adjusted 2003 per person Medicaid expenditures for prescription drugs for dual
eligibles. While the share of this base amount that the states will be required to pay
declines over time from 90% to 75%, in effect the states will continue to pay for a
share of prescription drug benefits for dual eligibles.15
15 For additional information, see CRS Report RL32440, Implications of the Medicare
Prescription Drug Benefit for State Budgets, by April Grady and Christine Scott.

CRS-11
Comparing Medicaid and Medicare Growth. A common comparison is
that of personal health care expenditures for Medicaid and Medicare,16 which would
show that while Medicare spending between FY1998 and FY2003 grew at an annual
rate of 5.3%, Medicaid’s annual spending growth for the same time period was 9.7%.
However, the two programs differ in scope and coverage and are not directly
comparable. The addition of the Medicare prescription drug benefit program will
alter the growth rates of both programs in the future, but long term care for the
elderly and disabled remains a Medicaid expenditure, and therefore partially a state
responsibility.
Medicaid and State Budgets
There are two measures that can be used to assess the role of Medicaid in state
budgets:
! total Medicaid expenditures as a share of total state expenditures;
and
! state-funded Medicaid expenditures as a share of total state-funded
expenditures.
The first measure, 21.4% in state fiscal year (SFY) 2003, measures the total
administrative size of the Medicaid program. Because it includes both federal and
state expenditures, the fiscal responsibility of the states for Medicaid represents a
smaller portion of this total.
However, because total state budgets include federal revenues for transportation
and other federal grant programs in addition to Medicaid, the second measure is more
reflective of the fiscal exposure that states face due to Medicaid. Figure 3 illustrates
the role that Medicaid has played in state budgets for SFY1989 through SFY2003.17
As Figure 3 illustrates, state-funded Medicaid spending comprised 6.3% of total
state-funded spending in SFY1989, and grew to 12.6% by SFY2003. The major
growth period for state-funded Medicaid spending as a share of state-funded
spending was in the early 1990s. The economic downturn, high growth in medical
costs, and the use of DSH and other financing mechanisms (provider taxes or
donations and intergovernmental transfers count as state expenditures) contributed
to an increase in Medicaid’s share from 6.3% in SFY1989 to 10.0% in SFY1992.
16 Office of Budget and Management, Historical Tables, Budget of the U.S. Government,
FY2005 (Washington, DC, 2004), Table 16.1.
17 National Association of State Budget Officers, State Expenditures Report, various years.
Information was not reported for certain states in some years.

CRS-12
Figure 3. State-Funded Medicaid Expenditures as a Share of State-
Funded Budgets, State Fiscal Years (SFY) 1989-2003
Source: Congressional Research Service (CRS) based on data collected by the National Association
of State Budget Officers (NASBO). State expenditures do not include expenditures from federal
revenues. The District of Columbia is not included.
During the mid to late 1990s, state-funded Medicaid spending as a share of
state-funded expenditures ranged from 11.3% to 11.7%, with the share increasing
to 12.6% in SFY2003. During the SFY1995 to SFY2000 period, total state-funded
expenditures increased by an average annual rate of 6.5% while state-funded
Medicaid expenditures increased by an average annual rate of 5.1%. As a result, the
Medicaid share of total state-funded expenditures declined. During the SFY2000 to
SFY2003 period this changed, and state-funded total expenditures increased by only
4.8% annually while state-funded Medicaid expenditures increased by 9.5%.
During the SFY1995 to SFY2000 period, state-funded expenditures for some
functions — elementary and secondary education and corrections — increased at an
annual rate higher than that of total state-funded expenditures, while state-funded
expenditures for public assistance had a negative annual growth rate. For the
SFY2000 to SFY2003 period, only the annual growth rates for Medicaid and other
expenditures (a residual category) were higher than that of total state-funded
expenditures, whereas the annual growth rate for public assistance was negative.
In SFY2003, the Medicaid share of total state-funded expenditures ranged from
4.8% in Hawaii to 23.0% in Ohio. Actual expenditure data for SFY2004 is not yet
available, but NASBO provides estimates of expenditures by category. Based upon
the NASBO expenditure estimates, Medicaid will increase to 12.7% of state-funded

CRS-13
total expenditures in SFY2004. The state shares for Medicaid expenditures for
selected years are shown in Table 2.
Table 2. State-Funded Medicaid Expenditures as a Share of
State-Funded Total Expenditures by State,
Selected State Fiscal Years
State
1990
1995
2000
2001
2002
2003
2004 (est)
Alabama
6.2%
7.3%
8.0%
8.5%
9.7%
9.9%
8.2%
Alaska
2.8%
3.9%
N/A
N/A
5.3%
5.3%
3.8%
Arizona
6.2%
7.7%
6.1%
6.4%
8.6%
8.7%
10.0%
Arkansas
4.6%
6.1%
5.9%
6.3%
7.3%
7.3%
7.4%
California
7.2%
11.1%
9.5%
9.5%
12.1%
11.6%
10.9%
Colorado
7.2%
11.2%
10.7%
10.7%
11.8%
11.3%
12.5%
Connecticut
5.5%
9.3%
20.7%
20.6%
19.2%
20.2%
19.8%
Delaware
3.3%
6.1%
5.8%
6.0%
6.6%
7.0%
7.3%
Florida
5.6%
8.9%
9.1%
9.4%
12.6%
13.0%
13.0%
Georgia
5.9%
9.7%
9.3%
12.1%
7.6%
10.3%
10.6%
Hawaii 3.3%
5.9%
4.9%
5.0%
4.8%
4.8%
6.2%
Idaho
3.4%
5.9%
7.7%
8.5%
9.5%
10.1%
9.4%
Illinois
7.9%
16.2%
14.2%
14.5%
14.8%
17.0%
17.8%
Indiana
8.1%
9.2%
9.1%
9.9%
11.6%
11.1%
10.9%
Iowa
4.4%
7.2%
6.9%
7.9%
12.5%
9.7%
8.1%
Kansas
5.1%
5.8%
7.6%
7.9%
8.1%
8.5%
8.2%
Kentucky
4.3%
7.7%
8.3%
8.4%
9.6%
9.1%
8.4%
Louisiana
5.9%
6.2%
9.5%
10.2%
11.5%
10.4%
9.5%
Maine
6.5%
10.0%
12.4%
12.0%
12.5%
13.2%
12.5%
Maryland
6.7%
11.3%
10.7%
10.4%
9.9%
11.2%
12.1%
Massachusetts
9.7%
11.5%
11.7%
11.9%
11.6%
12.4%
12.2%
Michigan
9.3%
10.5%
11.2%
10.9%
10.9%
11.4%
12.9%
Minnesota
8.3%
12.0%
11.5%
11.5%
12.6%
13.0%
12.4%
Mississippi
4.6%
6.9%
7.3%
7.6%
9.6%
8.8%
8.4%
Missouri
5.3%
10.6%
13.4%
14.9%
16.8%
18.3%
17.1%
Montana
3.7%
6.7%
6.7%
6.3%
6.9%
6.1%
6.0%
Nebraska
4.5%
7.3%
8.6%
9.5%
10.2%
9.8%
9.0%
Nevada
N/A
6.6%
9.4%
10.3%
12.3%
14.1%
12.5%
New Hampshire
10.2%
24.3%
16.7%
18.8%
18.6%
18.9%
18.9%
New Jersey
8.6%
15.6%
12.2%
13.8%
13.0%
13.0%
12.9%
New Mexico
2.5%
4.8%
4.8%
5.5%
5.8%
6.3%
6.2%
New York
9.6%
22.2%
12.9%
12.2%
12.9%
15.1%
14.4%
North Carolina
4.8%
4.7%
9.0%
10.0%
11.8%
11.5%
11.1%
North Dakota
5.2%
6.7%
8.4%
8.5%
8.8%
9.1%
8.9%
Ohio
7.0%
20.6%
18.5%
19.7%
21.2%
23.0%
25.2%
Oklahoma
5.0%
6.3%
6.2%
6.9%
7.8%
8.1%
8.2%
Oregon
3.3%
7.6%
6.1%
7.6%
9.0%
9.6%
6.8%
Pennsylvania
8.1%
16.3%
18.4%
19.0%
18.7%
19.1%
19.2%
Rhode Island
10.9%
17.9%
16.9%
16.5%
16.4%
16.1%
15.1%
South Carolina
3.1%
8.1%
8.8%
8.9%
9.9%
9.7%
11.1%
South Dakota
6.3%
9.5%
8.4%
9.4%
6.9%
9.1%
10.2%
Tennessee
7.8%
12.1%
15.1%
17.4%
19.3%
19.7%
20.4%
Texas
6.6%
11.9%
13.2%
11.1%
12.8%
12.6%
13.8%
Utah
2.8%
4.3%
4.8%
5.2%
5.7%
5.9%
6.0%
Vermont
6.6%
11.7%
14.1%
12.0%
12.5%
13.9%
13.9%
Virginia
4.7%
7.5%
7.1%
7.2%
9.3%
8.3%
8.3%
Washington
6.0%
9.0%
12.7%
13.3%
13.9%
13.8%
13.8%

CRS-14
State
1990
1995
2000
2001
2002
2003
2004 (est)
West Virginia
4.0%
9.9%
8.2%
8.0%
3.6%
3.3%
3.4%
Wisconsin
6.9%
6.8%
4.9%
4.8%
5.5%
6.0%
8.7%
Wyoming
2.0%
3.5%
5.8%
6.9%
3.3%
3.7%
3.8%
Total
6.8%
11.6%
11.0%
11.3%
12.2%
12.6%
12.7%
Source: Congressional Research Service (CRS) based on data collected by the National Association
of State Budget Officers (NASBO). State expenditures do not include expenditures from federal
revenues. N/A indicates that data was not available for that fiscal year. SFY2004 is based on
estimated expenditures data from NASBO. The District of Columbia is not included.
Medicaid is not the largest share of state-funded expenditures in state budgets.
The share for each function of state-funded expenditures varies across states
reflecting the executive and legislative priorities in each state. Excluding the
unclassified or all other category, across all states, elementary and secondary
education is the largest share of state-funded expenditures followed by higher
education and Medicaid. A breakdown of the share of total state funded expenditures
by function for SFY2003 is shown in Table 3.
Table 3. Share of Total State Funded Expenditures by Function,
State Fiscal Year 2003
Function
% of total
Elementary and secondary education
25.9
Higher education
13.5
Medicaid
12.2
Transportation
7.9
Corrections
4.8
Public assistance
1.5
Other (includes public health programs, economic development,
general government, etc., not categorized elsewhere)
34.1
Total
100.0
Source: Congressional Research Service (CRS) based on data collected by the National Association
of State Budget Officers (NASBO). State expenditures do not include expenditures from federal
revenues. The District of Columbia is not included. Detail may not add to total due to rounding.
A comparison of the growth rates between state-funded Medicaid expenditures
and state-funded total expenditures, as in Figure 4, shows the impact of the
economic downturn in the early 1990s and the economic boom of the late 1990s. In
the early 1990s state-funded Medicaid expenditures grew at very high annual rates,
partially reflecting the use of financing mechanisms (provider taxes or donations and
intergovernmental transfers are counted as state expenditures) to maximize the
federal payments. In the late 1990s, the rates of growth for state-funded Medicaid
expenditures were generally lower than that of total state-funded expenditures
reflecting the expansion of other state programs, particularly education, during the
economic boom. In the period between 2000 and 2003, Medicaid expenditures grew
at a faster rate than total state-funded expenditures reflecting a combination of the
faster rate of growth in Medicaid service costs and the entitlement nature of the

CRS-15
program. However, it is not known how much of the growth in recent years is due
to costs for federally mandated coverage or due to earlier expansions of state
programs beyond the federal requirements.
Figure 4. Annual Growth Rate in State-Funded Total and State -
Funded Medicaid Expenditures
Source: Congressional Research Service (CRS) based on data collected by the National Association
of State Budget Officers (NASBO). State expenditures do not include expenditures from federal
revenues. The District of Columbia is not included.
Impact of the Medicare Prescription Drug Benefit Program
The Medicare Prescription Drug, Improvement, and Modernization Act of 2003
(MMA, P.L. 108-173) created a Medicare Part D prescription drug benefit beginning
in 2006 that will impact both state and federal financing of the Medicaid program.
As of 2006, state and federal Medicaid funds can no longer be used to fund
prescription drugs for the Medicaid population known as “dual eligibles”.18 Dual
eligibles wishing to obtain prescription drug coverage will have to enroll in the
Medicare Part D program. States will be required to provide funding for the
Medicare drug program based on their level of state Medicaid spending in 2003 on
prescription drugs for dual eligibles.19
18 Dual eligibles are those persons eligible for both Medicare and the full range of benefits
offered in their state’s Medicaid program.
19 For more specific information on individuals eligible for the new Medicare drug program,
(continued...)

CRS-16
Under the Medicare prescription drug plan, states must pay a percentage (90%,
declining each year to 75%) of their inflation-adjusted 2003 state Medicaid spending
per dual eligible for prescription drugs, for each dual eligible person enrolled in the
Medicare prescription drug program. In effect, the states will be required to continue
paying for a portion of the prescription drugs for dual eligibles formerly provided
through state Medicaid programs.
The ultimate impact on state budgets and Medicaid programs of the Medicare
drug program cannot be determined at this time, in part because the program does not
begin until 2006. There are at least three areas of concern for Medicaid programs and
financing in state budgets:
! Medicaid Drug Coverage. Medicaid drug expenditures for dual
eligibles will decline because states are prohibited from providing
those drugs covered under the Medicare drug program. However,
they may provide some Medicaid coverage for drugs not covered
under Medicare Part D. Until the Medicare drug program coverage
is defined (the specifics are determined by the private sponsors of
the plans), the impact on Medicaid plans and costs for dual eligibles
is unknown.
! Medicaid Drug Prices. There may be an impact for states on
Medicaid drug prices paid by their Medicaid programs because of
the change in the volume of drug purchases by the programs in the
future. In addition, the Medicaid programs are not guaranteed the
Medicare drug plan price (if it is lower). As a result, the impact of
this provision on Medicaid drug prices for individuals continuing to
receive drug benefits under Medicaid is unknown.
! Participation. An individual eligible for Medicare may choose not
to join the Medicaid program even if the individual is eligible. Under
current law, participation in Medicaid programs by dual eligibles has
traditionally been low. Once MMA is implemented, an individual
applying for the new drug program may also be determined eligible
for Medicaid. This could increase state expenditures for two
reasons: (1) utilization of Medicaid services by the new enrollees;
and (2) funding for the new enrollees in the Medicare drug program
is partially paid by the state (even if the person would never have
otherwise joined the Medicaid program).
In contrast to these unknowns, there is one impact on state Medicaid budgets
that is certain: because every state will pay based on their 2003 per capita spending,
a state that had a more generous Medicaid drug benefit (in 2003) will pay more per
19 (...continued)
see CRS Report RL31966, Overview of the Medicare Drug, Improvement and
Modernization Act of 2003, by Jennifer O’Sullivan, Hinda Chaikind, Sibyl Tilson, Jennifer
Boulanger, and Paulette Morgan; and CRS Report RS21837, Implications of the Medicare
Prescription Drug Benefit for Dual Eligibles and State Medicaid Programs, by Karen Tritz.

CRS-17
person from the state’s budget than a state that had a less generous Medicaid drug
benefit (in 2003) for the same Medicare drug benefit in FY2006.
At the federal level, the new Medicare drug benefit may result in some funds
shifting from the Medicaid program to the Medicare program. The CBO forecast for
Medicaid reflects a lower growth rate (about 4.5%) in Medicaid spending for FY2004
through FY2007 reflecting the end of the temporary FMAP increases, the new
Medicare drug program, and recent reductions in state Medicaid programs. The CBO
forecast however, expects rising prices and greater consumption of services to raise
the growth rate for federal Medicaid spending to about 8.8% a year beginning after
FY2007.
The 2000-2003 State Fiscal Crisis
Forty-nine states have some form of a balanced budget requirement which is
either a constitutional, statutory or traditional interpretation.20 These requirements
can take one of the following forms:
! the governor’s proposed budget must be balanced;
! the enacted budget must be balanced; or
! the budget must be balanced at the end of the fiscal year or
biennium.
During the latter portion of the 1990s, states were experiencing a growth period
in revenues. Revenues associated with a growing economy such as income taxes,
and in particular capital gains, grew faster than official state predictions.21 A survey
of states by the National Conference of State Legislatures (NCSL) reported 30 states
had revenues exceeding expectations for SFY1998, and 24 states had revenues
exceeding expectations for SFY1999, mostly from sales and income taxes. In
addition, states negotiated with the tobacco manufacturers a settlement that allocates
funds to states based on several factors including Medicaid expenditures and the
smoking rate. The tobacco companies are estimated to pay states that are part of the
settlement approximately $200 billion between 1998 and 2023.22
As state economies declined during the 2000 through 2003 period, so did the
growth in the associated revenue streams. A combination of an economic decline
and tax cuts resulted in some states seeing an actual reduction in tax collections
rather than a slowing of the growth rate in collections. In addition, expenditures for
20 Vermont has no constitutional or statutory requirement for a balanced budget. The
District of Columbia is not included in this discussion of the current state fiscal crisis due
to the lack of data.
21 National Conference of State Legislatures, State Fiscal Outlook for 1998, Jan. 1998.
National Conference on State Legislatures, State Fiscal Outlook for 1999, Jan. 1999.
22 Four states (Mississippi, Florida, Texas, and Minnesota) are not part of the national
settlement as they reached separate settlements with the tobacco companies. The annual
payment to the settlement parties (46 states, the District of Columbia, Puerto Rico, and the
territories) is $6.5 billion in 2003 and $8 billion in 2004 through 2007 before adjustments
for inflation and consumption changes.

CRS-18
social and health services, such as Medicaid, increased due to growth in enrollments
and inflation. A 2003 NCSL survey23 reported that 16 states had revenues below
forecasted levels for SFY2004 by November 2003 and that 22 states reported
expenditures exceeding budgeted levels for some portion of the budget. In the
survey, 13 of the 22 states reported that Medicaid or other health programs were over
budget. The cumulative budget gap for SFY2004 was $2.8 billion by November
2003, compared to a budget gap (for SFY2003) a year earlier of $17.5 billion and 30
states reporting revenues below forecasted levels. By April 2004, states were
estimated to have a budget gap of $720 million compared to $21.5 billion a year
earlier. In addition, by April 2004, 32 states were forecasting a surplus at the end of
SFY2004, indicating that the fiscal pressures faced by states due to a decline in
revenue growth began to ease.
State and Federal Responses to the
Current State Fiscal Crisis
States. To close a budget gap a state must either reduce expenditures, increase
revenues, or both. Reducing expenditures for programs or general government
operations will be based upon state priorities as determined by the governor and
legislature. To the extent that states determine that other programs, such as
education, are a higher priority than Medicaid, Medicaid expenditures may be
reduced (through changes such as limiting eligibility or benefits). Prior to cutting
programs, states generally use administrative and other tools to reduce program costs
and eliminate any fraud or waste in the program. The federal changes beginning in
the 1990s to restrict the use of certain financing mechanisms and limit federal cost
increases closed off one avenue of relief states used in the fiscal crisis of the early
1990s.
A survey by the National Association of State Budget Officers24 showed that in
SFY2003 through SFY2005, states undertook a number of actions, including across-
the board program cuts, to close the projected budget gaps for SFY2003 through
SFY2005. Table 4 shows by type of action taken for SFY2003 through SFY2005,
the number of states choosing to undertake that action.
23 “State Budget Update: Nov. 2003,” National Conference of State Legislatures, Nov. 19,
2003.
24 “The Fiscal Survey of States,” National Association of State Budget Officers, Dec. 2003.

CRS-19
Table 4. Actions Taken by States to Close Budget Gaps
in SFY2003,SFY2004, and SFY2005
Number of States
Action
SFY2003
SFY2004
SFY2005
Across-the-board percentage cuts
32
11
8
Rainy Day Fund usage
29
6
4
Fee changes
16
8
5
Layoffs
16
10
6
Early retirement
13
3
3
Reorganization of programs
13
9
4
Reduction in local aid
11
8
6
Furloughs
9
1
2
Privatization
0
0
0
Other (not categorized above)
29
11
15
Source: Table prepared by the Congressional Research Service. Original data is provided by the
National Association of State Budget Officers in The Fiscal Survey of States, Dec. 2003 and Apr.
2004 .
Another survey25 of state Medicaid administrators by the Kaiser Commission
on Medicaid and the Uninsured showed that in FY2004 and FY2005 almost all of
the jurisdictions (50 states plus the District of Columbia) included provider payment
changes as a cost containment action in FY2004 and FY2005 The other cost
containment strategy used by a majority of jurisdictions in FY2003 through FY2005
is pharmacy controls. Table 5 shows, by type of Medicaid cost containment action
taken for SFY2003 through SFY2005, the number of states choosing to under take
that kind of action. Examples of some of the benefit actions most frequently
proposed or undertaken by states to reduce Medicaid costs or programs for SFY2003
through SFY2005 are shown in Table 6.
25 “States Respond to Fiscal Pressure: State Medicaid Spending Growth, and Cost
Containment in Fiscal Years 2003 and 2004, Results from a 50 State Survey,” Kaiser
Commission on Medicaid and the Uninsured, Sept. 2003.

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Table 5. Medicaid Cost Containment Actions Taken by States in
SFY2003, SFY2004, and SFY2005
Number of States
Action
SFY2003
SFY2004
SFY2005
Provider payments
50
49
47
Pharmacy controls
46
44
43
Eligibility cuts
25
18
14
Fraud and abuse
19
19
21
Benefit reductions
18
20
9
Co-pays
17
21
9
Disease/case management
13
18
28
Long term care
10
5
17
Managed care expansions
6
11
14
Source: Table prepared by the Congressional Research Service (CRS) from information provided in
States Respond to Fiscal Pressure: State Medicaid Spending Growth, and Cost Containment in Fiscal
Years 2003 and 2004, Results from a 50-State Survey, Kaiser Commission on Medicaid and the
Uninsured, Sept. 2003, and The Continuing Medicaid Budget Challenge: State Medicaid Spending
Growth and Cost Containment in Fiscal Years 2004 and 2005: Results from a 50-State Survey, Kaiser
Commission on Medicaid and the Uninsured, Oct. 2004.

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Table 6. Examples of State Benefit Changes to Reduce
Medicaid Costs in SFY2003, SFY2004, and SFY2005
Type of Action
States
Restriction or elimination of some (or
California, Florida, Georgia, Indiana,
all) dental service (including
Massachusetts, Michigan, Minnesota,
orthodontia and dentures) benefits for
Mississippi, Montana, Nebraska, New
some (or all) Medicaid populations
Hampshire, New Jersey, New Mexico,
North Dakota, Oklahoma, Oregon, Utah,
Vermont, Washington
Restrict or eliminate certain services:
Connecticut, Massachusetts, Michigan,
chiropractic, naturopathic, occupational
New Jersey, North Dakota, Ohio,
therapy, physical therapy, speech
Pennsylvania, Texas, Utah, Vermont,
therapy, or psychology for some (or all)
Medicaid populations
Restrict or eliminate vision services for
Florida, Mississippi, Montana, Nebraska,
some ( or all) Medicaid populations
Pennsylvania, Oregon, Texas, Utah,
Vermont
Restrict eligibility, including changes to
Alaska, Connecticut, Florida, Indiana,
income limitations and eliminating
Minnesota, Missouri, Nebraska, Texas,
continuous eligibility - for some (or all)
Washington
Medicaid populations
Source: Table prepared by the Congressional Research Service (CRS) from information provided in
States Respond to Fiscal Pressure: State Medicaid Spending Growth, and Cost Containment in Fiscal
Years 2003 and 2004, Results from a 50-State Survey, Kaiser Commission on Medicaid and the
Uninsured, Sept. 2003, and The Continuing Medicaid Budget Challenge: State Medicaid Spending
Growth and Cost Containment in Fiscal Years 2004 and 2005: Results from a 50-State Survey, Kaiser
Commission on Medicaid and the Uninsured, Oct. 2004.
States have also undertaken a number of actions that would have an impact on
SFY2004 and SFY2005 revenues. States may have made more than one change for
a specific revenue source, or made changes for more than one revenue source. Table
7 shows the total revenue change enacted in states by revenue source, and the state
or states with the single largest change (positive and negative) for SFY2005. Note
that in Table 7, a state may be listed with the largest single negative and still have
an overall positive change because: (1) revenues were shifted from one source to one
or more others; or (2) there were offsetting increases.

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Table 7. Total Revenue Changes Enacted by States
By Type of Revenue, SFY2005
($ in millions)
Total Revenue
State(s) with Single
State(s) with Single
Type of
Change
Largest Negative
Largest Positive
Revenue
Among All
Revenue Change
Revenue Change
States
Enacted
Enacted
Sales Taxes
$1,411.0
Virginia (-$101.2)
Virginia ($727.1)
Pennsylvania (-$70.2)
New York ($400.0)
Iowa ($144.9)
Personal
$64.0
Virginia (-$54.7)
Kansas ($97.5)
Income Taxes
Virginia (-$29.3)
Virginia ($96.6)
Corporate
$399.6
Virginia (-$11.2)
Illinois ($223.0)
Income Taxes
Missouri ($48.8)
Cigarette and
$1,411.7
None
Michigan ($295.1)
Tobacco Taxes
Missouri ($222.4)
Oklahoma ($175.8)
Alcoholic
$20.8
None
Nevada ($16.4)
Beverages
Motor Fuels
$74.0
None
Illinois ($74.0)
Taxes
Other Taxes
$524.8
Florida (-$90.9)
Nevada ($345.5)
Pennsylvania (-$66.3)
Michigan ($94.4)
Fees
$1,493.5
None
California ($306.0)
New York ($230.4)
New York (183.4)
Source: Table prepared by the Congressional Research Service. Based on information contained in
the National Association of State Budget Officers in Fiscal Survey of the States, Apr. 2004.
In addition to adjusting state expenditures and revenues, states can encourage
the federal government to increase federal transfers to states for programs such as
Medicaid.
Federal. During the 107th Congress, the Senate passed legislation (S. 812) to
provide fiscal relief to the states through a temporary increase in the federal
government’s share of Medicaid program costs by increasing each state’s FMAP.
The Senate-passed bill would have maintained a state’s FY2002 FMAP for FY2003
if the FY2003 FMAP was lower (“hold-harmless”). In addition, each state would
have received an increase in its FMAP of 1.35 percentage points for FY2003.
Although bills were introduced in the House to also provide a temporary increase in
the FMAP, no further action occurred. Other proposals were considered that would
have provided grants to states for general fiscal relief but did not specify that funds
would be for Medicaid purposes.

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In the 108th Congress, a number of bills were introduced which would have
change the FMAPs by providing specific percentage point increases in the FMAPs.26
JGTRRA (P.L. 108-027) provided temporary fiscal relief to states through a
combination of grants and an increase in the FMAP. The FMAPs for the last two
quarters of FY2003 and the first three quarters of FY2004 were held harmless for
declines from the prior year, and 2.95 percentage points were added to the FMAPs.
In addition, the spending caps for the territories were raised by 5.9% for the last two
quarters of FY2003 and first three quarters of FY2004. JGTRRA also provided $5
billion in grants to the states (including the District of Columbia, Puerto Rico, and
the territories)in both FY2003 and FY2004 based on population. The grant funds had
to be used for improving education or job training, health care services,
transportation or other infrastructure, law enforcement or public safety, and
maintaining essential government services.
FY2006 Reconciliation. In the FY2006 budget resolution adopted by the
House and Senate on April 28, 2005 (H.Con.Res. 95), reconciliation instructions
directed the two committees with jurisdiction over Medicaid to reduce mandatory
FY2006-FY2010 outlays by $10 billion (Senate Finance) and $14.734 billion (House
Energy and Commerce). Although the budget resolution did not instruct the two
committees on how to achieve these savings targets, Medicaid is one of the larger
mandatory spending programs that falls under their jurisdictions.
On November 3, 2005, the Senate approved a budget reconciliation bill (S.
1932) that proposes changes to various aspects of the Medicaid program. It includes
FMAP provisions that would temporarily increase FMAPs for states affected by
Hurricane Katrina; prevent FY2006 and FY2007 FMAPs for Alaska from falling
below the state’s FY2005 level; and limit FY2006 FMAP reductions for all states.
The House reconciliation bill (H.R. 4241) passed on November 18, 2005, also
includes FMAP provisions that would temporarily increase FMAPs for states
affected by Hurricane Katrina; exclude certain Hurricane Katrina evacuees and their
income for purposes of calculating state FMAPs; and disregard employer
contributions toward pensions in the calculation of FMAPs if they exceed a certain
threshold.
The provisions of the budget reconciliation bills that increase the FMAP for
certain states provide fiscal relief by increasing the federal share of state Medicaid
program costs.27
26 For more information on legislation related to the FMAPs, see CRS Report RL32950,
Medicaid: The Federal Medical Assistance Percentage (FMAP), by Christine Scott.
27 For more information on the budget reconciliation bills and their impact, see CRS Report
RS22333, Budget Reconciliation FY2006: Provisions Affecting the Medicaid Federal
Medical Assistance Percentage (FMAP), by April Grady.

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The Bush Administration Medicaid Reform Proposal.28 As part of the
FY2004 budget, the Bush Administration proposed Medicaid reform. Under the
Medicaid reform proposal, states would have the option of operating their Medicaid
programs under current rules with the current financing system, or under alternative
rules with a federal allotment system of financing. Under the alternative, states
would be required to provide comprehensive benefits for those individuals
considered mandatory beneficiaries by the federal government, and this portion of the
program would continue to be financed under FMAP rules. States would be granted
flexibility to design benefits for individuals and services considered optional by the
federal government. Based on the information provided in press releases by the
Secretary of HHS, it is not clear exactly what limits would be placed on the flexibility
being granted states. No legislation for the proposal was introduced in the 108th
session of Congress.
For the portion of the program related to optional beneficiaries, the
administration proposal would have replaced the current entitlement to states for
federal financing support with annual federal allotments for the Medicaid and SCHIP
programs. There would be two annual allotments, one for acute care health insurance
and one for long-term care and community services. States would be able to transfer
funds between the two allotments. For FY2004, the allotments for each state for the
portion of the program for optional beneficiaries would be based on the state’s
spending for Medicaid and SCHIP in 2002. The FY2004 allotment would be higher
than what would be expected under the current Medicaid financing structure. The
allotments would increase or decrease in future years based on an unspecified
formula. For seven years, the allotments would be higher than the states would have
received under current financing, but would be lower in the next three years and
thereafter.
Other Recent Proposed Federal Initiatives. The Administration’s
FY2005 budget proposal contained two provisions which would have impacted state
Medicaid financing through the use of the UPL and intergovernmental transfers.29
In the budget, there were two new proposed initiatives to ensure the proper use of
federal Medicaid payments: (1) limiting federal reimbursement to the cost of services
provided; and (2) restricting the use of certain types of intergovernmental transfers.
The budget proposal did not provide specifics on the two initiatives.
In addition to the budget proposals, on January 7, 2004, CMS issued a
notification of changes to Form CMS-37, the Medicaid Program Budget Report.30
States must submit to CMS a quarterly financial statement, the Form CMS-37,
containing funding requirements for the state Medicaid program and certifying that
the necessary state and local funds will be available for the quarter. CMS then
provides a grant to the state authorizing federal funding for the quarter. As part of
28 For more information on the impact of the reform proposal, see CRS Report RL32020,
The Bush Administration’s Medicaid Reform Proposal: Using Data to Estimate Mandatory
and Optional Beneficiaries and Expenditures, by Karen Tritz and Evelyne Baumrucker.
29 U.S. Department of Health and Human Services, Budget in Brief: FY2005, Jan. 2004,
p. 6.
30 69 Federal Register 923, Jan. 7, 2004, vol. 69, no. 4.

CRS-25
the proposed changes, the state would have to provide the assumptions used by the
state in developing their fiscal year budget for Medicaid expenditures. Under the
proposed form changes, beginning in FY2005, states would have had to provide
(with the Form-37 filing) documentation supporting the assumptions used in
developing the fiscal year budget and Medicaid expenditures prior to the beginning
of the fiscal year. The purpose of the changes was to identify and correct and funding
or expenditure issues before the fiscal year began and Medicaid expenses have been
incurred. Implementation of the proposed form changes was delayed while CMS
discussed the changes with the states