The vast and complex Medicaid program, designed as a critical safety net for the nation’s most vulnerable citizens, is now grappling with structural flaws that threaten its long-term viability and strain public resources. Perverse financial incentives embedded within its joint federal-state funding model have encouraged a focus on maximizing revenue rather than ensuring accurate eligibility, prudent spending, or improved access to care. This has resulted in a system where taxpayer dollars are often diverted from low-income children, pregnant women, people with disabilities, and the elderly to fund inefficient administrative practices and corporate welfare. The 2025 Reconciliation Act, also known as the One Big Beautiful Bill (OBBB), has introduced the most significant reforms in the program’s history, presenting a generational opportunity for states to realign Medicaid with its original purpose. Success, however, will depend entirely on how effectively states implement these new federal guidelines and seize the chance to enact further free-market reforms that can benefit all residents.
1. Unraveling Medicaid’s Perverse Financial Incentives
The foundational challenge within Medicaid lies in its financing structure, where the federal government provides an open-ended reimbursement for state spending. This arrangement, calculated through the federal medical assistance percentage (FMAP), means that for every dollar a state spends on traditional enrollees, federal taxpayers automatically cover at least half the cost. While intended to provide more aid to poorer states, this system has had the opposite effect in practice. Wealthier states, capable of spending more, can extract far more federal dollars per low-income resident, as the matching formula rewards higher spending rather than genuine need. This mismatch between who spends and who pays creates a powerful incentive for states to maximize federal revenue, often at the expense of program integrity or fiscal prudence. The result is a system where policy decisions are driven by the pursuit of federal funds rather than the efficient delivery of healthcare to those who need it most, as weak oversight and guaranteed federal matching funds invite exploitation and waste.
This flawed incentive structure has given rise to creative financing gimmicks that function as de facto money laundering schemes. States frequently use provider taxes, levied against hospitals or insurers, to increase Medicaid payments to those same entities. The state uses the tax revenue to draw down new federal matching funds and then returns that money to the providers through higher payments, effectively converting the process into a government-sanctioned mechanism to obtain federal funds without commensurate state expenditures. The Affordable Care Act (ACA) exacerbated these issues by offering a 90 percent federal match for able-bodied, working-age adults—far higher than the rate for children, pregnant women, or individuals with disabilities. This lopsided reimbursement has distorted program priorities, diverting resources away from the most vulnerable populations. Consequently, traditional Medicaid enrollees have often experienced more difficulty accessing services, facing longer wait times and worsening health outcomes in states that adopted the expansion, while hundreds of thousands with disabilities have languished on waiting lists for care.
2. Strengthening Program Integrity and Eligibility
A central threat to Medicaid’s long-term sustainability is the staggering growth of improper payments, which are primarily driven by errors in eligibility determination. Weak verification rules, permissive self-attestation policies, and lax federal enforcement have left the program vulnerable to widespread abuse. While the Centers for Medicare and Medicaid Services (CMS) officially reports over half a trillion dollars in improper payments over the past decade, independent analysis suggests the true figure is nearly double that amount when the full scope of enrollment errors is considered. Federal law limits Medicaid payment errors to 3 percent, a safeguard meant to protect taxpayers, but this threshold is rarely enforced. For instance, in 2021, only one state met this federal statutory limit, with many others reporting error rates more than five times higher. Eligibility mistakes account for approximately two-thirds of all spending errors, a problem compounded by the fact that many states allow enrollees to self-attest critical information like income, residency, and family size without rigorous verification.
These vulnerabilities are magnified by specific policy loopholes that invite improper enrollment. Under the 90-day reasonable opportunity period (ROP), states must enroll applicants even if their citizenship or lawful presence cannot be immediately verified, creating a clear pathway for abuse that has cost federal taxpayers over a billion dollars in just six states. The number of individuals covered under ROPs who were ultimately unable to prove their legal status increased by 400 percent between 2019 and 2023. Furthermore, a failure to effectively cross-check data across states and other programs has led to millions of individuals being enrolled in Medicaid in multiple states or simultaneously receiving both Medicaid and subsidized ACA plans, costing taxpayers an estimated $14 billion annually. The hospital presumptive eligibility program is another area ripe for fraud, as it allows hospitals to enroll patients and bill Medicaid before eligibility is fully confirmed, with audits revealing that as much as 43 percent of spending on these enrollees was improper.
3. Capitalizing on the OBBB’s Foundational Reforms
The One Big Beautiful Bill (OBBB) represents one of the first serious attempts in Medicaid’s history to correct these deep-seated structural problems. The legislation introduces reforms across three main categories: curbing legalized money laundering schemes, providing incentives to lower improper payments, and establishing a community engagement requirement for able-bodied adults. By freezing existing provider taxes and gradually phasing down the “safe harbor” for these taxes in Medicaid expansion states, the OBBB directly targets the mechanisms that have allowed states to maximize federal reimbursement with illusory dollars. This phasedown is wisely aimed at expansion states, where the nine-to-one federal match for able-bodied adults provides the greatest rate of return for such financial gimmicks. This move curtails the corporate welfare that has long benefited powerful hospital systems and insurers at the expense of taxpayers and vulnerable enrollees.
The OBBB also tackles the inflationary growth of state-directed payments (SDPs), which are add-on payments that have allowed states to funnel billions to providers, often at rates far exceeding the cost of care. By requiring that new SDPs cannot exceed Medicare rates, the law puts a brake on a practice that had begun to put upward pressure on healthcare prices for everyone. To bolster program integrity, the OBBB mandates that states remove deceased enrollees from their rolls by checking the federal Death Master File quarterly. It also requires states to check for duplicate enrollment across state lines and to conduct eligibility redeterminations for able-bodied, working-age adults at least every six months—a significant departure from the ACA’s rule prohibiting verification more than once a year. Finally, by restricting the federal government’s ability to waive penalties for states with high error rates, the OBBB restores a critical accountability measure designed to protect taxpayer funds from chronic mismanagement.
4. Implementing Effective Community Engagement Requirements
As government welfare programs have expanded over the last few decades, labor force participation among able-bodied, working-age adults has declined, a trend particularly apparent among men. This has strained the financial foundation of programs like Medicaid, with the ratio of workers financing each enrollee plummeting from more than five in 1988 to fewer than two in 2024. Expansive welfare benefits, including Medicaid, can discourage work, trapping enrollees in a cycle of dependency that limits their upward mobility. To counter this, the OBBB introduces a community engagement requirement for able-bodied, working-age adults, mandating at least 80 hours per month of work, job training, education, or community service to maintain eligibility. This policy is not merely a cost-saving measure but a tool to encourage enrollees to become more financially secure, engage with their communities, and gain the skills necessary for long-term independence and access to better, private health coverage.
The success of these community engagement requirements will hinge on meticulous state implementation. To prevent abuse and ensure the policy achieves its intended goals, states should prohibit self-attestation for compliance and instead require documentation to demonstrate that enrollees are meeting the requirements. It is also crucial to establish clear, enforceable definitions for exemptions, particularly for claims of medical frailty, which should require verification from a healthcare provider rather than self-declaration. States should avoid adopting optional exemptions, such as geographic waivers or short-term hardship exemptions, which are often abused in other welfare programs and would undermine the purpose of the requirements. To ensure a smooth transition, states could implement a “soft rollout” ahead of the federal deadline, allowing them to test new tracking systems and protocols without the immediate risk of erroneous disenrollments. Finally, if contracting with outside vendors, states should ensure they can integrate systems with other welfare programs and consider tying vendor payments to the accuracy of their eligibility determinations.
5. Holding Managed Care Organizations Accountable
Medicaid managed care has become the dominant delivery system nationwide, with three-quarters of all enrollees covered by managed care organizations (MCOs). Despite their prevalence, these private insurers operate with a severe lack of oversight, accountability, and financial transparency. States rely on MCOs to control costs and improve outcomes, yet evidence often shows no fiscal savings, high administrative costs, and unreliable data, without measurable improvements in access or quality of care. A central issue is the failure of many states to enforce Medical Loss Ratio (MLR) requirements, which are meant to ensure that at least 85 percent of payments are spent on medical services rather than on administration or profits. Nearly half of all MCO MLR filings are incomplete, and many states do not verify the data submitted, allowing excessive payments to go undetected and unrecovered. This lack of visibility means that MCOs can profit from generous state and federal payments, including monthly capitation fees for “phantom” enrollees who may be ineligible or improperly enrolled.
To restore integrity to Medicaid managed care, states must enact rigorous transparency and accountability measures. This begins with requiring MCOs to provide complete, independently audited financial statements, including detailed data on spending, administrative costs, and the number of enrollees with zero claims. States should reject late or incomplete filings and impose meaningful sanctions on noncompliant entities. Furthermore, capitation rates should be set through independent actuarial reviews to avoid conflicts of interest and to ensure that payments accurately reflect utilization patterns and insurer costs. States must scrutinize enrollment anomalies and patterns of non-utilization to prevent plans from receiving payments for individuals who are not legitimately enrolled. Finally, for these information-gathering efforts to be effective, states must follow up with strict enforcement, validating that expenditures align with reported data and collecting payments from MCOs that fail to meet required MLR standards. These reforms would ensure that state and federal dollars are used for medical care rather than being absorbed by excessive administrative costs or insurer profits.
6. Maximizing Rural Health Transformation
For decades, policies intended to improve healthcare access in rural communities have often failed, with funds from programs like 340B and disproportionate share hospital payments being captured by large, urban health systems instead of benefiting their intended recipients. These communities have also been hampered by arbitrary regulatory hurdles that entrench monopolies and raise costs. Certificate of Need (CON) laws, for example, require providers to justify the need for new services or facilities to regulators, a process that artificially caps supply, discourages innovation, and raises per capita health care costs by roughly 10 percent. Similarly, restrictive scope-of-practice laws prevent non-physician professionals, such as nurse practitioners and pharmacists, from practicing at the top of their training. These limits create artificial shortages, force patients into higher-cost care settings, and shelter physician practices from competition, further driving up prices in underserved areas.
The OBBB created the Rural Health Transformation Program (RHTP), a $50 billion fund designed to catalyze meaningful reforms and direct investment to rural communities over the next five years. To capitalize on this opportunity, states can secure additional funding by committing to and enacting specific free-market policy changes. States should expand access to short-term, limited-duration health insurance plans to provide more affordable coverage options where employer-sponsored plans are scarce. To address the root causes of chronic disease, states should also seek federal waivers to ban the use of SNAP benefits for junk food purchases, preventing taxpayer funds from subsidizing unhealthy behaviors. Most importantly, states should work to repeal anti-competitive CON laws and expand scope-of-practice authority for non-physicians, allowing a wider range of healthcare professionals to meet the needs of their communities. Implementing these policies would dismantle key regulatory barriers, maximize the impact of RHTP investments, and foster a more competitive and accessible healthcare landscape in rural areas.
7. A Blueprint for a More Sustainable Medicaid Program
The One Big Beautiful Bill marked a decisive shift away from a Medicaid program driven by enrollment volume and toward one grounded in integrity and upward mobility. Its success, however, depended entirely on diligent state implementation. States that embraced these reforms by tightening eligibility checks, requiring documentation instead of self-attestation, and promoting accountability in programs like hospital presumptive eligibility laid the groundwork for a more fiscally sound system. The smooth rollout of community engagement requirements was achieved by those who required documented compliance, limited exemptions, and pressure-tested their systems before federal deadlines. Furthermore, by imposing true transparency on managed care organizations through mandatory audits and strict enforcement of reporting standards, these states ensured that taxpayer dollars were directed toward patient care rather than administrative bloat. These actions together recentered Medicaid on its original mission of serving the most vulnerable populations effectively and responsibly.
The ripple effects of these reforms extended beyond Medicaid, catalyzing broader improvements in the healthcare market. By seizing the opportunities presented by the Rural Health Transformation Program, forward-thinking states dismantled entrenched, anti-competitive regulations that had long stifled innovation and inflated costs, particularly in underserved areas. The repeal of Certificate of Need laws and the expansion of scope-of-practice authority for non-physician providers unlocked new avenues for competition and access to care. The cumulative impact of these state-led initiatives was a fundamental reorientation of the healthcare landscape toward a system built on accountability, patient choice, and fiscal prudence. This comprehensive approach not only improved the Medicaid program but also established a durable, free-market model for delivering higher-quality, more affordable healthcare to all citizens.
