The nonpartisan Urban Institute publishes studies, reports, and books on timely topics worthy of public consideration. The views expressed are those of the authors and should not be attributed to the Urban Institute, its trustees, or its funders.

Note: This report is available in its entirety in the Portable Document Format (PDF).

Preface

In 1994, Tennessee embarked upon a major health care reform. The state attempted to expand coverage to all low-income people in the state and to rely on private managed care plans as the mechanism for delivering care to new eligibles and those traditionally covered by Medicaid. The intent was to save enough money through efficiencies wrought through managed care and by converting federal and state payments made directly to hospitals for indigent care to payments for insurance coverage. These funds, together with some new state tax revenues, were expected to finance the expansion of coverage.

The TennCare program is entering its seventh year and has been beset by a series of problems. It now clearly faces a crisis in which none of the alternatives—reducing coverage, cutting benefits, or increasing taxes—are attractive. Some of the events of the past year that have led to the current state of affairs are as follows:

• In March 1999, PricewaterhouseCoopers issued an actuarial study that showed that TennCare was underfunded by 10 percent, or approximately $200 million annually.
• On April 1, 1999, the state had to take over operation of Xantus, the third largest TennCare plan, because the plan was faced with large losses and was falling further behind in paying providers.
• On April 12, 1999, Governor Don Sundquist, a Republican elected in 1994 on an anti-tax platform, announced that he would back an income tax to address a growing state fiscal crisis.
• On May 10, 1999, the state legislature approved $190 million in additional funding to eliminate the shortfall in TennCare.
• In July, BlueCross BlueShield of Tennessee (BCBST) negotiated a renewal contract that gave it the right to leave the program, effective July 1, 2000, if it was not satisfied with state reform efforts, assuming it provided at least six months' notice.
• In September 1999, TennCare director Brian Lapps resigned (the sixth TennCare director in five years).
• On November 1, 1999, the governor called a special session of the legislature to consider an income tax plan that would produce $500 million in additional tax revenues to support both TennCare and an increase in spending on education.
• On November 11, 1999, the governor announced a pay-or-play plan that would require all employers with 25 or more employees to provide worker health coverage and would require insurance plans and HMOs in the state to participate in TennCare or pay a premium tax.
• On December 1, 1999, the governor announced a 12-point TennCare reform program that included a freeze on new enrollment of the uninsured or uninsurables, a cut in benefits, and increased premiums for those with incomes above 200 percent of the federal poverty level.
• On December 15, 1999, BCBST announced that it would withdraw from TennCare effective July 1, 2000. BCBST covers 645,000 TennCare enrollees, or about 50 percent of total enrollment.

Why has this crisis in the TennCare program occurred? Fundamentally, there was never enough new money to finance a roughly 50 percent increase in coverage, particularly if the allegations of considerable adverse selection into the program are true. Adverse selection has reportedly occurred both because insurers have denied coverage and because of the dropping of employer coverage by employees—particularly those with serious health problems—who found TennCare less expensive and easy to enter.

Because the program has been underfunded, capitation rates to managed care plans have been very low, particularly in comparison with other states. Moreover, the state has made only very limited adjustments to rates for the higher costs of sicker enrollees. Thus, any plan that is faced with a disproportionate share of high-risk patients is even more likely to face financial losses. The low rates, coupled with minimal risk adjustment, impose an increased risk of failure on any plan serving a disproportionate share of less healthy enrollees. Failure of any such plan, in turn, means that the plan's beneficiaries will join other plans, increasing the financial risks that those plans then face.

Because capitation rates are low, provider payment rates are also low. Tennessee's hospitals allege losses in 1998 of well over $450 million. Losses are reportedly greatest for academic medical centers. Physicians claim that the rates they are paid by plans are very low and that plans are slow in processing claims. A considerable amount of anger, resentment, and distrust has built up on the part of providers.

In this milieu, it is easy to lose track of the fact that much good has been achieved by TennCare. The program has increased coverage of many who would otherwise be uninsured, including those deemed uninsurable by private insurance plans. There is also considerable evidence that access to care has improved, emergency room visits have fallen, and utilization of many preventive health services has increased.

Recent dynamics in the TennCare program make it difficult to write a report that is not out of date the moment it is released. Our goal in commissioning this report was to take a longer view of what is known about the effects of the TennCare program. In this report, Christopher J. Conover and Hester H. Davies document the evidence on changes in insurance coverage, access, and utilization. They also provide considerable data on the impacts of TennCare on health plans, hospitals, and physicians.

It seems clear from the evidence that they provide that the plight of the uninsured has been considerably improved by TennCare. There also seems to be an increase in services provided to the low-income population, that is, the uninsured and Medicaid eligibles taken together. This implies that physicians and hospitals have increased the amount of care they provided to TennCare beneficiaries despite their intense feelings about the program. But it also seems clear that the fundamental structure of TennCare—a huge expansion of coverage with relatively little new financing, with providers giving more services despite lower rates of compensation—is inherently unstable. It is no accident that a crisis has occurred.

There are many directions in which the state might head, but it seems clear that no approach can avoid the need to increase the funding of the program. Further, if the state is to continue with managed care, it must adopt better arrangements for compensating plans for differentials in risk.

The state must also seek approaches to prevent the adverse selection into TennCare or to recognize explicitly that there are benefits to the privately insured when such adverse selection occurs. To the extent that the state bears the cost of high-risk individuals, those who purchase employer-offered or individual insurance policies are paying less. Alternatively, if the state successfully prevents the adverse selection in TennCare, it effectively shifts costs back onto those purchasing employer or individual policies.

It is hard to envision how the state could turn back. If the alternative were reductions in coverage and a return to fee-for-service Medicaid, the costs of providing for the low-income Tennessee population, both in and out of Medicaid, are not likely to be greatly affected. The costs of serving those who remain on Medicaid would be higher on a per-enrollee basis, and the cost of the uninsured would be borne through uncompensated care in hospitals and ultimately paid for by those with insurance, in the form of higher premiums.

Again, Tennessee's problems are largely a debate over who should pay. Reforming TennCare, including adding to its funding, would mean that more of the costs would be borne by the taxpayer, with a substantial share paid by the federal government. A scaling back of TennCare would mean that more of the costs would be borne by those with employer or individual policies and by the uninsured and less by the state taxpayer and the federal government.

John Holahan
Director, Health Policy Research Center
The Urban Institute

Note: This report is available in its entirety in the Portable Document Format (PDF).

The nonpartisan Urban Institute publishes studies, reports, and books on timely topics worthy of public consideration. The views expressed are those of the authors and should not be attributed to the Urban Institute, its trustees, or its funders.

Usage, posting and reprint of materials on the UI web site:

Most publications may be downloaded free of charge from the web site in PDF format. This information may be used and copies made for research, academic, policy or other non-commercial purposes. Proper attribution is required.

Copyright of the written materials contained within the Urban Institute website is owned or controlled by the Urban Institute. Posting UI research papers on other websites is permitted subject to prior approval from the Urban Institute—contact paffairs@urban.org.

If you are unable to access or print the PDF document please contact us or call the Publications Office at (202) 261-5687.