The protracted fight in Washington over raising the country's debt ceiling and cutting its budget has shined a light on a poor federal reimbursement outlook for U.S. hospitals and health systems, regardless of how negotiations unfold.
'Cuts are on the table'
Regardless of debt deal, healthcare likely to suffer
Healthcare programs are seen as a likely target for officials negotiating a long-term deal to cut federal spending, meaning hospitals and health systems may bear a big chunk of the reductions mandated by any deals that are reached. Congress and President Barack Obama struggled to reach a deal before Aug. 2 on raising the government’s borrowing limit to keep its flow of cash coming and prevent a selective default, a situation where the government was unable to pay all of its creditors.
The possibility that Medicaid and Medicare reimbursement could fall has not been lost on industry executives.
“They’re going to balance the budget on reductions in payments to providers: doctors, hospitals,” said Henry Franey, executive vice president and chief financial officer for University of Maryland Medical System, Baltimore. The system receives about $500 million of its roughly $2.5 billion in operating revenue from Medicaid, he said.
“We are building contingency plans if (cuts) were to occur,” he said. Given that much of the Maryland system’s costs are fixed, Franey said, contingencies mainly center on how the system might cut its biggest variable cost: labor.
System executives are still developing the contingency plan, but should the government not reach an agreement on raising the debt ceiling, default on its debt and potentially not be able to pay Medicare and Medicaid providers, the University of Maryland system would work to enact the contingency plan quickly, Franey said.
It’s unclear as to where Medicare and Medicaid would fall in the pecking order among the government’s creditors should a default occur. “What we’re looking at is unprecedented,” said John Nelson, a managing director for Moody’s Investors Service, New York.
Even if a deal is reached that avoids that scenario and salvages the federal government’s triple-A rating, such an agreement would probably include at least some reduced federal payments to those programs, said Martin Arrick, managing director for Standard & Poor’s. “It’s very clear that Medicare and Medicaid cuts are on the table,” he said.
How that would play out for hospitals’ operations and ability to borrow will depend on the level and timing of cuts.
The added cuts would come as the industry already strains to digest healthcare reform’s provisions and still is suffering from the after-effects of a recession. “Our outlook for the not-for-profit market has been negative for the past two years,” Nelson said. The industry likely is facing a future where hospitals and health systems will be focused on being more efficient and cutting costs, he said.
Likely for that reason, healthcare municipal borrowing has plummeted in 2010 and 2011. “There already was a high level of uncertainty” before the debt crisis emerged, said David Johnson, a managing director for investment banking firm BMO Capital Markets in Chicago. “Economic uncertainty, healthcare reform and the increasingly clear reality that payments are going to be cut is leading to a degree of caution that I haven’t seen in 25 years,” he said.
In the near term, the risk to federal Medicaid spending seems to be the greatest, even if it accounts for a smaller share than Medicare of federal healthcare spending. In a July 22 report, “Medicaid Funding Cuts Add to Credit Strain for U.S. Not-for-Profit Hospitals,” Moody’s notes that children’s hospitals are at particular risk, given their high reliance on Medicaid funding. A chart indicates that Medicaid as a percentage of gross revenue among children’s hospitals the agency rates ranges from 12.8% to 66.4%.
In addition to potentially losing the direct funds from the government, a default would have negative consequences for markets and the economy, likely driving the U.S. economy back into a recession. “The sharp recession and uncertain capital markets could have large effects on balance sheets and the demand for services, which we would expect to drive many healthcare ratings down by one to two notches,” noted a July 21 S&P report.
Markets could seize up, driving interest rates higher or even prevent hospitals from borrowing. Franey said the University of Maryland doesn’t carry a lot of variable-rate debt, but a 1 percentage point rise in rates would increase its annual borrowing costs by about $1 million. Franey said his system could likely weather a selective default storm, but already-struggling providers, those “living on the edge,” would have their existence threatened.
For Arrick, the worst-case scenario is pretty severe: “Some folks think selective default is just fine ... to me it seems pretty high risk.”
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