Spoiled rotten: last year's child health-care legislation was supposed to created opportunities for free-market policy innovation. Guess what?

Last year's child health-care legislation was supposed to create opportunities for free-market policy innovation. Guess what?

Mr. Hood is president of the John Locke Foundation, a state-policy think tank based in Raleigh, North Carolina.

AS part of the 1997 budget deal with President Clinton, Republicans passed the so-called KidCare bill to provide federal support for children's health insurance at the state level. An amalgam of proposals introduced by Sens. Tom Daschle (D., N.D.), Arlen Specter (R., Pa.), and the tag team of Orrin Hatch (R., Utah) and Ted Kennedy (D., Mass.), the final bill (officially called the State Children's Health Insurance Program, or S-CHIP) authorized $48 billion over the next ten years in federal grants to states.

Because most poor children were already eligible for Medicaid, KidCare seemed just a way to expand government-provided health insurance to middle-income working families and thus a substantial defeat for conservatives. But Republican defenders of the budget deal put a positive spin on KidCare, insisting that, unlike previous entitlement programs, it allowed tremendous flexibility at the state level and could be used to fund relatively free-market conservative ideas such as vouchers, tax credits, and Medical Savings Accounts.

In November, the House Commerce Committee, headed by Rep. Tom Bliley (R., Va.), published an "implementation guide" for state officials along these lines: "S-CHIP provides states the resources, flexibility, and tools they need to expand the provision of coverage and services to uninsured low-income children," the committee staff wrote. Making the best of a bad situation, free-market advocacy groups such as the Heritage Foundation, the State Policy Network (of which my organization is a member), the American Legislative Exchange Council, and the Council for Affordable Health Insurance promoted market-friendly uses of the S-CHIP money.

Now that states are actually applying for their federal grants, it is clear that we needn't have bothered. The wording of the KidCare legislation itself -- and its interpretation by the Clinton Administration -- leaves almost no room for states to use S-CHIP money to experiment with free-market reforms. As of the end of January, according to information from the National Conference of State Legislatures and the (exultant) Children's Defense Fund, the vast majority of states have decided to use KidCare dollars for either 1) expansion of their Medicaid programs, 2) creation or expansion of separate state-run health-insurance programs, or 3) a little of both.

So much for innovation. While there will be some tightly restricted involvement by private insurers in some states, only two states that I am aware of -- Maryland and North Carolina -- are seriously entertaining the notion of giving families tax credits to buy their own conventional insurance or, better yet, Medical Savings Accounts, with their greater flexibility. So KidCare, a supposed GOP policy victory or at least a draw, is turning out to be nothing more than another expansion of the Great Society into the middle class.

Why are states unwilling to use the "resources, flexibility, and tools" that Congress gave them to create tax credits or MSAs? Because Congress didn't. Despite the rhetoric, the bill was written in such a way as to thwart market-friendly ideas -- surely the intention of the Kennedy staffers and Administration wonks who played such a big part in drafting it. Consider some of the implications of the bill's details.

The Crowd-Out Conundrum. One of the great trade-offs in subsidizing health insurance for uninsured children of modest means is that the policy must, inevitably, be either unfair or extremely expensive. Consider two families of four making $28,000 a year. The Smiths have been paying monthly premiums to purchase dependent coverage for their two children from an employer plan. The Joneses, because of the price tag or for some other reason, have not.

A government program that pays all or most of the cost of covering uninsured children must either 1) enroll the Jones family but not the Smith family, thus punishing the Smiths for making earlier sacrifices for their children's health, or 2) extend KidCare to the Smiths as well, thus making taxpayers pay to cover kids who already had health insurance. In the latter case, the real cost of covering uninsured children would be very high, because it would include the cost of covering many insured children, too.

KidCare's promoters try to make it seem as if the program helps the Smiths, when in reality it is stacked against them. According to rules issued by President Clinton's Health Care Financing Administration (HCFA), states that elect to use S-CHIP dollars to help families buy into their employer's dependent coverage must impose a six-month waiting period, during which the children cannot be enrolled in the employer plan. But for states that offer Medicaid or other government insurance to these families, there is no federal time limit (although some states plan to impose one of their own). The practical effect is to deter states from using KidCare to help workers buy private health insurance.

The Cost-Sharing Clause. For a lot of the families eligible for KidCare -- those whose incomes are no more than 50 per cent above the poverty line -- the legislation restricts enrollment fees, premiums, deductibles, and co-payments to very low levels: essentially, the same nominal levels of so-called cost-sharing allowed in the Medicaid program. For example, co-payments for doctor visits or other services -- often 20 per cent or more in private plans -- can be only about 6 per cent, according to the HCFA's rules. Few private health plans will want to participate when co-payments and deductibles are so low because of the lack of disincentives for people to use unnecessary medical services.

For families with incomes above 150 per cent of the poverty line, the cost-sharing rules are less strict. Even so, a year's total fees cannot exceed 5 per cent of family income -- and that is true regardless of the number of enrolled children in the family. This would complicate a state's request to use S-CHIP dollars to fund Medical Savings Accounts (if any state had had the intention of doing so) because withdrawals from MSAs to pay for children's routine medical bills would have to be treated as cost-sharing and would thus be strictly limited by the Federal Government.

Again, the practical effect of these rules is not just to quash market-based reforms, but to limit personal responsibility in general. In the states that plan to charge some families to enroll in KidCare, the premiums are likely to be extremely low. And many states aren't planning to charge premiums at all. The result: solidly middle-income families will be offered generous health insurance for free, or nearly so.

The Public-Employee Trick. Just in case a few states might figure out a way around some of these barriers, the people who drafted KidCare threw in an extra hurdle: states that create their own insurance programs are not allowed to use S-CHIP dollars to cover children of state employees, local employees, teachers, or other workers who are eligible for family coverage from a public-sector employer. Conveniently, this rule does not apply if states choose instead to expand Medicaid. This is yet another provision tipping the balance in favor of expanding the welfare state.

SO, in the end, the effect of KidCare will be what skeptics said at the outset: the growth of Medicaid and other forms of government-run health care (funded, in many states, with new cigarette taxes and the windfall from state settlements with the tobacco companies). This need not have been the case. Two factors make children's health insurance unnecessarily expensive: the existence of costly state insurance mandates and the unfairness of the federal tax code, which exempts employer-provided dependent coverage from taxation, while taxing the dollars families spend to buy their own insurance or services.

Congress could have 1) extended to small businesses and individuals the protection against state mandates that decades-old federal laws already give to large, self-insured firms; and 2) created tax credits to offset income and payroll taxes on insurance premiums and MSA deposits paid by individuals. These policies would have allowed families to take care of their own needs by protecting the private health-insurance market. Instead, congressional Republicans got snookered by a skilled team of liberal officials and interest groups who, unlike them, know exactly what they ultimately want: universal government-run health insurance. Now they are one step closer.

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