Because Medicaid is absorbing a large and growing share of government spending in every state, policymakers are under intense pressure to control the cost of this budget-breaking program. In search of clues concerning Medicaid cost containment, this article examines state data on per-recipient Medicaid spending by type of service. This effort suggests focusing on nursing homes, because per-recipient payments to these institutions are highly variable across states. Indeed, the article concludes that a key explanation for cross-state differences in per-recipient Medicaid expenses is the reimbursement rate for the nursing homes.

The article then explores why nursing home reimbursement rates differ widely across states, when personal health care costs show more limited variation. It suggests that the industry's costs may come to reflect the states' reimbursement rates in an interactive cycle. The article recommends that regulators reexamine their nursing home reimbursement policies from the ground up. Finally, the article tries to draw lessons for the rest of the U.S. health care system. In particular, it suggests that the Medicaid dollar has lost its ability to serve as a standard of value; the U.S. health care dollar is in danger of following suit.