For the first time, a top Obama Administration official has acknowledged the possibility that states may opt out of the Medicaid expansion from the Affordable Care Act. In a letter to state governors, Health and Human Services Secretary Kathleen Sebelius writes that the Supreme Court ruling means that states could reject the expansion of Medicaid up to 133% of the federal poverty line for all adults under the age of 65 without risking their existing Medicaid funds.  However, she writes, “the Court’s decision did not affect other provisions of the law.”

Sebelius went about selling the benefits of expansion, including the fact that the federal government would pick up all the costs of the newly eligible beneficiaries from 2014 to 2016, and eventually 90% of the costs, or that states can design their own benefit packages. “Ultimately,” Sebelius concludes, “I am hopeful that state leaders will take advantage of the opportunity provided to insure the poorest working families with the unusually generous federal resources while dramatically reducing the burden of uncompensated care on their hospitals and other health care providers.”

Sebelius also writes that anyone who would be eligible for the Medicaid expansion who finds themselves ineligible because of the state’s refusal will not have to pay the tax penalty under the individual mandate. There are hardship exemptions in the law for people who cannot afford coverage, and Sebelius says that she would exercise authority under HHS to ensure that these low-income Americans would not get hit with a penalty.

This is basically all Sebelius can do. With the stick of taking away other Medicaid funding removed, all she has is carrot. And so she’s selling the benefits, in the form of the large federal participation and the benefits to the health industry in terms of reducing uncompensated care, which eventually spills over into aiding state budgets.

Over time, budget wonks like Peter Orszag say, states will opt into the expansion, because it’s just such a good deal. I won’t reiterate Orszag’s argument, because we’ve heard it ad nauseum. One thing he doesn’t grapple with, and almost no one trying to sell this narrative does, is that existing eligible Medicaid beneficiaries will come out of the woodwork, and would be covered at the old federal matching rates – roughly 57%. This would add a large new burden on the states, and will give them a reason to reject the expansion.

But what really has many state leaders worried is something called the “woodwork effect.” When big parts of the health law go into force in 2014, they worry it will bring out of the woodwork the millions of people who are already eligible for Medicaid but aren’t already enrolled.

When some people look to see if they can get health insurance through one of the health exchanges, they may discover a cheaper option. “They will find out that they’re actually eligible for Medicaid,” says Bruce Lesley, president of First Focus, an advocacy group for children and families.

But many of those people signing up for Medicaid won’t be members of the newly eligible expansion group, whose bills will be largely paid by the federal government. They’ll be regular old Medicaid beneficiaries, and states will have to pay up to half their costs.

Goldsmith says what has state officials most worried is how easy it will be for these currently eligible but unenrolled Medicaid recipients to sign up.

“It won’t be an in-person visit, it won’t be a ‘bring six forms of ID,’ ” he says. “There will be an expedited — lubricated, if you will — process to get people onto the rolls, and I think that’s the part that’s giving state budget officers serious indigestion at this point.”

So by ignoring this aspect, the “good deal” liberals seriously harm their argument. The Trojan horse of old eligibles streaming into the program will be highlighted, as will the budget costs therein. That’s why the “good deal” narrative will fail.

If you must make a wonkish argument to support expansion, how about the fact that covering people with health care is great for economies. People in stable situations with their health can spend more on necessities, can use health care services which supports the health industry, and can stimulate increased employment. Any large provision of federal dollars into an economy will have a macroeconomic impact, and studies show this to have a large economic multiplier, up to $2 for every $1 spent. The difference between the states which cover their low-income citizens and the states which don’t will offer a kind of natural experiment on this front. And I think the evidence shows that the states that cover will do better on the economic front.

The Republican Governors Association has asked for a timeline on when states have to inform the federal government of their participation in the expansion. Sebelius did not answer that question. But it would be good to have, to give us a sense of who’s in and who’s out.