Plan offered to avoid a debt crisis

NEW YORK (CNNMoney.com) -- More than 30 leading budget experts on Monday prescribed a course for deficit reduction that the nation needs to take if it wants to "buy some breathing room" to avoid a debt crisis.

In its report "Red Ink Rising," the Peterson-Pew Commission on Budget Reform called on Congress and the White House to commit to stabilizing the public debt to 60% of gross domestic product by 2018. Left unchecked, it's on track to hit 85% by 2018, and then grow to 100% four years after that. By 2038, it could reach 200%.

To put those numbers in context, just before the economic crisis, public debt stood at 41% of GDP. The public debt -- $7.72 trillion as of Dec. 11 - represents the money the United States owes its creditors. It does not include the $4.36 trillion the federal government owes itself because of all the revenue the Treasury has borrowed from federal programs such as Social Security and Medicare over the years.

The concern is that well before the public debt reaches 200% of GDP, fear of inflation -- and its twin nemesis, a decline in the dollar -- could cause investors to demand a higher return in exchange for buying U.S. Treasurys. And higher rates would make the U.S. debt load that much more onerous because the government is constantly refinancing the debt it already has on the books at whatever the going interest rates are.

To stabilize the debt at 60% of GDP, the commission recommends policymakers negotiate a package of measures in 2010 that would begin to phase in by 2012, assuming the economy has recovered.

"To buy some breathing room, the United States must show its creditors that it is serious about stabilizing the federal debt over a reasonable timeframe. Both spending cuts and tax increases will be necessary," the commission wrote.

The mere act of signaling to creditors that a deficit-reduction plan is in place may have a positive economic effect, the group asserted.

"Improving [creditors'] expectations can lower investor perceptions of risk and thus the premiums that creditors demand for interest rates paid on U.S. assets," the report said.

In order for the plan to be perceived as credible, however, the commission believes there should be an automatic trigger to set in motion spending cuts and tax increases if a debt target set by lawmakers is missed in any given year.

"The goal of an enforcement mechanism is to be punitive enough to cause lawmakers to act but realistic enough that it can be enacted if necessary as a last resort," the commission wrote.

The commission's members are a bipartisan collection of former directors of the Congressional Budget Office, the White House Office of Management and Budget, as well as former chairmen of the Senate and House Budget Committees and former U.S. Comptrollers General, among others.

Their estimates and suggestions are based on the assumptions that a number of current policies will remain in place. Among the assumptions are that the majority of the Bush-era tax cuts will be extended, that the reach of the alternative minimum tax will be reduced so as not to ensnare middle-income families, and that normal discretionary government spending will grow at the same rate as the economy, rather than inflation.

The commission acknowledges that reducing U.S. debt levels will be neither quick or easy.

And their suggestions are certain to meet resistance from any number of quarters, including from those who fear Social Security and Medicare benefits will be cut drastically.

The growth in the spending for both of those entitlement programs and for Medicaid are growing faster than the GDP. Deficit hawks say permanent changes need to be made to ensure long-term solvency for the programs and fiscal stability for the federal budget.

"That does not mean, however, that the entire solution has to come from changes to [programs such as Medicare and Social Security] -- or spending in general," the commission said. "To the contrary, government health and retirement programs will almost certainly have to grow as a share of the economy because of demographic and technological factors."

The bottom line is the commission believes changes to the entitlement programs are necessary but not sufficient. "We believe the problem is so large that nearly all areas of the budget will be affected," the report said.