(FORTUNE Magazine) – A WEEK AFTER George W. Bush won a second term, the leaders of the Concord Coalition--the deficit fighters' club founded in the dark days of 1992--gathered at the Pierre Hotel in New York City to commiserate. This was no bunch of blue-state liberal whiners. Half the people on stage at the coalition's annual awards dinner were Republicans. The guest of honor was Senator John McCain, who spent much of the fall on the road campaigning for Bush.

But the tone was somber, even apocalyptic. Few in Washington care about deficits, McCain lamented: "No one's sounding alarms. We don't want to make any tough decisions." Coalition co-founder Warren Rudman, former Republican Senator from New Hampshire, warned that this year's $422 billion deficit is but a cold snap presaging the economic ice age to come. "For people currently alive, we have $50 trillion to $65 trillion in unfunded liabilities," he said, referring to the cost of Social Security and Medicare benefits promised to current and future retirees. If we try to put off dealing with that staggering fiscal imbalance much longer, Rudman added, "we'll crash into the iceberg and see if we can float."

This is not the kind of talk you'll hear just now in the White House or on Capitol Hill. There the reigning attitude is one of high-five-manship. A President whose first election was disputed and whose foreign policy choices were fiercely criticized at home and abroad was returned to office decisively. His party increased its majorities in the House and Senate.

But for all the President's swashbuckling in matters of war, diplomacy, and electioneering, his economic policy has so far been all about postponing hard decisions. True, world events haven't made things easy. A stock market collapse, a recession, and Sept. 11 would have driven any administration, Republican or Democrat, into the red. But the tax cuts the President pushed through Congress in 2001 and 2003 certainly made the deficit bigger. Worse, he failed to veto a single spending bill during his first term. Bush has pledged to cut the deficit in half by the end of his second term, but that's about as believable as Terrell Owens swearing off end-zone dancing. The Wall Street consensus is that the budget gap will shrink only slightly over the next four years.

Then, after ex-President Bush heads home to his ranch in Texas, will come the deluge--brought on by rising life expectancies, falling birth rates, and the unbearable vastness of the baby-boom generation. The first boomers will be eligible for Social Security in 2008. The Social Security payroll tax is expected to fall short of covering the program's expenses starting in 2013. Medicare, already a drain on the federal budget, will rapidly start increasing its claim on taxpayer dollars--thanks in part to the new drug benefit enacted last year. By 2030 each program is expected to cost taxpayers about 6% of GDP--compared with 4.2% for Social Security and 2.5% for Medicare now. After that the Social Security burden levels off, but Medicare costs just keep rising and rising.

Unless, of course, some gutsy politician does something about it. Which makes the next 18 months an interesting test. That's the time President Bush has before midterm elections steal away the attention of Congress, and, after that, his own clout withers from lame-duck disease. Will he take a stand and do something about what, by any reasonable standard, has to be considered the most important economic policy dilemma of our time? Or will he punt?

IT'S NOT ALL ABOUT DUBYA, of course. Other planets must align before there's any chance of resolving the entitlements mess. One extremely large (politically speaking) Republican planet already in place is Federal Reserve chairman Alan Greenspan. Greenspan, who hardly objected to Bush's tax cuts, has been making the rounds in Washington talking up the dire importance of entitlement reform--especially Medicare reform. But the people who actually have to vote to take benefits away or raise taxes are the men and women on Capitol Hill. Unlike Bush or Greenspan, they will be running for office again in 2006, in 2008, and beyond. And a lesson politicians have learned over the past two decades is that voters aren't impressed by those who make the tough decisions needed to close budget gaps.

"Reagan proved that deficits don't matter," Vice President Dick Cheney told Paul O'Neill, then Treasury Secretary, during President Bush's first term. At least, that's what O'Neill recalled in Ron Suskind's book The Price of Loyalty. Cheney has denied uttering those words, but as a statement of political reality they have the ring of truth. President Reagan, who unleashed the deficits of the 1980s, died this year a national hero. Meanwhile, George H.W. Bush's decision to accept higher taxes to get the deficit under control may have cost him the 1992 election. The great Republican congressional budget zealots of the 1980s and 1990s--Rudman, Phil Gramm, Newt Gingrich, John Kasich--have been consigned to the lecture circuit. The most prominent administration deficit hawk of Bush's first term, O'Neill, lost his job in part because he was ... a deficit hawk.

The lesson any Republican officeholder seeking reelection takes from this is that only suckers care about budget deficits. (FORTUNE 500 CEOs seem to agree; see box.) And while many Democrats are now programmed to expertly lip-synch the deficit cutter's creed, most would rather give Tom DeLay a foot rub than tamper with Social Security or Medicare.

That aversion may spread as recipients of Social Security and Medicare come to constitute an ever larger share of the voting population. As years pass, it will only get harder to devise a political solution in which costs and benefits are shared among generations instead of landing almost entirely on the shoulders of those still working. A shared burden is crucial because it's workers, not retirees, who make the economy go.

HAPPILY--OR NOT, depending on your perspective--there is another force that must be reckoned with: the global currency and debt markets, which have a long history of whipping wayward nations into line by devaluing their money and jacking up their interest rates.

American policymakers can be forgiven for forgetting this inevitable source of discipline. For a decade, the market they've paid attention to has been the stock market. America's late-1990s equities boom was so massive that it dragged bonds--and the dollar--with it. Then, when the stock bubble burst, coping with the fallout became the main task of U.S. economic policy. The last time debt markets ruled was in the 1980s and early 1990s. Back then, worries about big federal deficits, and the effect those deficits would have on interest rates and the dollar, preoccupied Washington. It may be that those days are about to return.

What economists discovered in the 1980s was that what matters isn't so much the size of the deficit--in 1983 it hit 6% of GDP, compared with this year's 3.6%--as the size of the debt. When government debt grows to more than 50% of GDP, investors get antsy and demand higher interest rates. Right now the U.S. owes about $4.3 trillion, or 37% of GDP. It will take another six or seven years with deficits of the current size to bump us into the danger zone. But if debt markets decide to factor in that $50-trillion-plus in unfunded liabilities that Warren Rudman warned about, all bets are off. Boston University economist Laurence Kotlikoff, the nation's foremost academic worrier about such matters, wrote in these pages last May of the nightmare that could unfold if the problem isn't addressed. Huge debts and skyrocketing interest rates would force the Fed to print more dollars, which would ignite hyperinflation, which would lead to even higher interest rates. Just like Germany in the 1920s, but with reality TV. And low-carb ice cream.

A more benign scenario is one in which America's creditors nudge Washington into action before everything goes haywire. That's what happened in the early 1990s, as the federal debt neared the 50% threshold (it peaked at 49.4% in 1993). First, Bush Sr. raised taxes, then Clinton did the same, and then Newt Gingrich and his merry band frog-marched big spenders into the reflecting pool of fiscal discipline. This time around, more Treasuries than ever are in the hands of foreigners. Japan has long been the biggest buyer of the things; China is now a strong No. 2. This means that a President who has made a point of ignoring the opinions of other nations may end up having to consult the Chinese, of all people, over his domestic taxing and spending decisions. The first deliciously ironic hints of this new world order appeared in the days after the election, when speculators in such non- Republican precincts as London and Frankfurt sold dollars and Treasuries in apparent reaction to Bush's reelection.

SO HOW WILL THE PRESIDENT CONVINCE Hu Jintao that his money is safe? Economists loyal to Bush all subscribe to what you could call the "second term's a charm" theory. It goes like this: After putting off dealing with entitlement reform--recession, war, reelection, etc.--now he's serious about it.

This is certainly the attitude of Harvard's Martin Feldstein, a possible successor to Greenspan if the chairman, as expected, calls it quits in 2006. Same with Columbia Business School dean Glenn Hubbard, former chairman of Bush's Council of Economic Advisors and another possible Greenspan replacement. What do they think Bush will propose? Something along these lines: Social Security benefits now rise in step with the National Average Wage Index. If benefits were linked instead to the consumer price index, they would in theory rise so slowly that all of Social Security's funding problems would magically disappear. Then, to make up for that reduction in future benefits, today's workers would be allowed to steer a portion of their payroll taxes into personal accounts that they could invest in stocks and bonds.

For Medicare there is no such straightforward fix. "In a sense Social Security is easy," Hubbard says. "It's not easy politically, but economists sort of know what to do. Medicare is harder and requires a lot of market reforms." The reforms Hubbard has in mind involve creating a true health insurance market for individuals and removing the tax bias in favor of employer-funded plans--the idea being that, with an insurance system that isn't dependent on employers, there'd be no need for separate programs for the old and the poor (just subsidies for the latter). Bush has proposed baby steps in that direction, and his tort-reform efforts might help too. But a permanent, stable solution may require a wholesale reshaping of the health-care system. And we all remember how popular that was last time someone tried it, back in 1993.

In other words, this may be a job for the next Commander-in-Chief. You know, President Hillary Clinton.

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