FORTUNE — Last week’s opening salvo of “fiscal cliff” negotiations is proving what his critics have suspected ever since President Obama walked away from his own deficit-reduction commission two years ago: This White House still isn’t serious about entitlement reform, specifically Medicare.
Take the long view and you can make the argument that this inaction threatens the nation’s already-strained schools. Why? Because if leading Democrats don’t have the stomach to control benefits for the elderly, they’re not likely to make hard decisions over Medicaid, which covers the poor — even though the program’s exploding costs are squeezing out resources to educate our kids.
Taken together, states and localities face $7.3 trillion in debt, according to a new study by Harvard’s Institute of Politics (where I am a fellow), University of Pennsylvania’s Fels Institute of Government, and the American Education Foundation.
That’s nearly half what the federal government owes as we bust through another debt ceiling in a couple of months — this one set at $16.3 billion. And while much attention at the local level has been focused on the nearly $4.5 trillion in unfunded liabilities for state workers’ pensions and healthcare, Medicaid is increasingly the elephant on governors’ backs.
MORE: It’s time to fix the charitable deduction
“In many ways, the Medicaid issue is much more intractable,” the report’s publisher, Meredith Bagby, tells me. “State pensions and state healthcare affect a relatively small group of people.” Medicaid now covers 20% of all Americans, and will expand dramatically as Obamacare goes into effect. Washington covers most of those expansion costs. But, as Bagby notes, Medicaid spending is set to double over the next 10 years — from $253 billion today to $593 billion in 2022 — and, according to the Congressional Budget Office, Medicare spending will do the same.
Including federal funds, states already spend more on Medicaid than education — and the gap is widening. “In each of the last three fiscal years, Medicaid has taken the largest share of state spending,” according to the Harvard-Penn report.
With an anemic economy expanding enrollment and health care costs rising, Medicaid is crowding out spending on other state priorities. Total K-12 education spending is dropping while total spending on infrastructure is down 20% since 2009.
Governors in a number of states are trying to reduce Medicaid costs, but Bagby argues that the big reforms need to come from Washington, with guidance from the Simpson-Bowles debt reduction commission that issued its recommendations to President Obama two years ago this month.
MORE: Where’s the stimulus, Obama?
In his offer to Republicans on a package to avert going over the “fiscal cliff,” President Obama proposed spending cuts that Treasury Secretary Tim Geithner says only include minor changes to Medicare, primarily for the wealthy. But Senate Majority Whip Dick Durbin, a Simpson-Bowles commission member, last week warned fellow liberals that Medicare will go bankrupt in 12 years without serious structural reform. He wants to put off a deal on that until next year — after a smaller fiscal cliff deal is reached. Meanwhile, House Speaker John Boehner told reporters he wants an agreement from the White House that it will set up “a process for entitlement reform next year.”
Any stab at reform also needs to make changes to Medicaid to give governors more flexibility to innovate to bring down costs. Despite the increasing fiscal strain on states, the feds aren’t likely to come to the rescue with additional funds — stimulus money from Obama’s controversial 2009 law have run dry. And even if tax revenues at the state and local level continue to rebound, it won’t be enough.
Says Bagby: “An improving market will not solve the underlying debt problem our states face. We simply spend too much for what we collect in revenue. If that doesn’t change in a reasonable time horizon, states will cease to be able to provide the vital services our citizens have come to rely on — not the least of which is educating our population.”