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What does the “debt ceiling” have to do with your personal financial situation?

It might have more impact on your personal financial situation than you might realize....


especially if you’re a military member, veteran receiving veteran’s benefits, a Federal employee, receiving Social Security, or benefits from any number of Federal programs.


If you follow any news media at all, you’ve likely heard that this past Monday, US Treasury Secretary Janet Yellen advised Congress that the US is projected to breach the debt limit and that all “extraordinary measures” will be exhausted as early as June 1st - in just a few weeks.


I’ve read news articles and blogs from across the political spectrum and, while agreement on anything happening in DC these days is a rarity, there is widespread agreement that the result of any US default would range from “not good” to disastrous.


No doubt you’ve read an article or two yourself but, for those who may have missed some of the discussion, let’s start with a little background before we jump into the “so what”.


What is the debt ceiling?


In 1917 Congress enacted the debt ceiling in order to allow the US Treasury more flexibility in issuing debt. Prior to 1917 Congress had to specifically authorize issuance of debt as needed. Since 1917 the debt ceiling has been raised pretty routinely over the years, often without fanfare or even much of a mention in the media. Over the last decade or so the debate over the debt ceiling has become quite public and a major source of contention at times.


As you are no doubt aware, the US routinely runs a budget deficit. That means that our incoming revenue does not cover all of our bills and interest payments. In order to pay those bills the US Treasury issues debt in the form of treasury bills, notes, and bonds. (Ever receive a US savings bond for your birthday? That’s a form of US debt).


For simplicity, think of the debt ceiling as like the credit limit on your credit card or the limit on your home equity line of credit. The US Treasury can issue treasury bills, notes, and bonds up to the ceiling. Historically, the US Treasury could simply ask for a higher limit and Congress would raise the limit. But, in January of this year, Congress refused to raise the limit. Since January, the US Treasury has been using a series of accounting maneuvers (called “extraordinary measures”) to ensure the US can cover all of its obligations.


So What?


What would you do if your credit cards were maxed out and your credit card company wouldn’t raise your credit limit? Let’s pretend you have a mortgage. And, you’re 13 payments into your 36 month auto lease. And, you pay your neighbor to watch your kids after school (and this person counts on this income to pay their bills). And, you owe your grandma some money. And, all of your other basic monthly bills are more than your monthly income. If this is you, then you’re not that much different than the US government.


The US government has obligations to pay the interest on existing debt; pay to maintain Federal property; pay Federal employees and the military; pay out Social Security and other Federal program benefits; etc. Just like you, the government has to service its debt (pay interest); pay its mortgage and car payments; pay employees that count on their paycheck to cover their own bills; repay retired individuals the Social Security payments they paid in over their working lives; and support US citizens through the use of existing Federal programs.


Now back to considering the personal situation above. Let's assume your credit card company won’t raise your credit limit and your monthly income is consumed by all of your basic bills. How are you going to pay the interest on the credit card? How are you going to pay your neighbor to watch your kids? How are you going to send a few bucks to grandma to repay the loan she gave you?


You’re going to have to make choices and something isn’t going to be paid. But which something? Are you going to default on the interest payments to your credit card? Or not pay your mortgage or car payment? What if you just blow off your grandma? What if you let your neighbor go and leave your 7 year old to fend for herself?


All of these choices result in something "not good" happening. And the same is true for the US facing the debt ceiling. If Congress fails to raise the debt limit, the US will be forced to make choices about which of its bills to pay.


What does it have to do with you?


While there is absolutely no clarity at all regarding how the US Treasury would handle its bills in the event of a default, the fact is that something will give. If your salary is paid by the US government, you may be impacted. If you receive any benefits from the US government (Veteran’s benefits, Social Security, etc), you may be impacted. If you hold US debt obligations (treasury bills, notes, or bonds), you may be impacted.


Please note the use of the phrase “MAY BE”. This is no time to be alarmist. Anyone who’s been through the end of a fiscal year as a US government employee, knows that Congress routinely runs things down the wire before doing what we all know they’re going to do eventually (fund the government).


Having said that, it would be prudent to prepare for the worst. Because most of us also know that, while Congress has come through at the 11th hour more often than not, the brinkmanship on Capitol Hill is like nothing we’ve seen in our lifetimes.


Things to Do….


First and foremost, if you do not already have an emergency fund, you are now up close and personal with the precise reason you should have an emergency fund. If you weren't sure why it's important before, you should have a better idea of why it's important and I hope you feel a sense of urgency as well.


It's not time to panic but it is time to be purposeful. Look for ways to save as much cash as you can from the next 1-2 paychecks (or beyond since we aren’t really sure exactly when the US will not be able to pay its obligations). Pay all of your bills on time. Feed and care for your family and yourself. But otherwise be discerning with your spending in order to save a few bucks.


If you do have a fully funded emergency fund, and you’re considering a purchase that requires a loan (mortgage, car loan, etc), be prepared for higher interest rates. If the US defaults, the interest rates the US pays will increase and the effect is likely to ripple through most forms of credit. I’m not suggesting that you rush into a purchase decision but consider how higher interest rates may impact your purchase decision.


Take an inventory of your current spending. What are you willing to cut in the event that your income is less than expected? How long will your emergency cash last? If the timeline isn’t comfortable, save more now.


Things NOT to do:


Do NOT panic.


Do not sell all of your investments.


Do not speculate on speculative investments.


If a crisis does indeed materialize, it’s not likely to last forever. And, therefore, you will likely be better off over the long term if you remain committed to an investment strategy that was built to specifically to support your financial plan.


If you do not have an overall investment strategy, then it may be prudent to review your holdings and the risk of your overall portfolio. Have a strategy that aligns with your risk tolerance and time horizon. Be disciplined; not reactive.


Do NOT miss payments. In 2011, the last time we witnessed this level of brinkmanship with the debt ceiling, US debt was “downgraded”. That means that credit rating agencies decreased the US credit rating. As a result, the interest rates the US government had to pay increased. The same thing will happen to you if you miss payments. Pay your bills.


If you’re afraid you might miss a payment or two if you miss a paycheck, start looking for a trusted, fiduciary advisor to speak with now. He/ she may be able to offer a variety of solutions to help with a gap. The solutions will certainly have trade offs but it’s better to make a fully informed decision with some trade offs rather than to make a decision blindly or with less understanding of the trade offs.


Bottomline


Regardless of where you find yourself on the political spectrum, I think we can agree that, if the US Government was a household like mine or yours, their financial situation would be one hot mess. Our elected officials will need to deal with the mess at some point and how they go about that is for the pundits to debate. We’ll leave the arguing to them.


For our purposes here, it’s enough to know that the state of the “US Government household” has the potential to impact our personal financial lives. This has always been the case. But today the risks to our own household balance sheet seem closer than usual.


Be proactive - save some cash and identify where you can trim your budget if necessary. And find your trusted advisor - before you run into trouble.


Be disciplined - do not overreact to the market or to the news media. Do not speculate about what’s “inevitable” or on assets you “think” might protect you in a downturn. Follow the facts. Stick to your plan.




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