The Thinker

Looking out for Number 1

I hope I am wrong, but I am predicting a mean decade ahead, particularly here in the United States. Americans may be voting their bum out of office on November 2nd, hoping for real change or genuine bipartisanship, but at least through 2012 they will not get it. Political paralysis over the next couple of years is easy to predict, with a high probability that a Republican House of Representatives will try a reprieve of its 1995 government shutdown. The results of the 2010 census will encourage governors to draw congressional districts even more tightly to ensure even higher partisanship in Congress.

In addition, there are structural problems with our economy that are going to linger, particularly high unemployment. The “government is spending too much” mantra combined with businesses sitting on huge piles of cash but unwilling to use it to actually hire people simply means a prolonged period of high unemployment. And since Republicans in general will block spending on infrastructure and high tech investments, those jobs that will be created are mostly going to pay less. Add to this mess our massive foreclosure problem, wars in Afghanistan that will linger, massive climate change and the natural disasters that they will cause and it is hard for me to be optimistic about anything.

The Glenn Beck’s of the world would have me running to buy gold at inflated prices as a hedge against all this uncertainty and potential turmoil. The problem with gold is that it is not fungible. In any event, the world now runs on electronic currency. I am not worried about a currency collapse, but it’s clear that government is not going to look out for me, the little guy. And due to the Supreme Court’s incredibly bad Citizens United decision, we can expect even more extreme government by and for the corporation. Unless you are very agile and smart, you are going to be screwed.

Since I like prefer to live in the real world, I have been running “what if” scenarios with my financial future. I happen to be a federal employee who can retire in less than two years. Until recently, I assumed that I would never have to worry about my pension. It is as solid as the United States government and its sterling ability to print money, right? However, using Greece as an example, at some point if in the opinion of its creditors a state is insufficiently well managed, the creditors will show who is really in charge. In Greece, the effect has been a sudden reduction in the wealth of its citizens in general and government pensioners in particular.

While the social security system is fully solvent for at least twenty years, Medicare is not and Congress seems unwilling to do much more to make it more solvent. Larger structural issues remain to be solved but of course, there is nothing close to consensus on how to do this, and the situation will only get worse. It’s easy to see that even for a vested civil servant like myself, my pension may be on someone’s chopping block.

While I don’t see my pension going away altogether, I can see the federal government devolving into something like California. I can see mandatory cuts in pensions as well as many other programs in order to make creditors and Wall Street happy. How do you survive this new reality when the assumptions you made for your life plan change fundamentally?

Answer: not very well, as many unemployed and overleveraged Americans have discovered over the last few years. While I have escaped it through the virtue of steady employment, watching what has happened during the Great Recession to those caught in its vice is instructive. It has had me sending emails to my financial adviser, who all along has warned me that the solvency of some of my retirement benefits was questionable.

To some extent, I may worry too much. My wife and I are fortunate because we have mostly lived within our means. We do not carry a credit card balance. Our homeowner’s equity line of credit is now paid off as well. All our cars are paid off too, although we are dealing with the major expense of shepherding a daughter through college. It’s not today I am worried about. It’s my standard of living ten years or more from now when I am living on a fixed income that causes me concern. It’s when Uncle Sam’s creditors are forcing austerity and all that austerity means they are raiding my pension fund and scaling back my benefits. I think it is unlikely that my pension will disappear altogether. However, I do think it is prudent to assume a worst case of a 25% reduction in my pension, 10% reductions to my social security income and a lot higher premiums for health insurance. I am having my financial adviser run the numbers. What would my retired life look like? How can I mitigate now some of these potential serious financial consequences to my future?

Here’s the gist of what I am learning. You may want to take notes. I need to save as much as I can and pay off debt as fast as I can as well. For me, saving more is actually difficult to do. The federal Thrift Savings Plan is essentially a 401-K and I have maxed out my contributions into it. The one thing I can do is put money into an IRA as well, but that is limited to $5000 a year. I could save more as a financial cushion, but there are no tax benefits for doing so, and I must report interest as income.

The second thing I am learning is that I need to get out of debt. We are doing very well there, but we still have $85,000 for so left on the mortgage. This seems the wisest place for me to park any extra income. I have been chipping away at it the seventeen years we have been in the house, but need to be more aggressive. I am looking at strategies like applying all leftover income to paying off the principle on our mortgage.

So basically, to reduce our impact to any financial shocks, we need to be debt free as soon as possible, and save and invest as much money as possible. There are also other strategies that may seem not particularly patriotic. My financial adviser has had me move most of our funds into international stocks, where economies that are growing and the legislatures have more common sense. While Wall Street remains one of the few bright spots in our economy, investing too much money with Wall Street may be unwise, at least over the course of the next decade or so, because it will be buffeted by shocks to federal and state governments that seem likely to continue and exacerbate.

With luck, at some point, Democrats and Republicans will agree on a common path forward. It’s not hard to see what that future will be because it is likely to be laid out for us by events. Eventually we will all find that our lives will become more austere and we will be paying more in taxes. There is no way to escape this reality indefinitely, and no amount of vitriolic partisan clamoring otherwise can change it.

However, if our mortgage is paid off, we have a new real asset: our house. Washington Post financial columnist Michele Singletary made an excellent point recently: those of us who think having equity in our house means we are homeowners are fooling ourselves. We are homeowers, and our home as a permanent as our ability to keep sending mortgage payments every month. You are only a homeowner when the mortgage is paid off. Only then can you truly count your house as an asset and as part of your net worth.

We do own our investments free and clear. Properly managing that so it grows but does not lose value when we retire, that matters and is something we can control. Unfortunately, there are so many other variables that I cannot control. I can change those variables within my control and lessen my overall financial risks, and I can do that by saving like the Japanese, investing wisely and getting out of debt.

You are welcome to follow these strategies as well, which are sound and should be much more viable than buying gold from Goldline. I suspect many of you are younger, start with many more liabilities and have less in the way of income. In general, we all need to acquire the painful habit of living beneath our means to the extent we can and save or invest the difference. In addition, we need to become educated if we are not and continually keep our education relevant to the job market. The unemployment rate for college graduates even during these tough times is about five percent. It’s those with less education who are bearing the brunt of these times. Education in a decently paying field is the key, as well as mastering the social skills to get and retain these jobs.

It’s clear that no one is willing to look out for you anymore. Our safety net is collapsing. So much about the future is uncertain, but following these principles should greatly increase the odds that you will emerge with most of your standard of living intact.


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