Last year’s fiscal cliff forced a combination of tax hikes and deep across-the-board spending cuts in Washington. This year’s dreaded “sequester” has been in effect for a few weeks now, and we are beginning to face the consequences.
For the most part, the tax issue appears to have been ironed out. Most Americans will be paying more in taxes, and no one is particularly happy about it. But at least the uncertainty is out of the way, and we know what we’re facing.
Now it’s time face the second half of the cliff: the deep spending cuts collectively called “sequestration.”
Judging by the Dow’s recent record-breaking highs, investors don’t appear to be all that worried about the cuts. For all the angst and handwringing we’ve seen over the past year and a half, they seem to have reached the conclusion that it’s not a big deal.
So what is the story? Is it a big deal?
To start, most Americans seem to agree that the government spends too much money. Slicing $1.2 trillion out of the budget sounds like a big cut – and it is, until you look at the details. Only $85 billion is scheduled to take effect this year (out of a budget of more than $3.5 trillion). The rest is spread out over the next 10 years. That equates to spending cuts of less than 2.5 percent (and even that assumes that Washington won’t go back on its decision in the future).
If the cuts happen as planned, they are expected to take about half a percent off of GDP growth this year. Still, it’s hard to get upset about the spending cuts. Even if the sequester is messy and indiscriminate, it’s better than no cuts at all.
The real issue is not the current sequestration cuts – which may not matter in the long run – but entitlements. Social Security and Medicare are already in a deficit, when the vast majority of baby boomers are still in the workforce and still paying into the system. But what will happen after 2020, when those boomers born from 1955-1961 – the highest birth years of that generation – start to reach retirement age?
If you think we have a deficit problem now, take a moment to think about what’s coming.
I’ll tell you what I believe is coming: higher taxes along with lower Social Security and Medicare benefits, particularly if you are considered a “high income” retiree. And believe me, what counts as “high income” is probably much lower than you think.
The bottom line is that we cannot depend on government programs to take care of us in our old age. And this means putting the pieces of a retirement plan together today, while there is still time.