Government bonds are a familiar sight in many investors retirement portfolios. Their low risks and long-term returns make them an attractive investment for soon-to-be retirees, even though the interest rates they pay are relatively low. For governments, selling bonds is an easy way to get money, although not every administration is as careful issuing them as they should.
Throughout history countries that have over-relied on public debt have spent beyond their means and ended up defaulting. If you have bought US government bonds thinking that they would help you live comfortably when you retire, you might want to think again.
US Government at Risk of Default
For years the government has delayed addressing the debt issue and has relied on band-aid solutions like getting into more debt that has only worsened the problem. When George W. Bush became President he inherited the first budget surplus the country had had in decades.
However, a combination of tax cuts, increasing government spending and the recession quickly made short work of this surplus. Since then the budget deficit has kept growing out of control from $400 million, when Barack Obama became President, to $19.8 trillion today – $14.3 of which are held by investors.
The government’s response has been to increase spending, but as the debt approaches the $20.1 trillion debt ceiling it becomes obvious that the situation is spiraling out of control. In 2011 the first crisis happened as the debt grew past the national debt ceiling and the government nearly had to shut down. Two years later the crisis repeated itself and the government had no choice but to shut down for two weeks.
The 2015 increase in the debt ceiling to $20.1 trillion has done little to stop the problem as the debt is just $300 billion away from breaching it. It hasn’t helped either that the Federal Government has burned through the cash reserves as well.
Although by the beginning of the year the reserves were at $400 billion, it only took three months for them to be reduced to barely $30 billion, which is less than half the amount of money that Google owns. Even with these alarming developments many still don’t believe the US will default on its debt. However, history offers important lessons that are worth studying.
Dangers of Reckless Bond Issuance
In 1814 the Dutch government shocked the finance world when they defaulted on their debts. The Netherlands had pioneered the concept of selling government bonds since 1517 when the city of Amsterdam became the first government to sell bonds. This allowed the Dutch economy to grow tremendously, as they used the surplus money to fund wars and a worldwide economic expansion.
However, this growth didn’t last forever. By the 1700s the Dutch economy was shrinking and the debt had grown to an unmanageable size. At the start of the 19th century, the Dutch government was spending the majority of their revenues to pay back their loans. Yet, investors confidence remained high on the Dutch economy that they kept buying bonds and ignoring the signals.
The inevitable happened as the government ran out of cash to pay its debts and had to default on their loans. The default destroyed the economy and left thousands of investors broke. Two hundred years later it looks like history is about to repeat itself. As the US gets closer and closer to default you need to make sure that you are prepared to weather the storm.
As the Federal cash reserve has all but disappeared and the debt is about to reach the ceiling once again, it seems like the crisis is about to reach its inevitable conclusion. This past year the economy grew a mere 1.6% while the debt grew a staggering 8.2%. This means that regardless of whether Congress increases the ceiling or not a Government default is on the horizon.
However, you can still protect your retirement portfolio if you keep it diversified and invest in gold. For centuries, gold has protected investors from going bankrupt during times of crisis.
Gold has always served as a life saver every time there has been economic turmoil. By investing in gold you are buying insurance and protecting yourself from the upcoming government default. When the day finally arrives, you won’t be asking yourself why the government defaulted, but rather why you didn’t buy gold sooner.
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