Money

Austerity 101 – Don’t Spend More Than You Earn

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© 2019 Peitho Publishing / Michael Froehls
Written by Michael Froehls

Austerity – such a contentious word. Time for a cautious little story about Austerity 101 with relevance for your private spending habits, your state’s unfunded retirement promises, or your country’s insane debt levels. At one point, the game is up, you just can’t predict when.


After coming home from school and looking at his desk where Mom always places his weekly spending allowance…:

Where is my allowance?

12-Year Old Son (TYOS): “Mom….why did you reduce my weekly spending allowance by ~30%?”

Middle Class Mom (MCM): “Sorry, Son, but we have to tighten our belts.”

TYOS: “…but why? Daddy has a great job, hasn’t he? It’s the first time in years you are doing this to me. It’s not fair.”

MCM: “Yes, let me explain. You are old enough to grasp what our problem is. Daddy has been bringing home about $4,000 every month, after we paid the tax man, health insurance, and social security. Over time, though, we wanted to enjoy life more. We moved to a bigger house and took fancier vacations. Additionally, we bought you designer label clothes, signed up for premium cable, and leased a spacious SUV… All of this, however, meant that we needed to spend about $5,000 a month. We used credit cards and installment loans (look at this beautiful fridge over there…). Then we took out a home equity loan as home prices only could go up.  We knew that one day Daddy would get a pay rise and we would sell our home at a big profit. We paid our monthly interest and never worried about paying back all the outstanding debt. Unfortunately…”

Yup, it has been going on for a long time

TYOS: “Are you saying that for since I have been a toddler, you two have been spending every month much more than what Daddy has been earning?”

MCM: “Yes, Son, but everybody else around us did as well.  Last month, we tried to refinance our home for the third time in order to pay our increasing monthly credit card bills, but the bank refused. Then we missed some debt payments, and now everybody wants their money back and is jacking up interest rates! “

TYOS: “What does this mean for us now?

MCM: “Well, Daddy still makes $5,000 per month. But now, we face interest and loan amount repayments of about $1000. That leaves us $4,000 a month.”

TYOS: “Only $4,000? Mom, that is….that is … $2,000 less every month than what we have been spending all these years…$2,000 over $6,000…OMG…this is a whopping 1/3 less in what we can spend now!!! Isn’t 1/3 like 33%?”

MCM: “That’s right. I have already tried to call your distant German uncle and see whether he would mind sending us some…eh…support. To my surprise, he mumbled something about having his own family to feed. He also told us “Don’t spend more than you earn”. But he sends us his prayers and best wishes for our future.


When the game is up

The same scene could play out in any European country as well. It could play out at the family level, the municipality, state/region, or federal level.  When creditors call in their debt and refuse to roll it over (or demand exorbitant rates), the game is up. The game is up because you are hit with a double or triple whammy: not only do you lose the extra spending power you had when using debt (the first hit), you need to faster repay the loans you took out (second hit).  And there could be a third hit because you might have to spend on investing in your future (e.g., education; infrastructure) before reaping the associated rewards.

Unless you find new sources of income or get a windfall profit (e.g., lottery; increase in exports, fall of energy costs), or your creditors allow you again to postpone the day of reckoning, your living standards will fall for what could be a long time until the system is in balance again.

Same in Europe

The same scene could play out in any European country as well. It could play out at the family level, the municipality, state/region, or federal level.  When creditors call in their debt and refuse to roll it over (or demand exorbitant rates), the game is up. The game is up because you are hit with a double or triple whammy: not only do you lose the extra spending power you had when using debt (the first hit), you need to faster repay the loans you took out (second hit).  And there could be a third hit because you might have to spend on investing in your future (e.g., education; infrastructure) before reaping the associated rewards. Unless you find new sources of income or get a windfall profit (e.g., lottery; increase in exports, fall of energy costs), or your creditors allow you again to postpone the day of reckoning, your living standards will fall for what could be a long time until the system is in balance again.

The ugly fight over develeraging

There is no such choice of accepting “austerity” vs. not accepting “austerity”; the only choice is who is going to pay for all the past spending and associated outstanding debt and entitlements: it could be the (stupid or naïve formerly willing) creditor, if the debtor defaults or a country opts for inflation; or it could be the (reckless or naïve formerly eager) debtor, if he repays his debt by reducing other spending items; or both share the suffering. That’s why the fight over deleveraging is ugly. It’s a zero-sum game and nobody wants to pay the price for all of our past joint sins.

We should also expect to see discontent by the young over the coming years. It is the Boomers and their predecessors who have been calling the shots in law, policies, and taxation. It’s the young who will inherit our debt fueled economies, some of them with terrible Gotcha Economy features.

Takeaway

On a personal level, avoid any consumer debt that might come back to haunt you. Debt in moderation is ok, if it is used for investments that will raise your (future) income potential. Get the great education, finance a move to a better place, or acquire the tools you need in your trade.

When it comes to your choice of location, think twice about becoming a resident and taxpayer in quasi-bankrupt or heavily indebted jurisdictions, be it a city, state/province, or country. The arm of the respective government in need of financing will be stronger than your defenses. When austerity hit, it can get ugly.

© 2019 Michael Froehls – All Rights Reserved

Photo Credit:  © Michael Froehls

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