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So, what might sequestration really mean to you?
When it comes to politics, there is nothing new under the sun.  Pick up a newspaper from 100 years ago, you'll see the same arguments percolating.  Over the last couple of years, we have witnessed debt ceiling issues, fiscal cliffs, sequestration and government shut downs.  Since 1980, the government has been shut down numerous times. 
  • Under Reagan, it was shut down 3 times (Nov. 23, 1981, Oct. 4, 1984, and Oct. 17, 1986).  
  • President George H.W. Bush wasn't spared a shutdown (Nov. 1991).   
  • Neither was President Bill Clinton (Dec. 16, 1995 to Jan. 5, 1996).   

During these shutdowns, non-essential employees were either sent home, furloughed, or did not report to work.  The world didn't end then, and sequestration will not end it now.


While President Obama and U.S. lawmakers argue over which steps to take in order to reduce the federal budget deficit, a process known as "sequestration" will be launched.  Like it or not, sequestration will happen today, March 1, 2013 (unless a "political miracle" happens).


What is the "sequester"?
The "sequester" refers to a set of mandatory federal spending cuts. The sequester is part of 2011 debt-ceiling compromise. Back then, Congress agreed to raise the statutory federal debt limit in exchange for $1.5 billion in deficit reductions specified by the Congressional "super-committee". The sequester language was written as an insurance policy against failure of the super-committee.  As expected, the super-committee was unable to achieve its deficit-reduction goal, and now the sequester is automatically kicking-in, triggering $1.2 trillion in discretionary spending cuts over the next 10 years.

How large are the spending cuts?
The Congressional Budget Office (CBO) estimates that the sequester will shave roughly $85.4 billion in 2013 discretionary spending, approximately 2+% of federal spending.

What types of spending will the sequester cut?
The sequester will cut across the board, including defense and non-defense programs. The sequester will not touch entitlement programs such as Medicaid and Social Security.  Low-income programs like welfare, food stamps, etc. will be left untouched.   

What will be cut?
The CBO estimates $42.7 billion will hit defense spending and the rest ($42.6 billion) will be in non-defense discretionary expenses.

What form will the spending cuts take?
Discretionary spending cuts will be achieved through layoffs, employee furloughs, and benefits cuts.  As in the past, outright program eliminations are doubtful. As Ronald Reagan used to say, "Government programs, once launched, never disappear. Actually, a government bureau is the nearest thing to eternal life we'll ever see on this earth!"  By law, the sequester can't be implemented through pay cuts or freezes. Therefore, many agencies and programs will resort to temporary unpaid furloughs and benefits cuts.

Can the sequester be avoided?
No, the sequester will take effect on March 1, 2013, as scheduled. It is possible that the sequester could be restructured, but it's doubtful. For example, a subsequent bill amending the original Budget Control Act of 2011 could potentially alter it to include expense cuts and revenue hikes, staggering the cuts and hikes so that they go into effect gradually.

How will sequestration impact the economy?
We think that sequestration is a non-event. The CBO estimates sequestration will shave approximately 1/2% off of GDP in 2013. It is doubtful it will push the economy into a recession. In the short run, we may see the unemployment rate increase. Businesses relying on government contracts may lay off workers. Job losses will be heaviest in the defense sector. Defense-manufacturing hotbeds, such as California, Virginia, Maryland, and Texas will be hit hardest.

Is the sequester good policy?
Sequester achieves what Congress and the White House have been unwilling to do which is cut federal spending. Therefore, it's a welcome step in the right direction.  However, it doesn't consider the 800 pound gorilla which is entitlement spending.

What should you do about it?
NOTHING.  Do not make any changes to your portfolios because of sequestration. These cuts are not devastating. Tune out the noise. Sequestration will not have a dramatic impact on securities values or markets.
Special thanks to our friends over at Morningstar for their contributions to this alert.  Their research and data is always insightful.

If you need assistance navigating the often confusing world of personal finance, please let us know. We work with small business owners and individuals to provide sound, visionary stewardship of their assets.

For our clients, please advise us promptly if there are ever any changes in your financial situation or investment objectives.


Feel free to give us a call if you want to discuss anything further.

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Bill Harris, CFP