How to Protect Your Savings During a Default

Economic default of a country almost always signifies a crisis situation and a significant decrease in the standard of living for the population. It affects everyone, even individuals with substantial capital. If you’ve managed to accumulate some savings, you’ll need to find an answer to a rather challenging question: how to protect your savings during a default?

What Is a Default?

Default refers to a borrower’s failure to fulfill debt obligations to creditors. This term applies to companies unable to pay interest on loans or repay principal amounts, as well as to entire countries committing such breaches.

For example, a creditor country provides financing to a borrowing country, with a contract outlining specific repayment terms. If the borrowing country declares its inability to pay debts — either interest or principal amounts — or effectively fails to make payments, it declares a default. Sometimes it’s not the debtor itself but international organizations, such as credit rating agencies, that declare it to creditors.

Difference Between Default and Bankruptcy

Sometimes default is confused with bankruptcy, but they are different concepts. Bankruptcy means that a borrower who cannot repay debts ceases operations. Creditors then recover their investments (or part of them) from the bankrupt’s assets. Bankruptcy is the ultimate outcome of financial failure.

Default does not lead to the cessation of the debtor’s existence. All governmental bodies continue to function in the country, and foreign investors do not seize raw materials or major enterprises for the debts owed. The country, in the event of default, retains its resources but suffers from a tarnished reputation.

Types of Default

Managing money during a default largely depends on the type of default that occurs. There are several variations of this phenomenon, each with its own characteristics.

Technical Default

The borrower temporarily struggles with debt obligations but has the means to fulfill them or can obtain them in the future. This type of default may occur due to technical reasons, such as software glitches or account freezes. Typically, all parties involved work together to rectify the situation and devise an action plan acceptable to both the creditor and the borrower.

Sovereign Default

Sovereign default occurs when a state is unable to meet its debt obligations. After declaring sovereign default, decisions about further actions are made by international judicial bodies.

A country’s sovereign default inevitably impacts its population, and the negative consequences can extend over many years.

Cross-Default

Cross-default is a situation where a debtor violates the terms of credit agreements, automatically leading to default not only with specific creditors but also with all others.

Cross-default ensures equal rights for all lenders to enforce obligations on the part of the borrower under credit agreements or bond issuances. It guarantees that in the event of a breach of obligations to one creditor, others have the right to equal treatment and participation in the process of fulfilling obligations by the debtor.

Cross-default plays an important role in ensuring fairness and equalizing creditors’ rights in financial crises and defaults.

Reasons for a Country’s Default

Default can occur for various reasons, including economic and political factors:

• Lack of funds in the budget due to inefficient resource utilization, including funding unsuccessful government projects and inadequate tax collection. Generally, default due to budget deficits is rare and is completely independent of the reasons for the deficit.
• Increased money supply when the government actively increases the volume of national currency, leading to its devaluation.
• Financial problems caused by internal economic downturns and decreased production capacity.
• Political and social instability, manifested in dissatisfaction with the current government, increased social tension, the practice of “shadow” employment, and tax evasion.
• High debt burden when the government takes on a large number of loans that it is unable to repay.

Signs of a Default Situation

The likelihood of default can be indicated by the following criteria:

1. Yield spread (the difference in yield between different fixed-income securities) between short and long-term government bonds. The greater the difference and the higher the spreads, the greater the market perceives the risks, indicating a higher probability of default.
2. The ratio of the country’s government debt to GDP — an indicator of stability. A higher value of the parameter indicates an increased risk of default.
3. The size of the external debt to foreign creditors.
4. Political instability, which may hinder the servicing of government debt.
5. The cost of default insurance on government bonds or credit default swaps. If the cost of insurance increases, it indicates a decrease in investor confidence and an increased risk of default.
6. The country’s credit rating, determined by international credit rating agencies Moody’s, Fitch, Standard & Poor’s. A decrease in the rating is a serious sign of problems with servicing government debt.

Consequences of Default for The Country and Its Population

Declaring default on government debt has serious consequences for the country as a whole and its population. At the state level:

• The country loses creditors’ confidence in the economy, its institutions, and national currency.
• There is a decrease in the country’s credit rating.
• The ability to take out new loans is practically lost, and creditors who agree to provide them significantly increase interest rates.
• The flow of investments into the country decreases to a minimum or stops altogether, as the investment attractiveness of the country declines.

Financial security in a default is significantly affected for private individuals:

• The national currency depreciates, making it difficult to purchase imported goods.
• Pensions and salaries in budget organizations are delayed. The state reduces spending on the country’s social sphere: education, healthcare, environmental protection, support for government housing, road construction, and infrastructure programs.
• Bank stocks, government, and top private companies sharply decline in value. A stock market crisis occurs.
• Hyperinflation begins. Prices for goods and services skyrocket. Housing and utility services become more expensive. The state raises excise taxes and fuel prices.
• Many enterprises cannot withstand rising prices and economic pressure and close, leading to an increase in unemployment in the country.

All of this negative impact is not compensated by higher wages, so the standard of living in the country sharply decreases.

Protecting Savings During a Default

Default carries a high risk of capital loss for investors who have invested money in the defaulting country, companies registered and operating there. After this generally crisis-inducing event, an investor can take the following steps:

• Assess the scale and consequences of what happened. Find out the reasons for the default, learn which areas are affected, and what measures will be taken by the authorities.
• Transfer some assets outside the country. This step may be hindered by restrictions imposed by the government to prevent capital flight.
• Understand which assets are affected. For example, stock and bond prices usually significantly lose value at the moment. However, with effective measures taken by the authorities, they may recover.
• Learn about government compensation and assistance. These may include payments to investors or replacement of lost assets.
• Seek advice from professionals (financial consultants, international financial lawyers, tax experts) to act in accordance with changing conditions and legislation. Acting alone, an investor may not track new rules and restrictions, violation of which may result in criminal or civil liability.

Saving strategies for economic default do not involve impulsive, ill-considered actions that many are willing to take as a result of panic. A classic example: buying currency at speculative prices at the peak of excitement.

With a financially literate approach, you can protect your capital from the consequences of default before it occurs. You should pay attention to expert advice and use the following methods.

Opening a Bank Deposit or Savings Account

It is considered one of the most successful responses to the question of How to safeguard your money in a default. Overall, such placement of funds provides good protection against many crises. In any case, authorities will begin to “quench” the raging inflation with a sharp increase in the Central Bank’s key rate. Banks are forced to raise rates on new deposits and accounts.

In such a situation, it is most reasonable to close current deposits and immediately open new ones with much higher returns. The faster you react, the lower the losses (or the higher the profits) will be. Keep in mind that in the worst-case scenario, the banking system may experience temporary disruptions. In such a situation, the saying “haste makes waste” can play a cruel joke on you.

As for savings accounts (SA), it’s even simpler — the interest rate on them will automatically change along with the Central Bank’s rate.

Note! In addition, funds in banks are usually insured by government and/or private funds. Even if your bank does not withstand the crisis in the economy, you will have a chance to recover, if not all, then at least a part of your savings.

Investments

You can also protect investments in an economic downturn through investments. To safeguard funds from devaluation or default, they can be invested in the following financial instruments:

• Short-term bonds.
• Investment funds.
• Stocks.
• Commodities market assets, especially precious metals.
• Real estate.

However, it is important to remember that one type of asset may not save you in the event of a default. The portfolio should be diversified by:

• Types of investment instruments.
• Currencies.
• Countries.

In addition, you should follow default-proof savings tips, especially relevant if you see signs of impending problems:

• Do not take out new loans, and close existing ones as soon as possible.
• Create a “financial safety cushion” that will last for several months, preferably in foreign currency.
• Restructure currency loans into loans in the national currency.
• Avoid expensive purchases, such as cars produced in other countries or household appliances from abroad.
• Convert existing cash into foreign currency and place it in accounts in foreign banks.

Protecting your capital from default is not just necessary. It does not require any complex procedures. The main thing is to carefully monitor the state of the economy and timely notice the approach of default and develop a clear economic default survival guide for yourself.