The Associated Press reports that California lawmakers remained at an impasse over the state's deficit.
(emphasis mine) [my comment]
Controller: IOUs show Calif. fiscal mismanagement
By JUDY LIN — Friday, June 26, 2009
SACRAMENTO (AP) — California lawmakers remained at an impasse over solving the state's $24.3 billion deficit Friday as the state controller prepares to hand out roughly $3 billion in IOUs to vendors, low-income seniors and others.
A morning vote on a portion of the Democratic budget plan fell short of the necessary two-thirds support in the Assembly for the second time. Lawmakers were scheduled to work through the weekend, with the beginning of the new fiscal year and an impending cash crisis just days away.
State Controller John Chiang said he will have to start issuing IOUs as soon as Thursday without a budget revision because California will lack enough incoming tax revenue to meet all its payment obligations.
Among those who would not get paid until after October are students expecting college grants, low-income seniors and the disabled, and vendors that provide an array of services. Counties also will have to wait to be paid for administering social services.
The IOUs, also known as registered warrants, offer only a temporary fix to the state's cash-flow problem. Even if California issues the warrants, the state will be $600 million in the red in September, according to the controller's office.
It's not clear whether banks will honor the state's pledge to pay later.
The IOUs will look similar to a check but have the words "registered" printed on the front. If the state has enough cash in October, the state treasurer will pay the IOUs with interest. [The key word here is "IF"]
"We're not aware of any banks that (have) made a decision yet on whether they will honor those registered warrants," said Beth Mills, a spokeswoman for the California Bankers Association. "It's up to the individual banks."
Mills said banks will determine whether they will cash IOUs depending on how much the state will pay in interest. A state board is not expected to announce the interest rate until July 2.
The last time the state issued IOUs was during a protracted budget fight in 1992. Some banks initially honored the registered warrants but stopped cashing them as the stalemate dragged on.
On Friday, legislative leaders indicated they may make a second attempt to avoid having the state issue IOUs through a complicated cash-saving maneuver that includes delaying billions of dollars in payments to K-12 school districts, community colleges and universities. The vote passed the Assembly on a bipartisan vote Thursday but failed to get enough support from Republicans to pass in the Senate.
Without a new budget, Chiang said Friday that he will have to start issuing IOUs. Students expecting college grants and low-income seniors would not get paid, along with vendors providing services to the state.
Chiang said taxpayers will also owe interest on IOUs.
US news reports that 10 Things You Didn't Know About California's Budget.
10 Things You Didn't Know About California's Budget
The Golden State is facing a large budget deficit
Posted June 26, 2009
1) California's economy is larger than that of many countries, including Canada and Brazil.
2) The state's deficit is estimated at $24 billion for the fiscal year that begins July 1.
3) Gov. Arnold Schwarzenegger's budget proposes slashing health and welfare spending by 26.5 percent and closing 80 percent of state parks.
4) To cut the deficit, Schwarzenegger has stated that he would eliminate the state's basic welfare program, which serves 1.3 million residents. [there are going to be drastic cutbacks on welfare programs across the nation]
5) Democrats are seeking alternatives to major cuts, such as rescinding $1 billion in corporate tax breaks, enacting a 10 percent tax on oil pumped in California, and tapping into a $4.5 billion rainy-day fund.
6) Californians pay the second-highest sales tax in the nation; the state's gas tax is the third-highest in the nation; and California's top earners have the second-highest state income tax rate in the country. [Despite all these high taxes, California is still running out of money... That is a show of staggering incompetence]
7) California residents with incomes of more than $500,000 pay nearly 40 percent of the state's personal income tax revenue.
8) A state ballot initiative approved by voters in 1978 limits property tax rates, the primary source of revenue for school districts and local governments, to 1 percent.
9) California has the highest research and development tax credit in the country, which will cost the state $1.2 billion in potential tax revenue this year.
10) State officials have said that California will run out of cash by the end of July. Schwarzenegger sought a $6 billion loan guarantee from the federal government, but his request was denied.
My reaction: California is slipping deeper into financial crisis and is about to start issuing IOUs. There are two key points to realize from what is going on in California:
1) California's crisis has implications for all government debt
Two weeks ago, I reported on how California is leading nation to bond default abyss.
My reaction: As Kevin Hassett writes, "The California budget crisis may well lead to a second financial calamity that would be far worse than anything experienced over the past 18 months."
1) California is more than $24.3 billion in the hole.
2) On Monday, California Gov. Arnold Schwarzenegger ordered a halt to funding for state contracts on everything from pencils to office space.
3) California's state controller has warned about the state running ou t of cash in two weeks (this warning happened last week).
4) The likely scenario (also the nightmare scenario) is that all California's lenders disappear, and the state is unable to roll over its debt.
5) If the unofficial eighth-largest economy fails on its debt, it will cast doubt on all government debt, especially treasuries.
6) The US government's fiscal situation is in worse shape than California's.
Conclusion: The 'bad' phase of the financial crisis is on the verge of beginning. It involves the dollar's collapse, soaring commodities, and skyrocketing interest rates.
The time frame for everything to really start falling apart is the next two or three months. California budget crisis is one of many factors which sets this time frame (default is likely within three months). A default by California would drag the bond market into the abyss.
It is virtually certain that lenders will desert California at some point later this year, and the state will be unable to roll over its debt. When this happens, borrowing cost for US governments on all levels (local, state, and federal) will go up. The dollar will also be hurt as lenders look outside the US for more credit worthy governments to lend to.
2) California's problems aren't unique
Unfortunately, California isn't the only state in trouble. As I reported last year, the vast majority of states are facing budget troubles.
1) The vast majority of states cannot run a deficit or borrow to cover their operating expenditures. As a result, states must close to budget shortfalls by either drawing on reserves, cutting expenditures, or raising taxes.
2) States have already begun drawing down reserves, and the remaining reserves are not sufficient to weather a significant economic downturn. Also, Many states have no reserves and never fully recovered from the fiscal crisis in the early part of the decade.
3) State budget cuts often are more severe in the second year of a state fiscal crisis, after reserves have been largely depleted.
4) When states cut spending, they lay off employees, cancel contracts with vendors, eliminate or lower payments to businesses and nonprofit organizations that provide direct services, and cut benefit payments to individuals. These cuts, like taxes, drain an enormous amount of money out of the economy.
5) Expenditure cuts and tax increases are problematic policies that cause economic downturns to deepen. They both leave business and individuals with less cash and thereby remove demand from the economy, causing state and federal GDP to shrink.
6) The federal government will eventually be forced to step in and offer states some form of assistance to prevent economic collapses and humanitarian disasters. This means more bailouts, and these bailouts will only marginally help state deal with their enormous budget shortfalls.
7) All the state budget troubles also apply to local governments. In fact, local governments with their reliance on property taxes and crushing pension obligations are in an even worse financial position.
As local and state governments across the country cut back on spending, unemployment will rise and US gdp will shrink.