California’s topsy-turvy trickle-down

July 22, 2009

The proposed California budget is looking an awful lot like trickle-down economics. But instead of the classic theory of wealth at the top seeping down to the bottom, the budget would have the state push losses down the pecking order to local governments.

While the full legislature isn’t expected to vote on the proposal until Thursday, the broad outlines of the budget should make the state’s cities and counties shudder, since the proposal would deprive them of already dwindling revenues at a time when borrowing your way out of a jam isn’t much of a fallback plan.

In addition to the proposed $15 billion in spending cuts, the state wants to use roughly $4.35 billion of local funding to plug the yawning $26.3 billion budget gap, according to details that are emerging.

The passage of the budget would be a relief, bringing an end to embarrassing IOUs, and steadying faith in the state’s credit ratings, which had fallen to just a few steps away from junk.

This is crucial for the state, which will need to get back to fund-raising sooner rather than later to make up for time lost during the budget stalemate.

For local governments, however, a bad situation would only get worse.

The budget agreement reached earlier this week proposes to “borrow” $2 billion from property tax revenue that would normally flow to cities, counties and redevelopment agencies. This is coming at a time when these revenues have already taken a big hit from the deeply depressed housing market, double-digit unemployment and a slump in consumer spending.

The state will pay local governments interest for the favor, but like the IOUs, that’s cold comfort when you’re already battling economic hardship.

This trickle-down also promises to bring with it the same problems that plagued the state. Concerns about bankruptcies, given the city of Vallejo’s court petition last year, will intensify once the cash flow squeeze starts manifesting in local government coffers. But the more immediate problem for cities and counties will be ratings downgrades.

And that’s going to make it more difficult — and costly — for cities and counties to borrow their way out of hardship. Investors are already taking a more discerning look at municipal debt and underlying credit ratings, since bond insurance — which would bump less than stellar issuers up to AAA — was one of the first casualties of the credit crisis.

There’s been some speculation that local governments could recoup the $2 billion in property taxes by selling bonds backed by the state’s promise to repay the loan in three years. This type of structure, known as a revenue anticipation note, is useful to issuers who need to manage lumpy revenue streams.

That could help, though the terms of such an arrangement will be key, since interest paid to bondholders will need to be less than that received from the state. It also could impose an administrative burden on already stretched staffs.

There’s likely to be much cheer for California if the budget passes, but the downward drift of pain to the local level doesn’t solve the state’s financial mess, it just transfers it.
(Editing by Martin Langfield)

3 comments

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Local governments are outraged from the prospect of the state government essentially stealing from them. http://www.newsy.com/videos/the_golden_s tate_not_so_golden The overall picture is that the Liberal California is turning Conservative.

Posted by Caitlin | Report as abusive

California really should think about legalizing Marijuana, and taxing it. It’s a way out of the hole. Possibly generating at least $1 billion in revenue.
Paper in the age of environmentalism, is no longer an ‘excuse’.

Posted by bert | Report as abusive

California should cut its income tax in half and open up oil drilling up and down its coast and across the state. This will save them from poverty.

Posted by John Hauschild | Report as abusive