State Deficit Could Deter Bond Issue

By Tom Petruno

Nov. 15, 2005 12 AM PT

Times Staff Writer

A potential borrowing campaign to fund new roads, schools and other public facilities in California drew a generally positive response on Wall Street on Monday, but with a caveat: Sacramento should get its budget balanced first, many investors say.

Gov. Arnold Schwarzenegger’s staff is drafting plans for a massive bond issue of $50 billion or more to pay for public works projects across the state, The Times reported Monday, citing people who have been working with the administration.

In 2004, many on Wall Street were critical of a $15-billion bond deal that California voters approved to cover the state’s accumulated budget deficits. But analysts noted that the new borrowing proposal would be more in line with the accepted use of bond financing to pay for long-lasting investments such as highways, levees and other infrastructure projects.

And as the most populous state, California could justify such an investing program as well as any state, some say.

“If you’re going to borrow, it should be for capital investment,” said Tim Blake, who tracks California municipal debt for credit rating firm Moody’s Investors Service in New York.

What’s more, the state’s current debt load isn’t burdensome by some Wall Street yardsticks, leaving room for additional borrowing.

California has about $55 billion in bonds outstanding, counting those issues backed by general fund tax revenue. A Moody’s study this year of the 50 states said California’s debt load amounted to about 4.7% of the personal income of the state’s residents, using 2003 data.

That was above the median state figure of 2.4%, but below the levels of some other populous states, including New Jersey (7.4%) and Illinois (6.2%).

California’s bond debt per capita, at $1,545, ranks fourth among the 10 most populous states and ninth among all the states, Moody’s said.

Because many investors have judged the state’s debt levels to be reasonable, California has been able to issue new bonds with relative ease in recent years, despite ongoing budget woes.

“The California bond market is very strong,” said Robin Rappaport, municipal debt strategist at investment firm Payden & Rygel in Los Angeles. If the state were to propose $50 billion in new borrowing, “I think investor demand will be there if a reasonable amount of bonds comes out at one time,” she said.

Infrastructure borrowing typically is done over a period of years, as projects are ramped up, rather than in one fell swoop.

From investors’ viewpoint, the appeal of a huge wave of bond issuance is that California municipal debt is exempt from federal and state income taxes. So investors would have more bonds from which to choose for tax-free income. With interest rates in general on the rise, the bonds could be even more lucrative for investors.

Still, many analysts said Monday that Wall Street’s reception for new California debt would hinge on whether the state could balance its annual budget. Sacramento has for the last few years continued to rely on deficit financing to close budget gaps, which is the main reason California’s credit rating is the lowest of all the states, experts say.

“The debt burden is not the issue with the rating -- it’s the finances,” said Steven Zimmermann, an analyst at credit rating firm Standard & Poor’s.

“The state economy is among the best in the nation, but the budget process is just dysfunctional,” said David Blair, an analyst at Nuveen Investments in Irvine.

A balanced budget would be key to stoking investors’ confidence about new bond issuance, said Robert Pariseau, manager of the USAA California muni bond mutual fund. The state must show it can afford its current spending as well as the added cost of greater interest expense over time, he said.

A bigger interest bill would mean “that’s money that won’t be there for something else” in the annual budget, Pariseau said. Debt service costs now consume about 6% of annual state revenue.

The Republican governor’s proposal is likely to have wide bipartisan support -- and may help Schwarzenegger rebuild popularity after his ballot measures to curb state spending were defeated in last week’s special election.

Treasurer Phil Angelides, who is seeking the Democratic nomination for governor next year, said he had no quarrel with selling bonds to help finance long-term investment in the state, noting Monday that he had been a “forceful advocate” for infrastructure spending.

Even so, Angelides said there was no point in discussing a new bond program before the budget was balanced.

“You’ve got to show people how you’re going to pay for it,” he said of infrastructure spending.

H.D. Palmer, spokesman for the state Department of Finance, said the borrowing program “is still a work in progress,” and no total figure had been proposed for a bond issue, which would require voter approval.

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Room to borrow?

Measured as a percentage of personal income or per capita, California’s debt load is below that of some other big states but is well above the median for all states. Data for the 10 most populous states:

State: Debt to personal income; Debt per capita

New Jersey: 7.4%; $2,901

New York: 7.2%; $2,593

Illinois: 6.2%; $2,019

California: 4.7%; $1,545

Florida: 3.4%; $1,008

Ohio: 2.9%; $866

Georgia: 2.8%; $803

Pennsylvania: 2.3%; $730

Michigan: 2.2%; $691

Texas: 1.0%; $279

Median (all states): 2.4%; $703