State’s Credit Rating to Fall

After meeting with Wall Street bond rating agencies Thursday, top California officials acknowledged that the state’s credit reputation is about to take another hit.

As early as Tuesday, officials expect Moody’s Investors Services to move California -- facing a $34-billion budget gap over the next 17 months -- to the bottom rung of states by downgrading its financial rating to A2 from A1.

The only other states Moody’s rates that low are Louisiana and New York.

Yet though Department of Finance Director Steve Peace said it would be a miracle if the agency did not drop California to its lowest rating in Moody’s history, he said the move should have little effect on what it costs the state to borrow money. He said financial markets have already taken the state’s predicament into account.

In December, the other two major rating agencies -- Standard & Poor’s and Fitch -- lowered their ratings after Gov. Gray Davis announced California’s budget gap through fiscal 2003-04 had swelled to $34 billion.

“I would have to say this will have very little effect on interest rates,” said Zane Mann, publisher of California Municipal Bond Advisor. “It’s been anticipated for some time.”

State legislators have been predicting for several days that Wall Street was poised to punish California this week for not acting more swiftly to address the state’s budget crisis. But, aside from the widely expected move by Moody’s, there appears to be no movement toward further downgrades that would cost the state hundreds of millions of dollars by prompting nervous bond investors to demand higher rates of return.

Indeed, analysts for the agencies expressed optimism about the job California is doing in addressing its fiscal problems. They noted that certain state laws, such as the requirement for a two-thirds vote to raise taxes and the inability of the governor to make midyear cuts in the budget when revenues fall below projections, have historically made California slow to correct budgets that fall out of balance. The bottom line is that they expect it to take some time.

In Sacramento, meanwhile, the impasse continued between Davis and Democratic legislators over his vow to veto legislation that would triple the so-called car tax while raising $4 billion to help close the budget deficit.

The Democratic governor appeared before -- and was grilled by -- Democratic Assembly members in a closed-door meeting that went on for more than two hours -- long even by standards of the lower house.

In past meetings, Assembly Democrats were solicitous of the governor while fuming behind the scenes. On Thursday, the members met before Davis showed up and urged one another to steel themselves and to state their views clearly. Sure enough, legislators were direct, pointed and at times heated, according to those who were there.

“We made it very clear that we need the governor to be on the same page,” said Assemblywoman Jackie Goldberg (D-Los Angeles), who called it a particularly candid discussion. “Neither side felt that we were on the same page.”

One legislator was quoted as telling the governor that his plan to veto the bill to increase the car tax was the biggest mistake of his political career. Others accused him of seeming to become cozy with Republican legislators, who oppose any increase in the vehicle license fee, and reminded him that he is a Democrat and that Democrats control state government.

“It was a real debate and an honest communication of feelings and emotions regarding the impasse at which we find ourselves,” Assemblyman Mark Leno (D-San Francisco) said.

Legislators are well aware that polls show the electorate strongly opposes any car tax increase. But at least some Assembly Democrats had been convinced that Davis, entering his second and final term as governor, would sign the measure as a major step toward closing the budget gap.

“Ultimately, it was conciliatory,” said Assembly Paul Koretz (D-West Hollywood). “There was clear agreement to work together much more closely.”

Bond analysts in New York said they did not consider Davis’ threatened budget cut veto a major setback.

“What was done was, I think, not necessarily nothing,” said Ray Murphy, senior credit officer at Moody’s. “They have reached consensus on a significant number of cuts.... I think the actual reaching of consensus is a good thing.”

Murphy and other analysts said their major concern is the state’s ability to pay off $12.5 billion in existing bonds due in late June. State finance officials informed them that California will need to borrow $2 billion to $8 billion in short-term loans to make those payments. That’s an amount the analysts said they are comfortable with. But to keep it from going higher, the state will have to make at least some modest cuts by the end of spring.

“Our rating anticipates there will be some modest cuts, but not enough” to avoid borrowing at the end of the fiscal year, said David Hitchcock, director of public finance ratings at Standard & Poor’s.

The analysts did repeat their long-standing concerns about the process of balancing a budget in California, however. Those structural impediments, such as the requirement for a two-thirds vote to approve a tax increase and a tax system that is overly reliant on stock market gains, have received scrutiny from the analysts for the last several years.

Hitchcock was heartened to hear Peace say he would push for meaningful structural reform to be in place by the end of next year.

“My impression is that he wants to address the structural issues sooner rather than later,” Hitchcock said.

State Treasurer Phil Angelides said that, while California emerged from this round of meetings relatively unharmed, not taking immediate action to address the fiscal problems will have grim consequences in a few months.

“Where we can get into trouble is not moving in a timely fashion,” he said. “Anytime you are in the financial business you always want to be fighting for position and taking care of business when it needs to be taken care of.”

Angelides, a Democrat, said the hardest part of the pitch to the agencies Thursday was explaining the inability of Republicans to vote for any taxes. He said analysts “don’t live in fairy tale town” and want to see progress toward a solution with a balance of cuts and tax increases.

The analysts “want to understand what is reasonable, doable and get a measure of what kind of progress is being made,” he said. “I can’t represent in these meetings that Republicans are saying with a wink, wink, nod, nod that they will cooperate.... They have taken such an adamant position. It is very hard to sugarcoat it.”

That angered Republicans.

“It’s unfortunate Mr. Angelides is trying to shift blame from members of his own party who have failed to heed any warnings about their uncontrolled spending,” said Peter DeMarco, spokesman for Assembly Minority Leader Dave Cox (R-Fair Oaks).

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Halper reported from New York and Morain reported from Sacramento. Times staff writers Gregg Jones and Nancy Vogel contributed to this report.