Underlying Ills Push Counties to Edge of Fiscal Cliff

The leaders of rural Merced County never gambled the treasury on Wall Street, loaded up on slick investments or fretted about the erratic path of interest rates.

But this dairy farming region in the San Joaquin Valley shares an uncomfortable link to its counterpart of Orange County, 300 miles south: Merced teeters on the edge of its own financial cliff, and awaits a $5.9-million relief deal with the state.

“It’s a Band-Aid,” said Clark G. Channing, Merced County administrator, referring to the deal being negotiated with the governor’s office. “I call the system that we’ve got ‘structural anarchy.’ ”

Although public attention has been riveted on the investment strategies of Orange County and a handful of other counties, an underlying financial malaise--unrelated to wheeling and dealing on Wall Street--has bedeviled them for years. The fiscal crunch has sparked a range of responses, with only some counties dabbling in tricky financial markets.

But they are faced with a common set of culprits: Deep recession, a shrinking base of defense factories and an out-of-whack system of taxation and spending that have combined to threaten their health in the 1990s, according to experts on public finance.

Eight counties, including Merced, sought relief this year in a bill that Gov. Pete Wilson vetoed in September. “We call it death by attrition,” said Dan Wall, a tax lobbyist for the California State Assn. of Counties.

The ailment quietly spread in the 1980s, as counties confronted rising costs for health, welfare, courts and prisons. At first, though, a booming economy concealed the problem.

Helter-skelter development brought a rainfall of money to many regions. New residential communities, shopping malls and office buildings meant a windfall of property tax revenues. Confident consumers bought lots of cars, enhancing the counties’ take from motor vehicle license fees. Sales taxes and other cash sources pushed ever higher.

But even in the boom times, county governments were quietly losing control of their financial destiny.

Proposition 13 had capped property taxes rates, the counties’ key source of income, in 1978. Social changes were reflected in costly new demands on county programs--demands that the counties legally had to meet.

“Our welfare and health caseloads have continued to grow,” Wall said. “The work of the courts has continued to grow. The population in our jails has continued to grow. And the revenue is not keeping up.”

The squeeze hit different counties in different ways. As rents skyrocketed in the 1980s, many low-income Californians emigrated from cities in search of cheaper living costs, saddling rural regions with unprecedented--and unplanned--social costs.

The first warning came from Butte County, a rice-growing region north of Sacramento.

The welfare load skyrocketed 136% as a new population of the poor moved in. Desperate to make ends meet, Butte officials cut the county work force to a four-day week. Emergency service vehicles that had gone 350,000 miles were kept on the road.

By 1989, Butte was on the verge of bankruptcy. Gov. George Deukmejian agreed to an $11.1-million bailout. And to this day, the financial situation is shaky.

“The fiscal relationship between rural counties and the state of California is broken,” said Dick Puelicher, county treasurer. “It can’t continue.”

One year after Butte’s brush with disaster, the entire state began to suffer from recession, and financial fallout landed on counties big and small.

Once-reliable income sources began to plunge. Property values-- and taxes--sank, and development screeched to a halt. In order to balance the state’s beleaguered books in the early 1990s, the Legislature began shifting increasing amounts of property tax payments from counties to the state.

The annual amount has reached $2.5 billion, with slightly more than that offset by added sales tax revenues.

Some analysts maintain that in effect, tough times called for tough remedies and the counties should have aggressively cut their own costs. Clearly, such efforts were not always undertaken.

County government job rolls rose from 14,800 to 17,600, while most other gauges of the local economy were sinking, according to Esmael Adibi, director of the Center for Economic Research at Chapman University in Orange.

“They continued business as usual in spite of the recession and the shrinking of their tax base,” Adibi said. “How were they able to finance it?”

Clearly, the promise of sky-high returns from exotic investments can be alluring to local officials who are aware of the public’s distaste for higher taxes or service cutbacks.

“Is it an excuse?” asked Jeffrey I. Chapman, an economist at USC’s Sacramento Center, referring to risky investments of public money. “No--but the pressure is still there.”

By contrast, smaller counties with smaller economies have had fewer opportunities to generate savings than their bigger counterparts.

Merced County was staggered by the property tax shifts in 1992 and 1993, in which its local haul was cut in half--to $11 million. Consequently, the financing of basic services has taken on a crisis atmosphere. These days, community volunteers help staff the libraries, sheriff’s office and parks department.

About 15% of county government jobs have been eliminated, salaries were trimmed and the retirement program was scaled back. At the same time, welfare costs have soared, driven in part by the unexpected arrival of a 10,000-member community of Southeast Asian refugees.

“We’ve taken things down to what we can achieve,” said Channing, who expects a relief deal with the state to be reached relatively soon. “If we couldn’t get the $6 million restructured, we’d be a basket case.”

The Byzantine nature of public finance in California only exacerbates such problems, economists said.

Over the years, the state has attached more strings and provisos to county revenues, increasingly dictating what the money must be spent on and leaving local officials with control over an ever-dwindling share of the pie.

Today, counties typically have sole discretion over 5% or 10% of their total spending, with state and federal mandates prescribing the remaining priorities.

One example: When the state reimbursed counties for more than $1 billion of the property taxes taken away in the early 1990s, the money came with a proviso--it had to be used on public safety.

The incredibly complex system of rules often leads to confusion. “Nobody understands what’s going on. I don’t understand it--and I’m supposed to understand it,” Chapman said. “It’s frustrating.”

For all that, few would blame the state’s curious budget system for the Orange County bankruptcy. Nor would they suggest that fiscal pressures justify plowing tax money into unwise investments. Orange County, by virtue of its large and growing economy, was better able to withstand the ongoing pressures than many of its counterparts.

“Don’t blame the tax structure” for Orange County’s woes, said Larry McCarthy, president of the California Taxpayers Assn., a pro-business group that resists tax increases. “It’s not a tax structure problem. It’s not a revenue-flow problem. The problem is financial mismanagement.”

Still, some analysts believe it is important to recognize that a climate of financial shortage lasting for years has placed pressure on government officials to scramble for ways to enhance income. Slashing government costs, although popular with many people in the abstract, is inevitably controversial when the subject boils down to specific programs.