State’s Cash Supply Is Dwindling Fast
The inability of California legislators to put together a fiscal recovery deal has the potential to cause major financial problems for the state.
Over the next few months, lawmakers must act quickly to find ways to keep from running out of cash in June -- when the state must repay $14 billion in short-term loans taken out to keep the state solvent last summer. Without a large bond, such as the $15-billion long-term borrowing proposed by Gov. Arnold Schwarzenegger, the state won’t have money to make those payments.
State Controller Steve Westly said California faces a liquidity crisis if action is not taken soon. “Unless we get a bipartisan solution, we are going to have a cash shortfall in June,” he said.
Many budget experts in Sacramento and elsewhere agree that trying to pay back the loans due in June without a large, long-term bond is close to impossible at this point. The state simply wouldn’t have enough cash on hand, even if it enacted massive cuts in programs and services.
One option would be for lawmakers and Schwarzenegger to agree on raising taxes. But that is unlikely because the governor has said repeatedly that he would not support a tax increase.
“If you are not going to raise taxes, you really have to go with a longer-term plan that spreads out the problem,” said John Hallacy, managing director of municipal research at Merrill Lynch in New York City. “Cutting the budget on the order or magnitude we are talking about is pretty impractical.”
The reason for that is the state already faces a shortfall of as much as $14 billion in the 2004-05 budget year. Somehow, Schwarzenegger will have to propose ways to close that additional gap when he presents the year’s budget in January.
The June deadline to pay back last summer’s loans is the reason Schwarzenegger sought to put his bond proposal on the March ballot. Unless the governor calls a costly special election, the next opportunity to bring a borrowing plan before voters would be November.
By then, the state could find itself in a cash crisis in which any new revenue that comes in must be diverted directly to the banks that hold the state’s debt, forcing some basic government services to halt.
Schwarzenegger could try to move forward with a $10.7-billion borrowing plan that was approved in this year’s budget but faces a challenge in court. The governor abandoned that borrowing in favor of his $15-billion ballot measure because it had not been authorized by voters.
Now it may be the only option for keeping the state solvent. On Friday morning, the newly created California Fiscal Recovery Financing Authority -- formed under former Gov. Gray Davis to oversee the sale of the $10.7-billion bond -- had its first meeting and decided to proceed toward selling the bond.
Administration spokesman Vince Sollitto said the decision was made to “preserve that option for the governor.”
The problem is, that bond may not be legal.
A provision in the Constitution prohibits the state from borrowing more than $300,000 to pay for routine operating expenses. The Pacific Legal Foundation is suing to stop the $10.7-billion bond. A Sacramento judge already blocked as unconstitutional a similar bond.
“The current bond scheme, signed into law by Gov. Davis, does not comply with the California Constitution,” said Arthur Mark, an attorney with the foundation. The courts are expected to begin reviewing that issue next week in a lawsuit that is expected to drag on past March.
Meanwhile, experts with Wall Street securities firms that buy and sell California bonds say they are growing worried.
In past years when the state had budget problems, California has been able to work out deals with Wall Street to roll over its short-term loans, although at a significant additional cost to taxpayers. Budget experts say it would be dangerous for the state to assume that scenario.
“Eventually, the Street could say, ‘We can’t take the risk,’ or ‘The risk is too great,’ ” said Hallacy, adding that there comes a point when banks lose faith in a government’s ability to repay them. “If you look back to what happened in New York City in the 1970s, what happened with Cleveland and other similar scenarios, the banks were suddenly not able to participate. A lot of times, that can precipitate the crisis.”
“There is not an unlimited pot of credit support,” Hallacy said. “Eventually, these numbers do have real meaning.”