"Everyone knows that when the nation is going to hell in a hand cart, California usually gets there first. "
COMMENTARY by THOMAS G. DONLAN | Editorial Page Editor of BARRON'S
MONDAY, SEPTEMBER 1, 2008 -- ARNOLD SCHWARZENEGGER FLOATED TO THE GOVERNOR'S OFFICE in California on the foam of a fiscal crisis in 2003. The "governator" replaced old what's-his-name, Gray Davis, because Davis couldn't handle the state economy. The people voted the gray ghost out of office and selected the Teutonic Republican movie actor to fix their problems.
This year, Schwarzenegger is in the middle of a fiscal crisis of his own, proving that he has no super powers. He isn't really much of a Republican, either. His firmest proposal so far is a one-cent increase in the state sales tax, already one of the highest in the country.
Everyone knows that when the nation is going to hell in a hand cart, California usually gets there first. But for those who have failed to notice the looming crisis shaping up -- not just in California but in a number of states -- we provide a summary.
On July 1, California entered fiscal 2009 without having enacted a state budget. Nothing new in that: Budgets have been late in 16 of the past 20 fiscal years. The cause was also not unusual: There was a budget gap, generated partly by the slump in housing, partly by the absence of enormous stock-market profits and partly by the ongoing boom in state spending. Nothing new in that, either.
Meanwhile, the productive, private part of California's economy has been cyclical for decades, while the unproductive government part keeps growing, and spending money it doesn't have. The size of the gap is not a record, but $15.2 billion is nothing for Sacramento to sneeze at.
The state constitution requires a two-thirds majority in each legislative house to pass a tax increase. Democrats don't quite command this level of power and, so far, Republican lawmakers have hung together and refused to raise any taxes.
Schwarzenegger hasn't even been with the Republicans in spirit. He has been more interested in a package of long-term "reforms," such as giving the governor power to make budget cuts by decree if deficits loom in the middle of a fiscal year. In addition to the sales-tax hike, his other idea for fixing the immediate crisis was to borrow $15 billion against the putative future profits of the state lottery.
To bring his unruly lawmakers to heel, Schwarzenegger refused to sign any legislation until they passed the budget. Down went several of their favorite programs, along with a couple of his, without changing the obdurate Republican bloc of tax opponents. Last week, he permitted a borrow-and-spend transportation package to go to referendum this fall.
Schwarzenegger also tried to bring the state employees' unions over to support his propositions -- by making their lives miserable. He ordered that most state workers' pay be cut to the minimum wage. (The state can continue nearly all spending on salaries and services without benefit of an enacted budget.) This was his substitute for the tactic employed by Presidents Reagan and Clinton in the 1980s and 1990s. They shut the federal government, and quickly prevailed in confrontations with Congress.
Californians, however, are made of sterner stuff. John Chiang, the state controller, who is also elected statewide, has simply refused to follow orders. First, he said the computer systems that manage state payrolls are too old and too hard to reprogram. He reported:
"In 2003, my office tried to see if we could reconfigure our system to do such a task, and after 12 months, we stopped without a feasible solution and with the knowledge that recovery for such a sweeping adjustment to minimum wage would take at least six months before all employees would see the right amounts in their hard-earned paychecks."
At first, he had said that the state's computers were programmed in Cobol, and no one was left who knew how to reprogram them. He was quickly advised that there are thousands of Cobol programmers employed in California's private sector. After that confession of bureaucratic incompetence, the controller returned to pure defiance, adding a dash of spurious econometrics:
"Aside from the expense of costly and lengthy litigation over my authority to pay state workers their full wages, [the governor's] move would harm thousands of families who already are struggling with mortgages and higher gas, food and energy costs. The loss of their spending dollars will increase the loss in consumer confidence, and further deteriorate California's fragile economy."
The Republican legislators, meanwhile, haven't proposed any spending cuts to take the place of the tax increases they so abhor. Their plan is to have no plan, which means following the examples set in previous state fiscal crises, and borrow, borrow, borrow.
That's the news from the left coast. Across the country in New York, things are not much better. The golden goose of Wall Street has stopped laying eggs that the city and state can tax. In particular, Wall Street bonuses and investment profits are so heavily taxed that the revenues make up 20% of the whole state-tax take. Wall Street bonuses, however, are somewhat dependent on Wall Street profits, and Wall Street has been busy making losses on mortgages.
Faced with a $6 billion shortfall in the current $121 billion budget, state legislators have been casting about for other things to tax, such as incomes over $1 million and cigarettes sold on Indian reservations. Spending cuts aren't an issue because every legislative seat is at stake in this fall's election. Few want to face voters without bearing grifts from Albany.
Gov. David Paterson, who is not currently up for election, also waffled. He called for painful spending cuts, and agreed to a large pay increase for the state troopers' union to match other big pay hikes negotiated under former Gov. Eliot Spitzer. He is in favor of limiting taxes, but only the property taxes levied by local governments.
Paterson called the legislature back to Albany recently to deal with the $6 billion problem, and presided over victory celebrations when the legislators agreed to somewhat more than $425 million of reductions in planned spending increases.
New York and California are leading the way off the fiscal cliff; other states are sure to follow.