I’ve seen a bit of confusion in traditional media accounts of California’s budget situation, and whether or not the state should receive a federal bailout.  This seems to go toward the idea that without federal aid, California will default on its creditors and go bankrupt, and the federal government has a compelling interest in keeping that from happening.  You can argue whether or not it would actually make sense for the state to default – it certainly worked pretty well for Argentina, despite neoliberal fuming to the contrary.  And as noted by Peter Schrag in the above-linked entry, the Governor has never asked for any help of this kind, and given his status as a born-again Friedmanite, would probably reject it.  But Paul Kedrosky, who has read the relevant law, explains in a piece supporting default that California really cannot do so.

The root issue, of course, is that California is insolvent, and irritating people like S&P analysts keep noticing. The state — let’s call it Latvia by the Pacific — has a $24-billion budget gap that must be closed for it to continue operating (and I use that word advisedly). Without a clear sense of how that will happen rational creditors are going to be increasingly skittish about filling the hole. Now, does that mean California can’t sell enough bonds to backfill the gap this time? You bet it can, and it will. This is part Schwarzenegger/Lockyer Financial Theater, and partly a laughably transparent attempt to demonstrate budgetary semi-competency in hopes of a few basis-points of relief on the inevitable bond sale. That’s all.

Because California has $5.7-billion in debt servicing obligations. And while that will grow, debt occupies pride of place in California’s constitution — only education must be paid off before the next slug of cash goes to creditors. Get that? Healthcare, prisons, and other frivolities can all go to rack and ruin, but creditors must be paid, constitutionally speaking. That means, if you’re looking at this through the gimlet eyes of muni-bond ghouls, that California has something like $50-billion in budgetary space to make its $5.7-billion in payments. It’s pretty easy to calculate that California can make the payment nut, even if it has to close hospitals, release prisoners and stop patrolling the highways to do it.

Now, Kedrosky thinks this is theatrical and should not be rewarded.  I say it’s the perfect reason for California, and actually all states with this kind of constitutional arrangement, to receive those federal loan guarantees to stop gouging from Wall Street for short-term bonds.  Not only do Schwarzenegger and Lockyer know we have to pay back all out debt, so do the bondholders and the rating agencies.  It’s almost literally impossible for us to default on those bonds, short of the entire state’s residents spontaneously getting fired at once.  If those loans will obviously get paid back, the interest shouldn’t be set at payday-loan rates.  And the federal government could very easily remedy that situation, at no cost and probably at a profit, as they reaped from the loans to New York City in the 1970s.

Is it a problem that California operates at the mercy of its creditors?  In a sense.  Is there a remedy?  At the least, there’s a way to get some equitability into the process so that we aren’t blowing money on Wall Street firms who have been bailed out by those same Feds ten times over.  In addition, this kind of thing weakens the municipal bond market, and the federal government has an interest in keeping credit flowing through that.

…H/t to John Myers for tracking down the obviously dubious story about Washington rejecting California officials clamoring for a “bailout”.  Nobody was doing any such thing.  They were asking for loan guarantees, which they’ve been doing for months and months.  Horrible reporting from WaPo.  

We had, and continue to have, an unfortunate situation where a good deal of our staff, including myself and Robert, were out of town at a crucial time for California and its budget problems.  Robert will return at the end of the month.  For myself, it’s good to be back and delving into this all again.

I have about 30 posts I want to write about the developments of the past week and a half, but I want to try and alleviate the confusion over that Washington Post article stating that the Obama Administration spurned a request for aid for the state.  Outside of Zoe Lofgren, a Congresswoman, nobody is named in this request, nor is the request defined.  It refers late in the article to one letter from Bill Lockyer to Tim Geithner that appears to reference federal loan guarantees, which is, again, not a bailout.  And the Governor has tried to rule out borrowing to deal with the cash crisis anyway.  So I question whether anyone has discussed any kind of dollar transfer from the federal government to California at all.  I think this article hangs on an extremely thin reed.

Now, I do think the government should consider offering loan guarantees, to stop the gouging of California going on from Wall Street.  But I do not think that California progressives should WANT a “bailout” in the more traditional sense.  It sounds like it would be a nice and tidy solution, and maybe the strings attached could make it easier for the state to get its business done.  But that’s very speculative, and so we have to consider who such a solution would bail out.  Clearly, it would bail out the failed Democratic legislature for refusing to lead and take a long-term view on reforming the state governmental process to allow a return to stability.  We know that, with revenues dropping like a rock, in six months the projections will fall short again.  They have for about 15 straight months.  Which means what, another bailout?  That simply isn’t a long-term, sustainable solution.  Some may say that it would keep the poor from dying, but it seems to me it would only delay such an outcome.  Heck, we know that California last issued IOUs during a budget crisis in 1992, during a MILD recession.  The structure of state finances simply means that we will lurch from crisis to crisis forever without a permanent fix.

We have solutions and we know what they are; there’s really no mystery, other than the fact that legislative Democrats refuse to dare speak their name.  A federal band-aid would delay those solutions once again, as they have been delayed for 30 years.  We simply will never fix this if we keep deferring the California dream and persuading others to mop up the mess caused by failed leadership.

More generally, a while back on Calitics (can’t find it right now) I argued for a permanent federal fiscal stabilization fund that could be tapped if deficits hit a certain percentage.  States could contribute with a federal match at 6:1 or something.  We need to permanently end the paradox of state budget cuts during an economic downturn, and it should not be a stopgap fix.  If people want the federal government to help, it should be mechanized and durable, and enhance economic recovery by kicking in when recovery is needed.

This may be a contrarian view, but I think a bailout would delay the changes desperately needed, nor would it even help the most vulnerable in society over the long-term or even the short-term.  We need to deal with the problem at hand.

I heard a bunch of California Republicans yesterday talking about the effort to get the US Treasury to backstop state borrowing as a “bailout,” and the media has fallen for it, using phrases like “California is too big to fail” and other snickering.

This is ridiculous.

Let me explain this fairly clearly.  California will need to borrow billions of dollars to cover their cash flow issues, the same way they do every year.  Traditionally, the money comes in at different times then the money goes out, necessitating short-term borrowing.  Because of the state’s miserable credit rating, the interest rates that investors charge for this borrowing are ridiculously high.  Usually, banks guarantee those loans, but this year they are balking because of the severity of the state’s fiscal picture.  So the state has asked the Treasury to step in and guarantee the loans instead.

This would cost the Treasury Department approximately $0.00 dollars to perform.  Providing loan guarantees simply means that you are insuring against default, which has never happened in the history of California.  Not through the Depression or at any other time.  What this would do is stop Wall Street from gouging the state with abnormally high interest rates, pure and simple.

Here are the words of an idiot:

Rep. Jerry Lewis (R-Redlands) predicted little sympathy for the Golden State on Capitol Hill. “I have the feeling that it’s going to be a long time before Washington decides that they’re going to ask Kansas or Wisconsin to help with California’s funding problem,” he said.

Nobody would be helping anybody.  The federal government would guarantee loans that California would pay back.  This is about lowering interest rates to make the price of short-term borrowing lower.

I understand that President Ford rejected these types of loan guarantees for New York City in the 1970s.  But later he approved them.  By the way, after that so-called “bailout,” every single dollar was repaid by the city of New York.  How on earth could this be characterized as a bailout?  

The Ford Administration, under the direction of Treasury Secretary William Simon, imposed certain conditions on the loan guarantees (which will actually delivered directly by Treasury, so this is somewhat different).  That could also happen here, and the Shock Doctrine possibilities are not pleasing.  Still and all, this savings (which would only represent about $1 billion dollars in all, 1/20 of the current deficit) would not cost the federal government one red cent and thus shouldn’t be used to cram down California in a punitive way.  The possibility exists, but it’s worth the risk.

UPDATE: Presumably because reporters still don’t understand this, Tim Geithner gave an answer today to a question no state was really asking which is being spun as the end of this option, when he plainly states its possibility.

Treasury Secretary Timothy Geithner said the U.S.’s $700 billion financial rescue package can’t be used to aid cities and states facing budget crises.

The law “does not appear to us to provide a viable way of responding to that challenge,” Geithner told a House Appropriations subcommittee in Washington today. Among the hurdles: Money from the Troubled Asset Relief Program is reserved for financial companies, he said.

The Treasury chief said he will work with Congress to help states such as California that have been battered by the credit crunch and are struggling to arrange backing for municipal bonds and short-term debt.

He added that cities and states need to “get deficits down” to aid their credit worthiness, but absolutely did not take the option off the table.

The CA-32 race to replace Labor Secretary has less than six weeks to go until the primary.  We know about the two major candidates; Board of Equalization member Judy Chu (not to be confused with Betty Chu, who will appear directly above her on the ballot and surely cause some errors among voters) and State Senator Gil Cedillo, whose extreme spending of campaign contributions on shopping, meals and lavish hotels made the LA Times this weekend and caused a stir.

Somewhat less remarked-upon has been the candidacy of Emanuel Pleitez, a product of East Los Angeles and Woodrow Wilson High School, who matriculated at Stanford, joined the advisory board of Voto Latino (a group that encourages voter registration and engagement for the Latino community), worked for Democratic lawmakers like Antonio Villaraigosa, Tom Daschle and Hillary Clinton, and worked on the Obama transition team at the Treasury Department.  On Friday I had the opportunity to chat with Pleitez about his life experiences, the financial crisis, housing policy and a host of other issues.  A paraphrase of that conversation follows.

(As a side note, this story about one of the volunteers on the campaign, who traveled all the way from Santiago, Chile to work on it, is pretty amazing.)

Calitics: Tell me about your experiences that have brought you to this run for Congress.

Emanuel Pleitez: You know, after college and working in the private sector at Goldman Sachs, I was able to travel a lot.  And I think visiting 27 countries gave me a new perspective on what the challenges are out there in the world.  When I would go to South Africa or India, China, Brazil, I would visit the universities, and the slums, and see their struggles, and it really made me think about the issues of global poverty.  I even drove a taxicab in Myanmar!  And what I took away from all that is that the best way to create change is to start in your own backyard.  And that’s what we’re doing in this campaign.

Calitics: So how are things going?

EP: Well, we have 25 full-time staff working every day.  And our main focus is door-to-door, face-to-face contact.  We’re out canvassing every day.  A lot of people tell me that they think we’re the only candidate in the race, because we’re the only one they see.  So we feel pretty good about our position.

Calitics: Now, you worked on the transition in the Treasury Department, and one central concern that a lot of people have had with Treasury is the lack of staffed positions at the undersecretary level, and the belief that Tim Geithner has basically had to go it alone over there.  How should people look at the transition’s performance in that respect?

EP: I agree with that criticism of Treasury.  I had nothing to do with personnel, I worked in other departments.  But there are many reasons for the lack of senior staff, and I wouldn’t discount the ability and importance of the career civil servants working in the Department, who are doing a fantastic job.

Calitics: This week, the Congressional Oversight Panel released a preliminary report on the TARP program and Treasury’s performance, and they were highly critical of the lack of transparency and clarity over some of these programs, as well as a lack of accountability for the big banks.  How would you assess the various programs offered to this point?

EP: I don’t have all the details of the COP report.  My inclination is to defend Secretary Geithner, but I want people to be critical.  I think what he’s trying to do is return confidence to the markets and get credit flowing again, and we’re seeing signs that the plans are starting to work.

Calitics: How would you approach the situation with the banks.  Would you just recapitalize them forever, or seek a Swedish-style receivership or a liquidation of the insolvent firms?

EP: I would consider a receivership, but I wouldn’t make that the first thing on the table because of the expense involved and the danger to the markets.  But clearly, recapitalization alone won’t work, that’s just making capital disappear.

Calitics: What’s the biggest problem in the economy that we’re facing at this point?

EP: The biggest problem is the foreclosures right now.  Some of them are in rural districts are suburbs and they’re second, third and fourth homes, but for families in urban districts like mine, a foreclosure means the loss of everything you’ve got.

Calitics: Would you support bankruptcy judges being able to modify the terms of a primary loan for borrowers?  Isn’t there a problem with modifying securitized loans, in that the people holding the securities that have been modified can sue the loan servicers for illegally changing the terms of the security?

EP: That is a problem.  But as I understand it, cram-down is more of a threat to incentivize loan modifications and keep people in their homes.  Which is what we have to do.  Investors will get hurt anyway if the loan forecloses.  Somehow, the lenders and the investors and the home-owners have to come to an accommodation, and in that process the primary goal should be keeping people in their homes.  I wasn’t initially open to principal write-downs, but I am more so now, because we’re seeing that the interest-only modifications are not working, and people are being forced into foreclosure just a few months later.

Calitics: What are some of the other challenges facing the economy that you want to deal with in Congress.

EP: Obviously, we still need major stimulus to save jobs and transition into a new economic future.  A large part of my district is at or near the poverty rate, and we need help in these tough economic times.  I expect another trillion dollars to be spent by the government.  In my district, we need investments in public transportation and clean energy programs to reduce emissions and create manufacturing jobs.  There’s a program here called “La Causa,” which targets the high school dropout rate, and gets those kids into vocational programs for green jobs, whether it’s solar panel installation or something like that, so that they can be prepared for the 21st century economy.  We need more of that.  And we need investment in education, because any dollars spent get the greatest return in education.

Calitics: Do you plan on joining any ideological caucus in Congress?

EP: I haven’t really given it much thought, but I don’t think so.  I think all political is local, and I’d rather focus on helping my local community and responding to the concerns of my district.  Maybe I’ll join the Congressional Hispanic Caucus, that should be safe for me.  (Laughs.)

Calitics: Well, thank you for talking to us today.

EP: Thank you.

The economic recovery that is currently being bandied about in Congress, particularly in the House, would deliver $4.5 billion dollars for infrastructure projects to California.  That’s 10% of overall infrastructure spending, which is in line with our population, but the overall pot for infrastructure is too small nationwide, and that kind of relief is not enough to make a dent in the budget nightmare.  The fact that money for tax cuts designed to snare Republican votes is crowding out infrastructure spending and job creation contributes to this, but the other problem is the deteriorating nature of our infrastructure, which could cost half a trillion dollars to fix properly.  All that money doesn’t have to come from the Feds, but with the bond markets unwilling to deliver for California until a budget solution is made, $4.5 billion over two years is a drop in the bucket, and the problem will grow worse.  This shows why floating bonds is a horrible way to fund government.

The report cites California’s dependence on bond financing as a chief reason the state can’t meet its infrastructure financing needs. California has increasingly used borrowing through state general obligation bonds to finance infrastructure projects. But the need for infrastructure investment far exceeds the capacity of these bonds, according to the report, Paying for Infrastructure: California’s Choices. Years of declining investment have left the state with crumbling classrooms, congested roads, and an aging levee network that puts many homes and businesses in harm’s way. Problems in the government bond market are making it more difficult to sell the bonds already authorized, and in the long term, large projected budget shortfalls will limit the state’s ability to rely on these bonds to meet California’s future needs.

We can of course see this right now, and the effects are widespread.  With the bond markets frozen, environmental projects all over the state have to be shut down, having a very real impact on the environment and public health.  Forget the more innovative projects we’d all like to see strengthened with fiscal investment – like the growth of the solar industry and even wave harvesting, the type of green jobs that can save our economy – we’re not even going to be able to clean the ocean this year.

If swimmers in Santa Monica Bay bump into trash or bacteria this summer, one culprit will be California’s budget impasse.

Hundreds of millions of dollars worth of voter-approved projects have been halted because of the state’s financial problems. That includes $12 million that the Santa Monica Bay Restoration Commission was counting on to prevent dirty storm water and filthy runoff from draining into the bay.

“People expect to be able to enjoy the beach and not come home sick,” said state Sen. Fran Pavley (D-Agoura Hills), chairwoman of the state Senate Water and Natural Resources Committee.

The money freeze has immobilized construction of new biking trails along the Santa Ana River in San Bernardino and Orange counties. It has stopped plans to tear down the Matilija Dam in Ventura County and restore the sediment-filled Matilija reservoir. It has impeded efforts to boost the populations of salmon and steelhead trout off the coast of Los Angeles and Ventura counties.

These are not small inconveniences.  A new report from Brigham Young University scientists shows that cleaner air, for example, has a direct effect on increasing the lifespan of a population.  There is a cost to bad borrowing.  If we can’t fund infrastructure, the ports and the oceans don’t get cleaned.  Smog reduction projects may shutter.  The air gets dirtier.  And you die three years earlier.

California’s delegation needs to push for General Fund relief in the recovery package, as well as federal guarantees for our municipal bonds, which would frankly jump-start projects faster than anything.  If it’s good enough for the banks, it should be good enough for California.

UPDATE: OK, the CBPP has a more comprehensive report, and the numbers are much more in line with current needs.  They predict that California will get $11.1 billion in increased Medi-Cal spending, and $7.8 billion from a new State Fiscal Stabilization Fund, in addition to the infrastructure spending.  That approaches $20 billion over the next two fiscal years.

Now THAT’S better.

The Senate passed the bailout bill, with 2/5 of the DeFazio plan embedded – the raising of FDIC insurance limits, which was long overdue, and the ability for the SEC to suspend mark-to-market accounting, which is some kind of fairy tale.  It also includes all kinds of other legislation, like a tax package which is mainly focused on renewable energy tax credits, the only – I repeat, only – provision through all of this which could grow the manufacturing sector and reindustrialize the country (which is, you know, the key to America’s economic survival).  It actually RAISES taxes for oil companies as well.  I don’t think “Exempt from excise tax certain wooden arrow shafts for use by children” needed to be in there, but hey, it’s Congress!

The Senate jammed the House pretty good on this one, and I think they’ll eventually comply.

My Senators, Boxer and Feinstein, both voted for it, which shows that this cuts across ideological lines.  And yet I can’t argue with a word Russ Feingold says here:

“I will oppose the Wall Street bailout plan because though well intentioned, and certainly much improved over the administration’s original proposal, it remains deeply flawed.  It fails to offset the cost of the plan, leaving taxpayers to bear the burden of serious lapses of judgment by private financial institutions, their regulators, and the enablers in Washington who paved the way for this catastrophe by removing the safeguards that had protected consumers and the economy since the great depression.  The bailout legislation also fails to reform the flawed regulatory structure that permitted this crisis to arise in the first place.  And it doesn’t do enough to address the root cause of the credit market collapse, namely the housing crisis.  Taxpayers deserve a plan that puts their concerns ahead of those who got us into this mess.”

This is all true, and this was ultimately a bad plan, but I respect the opinion of hold your nose caucus as well.  I would have preferred a short-term fix with a vote giving a popular mandate to the solution.

Because right now the public opinion situation is very muddled.  People absolutely believe this is a crisis and they might not want to bail out Wall Street but they are adamant that something be done.  This is acute in California.  The state, with its emphasis on selling bonds and borrowing, is currently unable to pay its bills.  Bonds for highway construction, schools, housing and water projects cannot be sold.  The credit crunch has real-world effects.  This is why the Governor wrote the Congressional delegation and urged passage.  This is also why you don’t run a government based on borrowing, but there you go.

And so you have the fascinating and strange situation where Democratic challengers in Congressional races are hammering their incumbent opponents for voting yes AND voting no on the House plan.  On the side of “how could you vote for this” are Bill Durston (who rushed out an ad hitting Dan Lungren for voting yes) and Ed Chau (who slammed Gary Miller in a press release).  On the side of “I can’t believe you didn’t vote for this” are Nick Leibham, who couldn’t have been more exercised about Brian Bilbray’s no vote (calling it “totally irresponsible”) and Charlie Brown, who defended the need to do something against nutjob free market fundamentalist Tom McClintock.

And then you have Russ Warner, who cited David Dreier’s hypocrisy while saying he would have voted for the bill as well:

Warner’s campaign pointed to a conflicting statement on Dreier’s website, where the 13-term incumbent writes, “I believe we need to empower families to make sound economic choices and avoid taxpayer funded bailouts.”

While Warner says he would have voted for the bailout bill as well, his campaign attacked Dreier for changing his position.

The point is that no politician has any idea what the people want, and the decision-making process is exceedingly complex.  Those who are taking principled stands are likely to be rewarded and those taking political ones punished, but even that is unclear.  I would steer clear of making definitive statements about the public mood; chances are they don’t even know what they think.