California’s governer declared a state of “fiscal emergency” after lawmakers failed to agree on a budget plan by the deadline on Wednesday, Reuters reported.
From Reuters:
California’s lawmakers failed to agree on a balanced budget by the start of its new fiscal year on Wednesday, clearing the way to suspend payments owed to the state’s vendors and local agencies, who instead will get “IOU” notes promising payment.
The notes would mark the first time in 17 years the most populous U.S. state’s government would have to resort to the unusual and dramatic measure and would follow warnings by Wall Street that the state’s credit ratings may be lowered, which would increase its borrowing costs.
…
Democrats, who control the legislature, could not convince Republicans late Tuesday to either back their plans to tackle a $24.3 billion budget shortfall or make a stopgap effort to ward off the IOUs. The two sides agree on the need for spending cuts, but are split over whether to raise taxes to help fill the gap.
Democrats have pushed for new revenues while Republican lawmakers and Governor Arnold Schwarzenegger, also a Republican, have ruled out tax increases. They want deep spending cuts to balance the budget, but Democrats say that would slash the state’s safety net for the needy to the bone.
The FT reported earlier on Wednesday that the first batch of “California IOUs” were already off the printing presses:
With the state teetering on the brink of fiscal collapse, the controller’s office is scrambling to issue about 30,000 IOUs, which California is offering instead of tax rebates because it has run out of money.
Thousands more IOUs will be printed over the next days and weeks if a budget deal cannot be struck.
The state is preparing to issue IOUs equivalent to a month’s worth of funding – or $591m – for programmes that provide supplemental income to the elderly. Another batch, worth $363m, will be issued to a network of regional non-profit centres across California that work with the developmentally disabled.
But those IOUs might not be so easy for recipients to cash in, according to a post by Reuters columno-blogger Agnes Crane:
With the California controller getting ready to send out the first batch of IOUs on Thursday, banks in the state are still trying to figure out if they want to buy the warrants from depositors. If they decide not to, get ready for crunch time and most likely the emergence of some kind of distressed debt market that will scoop up the IOUs – at a price – from those desperate for cash.
Just because the IOUs are sent to a specific person, business or local government doesn’t mean that they can’t be traded in or simply just traded. Whoever ends up holding them by their maturity date can redeem them with the state. And there’s certainly enough IOUs coming down the pipeline to make for a nice liquid market.
But, Crane warns, there’s a catch:
California will stamp an Oct. 1 maturity date on the IOUs, but will only redeem them if there is sufficient cash available.
That adds another layer of risk given the gridlock over the budget and the more than $24 billion gap that needs to be closed by lawmakers and a governor who can’t agree on where the pain should be felt most. It also means a logistical headache for those holding the IOUs since presumably they would have to send in the old IOUs to get new ones if the state coffers are still empty.
Related links:
“America’s largest state is nowhere near default on its $70bn in debt” – Lex
California: “insolvent within weeks” – FT Alphaville (Jan 09)
The Governator: “I’ll pay you back” – FT Alphaville (Dec 08)