Friday, July 3, 2009

California Currency - The "CC"

California officially started issuing "Registered Warrants" July 2, 2009. Some liken this to a situation in 1992-93 when there was a budget "kerfluffle" that at a cursory glance looks like the current State Budget situation. But there is a radical difference. This time around California is effectively issuing its own currency, what I call "California Currency" or "CC".

You might ask what is the difference between now and 1992-93? Well, back then the budget "kerfluffle" was as much of a philosophical disagreement between Governor Pete Wilson and the Legislature over spending policy as it was over a revenue shortfall. And at the time, California didn't have a budget. In fact, initially then State Controller Gray Davis wouldn't issue registered warrants to vendors because the State didn't have a budget.

California has a budget for the 2009-2010 fiscal year that began on July 1. It was adopted by the Legislature and approved by Governor Arnold Schwarzenegger in February. The income projections in that budget clearly won't materialize. So, lacking a revised budget, Arnold is unilaterally preventing some expenditures.

State Controller John Chiang is dealing with the fact that he must meet some expenditures with lawful U.S. currency as constitutionally required or required by federal law. Other obligations he is meeting with Registered Warrants in order to make sure he has enough lawful U.S. currency to get through December when property tax revenue will start to come in.

In other words, instead of using reserves which it doesn't have, California is operating under a budget that requires borrowing in a manner not unlike the federal government. California is just "borrowing" from vendors. local governments, and those it owes tax refunds to by issuing "California Currency."

I call these 2009 Registered Warrants "California Currency" because the situation is different from 1992-93, beginning with the fact that there is a State Budget. It's just unbalanced. It's becoming more unbalanced by $20-$30 million a day. Controller Chiang is hoping that by October the state will be in a position to issued revenue anticipation notes based on a revised adopted balanced budget which will indicate sufficient revenue that banks can anticipate being available for repayment of the notes. But four flaws exist in that plan.

The first flaw is that there may not be any chance of seeing a revised balanced budget. The budget cannot be balanced except by eliminating programs for the poor in the middle of a depression or significantly raising taxes in the middle of a depression. Neither may be an acceptable choice to enough legislators to get a budget adopted. That's why we have no revised balanced budget now.

The second flaw is that if a revised budget were adopted today, it is likely that the revenue projections will turn out to have been substantially too high by March 2010. Sales and income tax revenues are likely to continue to fall at a greater pace than projected. Property tax payments during November and December may be significantly lower than previous years. Some property tax payments will not be made in this fiscal year due to foreclosures . Many who paid in full each December will take the option of paying half with the remainder to be paid in April. Some will choose to not pay anything in December hoping to be able to afford to pay the whole amount by April.

The third flaw is that many temporary borrowing solutions to the revenue and cash flow problems have already been implemented which require repayment in 2009-2010. And many more temporary solutions outside the General Fund are going to require revenue increases in the coming fiscal years. For instance, the unemployment Fund is significantly overdrawn and is being shored up by federal funds that must be repaid from a major increase in employer payroll taxes.

The fourth flaw is that tax revenues will likely decline through 2010 and may not start recovering significantly until 2012.

In my scenario the State of California is doing what the federal government does. It is infusing the State's economy with money that didn't exist until the Registered Warrant was sent out. Since many banks will accept the Warrants and give their customers money, the available money supply will grow - temporarily.

But by September, folks will begin to realize that the state's General Fund shortfall is climbing to 33% of the adopted General Fund expenditure budget. Given the expenditures that by law the State must pay with U.S. currency, someone is bound to speculate that the earliest their could be any U.S. currency in the State's coffers available to cover the Registered Warrants is May 2011.

If and when that realization occurs, those warrants become "California Currency" backed by the full faith and credit of the State of California but not redeemable for U.S. currency any time soon. The "CC" will float against the dollar as a commodity comparable to foreign currencies. Thus a "CC" with a face value of $428.37 earning 3.75% might actually sell as a commodity in January 2010 for $405.39. In such circumstance one could say a one dollar denomination CC is worth US 94.6¢.

Perhaps this deficit spending will keep the State's economy from crashing as much as it would otherwise. That is the theory economists use for justifying federal deficit spending for the Stimulus Package. If successful, it could become routine.

I wrote this as satire with a "tongue-in cheek" attitude. I certainly hope that was the right attitude and it is not in some way prophesy.

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