Taunter Media

The financial crisis has affected all state budgets, but no state quite as enormously as California.

The state has endured the perfect storm: the legacy of the 1978 tax revolt, a liberal, growing population that governs through direct ballot initiative, high sales and income taxes that threaten to tip businesses and commerce out of state, a property bubble that found its root in a psyche that assumed the good times would last forever, intractable public employee unions, a Republican minority that is as pure in its determination to say no as Bartleby the Scrivener…

We shall see if the Federal government bails out the state.  The White House opened with a rejection, but it will be sorely tested as time goes by; if the government was afraid of the electoral consequences of letting the UAW ride unprotected through bankruptcy court, imagine how it relishes the prospect of getting crosswise with the largest electoral vote block in the US.

Short Term

There is a fantastic website run by Next Ten that lets you play along at home and try to balance the CA budget yourself.  Since the legislators don’t seem to approach the topic with any level of seriousness, go ahead and consider yourself qualified.

Unfortunately, given the current state constitution, there isn’t much to do except cut everything and hope for the best.  From a baseline projection of $94.8bn of revenue and $122.4bn of expenditure, I moved it to $113.5bn of revenue (adding a gas tax, carbon tax, and more frequent reassessments of non-residential property) and $113.8bn of expenditure (cutting K-12 education, imposing higher college fees, removing undocumented immigrants from Medi-Cal).  It’s a stopgap fix.

Medium Term

The core of California’s budget problems is Proposition 13.  Passed in 1978 as a method of removing the “unconscionable” budget surpluses that California was running, P13 caps the property tax at 1% of the value at the time of purchase (it also allows a transfer within a family without basis step-up).  You might think that voters would see the obvious unfairness of a situation where neighbors in identical houses pay dramatically different taxes to use exactly the same services, but Californians seem to like the system.

That is probably because folks do not understand the connection between low property taxes and the fact that the state has the highest sales taxes in the US and the second-highest income taxes; being smart has never been a prerequisite for moving west.  Indeed, being “smart”, as conventionally understood, has likely been to a disadvantage in CA. While finance students would argue the benefits of diversification and point out that houses do not gain in productivity, a simple strategy of buying a place on the water in 1970 and holding has seen the government intervene to roll back property taxes, limit competition (thank you, California Coastal Commission, for making restraint of trade into an environmental issue – all the inland greens don’t even understand why they can’t afford to live by the water), and pump endless dollars into tax deductions and other benefits for house ownership.  Short of starting a tech company or a hedge fund, about the highest ROI game going, and it’s much more fun to hang out by the beach in Dana Point than pack in with the nerds in a Sunnyvale garage.

Beyond Proposition 13, the other hidden revenue source for the state is oil.  Alaskans and Texans play up their states’ hydrocarbon industries, and Californians have kept theirs on the DL ever since the Santa Barbara oil spills, but California is the nation’s third-largest oil-producing state, cranking out ~230mm barrels a year.  It’s a declining series of fields, and only about 60% the size of Texas (390mm bbls), but still larger than #4-6 states put together (Louisiana, New Mexico, Oklahoma).  An Alaskan oil-severance tax of 25% of wellhead value (less cost of production and transport) probably kicks off $1.5bn/year at today’s low oil prices, and if and when prices rise, could offer some dramatic deficit reduction.

None of these revenue-enhancing measures will do much for state finances without some ability on the part of the state to live within its means.  After all, these are the people who thought it a good idea to offer illegal immigrants Medi-Cal coverage.  Note that Texas – another large state with a diverse population – manages to operate a balanced budget despite receiving even less help from the Federal government ($0.88 instead of $0.91 per dollar sent to Washington).  When you are less efficiently run than a state that twice elected Dubya and sent Lyndon Johnson to the Senate knowing that he had stolen the election…

At the very least we might hope that the K-12 schools, which occupy fully 40% of the state budget, could be reformed by forcing the teachers’ union to accept merit pay and a serious policy of testing and laying off underperforming teachers and administrators.  Since the teachers vote, and the voters seem unable to understand that the teachers’ union is an advocacy group for the benefit of teachers – not students (sort of how the AMA is an advocacy group whose interests are diametrically opposed to the interest of patients, but folks like doctors and overlook the conflict) – it hardly seems likely.

Long Term

In the long-term – hopefully somewhere between the amount of time necessary to repeal Prop 13 and the time we are all dead – the state should break up.  There are various proposals; here is mine, which conveniently avoids tipping the Federal balance of power by creating one reliably Democratic state, one reliably Republican state, and one toss-up.  My new states:

Redwood: Alameda, Contra Costa, Del Norte, Humboldt, Lake, Marin, Mendocino, Monterey, Napa, San Francisco, San Mateo, Santa Clara, Santa Cruz, Solano, Sonoma, and Trinity counties.  8.0mm people, the global home of the technology industry and a major exporter of marijuana.  Sort of like Norway with an ice-free coastline, and probably the most socially liberal state in the US.

Paradise: Los Angeles, Orange, San Diego, San Luis Obispo, Santa Barbara, and Ventura counties.  17.3mm people, the fourth-largest state in the US (after TX, NY, FL) occupying the global essence of the California brand and one fantastic piece of waterfront real estate.  A bit less tied to the knowledge economy than Redwood, with media, oil, defense, and just plain real estate competing for pride of place with an attitude that, as Eric Neel described the crowd at an Angels game: “there is a particular brand of breezy southern California cheer — it’s a function of knowing, without ever booking a flight, or taking a step, that if you traveled the world over twice. you wouldn’t find any place you’d rather be.”  Socially liberal and fiscally conservative, it’s a battleground state off the bat.

Yosemite. Everywhere else, and a bit tired of being treated that way.  Alpine, Amador, Butte, Calaveras, Colusa, El Dorado, Fresno, Glenn, Imperial, Inyo, Kern, Kings, Lassen, Madera, Mariposa, Merced, Modoc, Mono, Nevada, Placer, Plumas, Riverside, Sacramento, San Benito, San Bernadino, San Joaquin, Shasta, Sierra, Siskiyou, Stanislaus, Sutter, Tehama, Tulare, Tuolumne, Yolo, Yuba counties.  11.4mm people in a massive Western state.  Perhaps the finest agricultural land on earth, with hard-right landowners and establishment coming into conflict with a large and growing Hispanic population.  As Republican as the rest of the West, which is to say people like to be left alone as long as the government shows up and digs irrigation canals and builds power plants.  Without the money coming from the coasts, it will be interesting to see how the state arranges its affairs.  The biggest threat to an R vote is probably the often-discussed and never-seen California bullet train; if high-speed rail ever runs the Central Valley connecting SF and LA, all of a sudden Fresno is a cheap place to live with good access to each urban center.

We haven’t broken apart a state since Virginia spun out West Virginia at the beginning of the Civil War, and that hardly did us any favors.  In this case – and, indeed, in the case of the other large, diverse states (TX, NY, FL) – a breakup would be a great thing.  California is so large that each of its three successor entities would be a larger-than-average state, and surely if anyone had had the foggiest idea that the state would be so populous it would have entered as multiple states.  After all, North Dakota and South Dakota as separate states, despite the fact that the two don’t add up to the population of Santa Clara County, and pretty much the entire northern Plains wouldn’t add up to Los Angeles County.