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As California’s Economy Goes, So Goes the Country

Posted by Larry Doyle on May 12, 2009 5:15 PM |

Political hacks assert, “all politics is local.” In a similar vein, armchair economists propose, “as California goes, so goes the country.” Why is that? California represents such an enormous part of our country in many respects, including the following:

  – 8 of the 50 largest cities

  – population of approximately 37 million people (that we know of), a full 12% of our national population

  – an economy similar in size to Italy, ranking it as one of the top 10 in the world (I have seen rankings of 8th and 9th)

  – California’s economic output represents 13% of our national GDP!!

  – an unemployment rate north of 11% compared to the national average of 8.9%. With a high unemployment rate amongst illegal immigrants, it is not a stretch that California’s unemployment rate is approaching 15% and its underemployment rate is greater than 20%!!

The results of the Bank Stress Tests indicated that Bank of America and Wells Fargo had the greatest capital shortfalls. Why is that? BofA already had a huge market share in California and it grew exponentially with its purchase of Countrywide. Wells Fargo also had huge market share in California and it only grew with its purchase of Wachovia. Hey LD, Wachovia is a North Carolina based bank, how could that correlate into increased California exposure? Wachovia purchased Golden West Financial, a southern California based bank which had been one of the most aggressive lenders of a mortgage product known as pay-option ARMs. Suffice it to say that product has been a disaster in terms of delinquencies, defaults, and foreclosures.

Earlier this year, California faced a massive budget shortfall and experienced significant political turmoil in passing a budget.  Well, the Governator Arnold Schwarzenegger is right back in the ring as California’s fiscal situation is faced with more sinkholes. The WSJ reports, Cuts Loom in California if Propositions Fail.

While politics may be local, the economic fallout from California can not be walled off from the rest of the country. The capital cushions that BofA, Wells Fargo, and many other banks are forced to set aside against consumer, corporate, and municipal defaults literally ripple across our entire country. The WSJ reports:

California’s fiscal plight is worsening. In a letter sent Monday to the state’s legislative leaders, the governor said the Golden State now projects a new $15 billion shortfall, up from a previous estimate of $8 billion, because of plummeting tax revenue amid the recession. That figure would jump to $21 billion if Californians next week defeat the propositions, Mr. Schwarzenegger said.

Professors Ken Rogoff and Carmen Reinhart, in a dissertation, “Aftermath of Financial Crises,” highlighted declining tax revenues as one of the driving forces to increased fiscal deficits, greater government borrowing, further crowding out, and an underperforming economy. While the Governator is locked in a battle with the legislature, municipal unions, and other constituencies over the state’s fiscal follies, is California an opening act to the same show in Washington over the next few years?

Would our friends from California please share some perspectives? I thank you.


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