March 20 (Bloomberg) -- Sacramento may eliminate up to 600 jobs in the city's first staff reductions in half a century, and the police and fire departments in the California capital may have their budgets cut by 20 percent. The culprit is the collapse of the U.S. housing market.

California, the birthplace of the subprime mortgage industry, is paying the highest price of any state as the housing meltdown persists. Its gross domestic product will drop 1.5 percent in the first half of 2008, the most in the U.S., analysts at Lexington, Massachusetts-based Global Insight Inc. estimate.

The state had the most foreclosure filings in the U.S. last year and the biggest fourth-quarter decline in prices, according to RealtyTrac Inc., an Irvine, California-based seller of data on defaults, and the Office of Federal Housing Enterprise Oversight in Washington.

``The depth and magnitude of what's happening in the real estate market is really, really grim,'' said Russell Fehr, Sacramento's finance director, in an interview.

California, the most populous U.S. state and accounting for almost one-seventh of gross domestic product, will lose $25 billion in personal income by the end of 2008 and property values will fall by $630.7 billion, according to forecasts from economist Jerry Nickelsburg at the University of California, Los Angeles, and the U.S. Conference of Mayors.

Economic `Drag'

``The housing slump is the real drag on the economy,'' Nickelsburg said.

Almost half of the 25 biggest U.S. subprime lenders were based in the state, according to industry newsletter Inside Mortgage Finance, and almost a quarter of the country's outstanding subprime loans were issued there, more than in any state, data from San Francisco-based research firm LoanPerformance show. Such loans are made to borrowers with limited or tainted credit histories.

Prices that more than doubled in California from 2000 to 2005 fueled demand for nontraditional mortgages that allowed people to purchase homes, said Peter Navarro, a professor at the University of California, Irvine. Half of the 10 most expensive metropolitan areas for home prices are in California, according to data compiled by Chicago-based National Association of Realtors.

``The high home prices here made it very difficult to get into houses unless you started doing really funky things,'' Navarro said.

Foreclosure Filings

The number of houses and condominiums sold in California plummeted 30 percent in January from a year earlier to 313,580, and the median price for an existing home dropped 22 percent to $430,370, according to the California Association of Realtors. The time it would take to deplete the supply of homes on the market at the current sales rate more than doubled to almost 17 months in January from a year earlier.

California had 481,392 foreclosure filings on properties last year, the most of any state, said Daren Blomquist, a spokesman for RealtyTrac. Stockton's metropolitan area had the second-highest U.S. foreclosure rate and Riverside-San Bernardino, Sacramento and Bakersfield ranked fourth, fifth and seventh, respectively.

In Sacramento, half of the city's current home sales involve bank-owned property, helping explain why the increase in property tax revenue will slow to 2 percent in fiscal 2008-2009 and may fall in 2010 and 2011, said Fehr, the finance director.

Bedroom Community

The resulting reduction in department budgets by 20 percent will cut library-branch hours to 35 a week from 44 and will decrease maintenance in Sacramento's public parks. To cut as many as 600 jobs, the city will first offer buyouts.

``We've got 200 to 300 employees who are nervous, and with good reason,'' said Fehr, who met with bondholders and investment banks last week in San Francisco to assure them that the city will honor its commitments. ``This downturn is so sudden and so severe, we've got to take extraordinary measures.''

Vallejo, a bedroom community of 120,000 near San Francisco, was forced to weigh whether to file for bankruptcy in February after declining housing-related tax revenue left it close to insolvency and unable to pay rising labor costs.

Tax Hit

The area has been one of the hardest hit by the housing- market slump in Northern California. Home prices in Solano County dropped 21 percent in February from a year earlier, according to La Jolla, California-based DataQuick, which tracks the property market. Almost half of the estimated 334,500 home sales in 2008 will be trustee sales, according to the Norris Group, a Riverside-based firm that buys and sells foreclosed properties.

Declining prices are crimping property tax revenue throughout the state. Growth in such revenue probably will drop to 6 percent next year and then to 3 percent in 2009-10, according to state forecasts. Each 1 percentage point decline means more than $450 million of lost tax revenue, the state Legislative Analyst's Office said.

Under Proposition 13, a ballot measure approved by California voters in 1978, real estate is reassessed to market value only when it changes owners. Otherwise, the assessed value rises by no more than 2 percent a year.

The real-estate boom led to a 60 percent increase in local property tax revenue from 2002 to 2007, or about a 40 percent advance when adjusted for inflation, the Legislative Analyst's Office said in its November fiscal outlook.

More Reassessments

With no end in sight to the slump, homeowners are racing to get their property revalued to reflect current prices and lower their tax bills. In San Diego County, 11,456 applications seeking reassessments were received last year, more than triple the 2006 number and the most in 10 years.

Los Angeles County Assessor Rick Auerbach announced today his office is reviewing about 310,000 houses and condominiums purchased since July 1, 2004, for reassessment. Already, 41,000 properties have had their values cut by an average of $66,000 each, Auerbach said.

``Not only are you going to have a loss in turnovers, but also probably a growing number of reassessments,'' said Stephen Levy, director of the Center for Continuing Study of the California Economy, an economic research group in Palo Alto.

Losing the House

Harry Subers, a 59-year-old unemployed engineer, said he and his wife ``paid way too much'' for their house in Ben Lomond. They did it because they love living among the redwood trees of the Santa Cruz mountains, he said.

After their adjustable-mortgage rate rose last year, their payments climbed 20 percent to $1,900 a month, or more than two- thirds their monthly income of $3,000. The couple put the home up for sale because they could no longer afford it, Subers said.

Selling turned out to be tougher than they thought since three other nearby homes have languished on the market and one hasn't sold for three years, he said. They paid $412,000 in 2004.

``Everything would have been fine if the bubble didn't pop,'' Subers said. ``We're resigned to the fact that we're going to lose the house.''

The real estate slump has taken its toll, with more than 31,000 jobs eliminated last year in the subprime mortgage industry by California-based companies, including 12,000 positions at Countrywide Financial Corp. in Los Angeles, 3,200 at New Century Financial Corp. in Irvine, and 2,600 at ACC Capital Holdings in Orange, according to Chicago-based outplacement firm Challenger Gray & Christmas.

Lost Jobs

The subprime collapse has spilled over to financial services, where employment fell 6.7 percent in January to 881,800 workers from its December 2005 peak of 945,200.

Employment declined 6.9 percent in the construction industry to 814,100 workers in January from a year earlier, resulting in a loss of $3 billion to the California economy, according to data from the state's Employment Development Department.

``That's literally money not available for spending,'' said Jack Kyser, chief economist at the Los Angeles County Economic Development Corp., an organization that works to attract businesses and jobs to the Los Angeles region.

As demand for new home furnishings has dried up, bankrupt retailers Levitz Furniture Inc., Wickes Furniture Co. and Bombay Co. are closing dozens of stores in the state, Kyser said.

Spending Cut

The typical homebuyer spends about $20,000 for furnishings in the first two years of ownership, said Alan Nevin, chief economist of the Sacramento-based California Building Industry Association.

Sales in California for household furnishings and appliances didn't increase in 2006, the last year for which statistics are available, ``and we know the pain intensified in 2007,'' Kyser said. Sales for lumber and building materials declined 3.3 percent in 2006, he said.

Homebuilders have been hit hard as the inventory of unsold existing homes rises and the availability of mortgages declines. Shares of Irvine-based Standard Pacific Corp. plunged 89 percent in the past three years, driving its market value down to $303.5 million. Los Angeles-based KB Home dropped 60 percent in the same period.

Mick Pattinson, president of Carlsbad-based builder Barratt American Inc., which constructs homes and condominiums in Southern California, said the company cut almost half of its 140-person staff.

``This is easily the worst housing recession I've experienced, and I've been through four of them,'' Pattinson said.

The number of homes Barratt American built last year fell by more than 50 percent to 116, he said. This year, the company will build even fewer.

``The overall impact is very bad,'' Pattinson said.

To contact the reporters on this story: Daniel Taub in Los Angeles at dtaub@bloomberg.net; Dan Levy in San Francisco at dlevy13@bloomberg.net.

Last Updated: March 20, 2008 15:40 EDT