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Schwarzenegger Signs California Budget to End Record Impasse

Arnold Schwarzenegger, governor of California
Arnold Schwarzenegger, governor of California. Photographer: SeongJoon Cho/Bloomberg

California Governor Arnold Schwarzenegger signed into law a plan intended to spare the world’s eighth-largest economy from having to issue IOUs for the second year in a row.

The $87 billion budget closed a gap of about $19 billion. Schwarzenegger, a Republican whose term ends in January, used his veto authority to cut about $1 billion out of the plan passed by lawmakers before he signed it late yesterday.

The budget passed 54-1 in the Assembly and 27-10 in the Senate. It plugs the deficit by cutting spending and counts on better-than-forecast tax collections and more money from the federal government. The measure also limits some business tax breaks, and commits to selling office buildings and borrowing from existing accounts.

“Democrats and Republicans alike fought through all the minefields in front of us and we got the job done,” Schwarzenegger said in a press conference earlier yesterday in Sacramento. “It is often said that politics is the art of compromise, and let me tell you, that’s exactly what this budget is, compromise.”

California requires a two-thirds vote to pass budgets in both its Assembly and Senate. Neither Republicans nor Democrats hold enough seats to meet that threshold by themselves.

Short-Term Borrowing

The agreement came 100 days after the start of the fiscal year, the longest period ever in which the state operated without a budget. Had it persisted, Controller John Chiang said, the state would have begun issuing IOUs this month. The budget’s passage also frees Treasurer Bill Lockyer to begin issuing $10 billion in short-term notes to pay bills. The spending plan covers the year that began July 1.

The budget deal may help the state avoid a “more severe liquidity shortfall,” Standard & Poor’s yesterday. It won’t affect California’s A- rating, the company’s seventh-highest, or S&P’s negative outlook on the state’s general-obligation bonds, the ratings company said in a report.

The budget was accompanied by about two dozen so-called trailer bills needed to make it work. One defers $5 billion of subsidies for schools and colleges. Without that step, California wouldn’t have enough cash by the end of this month to pay more than $8 billion of overdue bills accrued during the impasse. Combined with a $5 billion bridge loan that Lockyer is lining up from Wall Street banks, the deferrals will help the state avoid issuing IOUs, aides to Chiang said.

‘Economic Crisis’

“No, this is not the budget I wanted,” said Senate President Pro Tem Darrell Steinberg, a Democrat from Sacramento. “But this is a budget that is a product of the most severe economic crisis California has faced in many decades.”

The budget relies on $5.3 billion in federal funds for welfare, education and prison costs, instead of the $3.4 billion Schwarzenegger asked for in May. It also reduces the deficit by $1.4 billion by using more optimistic tax-revenue forecasts from the state Legislative Analyst’s Office.

The plan cuts spending by $7.5 billion, less than the $12 billion Schwarzenegger and fellow Republicans sought. It also counts on $1.2 billion from the sale of some office buildings, which the government would still use through leasing.

Another bill provides the state with $1.2 billion by limiting business use of operating losses in one year to reduce taxes owed in other years.

Rainy Day

Lawmakers also agreed to ask voters in 2012 to pass a constitutional amendment for a budget reserve, or so-called rainy-day fund.

The state is the last in the U.S. to enact a spending plan for this fiscal year. California’s constitution says lawmakers must send a budget to the governor by June 15, about two weeks before the fiscal year begins. The Legislature has met that deadline five times in the past 30 years.

As the state began borrowing after last year’s budget was approved, the increased supply widened the yield spreads on its general-obligation bonds, said Kelly Wine, senior underwriter for Encino, California-based RH Investment Corp., which specializes in the state’s debt.

The difference in yields between California’s $1.2 billion of April 2038 tax-exempt bonds and comparable-maturity AAA debt widened to 166 basis points on Dec. 31, 2009, from 37 basis points on July 31, according to a Bloomberg Valuation Index. A basis point is 0.01 percentage point.

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