America's IOU to California: one political overhaul

With taxpayers on the hook for the bailout of corporate failures, shouldn't Washington save save California?

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Is California too big to fail? With taxpayers on the hook for the bailout of spectacular failures such as the insurance giant AIG and car maker General Motors, why shouldn't Washington save the Golden State? Politicians from California's state capital in Sacramento have already been to Washington, hat in hand. In June, a delegation of them persuaded top federal officials, starting with Timothy Geithner, the US Treasury secretary, to consider a rescue plan should the state go belly up.

Well, this California native would thank the feds to keep their dole to themselves. In a country that insists on co-mingling "values" with policy, it is time to restore accountability and restraint as the core of democratic capitalism. California, the late, great frontier of libertarian virtue, is an appropriate place for it. The stakes could not be higher. California's GDP, at US$1.7 trillion (Dh6.24tn), not only accounts for 12 per cent of the US national output, it ranks as the eighth-largest worldwide. Yet for all its vast resources - the state leads the nation, if not the world, in agriculture, defence contracting, computer software, media and tourism - California has accumulated a $24 billion deficit that its gridlocked legislature has failed to reconcile.

Last week, Arnold Schwarzenegger, the governor, announced the state would be forced to issue IOUs to cover outstanding debts that could swell to $4.8bn by August if politicians cannot reach a budget agreement by then. California, which has the worst credit rating of any state in the country and has already accumulated nearly $60bn worth of municipal bonds, refuses to cover revenue gaps by taking on more debt. Such restraint is encouraging, but it comes late in the process and means little without significant spending cuts. Martin Weiss, an analyst at Weiss Research - best known for having forecast the demise of Bear Stearns and Lehman Brothers last year - said last month the prospect of a default was "unavoidable".

This is not the first time Sacramento has found itself on the brink of insolvency, however. The economy was hit hard by the collapse of the dot-com bubble and the defence sector's post-Cold War contraction, only to revive itself. Any state that can coexist with frequent onslaughts of fires, mudslides, earthquakes and religious cults can survive its current financial reckoning, assuming politicians are willing to roll up their sleeves and reform one of the most dysfunctional political regimes in the free world.

California, to paraphrase Rick Blaine in Casablanca, is just like the rest of America, only more so. It is gluttonous; in the past five years alone, its budget has expanded by nearly 50 per cent, to $145bn. Its politics are more partisan, owing to a district representation system that entrenches incumbents and dissuades them from working with ideological rivals. Republicans and Democrats, as a result, habitually vote in opposition to one another on tax and spending bills. To make matters worse, California requires a two-thirds majority to pass its annual budget, one of only three US states to do so.

Another burden on Sacramento is its chaotic "ballot box budgeting" system, which allows voters to support single interest programmes, from stem cell research to health and education issues, without identifying how they will be funded. The most notorious of these measures - Proposition 17, which became law in 1978 - gutted the state's revenue base by slashing property taxes, a move some analysts blame for much of the state's chronic funding gaps.

Unlike its bush fires and floods, California's legislative process is a man-made disaster that can be corrected given the proper incentive - namely, the fear that Washington will refuse to come to its rescue. To do otherwise would hasten the final chapter of a state that once embodied that antique American quality of rugged individualism. Beginning in the 19th century, California became an El Dorado of the human spirit, a destination for innovators unafraid to fail. It lured moguls, thinkers, scoundrels and adventurers from everywhere. Levi Strauss created a clothing empire out of the state's legendary gold rush of 1849. William Randolph Hearst, the publisher, migrated from New York to San Francisco, where for a generation he dangled the fortunes of politicians, industrialists and warlords over the bonfire of his ambition. Amadeo Giannini, an Italian immigrant, built what would become the Bank of America by accepting handshakes as security against loans he wrote for victims of the 1906 San Francisco earthquake.

Like all visionaries, men such as Strauss, Hearst and Giannini wanted the government out of their affairs when business was good - and they accepted their fate when things went south. So where do young entrepreneurs go today if they are willing to work without a net? Certainly not the US, where it appears no act of commercial malpractice is so severe it cannot be preserved with a drip feed of public funds. Hong Kong? Zagreb? The overweening dole has left us with few markets where it is OK to fail.