The Great California Budget Saga has ended. Two months past deadline, California's legislature and Gov. Arnold Schwarzenegger reached a tense accord to close the state's yawning $26.3 billion budget gap. The agreement came after months of fighting between Democrats seeking tax increases and Republicans seeking budget cuts.
The Republicans and the Governator won, ramming through deep spending cuts, and slicing $7.3 billion from education and $1.2 billion from the already overcrowded prisons. California would also claw back $2.7 billion from its counties and municipalities, which are already reeling from the recession. Finally, the accord cuts $124 million in funds for health-insurance programs for poor children.
While Californians will definitely lose a significant chunk of the services they have grown accustomed to, the real loser in this mess could well be President Obama. California's massive 54 electoral candidates, more than any other state, play a crucial role in presidential elections. The Golden State went blue in the past five elections; without its votes, Democratic candidates Al Gore and John Kerry would not have come close to the electoral votes of the Republican winner, George W. Bush.
In 2012, California could well vote red. The logic is simple: while the Obama administration has handed out multibillion-dollar bailouts to Wall Street's financial institutions, such as AIG (AIG), it has stood idly by as California, the world's seventh-largest economy, has not been likewise deemed "too big to fail."
Economists understand why Obama has left California hanging. To acquiesce to its pleading would have encouraged other states to put their hand out for more fat from the Federal trough. But that logic has not applied to Wall Street, leaving Californians to wonder why their libraries must close and their poor children must lose health insurance, even as Goldman Sachs (GS) hands out record bonuses -- accrued, in a large part, because of its favored status as a quasi-Government-Sponsored Entity.
Few voters have not been touched by the crisis. Public workers had their wages cut, and private-sector workers will see more of their wages withheld. The middle class will face service cuts and school crowding. The fallout from the California budget deal, in fact, reads like a demented mirror image of Obama's agenda. Cut health care to children? Check. Cut spending for the University of California, where all those new engineers are supposed to be trained? Check. Cut spending on transportation infrastructure, a key mechanism for stimulating the economy? Check. Increase class sizes in already underfunded public schools? Check.
With its unemployment at 11 percent, real-estate values down by half in many areas, and 475,000 properties in foreclosure, according to RealtyTrac, California's economy is flat on its back and may not recover in earnest until 2012. These crises have fallen heavily on Latinos, a major swing group. While they have been a reliable voting bloc for Democrats of late, this group went Republican in Texas and other states; Bush attracted as much as 44 percent of the Latino vote in 2004. If Obama loses Latinos, he loses California.
But California's foreclosure nightmare could keep Obama awake at night, too. The President has not delivered relief to homeowners, despite promises and a $75 billion foreclosure-relief package. The New York Times this week illustrated, clearly and tragically, how loan-servicing companies were either too overwhelmed or too addicted to usurious fee structures to help the struggling homeowners who paid for their assistance. Homeowners put through the wringer and then tossed out on the street, often after having bought a bad mortgage from a dishonest broker, are less likely to vote for the incumbent in 2012.
Obama is even testing the loyalty of California's ample supply of upper-middle-class Democrats in greater Los Angeles, San Diego, and the Bay Area. His tax policies will punish families in the $250,000 to $500,000 tax bracket: a bitter pill for families in these expensive coastal enclaves who have the highest costs of living in the country. Some Democratic legislators on Capitol Hill are already rebelling against Obama's even more progressive tax scale, fearing it will chase off their key upper-middle-class voting blocs.
Then there's the reality of the budget accord: economists doubt many of the budget's assumptions, such as the idea that a state insurance fund could be privatized for $1 billion as a tidy one-off revenue booster. (It's a nice idea, but nobody believes that a private buyer could or would pay that much at this point.) Other accounting gimmicks include speeding up tax collections. And many of the budget cuts have been promised back with interest, when the economy rebounds. Both schools and municipalities have received such assurances.
The end result of these gimmicks will probably be yet another yawning budget gap next year, unless California's economy turns around sharply. At that point, Obama's insistence on bailing out fat-cat bankers but ignoring the electorate that swept him in to office will stand in even starker relief. So steel yourself for more California screaming, and, for Obama, which has given California the short end of "Change You Can Believe In," a tough fight for re-election.
Take the first steps to building your portfolio.View Course »