The saying "as California goes, so goes the nation" may not always be true, but any recovery in the U.S. economy will face strong headwinds if its largest state remains a financial basket case.
Despite the happy headlines proclaiming the "recession is over," California's malaise continues to deepen: California unemployment is over 12 percent, the worst since the Great Depression, and a recent report from Moody's Investors Service suggests California real estate may not recover until 2030. California homes sales declined 12 percent in August -- a continuation of a downtrend which optimists had hoped had finally reversed.
The big question: Are these data points short-term hiccups or evidence of deeper structural decline?
I am a California resident and yes, I pay the five-figure property taxes to prove it, so it gives me no pleasure to come down on the side of serious structural problems.
Until recently, the California economy has depended on six industries to power growth:
4. high-tech (R&D, computers, biotech)
5. Hollywood (film, TV, music)
This diverse base has enabled the state to recover from past collapses in any one industry. Most notably, aerospace declined into near oblivion after the Soviet Union fell apart; defense spending shrank, bases were consolidated and the remaining firms moved to lower-cost states.
So the state lost one key driver of jobs and growth in the 1990s, but compensated for that by being the birthplace of the Internet/digital industry.
Now building/construction has imploded -- construction has dropped from $63 billion to about $23 billion annually.
With the state's job base shrinking, so too will the population with money for new housing. The state is massively overbuilt in every category: residential, commercial, retail, office, warehousing, you name it.
That leaves the state with four primary industries. Unfortunately, the driver of recent Silicon Valley growth -- the web -- is eroding Hollywood and its related industries (entertainment, music, etc.). The proprietary, integrated-distribution model of films and TV is being undercut by free downloads and multiplying channels of web entertainment and content.
Other states have poached much of the nation's film and TV production, and the reasons for producing anything in high-cost California are simply not that compelling. Hopes for a sustained resurgence of film production are slim to zero. So scratch another major source of growth.
That leaves tourism, agriculture and high tech, but there are problems with each of these mainstays as well.
The weak dollar has given California tourism a big boost in the past few years as tourists from Asia and Europe have flocked in for shopping bargains. But if the dollar were to strengthen -- as impossible as it may seem now, a strong case can be made for just this scenario -- then the "cheap U.S. vacation" may become much less cheap for non-U.S. tourists.
And let's not forget that Asia and Europe have yet to feel the full impact of the global recession; their own governments' stimulus borrowing and spending is keeping those economies afloat for the time being.
As for agriculture, water is always a thorny problem in California, as much of the state is semi-arid and water must be channeled hundreds of miles to cities on the coast and farmland in the Central Valley. A period of under-average rainfall -- not quite a drought, but close -- is putting pressure on all big water users, and agriculture is feeling the pinch. Short of a multi-year severe drought, agriculture will remain a huge industry in California, but most of the jobs in the industry are not the kind which can fund a lifestyle that includes McMansions and shopping sprees at the mall.
Silicon Valley has already lost its manufacturing and many in the Valley are turning to greentech and alternative energy as drivers of future job growth. Perhaps greentech will spark a new boom, but if oil stays relatively cheap, the financially compelling reason to fund alternative energy diminishes.
Yes, there are always bright spots -- Tesla Motors electric vehicles are made in California, for instance -- but to expect niche startups to create a million-plus jobs is reaching beyond optimism into fantasy. (Remember that if the state loses 500,000 more jobs, then nearly 1.5 million jobs will have to be created to net 1 million jobs.)
Ironically, the Web itself is poaching jobs from its source: why hire someone in pricey California when you can hire them somewhere in the country (or world) much cheaper? Yes, the valley is still the nexus of venture capital, and the university/government/startup magic is still in place, but it would be foolish not to see that the model which built Hewlett Packard and Apple has eroded.
Now the "future" is a few folks in a loft coding some sort of Web 3.0 app, which is ultimately supported by ad revenue -- just like Web 1.0 and Web 2.0.
These businesses don't grow into enterprises with thousands of employees. The "Next Big Thing" is often short-lived. These firms fade and then vanish, as they really have no innovation or value in the sense that Hewlett Packard and Apple have value.
The stream of businesses leaving California has always been substantial, but startups created enough jobs to replace those lost. No more. Startups are smaller, leaner and more prone to be snapped up by larger competitors before they reach critical mass and start expanding.
Then there's the famously dysfunctional political landscape in which Demo-Publicans have agreed to gerrymander districts so every partisan is protected from electoral competition. This is the acme of a simulacrum democracy in which a small elite runs the state to its own advantage, ignoring the feeble protests of disenfranchised voters and taxpayers.
Deception, pretense and obfuscation have reached new heights in the last state budget, a pathetic hash of lies and false hopes. Out of supposedly $24 billion in cuts, at least $10 billion was accounting trickery, and many analysts suspect the state's estimates of 2010 tax revenues are impossibly rosy.
With half its key industries gone and the last three challenged or in decline, its bloated layers of government ceaselessly demanding more taxes from a depleted private sector and its political class in various stages of terminal denial and moral corruption, the California we have known for the past 68 years is doomed to collapse.
Some new state government will take its place, and what that is will be up to the citizenry. Either the entire status quo will implode, or it will be tossed out by a voter rebellion. There really isn't much middle ground left.
Charles Hugh Smith writes the Of Two Minds blog and is the author
of numerous books, most recently Survival+: Structuring Prosperity for Yourself and the Nation.
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