Volume I, No. 4

November 25, 2008

Looking to the Future

Will the economy ever recover?  Can California balance its budget? Will schools be cut another $3 billion?

These and many other questions come to mind as the stock market looks to have no bottom, economists talk about deflation with a multi-year recession and the new Legislative Analyst projects a possible 6.4% reduction (down to $54.3 billion) in the Proposition 98 guarantee for 2009-10.

These are bleak projections based on a severe economic downturn with an assured multi-quarter recession for California, the nation and the world.  But it will end.  The questions are when will it end and how deep the recession will drop before recovering.  Remember that last November the Legislative Analyst’s Office (LAO) projected a $61.6 billion Proposition 98 guarantee in 2009-10 with the guarantee moving into Test 1 in 2010-11.

Projections are always wrong.

The California Budget projections are based on the best current data, but any projection becomes less probable the further into the future it is extended.  The projections also have to assume there will be no concerted action to change the underlying factors used to make the projections.  The LAO recognizes this situation and cautions that a projection is not a prediction.  The projection can and will change as international, federal and state actions impact economic recovery.

I believe the United States and the international community have learned lessons from the 1928 through 1936 economic depression and recovery.  While ideology will influence the application of those lessons, the general intervention outline is coming into focus.  Just as President Roosevelt proposed and implemented the National Recovery Administration to intervene and stabilize industry, I anticipate industrial stabilization will occur for the automobile and other major industries.  Just as there were interventions and new regulations in the financial markets (move off the gold standard, bank holiday, Security and Exchange Commission), there will be continued intervention and new regulations for international financial markets.  Just as there were major infrastructure jobs programs (Civilian Conservation Corps, Works Progress Administration), there will be major infrastructure projects in alternative energy, energy independence, roads, bridges, schools, airports, ports and other capital investments that will increase productivity, future economic expansion and employment. Just as there was action to stabilize the mortgage market (Homeowners Loan Corporation and Federal Housing Administration), there will be additional actions to reduce foreclosures, restructure loans and stabilize housing values.

Unlike the 1928-36 period, in addition to unemployment and Social Security benefits, there will be more direct stimulus through tax cuts, checks sent to individuals, and tax credits.  I believe there will be direct federal subsidies to state and local budgets through block grants and increased federal matching payments.

All of this means a lot more federal fiscal stimulus with more money being printed and spent.  Yes, there will be an economic price to pay, but that price can be managed in the future. Major action is needed today. 

Dave’s Bottom Line

If the international community and federal government take the stimulus actions that are coming into focus, the California budget crisis will become more manageable.  However, until that happens and the stimulus takes effect, we all have to plan on the no-action scenario of the LAO projections.

Look to save money; spend if it will save money (energy efficiency); prepare for a difficult 18 months, but not as difficult as projected by the Governor and the LAO.

~Dave Walrath

dwalrath@m-w-h.com