CA Economy Holding Back Nation

DEC. 20, 2010


Strong doses of reality keep throwing cold water over Gov.-elect Jerry Brown. The mess left behind by departing Gov. Arnold Schwarzenegger seems to grow worse every day.

The latest cold water splashing comes from California Lutheran University’s Center for Economic Research and Forecasting (CERF) and its forecasts for the U.S. and California economies.  It starts with the “good news. This is CERF’s first published report where we do not forecast any quarter with net United States job losses. It appears that the job recovery, weak as it is, is finally here.”

But even that weak economic recovery is avoiding California. The forecast expects, “Our forecast for California jobs is for small and declining job losses throughout 2011. Output, though, will continue to grow, at rates near those of the United States. Thus, while California will technically be in recovery, few will feel the impacts of that recovery.”

Call it the non-recovery recovery. Only in California.

This chart shows non-farm jobs for California and the United States. Note how California (yellow bars) lost jobs more quickly than did the United States as a whole (red line), and now is creating jobs at a lower rate.

I would add that California’s slow growth is retarding overall U.S. growth. The state that once carried America out of recessions into prosperity now is a straggler holding everyone back.

Deficits and unemployment

There’s no good news here for the state’s $28 billion deficit. “I’m not that optimistic that there is a long-term solution to the budget deficit,” Bill Watkins, executive director of CERF, told me. “That’s just another reason why California’s recovery will be more slow than the nation as a whole. We have a 30 percent unemployment premium over the nation.” This calculation is similar to my “California Jobs Gap” calculation.

“That will persist,” Watkins added. “That’s another reason why California will lag the nation in recovery.”

Here’s CERF’s chart of state and U.S. unemployment rates:

Taxes and AB32

Two big issues facing the state are potential tax increases and the implementation of AB32. On taxes, it’s looking like Brown, once in office, will give voters an ultimatum: raise taxes or endure even greater budget cuts than otherwise would be enacted.

Tax increases “would stifle the recovery,” Watkins warned. “But we don’t see tax increases causing a double-dip recession. A soft recovery would become even softer.”

Another concern is AB32, the Global Warming Solutions Act of 2006. It will be thoroughly implemented in 2011. One study predicted that it would kill up to 1.1 million jobs. Watkins told me the jobs likely won’t be killed, they just won’t be created. “We’re forecasting job losses for the next several quarters,” he said. “AB32 is a big part of it.”

A Dec. 3, 2010 report that Watkins wrote for CERF (separate from the forecast) found:

We performed an extensive review of the economic impacts of one of California’s most important greenhouse gas regulation, AB32, and found that command and control regulation in general and AB32 in particular is inefficient, cost jobs, and depress economic activity. California’s Legislative Analyst’s Office agrees, as evidenced by this report.

The dismal revenue situation is seen clearly in the following graph, of real retail sales growth, which is stagnant in the near future. It means there state revenues are not going to get a boost from increases in sales, and subsequent sales taxes.

The next graph shows that real wage and salary income also will be stagnant. So there won’t be any help for the budget from growth in people’s incomes, and subsequent income taxes.

California’s budget is stuck in an absurd Catch-22. Tax increases to close the budget gap end up reducing the jobs and sales bases from which taxes are taken, requiring even more tax increases.

High cost of business

The new CERF forecast also found, as other studies have, that California is especially hard on businesses:

In a sense, this is what we’ve seen throughout the recession. Nationally, output has recovered far more rapidly than employment, as employers have been very reluctant to increase employment. In California, the process is exacerbated by the high costs of doing business in California.

The simple fact is that businesses must squeeze out more productivity in California if they are to be competitive. They get rid of less-productive employees. They increase the ratio of capital to labor. They get the productivity they need, or they leave….

California is wounded. Its job growth will lag the nation’s growth for years. Domestic migration will remain negative, as middle-class families move to places with more opportunity and affordable housing, unconcerned about the irony of leaving the home of the housing bubble for more affordable housing.

Housing stagnation

The forecast finds that the housing crash is over, but housing prices and construction will not grow:
California’s home prices are not likely to fall significantly. Replacement costs, building restrictions in California’s most desirable communities, and a still-growing total population– domestic migration will not likely exceed the sum of natural growth and international immigration–place a limit on how low California home prices will fall, and it appears that we are at or near that limit. Most likely, changes we seen in California’s median home price will primarily reflect compositional changes rather than actual price declines.
At the same time, California home prices are unlikely to increase much, on average, in the coming year. The Central Valley and the Inland Empire are still way overbuilt. The Inland Empire’s proximity to Los Angeles means that its recovery will likely precede that of the Central Valley, hindered as it is by a depressed agricultural sector and distance from major job centers.

The next chart shows single family residence median home price growth:
And here is a chart of new home building permits:

Can the California Dream be restored?

It looks like the California Dream has become the California Nightmare. In his Dec. 3 report, Watkins noted:
There is no doubt, though, that unless policy is changed, California’s future is dismal, characterized by high unemployment, limited opportunity, and the continued exodus of the working class. California’s political class needs to accept this fact before California’s future can change.
But he still finds hope. Watkins writes:
I recently saw an article comparing Japan’s and California’s efforts at controlling greenhouse gasses. The author claimed that Japan’s adoption of nuclear energy is not available to California, because it is against the law in California. That’s ridiculous. California laws are changed constantly. This sense that California’s future is already written is pervasive. The University of California Commission on the Future’s final report, issued in November 2010, has a phrase that is disturbing: “The future cannot be avoided.”

That is just wrong. California’s future is what California makes it. No place on Earth has more natural amenities or a more benevolent climate. No place has a location more amenable to prosperity, located as California is between thriving Pacific Rim economies and the entire United states market. No place has more economic potential than California.
We are in control. The future is what we make it. California Nightmare or California Dream. It’s our choice.

John Seiler is a reporter and analyst for His email: [email protected].

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