SAN FRANCISCO - California - the biggest municipal bond issuer in the country - may soon be the lowest-rated state in the nation.
Moody's Investors Service put $57 billion of A1-rated California general obligation bonds on watch for a possible downgrade Wednesday because state lawmakers have failed to resolve a months-old budget crisis. The move follows similar actions by Standard & Poor's last month and Fitch Ratings last January.
Moody's downgraded California's revenue anticipation notes to MIG-2 from MIG-1 and cut its sales tax-backed economic recovery bonds to A1 from Aa3. The agency put A2-rated lease and appropriation-backed debt on negative watch, along with its Aaa global scale rating for taxable stem cell bonds sold in 2007, and its Aa1 rating on judgment trust certificates of participation sold in 2005. Including the GO and other long- and short-term debt, the actions affect more than $75 billion of outstanding debt.
"These actions reflect the state's significant budgetary shortfall, impending liquidity crisis, and lack of legislative solutions," Moody's analyst Emily Raines said in a report. "Significant action is required for the state to manage expected budgetary shortfalls and maintain fiscal stability."
The most populous U.S. state faces a two-year, $40 billion budget deficit. That amounts to roughly 15% of this year's $101 billion budget and 25% in the upcoming fiscal year. The 2008 deficit is the biggest in the nation, Moody's said.
State Controller John Chiang said he expects the state to face a cash-flow crisis as soon as next month, when the amount of state bills coming due will exceed available cash. He said the state will withhold tax refunds and other non-priority payments to meet constitutionally required debt service and education payments.
"Paying vendors with IOUs or putting payments in the drawer are not the same thing as threatening bondholder security," Raines said in an interview. "But our ratings are relative ratings on a scale of states that have sufficient cash to meet their monthly needs."
While California is tied in rating with much-less-affluent Louisiana for the lowest state GO rating in the nation, they're moving in opposite directions. Moody's upgraded Louisiana last year, and the state currently has a stable rating. California is rated A-plus by Standard & Poor's and Fitch.
The result is that California taxpayers must shoulder relatively high interest costs on state debt. As of Tuesday, 10-year California notes yielded 4.08%, according to Municipal Market Data. That's 108 basis points higher than a triple-A GO and 9 basis points lower than a pure single-A GO, according to MMD.
California lawmakers know they must balance the budget, and they've been negotiating to solve the crisis since early November, but as of press time yesterday, Republicans and Democrats have not been able to agree to a package of tax hikes or spending cuts that would balance the budget.
Republicans in the Legislature do not want to raise taxes, while GOP Gov. Arnold Schwarzenegger and legislative Democrats want to impose both deep spending cuts and sharp tax increases to balance the budget. The state constitution requires a two-thirds supermajority to pass tax increases.
"What these negative rating actions amount to is political paralysis tax," said Tom Dresslar, a spokesman for state Treasurer Bill Lockyer. "If the Legislature and the governor can't come to an agreement to fix our cash crisis and budget shortfall, it will impose economic injury on taxpayers."
Moody's Raines said she's watching the state lawmakers closely to see if they'll come up with a solution. She said the credit rating agency expects to complete its rating review by April, but it may act sooner if lawmakers agree to a budget deal.
"We do not yet know whether solutions will actually be passed, or whether they will be workable, reasonable, and of a sufficient magnitude to achieve a degree of credit stabilization consistent with the current rating level," she said in her report.
For his part, Chiang may be losing faith. He said lawmakers may not be able to agree to a deal and may need to consider letting voters decide between their proposals.
