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The California State Capitol is home to the government of California. The building houses the bicameral state legislature and the office of the governor (Flickr)
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By Ellen Brown<\/strong>\u00a0\/\u00a0Original to ScheerPost<\/em><\/p>\n In 2022, the state of California celebrated a record budget surplus of $97.5 billion. Two years later,\u00a0according to the Legislative Analyst\u2019s Office<\/a>, this surplus has plummeted to a record budget deficit of $73 billion. Balancing the budget will be challenging. Unlike the federal government, the state cannot just drive up debt and roll it over year after year.\u00a0The\u00a0California Balanced Budget Act<\/a>, passed in 2004, requires the\u00a0state legislature\u00a0to pass a\u00a0balanced budget\u00a0every year.<\/p>\n The usual solutions are to cut programs or raise taxes, but both approaches are\u00a0facing an uphill battle<\/a>. Raising taxes would require a two-thirds vote of the legislature, which would be very challenging, and worthy public programs are in danger of getting axed, including homelessness prevention and funding for low-income housing.<\/p>\n A third possibility might be to increase the income tax base and state income by stimulating the economy with a state-owned depository bank. The state-owned Bank of North Dakota, which has raised record profits for its state, is a stellar example. In a review of states with the healthiest budgets based on data from the PEW Charitable Trusts,\u00a0U.S. News & World Report puts North Dakota at No. 1<\/a>\u00a0in Budget Balancing and #1 in Short-term Fiscal Stability.<\/p>\n California has an Infrastructure and Development Bank, which is already capitalized and has an established track record of prudent and productive lending, but it is not a depository bank and its reach is small. Transforming it into a depository bank would be fairly uncomplicated and could substantially increase its reach.<\/p>\n But first a look at what happened to the state\u2019s copious revenues.<\/p>\n California\u2019s record surplus was largely due to tax windfalls and to $43.5 billion received in American Rescue Plan money during the COVID crisis. Anticipating that these inflows would continue, the governor and legislature enacted a record budget for 2024-25 of\u00a0nearly $300 billion<\/a>, the largest of any state. Much of the surplus was committed to expanding an array of social and educational services, including extending universal health care coverage to undocumented immigrants. When taxes came in, the tally showed a\u00a0revenue shortfall of $26 billion<\/a>.<\/p>\n Tech industry woes were a major contributor. The\u00a0top 1% of earners pay nearly half<\/a>\u00a0of California\u2019s\u00a0 income taxes, and 20% of its GDP comes from the tech industry. The collapse of Silicon Valley Bank, which financed startups and attracted venture capital,\u00a0speeded the sector\u2019s decline<\/a>. Massive Silicon Valley layoffs occurred and tech stock lost value, cutting capital gains taxes. And there has been a\u00a0notable exodus<\/a>\u00a0from the state not just among the ultra-wealthy but by businesses, due to the combination of high taxes, stringent regulations, and elevated costs for labor, utilities, and energy.<\/p>\n Another contributor to the budget deficit were huge payouts for unemployment benefits, which skyrocketed during the COVID lockdown and business shutdowns. The state\u2019s unemployment fund was exhausted, requiring a loan from the federal government.\u00a0Twenty-one billion dollars remains<\/a>\u00a0to be repaid, and the interest rate on the debt has gone up. To meet the unemployment burden, California legislators are considering\u00a0quintupling unemployment taxes<\/a>\u00a0and nearly doubling benefits, but the result could be more layoffs and more businesses leaving the state.<\/p>\n Meanwhile, the wealth divide in California is enormous, with the\u00a0highest unemployment rate<\/a>\u00a0and\u00a0homeless rate<\/a>\u00a0in the country. This is despite $24 billion being\u00a0spent on the unhoused<\/a>\u00a0over the last five years. Thirty percent of the nation\u2019s homeless live in California, and nearly nine million Californians are on the brink of being homeless. Housing is too expensive for low-wage earners and there is a lack of available low-cost housing. But well-meaning legislation to help low-wage earners has had unintended consequences.<\/p>\n As of April 1, the minimum wage for fast food restaurant workers was raised by 25% to $20 an hour triggered by a strike by their union. But the move has negatively impacted many of the workers. Fast food restaurant owners operate on thin profit margins; and to cover these new costs, they have had to reduce workers\u2019 hours, raise customer prices, engage in massive worker layoffs, move out of state, or close their businesses altogether. Almost\u00a010,000 fast food jobs have been lost<\/a>\u00a0in California just since the $20 minimum wage law was signed.<\/p>\n As a result of these and other efforts to help low-wage earners, many vulnerable workers are suddenly finding or will find themselves out of a job.<\/p>\n At the other end of the employment spectrum is North Dakota, which has the\u00a0lowest unemployment rate<\/a>\u00a0in the country. As noted above, in a review of states with the healthiest budgets,\u00a0U.S. News & World Report puts it at No. 1<\/a>\u00a0in Budget Balancing and #1 in Short-term Fiscal Stability.\u00a0 North Dakota\u2019s budget for 2024-25 includes\u00a0cuts<\/em>\u00a0in individual income taxes, including eliminating the state individual income tax for 60% of the population and a reduction in that tax for the other 40%. The result is projected to be\u00a0a 1.5% flat rate income tax<\/a>, the lowest in the nation. Again compare that to California, where the\u00a0top state income tax is 14.4%<\/a>, higher even than other states known for their tax burdens.<\/p>\n North Dakota was the only state to fully escape the 2008-09 credit crisis, never slipping into the red. When the state did go over budget in 2001-02 due to the dot-com bust, the Bank of North Dakota (BND), the nation\u2019s only state-owned bank,\u00a0acted as a rainy day fund<\/a>. To make up the budget shortfall, the bank declared an extra dividend for its state owner, and the next year the budget was back on track.<\/p>\n The BND is\u00a0more profitable<\/a>\u00a0than\u00a0some of the largest Wall Street banks<\/a>. Its\u00a0latest Annual Report<\/a>\u00a0(for 2022) states that it had a record net income of $191.2 million that year, up $47 million from 2021. Its asset size also set a record, at $10.2 billion. The return on investment was a healthy 19%. As the BND\u2019s principal depositor, the state must keep its funds in the bank by law, thus protecting the bank from a run on its deposits. The\u00a0Standard & Poor\u2019s credit rating<\/a>\u00a0for the BND is A+\/stable. The S&P report states, \u201cBND has one of the highest risk-adjusted capital (RAC) ratios for rated U.S. banks.\u201d<\/p>\n BND\u2019s profitability has helped strengthen community banks and credit unions in North Dakota by making loans in partnership rather than in competition with them. In the Great Recession, it also bought loans from stressed local banks to prevent bank failures and keep the economy running smoothly. BND operates with very low overhead and stresses productive and local lending rather than lending to buy existing assets, the sort of speculative lending that leads to bubbles and busts.<\/p>\n The Bank of North Dakota was established in 1919 by a populist party of farmers who felt their farms were being foreclosed on unfairly by out-of-state bankers. They succeeded in bringing their state revenues back into their own bank, serving their own communities.<\/p>\n North Dakota\u2019s revenues are safer in its own bank than in the largest Wall Street banks, which \u201cinsure\u201d their capital\u00a0with interconnected derivatives<\/a>\u00a0backed by rehypothecated collateral. The Financial Stability Board has\u00a0declared that practice to be risky<\/a>, \u201cas highlighted during the 2007-09 global financial crisis.\u201d The five largest Wall Street depository banks hold\u00a0$223 trillion in derivatives, or 83 percent<\/a>\u00a0of all the derivatives at 4,600 banks; and they have a combined\u00a0half trillion dollars in commercial real estate loans<\/a>, also very risky in the current financial environment.<\/p>\n Today most government funds are deposited in these SIFIs (Systemically Important Financial Institutions), putting the deposits at risk. Under the Dodd Frank Act of 2010, a SIFI that goes bankrupt will not be bailed out by the government but will be recapitalized by \u201cbail ins\u201d \u2013 confiscating the funds of the bank\u2019s creditors, including \u201csecured\u201d depositors such as state and local governments. Under the Bankruptcy Act of 2005, derivative and repo claims have seniority and could easily wipe out all of the capital of a SIFI. The details are complicated, but the threat is real and imminent. See my earlier articles\u00a0here<\/a>\u00a0and\u00a0here<\/a>, David Rodgers Webb\u2019s\u00a0The Great Taking<\/a>, and Chris Martenson\u2019s excellent series drilling down into the obscure legalese of the enabling legislation, concluding\u00a0here<\/a>.<\/p>\n Even if the SIFIs remain solvent, they are not using state deposits and investments for the benefit of the people; and often they are betting against us. The BND, by contrast, is mandated to use its revenues for the benefit of the North Dakota public.<\/p>\n California already has an Infrastructure and Economic Development Bank (I-Bank), but it is not a true depository bank able to take deposits and leverage its capital. According to\u00a0its website<\/a>:<\/p>\n IBank was created in 1994 to finance public infrastructure and private development that promote a healthy climate for jobs, contribute to a strong economy, and improve the quality of life in California communities. IBank is located within the Governor\u2019s Office of Business and Economic Development and is governed by a five-member Board of Directors. IBank has broad authority to issue tax-exempt and taxable revenue bonds, provide financing to public agencies, provide credit enhancements, acquire or lease facilities, leverage state and federal funds and provide loan guarantees and other credit enhancements to small businesses.<\/p><\/blockquote>\n Its\u00a0Infrastructure State Revolving Fund (ISRF) Program<\/a>\u00a0provides loans only to public entities (municipalities, counties, Joint Power Authorities, pension funds), but it also has a\u00a0Small Business Financing Center (SBFC)<\/a>\u00a0that provides loan guarantees through independent agencies for businesses and farms having trouble accessing loans, among other outreach services. The ISRF is a revolving fund, limited to lending its base capital. It engages to some extent in leverage, but it\u2019s the riskier version called \u201crehypothecation\u201d (relending of existing collateral). As explained by Stan I-Bank\u2019s first Executive Director Stan Hazelroth in\u00a0a 2013 article<\/a>:<\/p>\n When you loan $100 to an electric utility, say, to build new infrastructure, they take money from ratepayers and pay that loan back over time. These payments, based on the history of utility ratepayers over decades, are very reliable\u2014so reliable, in fact, that bond buyers will loan money secured by the promise of those ratepayers to pay the utilities back over time.<\/p>\n The utility with the right to be paid back $100 can pledge those aggregate payments and secure an additional loan of, say, $80. When that loan begins to be paid back, bond buyers will loan you another, say, $60, which can also be loaned out. With just $100 in cash, in other words, you can loan out $240.<\/p><\/blockquote>\n Thus a contract becomes a security, which can act as collateral for another loan and another for the lender. But reuse of the same asset for multiple loans can go only so far. Chartered at a 10% capital requirement, depository banks can issue up to ten times their capital in loans. (In 2020 the Fed lifted the capital requirement altogether, but 10% is still considered a prudent ratio.)<\/p>\n Banks do need to back withdrawals with reserves, which they acquire from their incoming deposits or by borrowing from other banks or the Federal Reserve; but the state has plenty of deposits to serve that function. Any bank in which the state deposits its revenues will back its loans with those deposits, and the I-Bank\u2019s loans are actually safer and better for the public interest than those of the big Wall Street banks. If the I-Bank were to become the state\u2019s banker and its reserve account were overdrawn, it would have the same protections afforded by the Federal Reserve system to all chartered banks: it could borrow reserves from other banks, the repo market, or the Fed itself. The BND is not a member of the Federal Reserve but has a master account with it, allowing the bank to transfer funds with other banks in the system and to act as a \u201cmini- Fed\u201d for the state, providing correspondent banking services to North Dakota\u2019s many community banks.<\/p>\n One thing California and North Dakota have in common is that they are both big agricultural states. The\u00a0BND helps its farmers<\/a>\u00a0with a variety of low-interest loans. Although most of its loans are in collaboration with local banks, two loans it makes directly are the Beginning Farmer Real Estate Loan and Established Farmer Real Estate Loan. California\u2019s struggling farmers could benefit from that sort of direct aid as well.<\/p>\n The state itself could also realize significant savings from its I-Bank if the bank\u2019s loan capacity were expanded. I was unable to nail down the current comparative figures for loans, but here is an example from an\u00a0article I wrote in Yes Magazine<\/a>\u00a0in 2018:<\/p>\n Financing infrastructure through the municipal bond market accounts for\u00a0half the cost of infrastructure<\/a>\u00a0due to the debt load involved.\u00a0One example where this is made clear is with\u00a0Proposition 68<\/a>, a statewide ballot measure that voters approved in the June 5 primary election which authorizes $4.1 billion in bonds for parks, environmental, and flood protection programs. The true cost of the measure is $200 million per year over 40 years in additional interest, bringing the total to $8 billion. California\u2019s IBank, which funds infrastructure at 3 percent, could finance the same bill over 30 years for $2.1 billion\u2014a nearly 50 percent reduction.<\/p><\/blockquote>\n In 2019, two bills were brought to convert California\u2019s I-Bank into a depository bank, one in the Senate,\u00a0SB 528<\/a>\u00a0(Hueso), and one in the Assembly,\u00a0AB 310<\/a>\u00a0(Santiago). SB 528 sought simply to convert the I-Bank to a depository ban. It passed the first two committees but was \u201csuspended\u201d in Appropriations. The second bill, AB 310, sought to extend the I-Bank\u2019s services directly to underserved individuals and businesses. It was opposed by the state treasurer and the state controller on grounds that it was too risky, and it failed. But California State Treasurer Fiona Ma said in her opposition letter to AB 310 that she was sympathetic to its goals, and that \u201cI respectfully propose AB 310 be amended, replacing the current language with a mandate to develop a feasibility study to be conducted by an independent, apolitical expert source. The technical experts in my office can assist to build the framework of the study as the state\u2019s banker.\u201d<\/p>\n There is actually no need to change the I-Bank\u2019s existing programs, since it already has a variety of programs that help the underserved indirectly. Simply converting it to a depository bank would extend the reach of its existing services (for which there is currently excess demand), expand its profitability, reduce the cost of infrastructure and development for state and local government agencies, and protect any revenues deposited in it from a sudden crisis in the conventional banking system.<\/p>\n The remedy for unemployment is employment, and the remedy for the unhoused is affordable housing. An I-Bank expanded into a state-owned depository bank could provide both.<\/p>\nSaga of a Budget Crisis<\/strong><\/h3>\n
Plagued by Homelessness and Unemployment<\/strong><\/h3>\n
Compare North Dakota<\/strong><\/h3>\n
The State\u2019s Deposits Are Safer in Its Own Bank<\/strong><\/h3>\n
California Could Replicate the BND Model with Its Infrastructure and Development Bank<\/strong><\/h3>\n
The Golden State as Trendsetter: Time to Form a Bank<\/strong><\/h3>\n