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'Cliff' event would likely put state in recession

12/18/2012

Orange County Register - December 17, 2012

Battered by budget deficits and a deep recession, analysts predict California can look forward to a new year of fiscal stability and economic recovery.

Unless, that is, we tumble over the "fiscal cliff." Then we're in for more of the same.

Despite voter support for new taxes to balance the budget, and despite modest economic growth following the housing collapse, California dreaming of a sunnier tomorrow is in serious jeopardy if Congress and the president can't agree on what to do about several automatic tax increases and spending cuts scheduled to kick in on Jan. 1.

Analysts say the fiscal cliff, as the pending tax hikes and cuts are known, will have a detrimental effect on California's fragile economic outlook by plunging the state back into a recession and draining billions of dollars from the state treasury. Hundreds of thousands of out-of-work Californians will lose their unemployment benefits. Hundreds of thousands more could lose their jobs.

"The timing here is really critical," said Robert Kleinhenz, chief economist for the Los Angeles County Economic Development Corporation. "We'd hate to see the state of California lose some of these hard-won gains coming out of the Great Recession," he said.

U.S. gross domestic product is projected to grow by about 2 percent next year, Kleinhenz said. But if Congress and the president don't avert the fiscal cliff, the automatic tax hikes and spending cuts essentially will shrink the GDP by about 2.5 percent, he said.

In other words, just as the U.S. economy is showing faint signs of rebounding, going over the cliff will drive it right back into a recession. And, as Jerry Nickelsburg, economics professor at the UCLA Anderson School of Management, says, "A recession in the U.S. is a recession in California."

The good news is the recession is projected to be only a mild one, lasting about six months, Nickelsburg said. (The Great Recession, the longest and deepest drop in the U.S. economy since the Great Depression, started in December 2007 and lasted a year and a half.)

The bad news? It's going to hit California where it hurts, in the defense sector, a major Southern California industry; in unemployment benefits, at a time when hundreds of thousands of Californians are out of work; and in state revenues, just when voters thought they had solved the state's chronic budget problems with the passage of the Proposition 30 tax increase.

Half of the pending spending cuts are to the national defense budget. The Center for Security Policy in Washington, D.C., estimates that the cuts could translate into more than $7.87 billion in annual revenue losses to California defense contractors.

Stephen S. Fuller, a George Mason University professor, projected in a report prepared for the Aerospace Industries Association that California could lose 135,209 jobs as a result of Department of Defense cuts. That's in addition to 90,255 jobs projected to be lost as part of non-Pentagon cuts related to the fiscal cliff.

At the same time, 400,000 Californians are slated to lose unemployment benefits when the federal extension to 99 weeks of coverage expires at the end of the month, according to the state Economic Development Department. In Orange County, more than 22,700 residents will be affected.

These losses are especially acute because they result in less money available to circulate in the economy.

"I didn't realize this was coming. I had no idea," said Deidra Hill of San Clemente, who has received unemployment benefits since April after she lost her accounting job at a property management company.

If she loses her benefits, Hill, 67, said she eventually may have to sell her condo and move into a mobile home park.

"It troubles me that this is tied to the fiscal cliff," she said. "We're just pawns in the game of who is going to blink first."

Another major casualty of the fiscal cliff will be the state budget. After years of multibillion-dollar budget shortfalls, the Legislative Analyst's Office projects California will face a deficit of only $1.9 billion in fiscal year 2013-14 and budget surpluses in future years.

But that's only if the fiscal cliff is averted. If it's not, state revenues could be $11 billion below projections for the current and next fiscal year.

"That's just one scenario," said Jason Sisney, deputy legislative analyst. "There are scenarios far worse than that."

Sisney said the greatest impact of the fiscal cliff on state finances would be its effect on the economy, which in turn would cut into state revenues. But much depends on what actually happens in Washington.

Some aspects of the fiscal cliff may be addressed before the beginning of the year. Other parts may wait until later. Still others may not be addressed at all.

"I can't recall, outside of a recession, a period that has had this much uncertainty," Sisney said.