California may have to ask the federal government for a $7 billion loan by the end of the month just to pay for basic services like police and firefighting, Gov. Arnold Schwarzenegger warned last Thursday. New York City readers may have shuddered, as the request brings back memories of the city’s own 1970s fiscal crisis, when creditors shut off the spigot. Could New York City be next in line after California (and maybe Massachusetts) for the same reason?
California is in trouble now because it relies on short-term borrowing to meet its current operational needs. That is: the state borrows for a few months based on the anticipation, borne out by history, that tax collections are higher at some times of the year than at others. It pays off the debt once those higher tax collections come in.
There is nothing particicularly fiscally imprudent about such borrowing. It is not what got New York City into trouble in 1975. Back then, the city borrowed long-term to meet short-term needs, a no-no.
Today, New York has the right to borrow short-term to meet its short-term cash flows needs. But the city has not done so in four years, and does not expect to need to do so anytime soon.
This news is relieving.
But New York is still suffering now because it has to pay higher interest rates on a type of long-term borrowing that carries short-term interest rates. Additionally, the city, though it has a higher credit rating than California, could suffer further if investor worries over California infect other municipal issuers. Such worry could make it harder and more expensive for cities and state to issue new long-term bonds in the coming months.