California’s three-step recovery

As conflicts rage across the Midwest between state governments intent on solving their budget crises and public-sector unions trying to protect the status quo, there has been a worrisome calmness in Sacramento. This is a sure sign that California leaders are refusing to make hard decisions, in a state whose economic crisis is second to none.

The unemployment rate in California has ranged from 12.3 percent and 12.5 percent since November 2009. The current rate of 12.5 percent means almost 2.3 million Californians cannot find work. And nearly half the unemployed have been so for six months or longer.

When counting the marginally employed and part-time workers who prefer full-time work, the rate increases to 22.1 percent. Broadly speaking, California has the second-worst labor market in the country. This should be unacceptable to Californians of all political persuasions.

Contrast California with Michigan, which is experiencing a tectonic economic re-structuring. Since peaking at 14.5 percent in December 2009, Michigan’s unemployment rate has fallen to 11.7 percent, which translates to 144,357 fewer unemployed workers.

As Jerry Brown argued during the campaign last fall, California needs nothing less than a “fundamental re-think.” Unfortunately, California is not tackling many of the real problems behind our poorly performing economy.

First, while the governor’s budget did include reductions in the general fund of $12.1 billion, total spending by the state, which is broader than just the general fund, actually increases, from $118.8 billion in 2010-11 to $127.2 billion in 2011-12.

The first step to rectifying California’s problems is to reduce the size of state (and local) government through broad spending reductions. These reductions, however, should be accompanied by reforms so that we’re not simply reducing spending but also spending to focus on results.

In addition, the state cannot ignore the longer-term spending pressures represented by lavish pension and health benefits for public-sector employees. The state must use private-sector equivalents as an anchor to ensure fairness in public sector wages and benefits.

Second, our tax system is both poorly designed and woefully uncompetitive. For example, California’s top income tax rate is now the third-highest in the country. Even our second-highest rate, which applies to income over $47,055, is higher than the top rate of all states except Hawaii, Oregon and Rhode Island.

Our corporate income tax is the eighth-highest, and our combined state and local sales tax is the second-highest. Even property taxes in California are not all that competitive. Property taxes as a share of homeowner median income were 3.6 percent in 2009, ranking California 15th in the country.

The state must pursue broad-based tax reforms aimed at both improving economic incentives and becoming more tax competitive. A medium-term goal, once the budget is legitimately balanced must be to bring tax rates down substantially.

The third and final leg in regaining economic prosperity is regulatory reform. This can happen immediately since changing regulations does not by and large impact the deficit, and, indeed, deregulation can often lead to bureaucratic savings. Regulatory reform can also provide California with immediate sources of competitiveness.

With immense natural assets and a willing workforce, California should be a world leader in economic prosperity but is failing to compete with average states. We should demand that our leaders face the long-term problems inhibiting our state’s greatness. A return to prosperity requires a government that is smaller, smarter and more competitive.

Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.

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