Why California Matters

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Ross DeVol, director of regional economics at the Milken Institute, offers his thoughts on why the rest of the country, and the world, should care about California's budget woes.


Don't live in California? Don't really care if it sinks into the Pacific, so to speak? Well, maybe you should. Economist Ross DeVol is here now to tell us how California's crisis is affecting the rest of the country and beyond. He's director of Regional Economics at the Milken Institute, and that's a think tank here in Southern California.

So, Mr. DeVol, if you are sitting in Houston right now, or New York, or anywhere else, why should you care what's happening here in California?

Mr. ROSS DEVOL (Director, Regional Economics, Milken Institute): Well, one of the most direct effects is the national government is trying to stimulate the economy through its fiscal stimulus package, almost $800 billion. California's budget crisis is so severe that it's virtually assured that we're going to see the budget balanced through expenditure cuts. And that's going to remove a lot of stimulus from the economy.

And that's not only going to affect California, but it will affect the Western States. It will affect states all across the country because Californians won't be consuming and purchasing as much, as they otherwise would have been.

BRAND: The federal government has refused to bail out California. And some have said, well, maybe it should because California, as you've been indicating, could be too big to fail. What do you think the federal government should do?

Mr. DEVOL: I think the federal government is in a very difficult position, because the California delegation cannot reach an agreement as to whether or not California should get special dispensation. The Republicans in the House are very concerned about setting a precedent and expanding the federal deficit even further. And so they have been reluctant to agree to any kind of special payouts to the State of California above what was in the fiscal stimulus package.

You could certainly make a case that California has a unique set of circumstances, which I agree are true to a large extent. Although the state should have known better, given the volatile structure of its tax system, that if you have a severe recession in California, it's going to disproportionately affect the state revenues.

BRAND: And also, isn't it true that California relies much more heavily on income tax returns than other states do?

Mr. DEVOL: That's correct. You know, the state has a very progressive personal income tax structure, with only Hawaii having a higher marginal tax rate. And this gets to some of the heart of the issue with the budget. Capital gains and stock options realizations, at the peak, right before the technology bubble bursts in 2000, 2001, were almost $18 billion. That fell in 2003 to 2004 to about $5 billion. Since the stock market took off again in 2004 through 2006, those capital gains and stock options realizations paid to the state treasury went back up to almost $17 billion. So, what's happened in the state is we've become very reliant upon capital gains and stock options for our state revenues.

BRAND: You talked about how California's problems are affecting the national economy in terms of putting a drag on the recovery. What about internationally? How are California's problems affecting the world economy?

Mr. DEVOL: Because the California economy is in such a severe recession, the demand for imports into California has fallen off quite dramatically. You could even argue that a lot of the unemployment in China, with former peasants migrating back to their villages from the factories along the coast, is partly caused by the severe recession in California, because Californians were purchasing a lot of those goods. So, California is very integrating into the world economy.

BRAND: Thank you very much.

Mr. DEVOL: You're welcome.

BRAND: That's Ross DeVol. He's director of Regional Economics at the Milken Institute here in Southern California.

And lawmakers in Sacramento are reporting progress in efforts to end this budget stalemate. Democratic leaders say they hope a resolution will come before the legislature breaks for the recess at the end of this week. The most contentious issues, though, have yet to be resolved.

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