Saturday, April 03, 2010

The Future of California

1. The key to long run economic growth is attracting and retaining the skilled. Detroit is poor because it is unable to do so. California's climate, lifestyle and universities (both private and public) provide a bedrock to build upon. In a series of papers such as this one about New York City, and this one about Chicago , Ed Glaeser has demonstrated the robust correlation that skilled cities grow.

2. What do the skilled want? Economic opportunity and quality of life. Since California's quality of life is unique and no other state in the U.S is close to it, I am convinced that California has a great future. In my "model", quality of life acts as a magnet that attracts the skilled and where the skilled cluster (San Fran, LA) --- economic opportunities emerge.

3. A key challenge here is consistent Government policy. Will California's taxes and fees simply keep marching upwards? Businesses and households need certainty over the policy regime when making investment choices. If California could pre-commit to not engage in highly progressive taxation then more Superstars will continue to live and work here. If taxes on such stars rise, then California will be running a dangerous experiment in sketching out "the demand curve" for living in California. Intuitively, high taxes lower after tax wages and only those who really love it here will remain. Others will run away to Nevada, Texas and other low tax areas.

4. What business opportunities will climate change mitigation policies and climate change adaptation play for the state? Could the "green economy" really be our next Google? Will AB32 be enacted without disruption? Green businesses need clear policy signals --- what will the RPS be in 2020? What will be the policy "rules of game" for solar subsidies, electric vehicles and other green products?

California has an edge here due to our universities, and the home market effect (i.e that we buy 1st generation solar panels and green cars and the fact that a lot of progressive venture capitalists want to live here.

5. At some point, the state's public employee unions will need to be challenged. This is not a politically correct topic but we need government to provide more services and more nimble services per tax dollar paid. Republicans would be more likely to support government and taxes if they felt that this did not represent redistribution to other groups. Articles such as this one about over-compensation at Los Angeles DWP do not auger well for our future if this unsustainable status quo continues.

A daring economist should write a paper calculating what it costs California to provide a service such as garbage collection for 200 homes versus what it would cost for the private sector to provide the same services. My guess is that the public sector provides this specific service at 3 times the cost of the private sector. Now, I recognize that this "cost" is a wage premium for the lucky guys who have the public sector job. But, this public expenditure must be covered with taxes (to balance our budget) and this imposes the usual public finance costs.

6. In the face of Prop 13, I continue to support a windfall profits tax. Longtime homeowners have been paying "too low" a share of annual property taxes and they will make a very high return on their homes when they sell. It isn't crazy to impose a 5% windfall profits tax when they sell and for those who hand their home to their kids, somebody should come up with a mechanism to share the long run capital gain.

7. The future of California's public universities? --- This is a discussion for another day. A radical strategy would be privatization. I favor this but UCLA appears to be quite weary about pursuing this strategy. I wish that Milton Friedman was alive to spend an hour with the leaders of our University to discuss the benefits and costs of freedom. I'd pay his consulting rate to facilitate the meeting.