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California Deal Won’t End IOUs

Third-generation dairyman Mike O'Kelly has been taking IOUs all month waiting for the state of California to pay its bills.

"They owe me a lot of money," says O'Kelly, whose farm provides milk and food to the state's prisons. "They need to get their stuff together."

Three weeks after the state started handing out IOUs in place of hundreds of millions of dollars owed to contractors like O'Kelly, Gov. Arnold Schwarzenegger and legislative leaders from both parties have brokered a deal that may allow it to pay bills and begin to get its fiscal house in order.

Details of the agreement reached Monday @are still emerging, and already protests are being raised by some who say it relies too much on borrowing and others who say it cuts too much.

Even so, state Treasurer Bill Lockyer said the plan is "an absolute necessity" in a state facing a budget shortfall of $26 billion.

"It definitely is a step in the right direction," Lockyer said.

The agreement avoids raising taxes, a goal of the governor since voters rejected tax-increase proposals in a May referendum, while reducing spending on education and welfare services.

It also relies on accounting tricks and borrows billions from local governments, according to the Los Angeles County Board of Supervisors. The board voted Tuesday to sue the state to block a provision in the deal in which the state takes millions of dollars in gas and property taxes and other funds that were supposed to go to cities and towns.

And the deal does not end IOUs.

Lockyer and state Controller John Chiang said it was too early to determine whether the state can stop issuing IOUs as payment to vendors or whether it will be able to pay off the $681 million in IOUs issued so far. The deal must be approved by the Legislature, which could vote as early as Thursday.

California began issuing IOUs, which pay a 3.75% annual interest rate, earlier this month, creating the most dramatic symbol of the financial chaos gripping the largest state in the nation.

Some California banks have been accepting the IOUs, but others have not.

O'Kelly, of Susanville, Calif., in the northeastern section of the state, said he received a $4,500 IOU and was able to deposit it at his local bank, which accepted it like cash. But his Morning Glory dairy is due another $100,000, and he isn't sure his bank will accept an IOU that big.

Getting IOUs is actually an improvement in some respects, businessmen say.

"In past years we didn't get paid at all," said Fred Rhodes, whose family business sells industrial supplies to state agencies. "Last year, we didn't get paid until late September or early October."

Rhodes said he has received $7,000 in IOUs. His bank accepted the IOU but has been warning it will soon stop taking them.

Among the spending reductions in the deal:

$6 billion from K-12 education and the state's more than 100 community colleges. School systems can cut five days from the academic year.

$3 billion from the University of California and California State University systems. They have already raised fees, reduced enrollment and cut course offerings.

$1.3 billion from Medi-Cal, the state's health care program for the poor.

$1.3 billion in savings from additional furloughs of state workers, three days per month.

$1.2 billion from prisons.

$528 million form CalWORKS, the state's welfare-to-work program, partly by increasing sanctions for families that don't meet work requirements.

The deal clears the way for limited expansion of oil drilling off the Santa Barbara coast, bringing in $100 million to the state. It speeds up some tax collections and provides for the sale of assets, among them the Orange County Fairgrounds and the Ronald Reagan State Office Building in Los Angeles.

Lockyer said the plan also appears to include a start on structural reforms, including adjustments to pension formulas for state workers.

"There is a significant hit on local governments," Lockyer said. "The truth is, everything got hit."

Joel Fox, president of the Small Business Action Committee and a frequent critic of state government spending on his website, FoxandHoundsDaily.com, said the state still must address structural problems that leave it in chaos anytime the economy dips. He says the state needs to cut the massive size of California government, scale back a pension system that allows some public workers to retire with six-figure incomes as young as age 50, and reshape a revenue system heavily dependent on soaking upper-income taxpayers.

"What we have here is a short-term fix to get us out of the IOU problem," Fox said. "It is by no means fixing the structural problem and taking care of what got us into this mess in the first place."

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