California IOUs Are 'Valid and Binding,' But Don't Try to Spend Them

Bank Have Enough Bad Assets

Tuesday, a group of major banks, including Bank of America (BAC), Citigroup (C), JP Morgan (JPM) and Wells Fargo (WFC), said that they would stop accepting California IOUs. The State of California, virtually out of cash, has been issuing IOUs, known officially as “individual registered warrants” to creditors in lieu of cash. The State has promised to pay IOU holders 3.75% interest when the warrants mature on October 2.

With Fitch Ratings dropping California’s debt rating to BBB junk status, it is understandable that the banks do not want to cash the IOUs. Allowing warrant holders to cash in their IOUs would effectively transfer the credit risk of the IOUs to the banks. Most major banks already have a mountain of non performing assets and, understandably, do not wish to add California IOUs to the list.

The reality of the situation is that California has already defaulted since they have reneged on their obligations to creditors. I wonder what the State of California’s reaction will be when their citizens adopt the State’s method of bill payment and start sending in IOs instead of cash for tax payments due? Many of California’s citizens have been placed in a horrendous financial situation by California’s “spend and borrow until we are bankrupt” policies. If the banks won’t cash in the IOUs, why would an average citizen or business want the IOUs? The IOUs won’t pay for your groceries or rent and they can’t be converted to cash - what does that say about faith in California’s “promises to pay tomorrow what is due today”?

FDIC Issues Statement On California IOUs

The FDIC today issued the following statement to its member banks regarding the credit worthiness of California’s IOUs.

California Registered Warrants
Interagency Statement

Summary:

The federal financial institution regulatory agencies are jointly issuing the attached supervisory guidance for financial institutions regarding the regulatory capital treatment for registered warrants issued by the State of California as payment for certain obligations.

Highlights:

• The Attorney General of the State of California has opined that the registered warrants that the State is issuing as a form of payment for certain of its obligations are valid and binding obligations of the State.
• The banking agencies’ risk-based capital standards permit a banking organization to risk weight general obligation claims on a state at 20 percent. These warrants, which are general obligations of the State, would, therefore, be eligible for the 20 percent risk weight for risk-based capital purposes.
• Banks should exercise the same prudent judgment and sound risk management practices with respect to the registered warrants as they would with any other obligation of a state.

I would guess that the FDIC’s statement on the soundness of California’s IOUs was more politically motivated than financially inspired. If this is all the support that California is going to get from the Federal Government, the citizens of California have much to be concerned about.

The FDIC is telling the banks that the risk of California’s warrants is the same as any other state issued general obligation debt. Nice try, but apparently, the biggest banks in the country, as well as the credit rating agencies, are not buying this line. If the banks won’t cash the IOUs and you can’t spend them, they are effectively worthless today. Those stuck with California IOUs may be in for a long wait before they can be cashed in.

Disclosure: No positions

Comments

[Old Trader:]

This is NOT a good development (esp. if you're one of those slated to receive "Arnie Bucks", in lieu of legal tender).

Jul 09 09:08 AM

[a. palmer jr.:]

They were warned that carrying that many illegals would result in their financial demise and they ignored the warning, choosing to be politically correct instead. Now let's divide up their assets!

Jul 09 09:39 AM

[Mad Hedge F...:]

The local Walmart certainly won't take them. Perhaps it was deliberate that AMC Channel featured an Arnold Schwarzenegger film festival this weekend. Was the gratuitous violence of Terminators, Judgment Day, and the End of the World intended to drive us all to the negotiating table (“speak to the hand”)? We now have a new currency in circulation, Golden State "script", which is thoughtfully being printed in green as I write this. Of course the banks haven’t said they will accept this past July 10, so many spent the July 4th weekend at Big Five Sporting Goods stockpiling ammo and drinking water (everyone here already owns guns), possibly inspired by the Arnold movies. Many schools have already cancelled summer school, so of course, the malls are full of jobless kids lounging around and smoking cigarettes, with nothing to do. Towns are going without fireworks celebrations, and worried citizens are bracing themselves for a complete cessation of state services by the fall. Obama has wisely turned a blind eye to all of this, leaving we non taxing big spenders to stew in our own manure. For more on this see my earlier piece . With everyone of all parties thoroughly disgusted with their leaders, I’m surprised that the grass roots campaign for a state initiative to dump the two thirds majority required to pass a budget hasn’t welled up yet. Does France still have that guillotine thing? Is it available for rent? Will they take California "script"?

Jul 09 10:30 AM

[kohalakid:]

OK, this is the third separate article you've used this same Comment for.

Once was plenty.


On Jul 09 10:30 AM Mad Hedge Fund Trader wrote:

> The local Walmart certainly won't take them. Perhaps it was deliberate
> that AMC Channel featured an Arnold Schwarzenegger film festival
> this weekend. Was the gratuitous violence of Terminators, Judgment
> Day, and the End of the World intended to drive us all to the negotiating
> table (“speak to the hand”)? We now have a new currency in circulation,
> Golden State "script", which is thoughtfully being printed in green
> as I write this. Of course the banks haven’t said they will accept
> this past July 10, so many spent the July 4th weekend at Big Five
> Sporting Goods stockpiling ammo and drinking water (everyone here
> already owns guns), possibly inspired by the Arnold movies. Many
> schools have already cancelled summer school, so of course, the malls
> are full of jobless kids lounging around and smoking cigarettes,
> with nothing to do. Towns are going without fireworks celebrations,
> and worried citizens are bracing themselves for a complete cessation
> of state services by the fall. Obama has wisely turned a blind eye
> to all of this, leaving we non taxing big spenders to stew in our
> own manure. For more on this see my earlier piece . With everyone
> of all parties thoroughly disgusted with their leaders, I’m surprised
> that the grass roots campaign for a state initiative to dump the
> two thirds majority required to pass a budget hasn’t welled up yet.
> Does France still have that guillotine thing? Is it available for
> rent? Will they take California "script"?

Jul 09 02:06 PM

[JeffDB:]

It appears they aren't out of options yet... ;)

money.cnn.com/2009/07/...

One option open to the government of the most populous U.S. state for raising revenue is to tax marijuana, said retiree Nadene Herndon, a 58-year-old retire in Fair Oaks, California. Herdon promotes a tax on pot in a television commercial, paid for by the Marijuana Policy Project Foundation, that began airing on Wednesday in some California broadcast markets.
...
Pointing to cigarette smokers, who light up regardless of California's stiff tax on tobacco, Herndon said marijuana could prove a steady source of revenue for the state. "It should be taxed like any other commodity," she said.

Jul 09 04:26 PM

[Boxed Merlot:]

There may be an element of truth to this comment but concentrating on the spend side is only one half of the equation. I think the legislature has been deceived into believing and in turn telling their constituents, that much of the legislation they pass has a little impact on cash generation. When in fact, no less than 14 permits, (with attending government fees), are typically necessary to allow an individual to begin trading goods / services, it’s no wonder the best option for our graduates is to sit at the corner of an intersection with a sign and can.


On Jul 09 09:39 AM a. palmer jr. wrote:

> They were warned that carrying that many illegals would result in
> their financial demise and they ignored the warning, choosing to
> be politically correct instead. Now let's divide up their assets!

Jul 09 06:15 PM

[Clearwaters...:]

Get your Official Arnie Bucks T-Shirts available through this site
sites.google.com/site/.../
Have a laugh and send one to someone you love
Additiional items coming soon

Jul 09 08:44 PM

[Northstar10000:]

Just shut the place down. the illegals will run to Arizona and then they will be next. State fences anyone !!!

Jul 09 09:47 PM