Gov. Arnold Schwarzenegger told the editorial board of The Bee on Monday that California is set to run out of cash as early as February, and is having difficulty selling bonds to raise cash. He told us that the state has only sold part of the bonds needed and has $2 billion to go.
So now we learn from ProPublica and the Los Angeles Times that "Goldman Sachs Urged Bets Against California Bonds It Helped Sell," which could cost California taxpayers.
The investment firm collected millions of dollars in fees for bringing California bonds to market and finding buyers. At the same time it was marketing a financial instrument known as a "credit default swap," where investors bet on a price decline for California bonds.
That, in turn, would drive up the interest rate the state pay to borrow money. An increase of a single percentage point on a $1-billion bond issue would cost taxpayers an additional $10 million a year in interest.
"That's not a good way to do business," said Geoffrey M. Heal, professor of public policy and business responsibility at Columbia University. "They've got a conflict of interest and they're acting against the interest of their customers. . . . You act in the interests of your clients. You don't screw them, to put it bluntly."
"States are going to have to cut back on education, social services, a whole range of things because of the lack of credit. This is not just a Wall Street thing. This is going to affect the lives of less affluent people in the states that are affected."
You'll recall that these same credit default swaps were instrumental in the collapse of Lehman Bros., American International Group (AIG) and Bear Stearns.
All these speculative schemes to make money off paper gains and losses have done nothing to contribute to the real economy. And, we're now learning, they can be positively destructive when people wake up and realize that the emperor has no clothes.