California's economy is strong, but it could be tripped up by fallout from President Donald Trump's trade and immigration policies, according to economists.
A state report last week by a nonpartisan legislative agency was a reminder that a major economic downturn could create another severe budget crisis for California, which if it were a country would rank as the sixth-largest economy in the world.
The state's Legislative Analyst's Office said "a moderate recession, like the dot-com bust, could lead to a $40 billion budget problem. A more mild recession might result in a $20 billion budget problem."
"There's always going to be another recession," said Christopher Thornberg, founding partner of Beacon Economics, a Los Angeles-based economic consulting firm. "But there's no sign in the cards of any recession coming down on the California or national economy anytime in the near future."
The legislative report, entitled "Building Reserves to Prepare for a Recession," said the dot-com bust in the early 2000s was considered "more moderate" in economic terms. Nevertheless, it said, the bust resulted in more than $80 billion in estimated tax revenue losses. By comparison, state data show the Great Recession produced some $100 billion in such losses.
However, economists say the latest snapshot of the California economy doesn't provide any cause for concern about a recession being on the horizon. That is despite recent cutbacks by some tech companies, including Snap and NetApp, as well as the impact from ongoing restructuring in the retail sector.
"At the current time, there do not appear to be signs of slowing or a concern," said Lynn Reaser, chief economist for the Fermanian Business and Economic Institute at Point Loma Nazarene University in San Diego.
Trade risk
However, she believes international trade and the situation with Mexico could eventually take a toll on the California economy, depending on how U.S. trade policy plays out. Mexico is California's largest export market, followed by Canada and China.
Experts say California's ports and agriculture exports could get hit by fallout from Trump's trade policies, subject to what happens with renegotiation of the North American Free Trade Agreement or possible retaliation by China due to the administration's plan to impose tariffs on imported steel and aluminum.
"I don't think it's going to be a recession this year or next," said Stephen Levy, executive director and senior economist with the Center for Continuing Study of the California Economy, a Menlo Park-based research group.
Even so, Levy said the Trump administration's policies on trade and even immigration could at some point negatively impact California's economy. "If you took those into effect, we don't actually know what's going to happen ... but that could put a crimp in the California economy," he said.
Immigration impact
Last week, the Justice Department sued California for its so-called sanctuary state laws and alleging obstruction of federal immigration enforcement. "This is basically going to war against the state of California, the engine of the American economy," Gov. Jerry Brown said after the suit was filed.
California has around 223,000 young people who are part of the Deferred Action for Childhood Arrivals program set up by President Barack Obama in 2012. In September, Trump said he was ending DACA, which protects people brought illegally to the U.S. as children from deportation and provides them work authorization. The president gave Congress six months to iron out a legislative fix.
If the program ends, the Center for American Progress, a liberal think tank, estimates it would cost California more than $11 billion in gross domestic product losses. The Federation for American Immigration Reform, a conservative think tank, disputes that figure as "flawed."
Matthew O'Brien, director of research for FAIR, said "assertions that DACA will cause economic damage to California, or any other state, are overblown, at best." He also believes after "welfare programs, education costs, the low tax contributions ... are taken into account, ending DACA might result in a net savings to the state of California."
Overall, roughly a quarter of the nation's undocumented immigrants reside in California or as many as 2.6 million people as of 2014, according to the Public Policy Institute of California, a nonpartisan think tank. Also, nearly 1 in 10 Californians is an undocumented immigrant, working mostly in agriculture, construction, and manufacturing.
Job growth
Economists say California's jobs market remains strong, but employment growth numbers last spring showed early signs of a slowdown. Still, things picked up in the summer and fall and momentum has continued.
To be clear, the state also revised some jobs data from last year so some insist any slowing should also be taken with a grain of salt.
Regardless, the state's unemployment rate fell to 4.4 percent in January, the lowest figure since 1976 although still a tad bit above the national unemployment rate for January of 4.1 percent. The largest job gains in the past year have come from educational and health services followed by construction.
"Now the economy is adding over 35,000 jobs a month, which is solid growth," said Reaser. "We've seen relative to a year ago widespread job gains across various industries and across various geographic areas of the state."
Reaser said even the military is contributing to growing employment in California, particularly with ship expansion in the San Diego area.
"So the pause seems to have been temporary and concentrated in the first part of 2017," Reaser said.
Thornberg agrees there was "some sort of impairment" in employment growth at one point but adds that "California's labor market is one of the strongest in the nation."
According to the Thornberg, "Every other indicator suggests full speed ahead."
Record exports
For example, Thornberg said the state enjoyed record exports last year of California products sold to the rest of the world, according to WiserTrade data. Similarly, he said California's new construction activity remains "near an all-time high level" when looking at building permit valuations on the nonresidential side.
Moreover, he said the state's "venture capital surged last year after being slow in 2016."
The average length of an economic expansion since World War II is about 60 months — five years, according to the state Department of Finance. The current economic expansion in California is about three years longer than that historical average.
"We know at some point it's going to end and we don't know how much of a drop off it's going to be," said H.D. Palmer, spokesman for the state finance department.
Rainy day fund
To help weather the next recession, Brown pushed for a "rainy day fund" several years ago and plans to "fill that up" before leaving, according to Palmer.
California faced a $27 billion budget hole when Brown returned as governor in 2011, and he's leaving office in January with the state forecast to have a surplus and a "rainy day" cash reserve fund projected to be at least $13.5 billion.
"The next governor is going to be on the cliff," Brown said in January after proposing the $131.7 billion state budget. "What's out there is darkness, uncertainty, decline and recession — so good luck, baby."
The "rainy day" fund is designed to blunt the severity of the kind of reductions that might be needed when another recession hits, according to state officials.
Volatile revenues
At the same time, California's tax system makes it more vulnerable when the economy goes into a downturn or the stock market falls, say experts. That's because the top 1 percent of income tax earners in California generate almost half of the personal income taxes in the state.
A good chunk of the income from high earners in California comes from capital gains and stock options. That means even small changes in the financial markets can cause big swings either way in terms of the state's collected revenues.
"Prop 13 has forced the state to become overly reliant on income taxes," said Thornberg. "So we have these really high taxes on high-income earners, and those earnings are incredibly volatile."
The passage of Proposition 13, a citizen-led property tax rollback in the late 1970s, shifted the burden away from a more predictable structure based on property taxes and home values to a system where the state must cope with volatile income taxes paid by high earners.
"When the recession does happen all hell will break loose," said Thornberg. "This rainy day fund is going to last us — oh I don't know — maybe six or seven months. It's almost ludicrous how small it is relative to the problem."