As Deficit Grows, Calif. Prepares to Issue IOUs

"It's unfortunate that we're at this point," said Hollingsworth, a Republican.

Hundreds of state employees and supporters marched against additional pay cuts and furloughs during a demonstration at the Capitol in Sacramento, Calif., Wednesday, July 1, 2009. (AP Photo/Rich Pedroncelli)

(AP)

It will be the first time since 1992 that California will have issued IOUs. The move is almost certain to further damage the state's credit rating, already the lowest of any state, saddling taxpayers with billions of dollars in higher interest payments on bonds that have yet to be sold.

Issuing IOUs — formally referred to as individual registered warrants — also will have real-world consequences for those on the receiving end. Small businesses that rely on state contracts will be most affected.

"It really doesn't affect the million-dollar companies. It's the smaller ones that will get hit," said Paul Nguyen, director of Care Now Staffing, a Southern California company that employs a dozen medical professionals.

The IOUs also will be sent to California counties, which now must find other ways to fund a wide array of social programs, ranging from alcohol abuse and mental health treatment to services for the elderly and disabled. California's universities were evaluating ways to assist students whose grants will not be funded to pay education expenses.

It was unclear whether some of California's largest banks will accept the state's IOUs as payment. They would be paid back, with interest, but the state's precarious financial condition and legislative gridlock might be making some bankers nervous.

Bank of America announced Wednesday it would cash the IOUs for its customers through July 10, bank spokeswoman Colleen Haggerty said. Schwarzenegger and state officials asked other banks to do the same, noting that California has never defaulted.

"We will make those payments," he said. "We are responsible."

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Associated Press Writers Judy Lin, Juliet Williams and Jared Grigsby contributed to this report.

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