Rescue bill may help Calif sell short-term debt

By Jim Christie

SAN FRANCISCO (Reuters) - California is preparing to ask the federal government to buy up to $7 billion in notes in the face of a frozen municipal debt market, but the passage of a landmark U.S. financial rescue bill may thaw the market.

Gov. Arnold Schwarzenegger on Friday said California was not "out of the woods" after the $700 billion federal financial bailout bill was passed into law. But he called passage of the legislation, seen as key to calming market fears around the world, "extremely important" for California and the nation.

In a dramatic step, Schwarzenegger in a letter on Thursday told U.S. Treasury Secretary Henry Paulson that California could need the federal government to buy $7 billion of state revenue anticipation notes stalled by a weak credit market.

"If we can't get that loan through the normal course, we will go to the federal government and ask for help and we have already set that in motion," he told a news conference.

The state's liquidity squeeze also weighed on its Congressional delegation. "I can't recall when that has happened before," Rep. Dan Lungren, a California Republican said on the floor of the U.S. House. "That ought to give us some pause here."

With the rescue bill signed, an aide suggested the outlook for California's planned note sale will improve.

"We believe that the package ... is going to restore confidence on Wall Street and add liquidity," Schwarzenegger spokesman Aaron McLear said, adding the state may soon be able to sell the debt to raise money as it normally does.

H.D. Palmer, a spokesman for the state's Finance Department, was more guarded, but noted State Treasurer Bill Lockyer is poised to get the notes to market quickly as the state has only enough cash to its pay bills through late October. "We've got our track shoes laced-up and we're ready to go," Palmer said. "That said, we will have to see how far the credit window opens and under what conditions."

NEED FOR SHORT-TERM CASH

California needs to sell its revenue anticipation notes to tide itself over before it collects fees and other income. California is the biggest issuer of U.S. municipal debt and the most populous U.S. state.

The note sale was in peril because the municipal debt market was effectively closed, Lockyer said earlier this week.

The market has all but frozen up over the past three weeks. Buyers have been scarce and tax-exempt yields have skyrocketed. Few deals have been priced and scores of issuers such as states, hospitals, school districts and others, have postponed their bond sales awaiting a market turn around.

Without access to the debt market, Lockyer, a Democrat, and Schwarzenegger, a Republican, warned California may have to delay payments for essential state services such as law enforcement. In his October 2 letter to Paulson, Schwarzenegger warned California is not alone.

"The economic fallout from this national credit crisis continues to drain state tax coffers, making it even more difficult to weather the continuation of frozen credit markets for any length of time," Schwarzenegger said.

Lockyer said on Wednesday the planned note sale was at risk from the uncertainty gripping financial markets. "Basically no credit is available -- zero today," he told Reuters.