The state of California was yesterday set to fire 20,000 public employees as it teetered on the brink of a total financial collapse.

The crisis in the Golden State, home to 37 million people and a $1.8 trillion economy, is now so intense that anyone who overpaid their 2008 taxes will receive an IOU instead of a refund cheque.

Meanwhile, all public works projects are being cancelled, schools are facing closure, the Department of Motor Vehicles has shuttered many of its offices and the state’s bonds are almost unsaleable on Wall Street, which has in turn pushed up the cost of borrowing, forcing the state into the kind of death-spiral that has laid waste to many businesses over recent months.

“We are dealing with a catastrophe of unbelievable proportions,” said the state Senator Alan Lowenthal, a Democrat, and chairman of the Senate transportation committee.

Many aspects of the crisis are making an already-grim economic situation worse: thousands of construction workers are being laid-off from road and bridge repair projects and it is becoming more time-consuming to arrange the paperwork to either buy or sell a car.

Although California had a 2008 budget of $131 billion - it has more than doubled in size over the last decade - the state faces a $40 billion shortfall, thanks largely to a calamitous decline in tax revenues caused by the housing crisis and the recession.

In spite of a record-breaking 30-hour marathon session over the long President’s Day weekend, the state’s governor, Arnold Schwarzenegger, a Republican, has failed to negotiate a compromise over how to close this deficit. He had proposed $15.1 billion in spending cuts, $14.4 billion in temporary tax increases, and $11.4 billion in borrowing.

But Republicans, who blocked the governor’s deal by just one vote, favour more spending cuts and accuse Democrats of trying to exploit the emergency by using it as an opportunity to funnel government money to their pet causes.

They are furious at any attempt to raise taxes on Californians, given what they see the state’s history of gratuitous overspending.

“You're not going to go back to the people's [wallets] to fuel that spending," said one Republican state Senator, Dennis Hollingsworth.

Democrats are similarly furious.

“One member,” said Darrell Steinberg, the Democratic state Senate leader. “One more member [was all we needed] to put the interest of the state ahead of ideology and ahead of any parochial concern.”

Unlike many other states, California requires a two-thirds majority in the legislature to pass budgets and tax increases, which is why negotiations have been going on fruitlessly for months. This week, however, marks a final deadline, because the state runs out of cash to fund its ongoing operations.

Soon it will have to shut down altogether.

Another problem facing California is a mass exodus to other states.

Already concerned about California’s harsh business regulations and the ones yet to come - along with the tax hikes supported by the governor - many are simply packing up and abandoning the state.

According to California’s Department of Finance, some 135,000 residents left the state last year, compared with a net inflow of 150,000 residents in 2000.

Speaking about the 20,000 lay-offs, Aaron McLean, a spokesman for Mr Schwarzenegger, said: “In the absence of a budget, the governor has a responsibility to realise state savings any way he can. This is unfortunately a necessary decision.”

The redundancies will affect about 20 percent of all California’s public workers, said Mr McLear, adding the cuts would extend to every part of state government. The positions will be eliminated in June in preparation for California's next fiscal year, which starts in July.

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