With the state poised to issue billions in IOUs in lieu of cash this week, California's budget crisis could create serious headaches for some private vendors and local governments.

The deciding factor could be California's banks. If they're willing to honor the registered warrants, or IOUs, then the problem becomes manageable for the scores of small businesses and local governments that rely on dollars flowing from Sacramento. They'll be able to cash the IOUs.

But if the banks resist, billions in state payments will be effectively delayed – putting renewed stress on a state and region already suffering from a deep recession. One Rocklin company, a temp firm that relies heavily on state business, has already laid off five workers in anticipation of a cash squeeze.

So far, no banks have committed to honoring the IOUs, said Hallye Jordan, spokeswoman for state Controller John Chiang.

She said banks are probably waiting to see how much interest the state will pay on the IOUs – a figure that won't be decided until Thursday, the same day Chiang is scheduled to issue IOUs. The notes will total $3.36 billion, with about $500 million targeted for the private sector.

Bankers are also scrambling to deal with the logistical issues presented by the IOUs, which haven't been issued by the state since 1992. Among other things, banks are worried about counterfeit IOUs showing up at teller windows, said Beth Mills, spokeswoman for the California Bankers Association.

Overall, the industry appears to have been taken aback by Chiang's announcement last Thursday that IOUs were coming.

"We had been operating under the assumption that the state would have enough money to get through the month of July," Mills said.

State workers, already dealing with furloughs and layoffs, won't have to put up with IOUs. Warrants for payroll were ruled illegal by the courts in the 1990s. Payments to CalPERS and CalSTRS for pensions and health insurance also will be made in cash. But IOUs can be used for reimbursing travel expenses, Jordan said.

The IOUs are scheduled to come due Oct. 1 – meaning, that's when anyone holding the notes will get paid back the principal plus interest. Meanwhile, businesses and local governments that get state money are preparing for the worst.

"When I heard they were going to start issuing IOUs, I laid off five people," said Gloria Freeman, president of Staff USA Inc., a Rocklin temporary-employment agency. "I just had to cut back … to get through this next budget impasse."

She said the state owes her company several hundred thousand dollars and accounts for 80 percent of her business. Ironically, she said Staff USA picked up a lot of state business when competitors folded because of late payments from the state.

The bulk of the IOUs will go to local government agencies around the state that get state money for welfare and various social services. Jim Wiltshire, deputy director of the California State Association of Counties, called IOUs preferable to the sheer delay of payments that ensued during February's budget impasse.

Things got so bad in February, Sacramento County officials quietly considered filing for municipal bankruptcy. That discussion ended when a new state budget was signed Feb. 20.

This time, Sacramento County believes it can borrow enough money internally to "navigate the waters," said Mark Norris, head of the county's Internal Services Agency.

But if the county is still getting IOUs after Oct. 1, the problems would likely turn more severe. The county could be forced to issue its own IOUs to vendors, he said.

On the state level, most vendors have gotten used to the state dragging out payments because of the Legislature's chronic failure to deliver a budget by the June 30 deadline. Many plan accordingly, hoarding cash while waiting out the annual drama at the Capitol.

But the prospect of a prolonged budget fight weighed heavily on some business owners.

"If we're still looking at this by the first of August, we're going to start hurting," said Fred Rhodes of Rhodes Consolidated Inc. of Galt, which sells plumbing supplies, water-softening salts and other goods to state hospitals and prisons.

There's an added complication this year – a tight credit market that could make it tougher than usual for businesses to borrow money to tide themselves over.

"It is much harder to get credit now than in the past," said Christian Bartels of CB Enterprises of Ceres, which supplies food to state prisons.

Bartels said he thinks he could get a bank loan to see him through a cash shortage. But nothing's guaranteed. The crisis "could be a business-ending prospect not only for myself but for other small businesses that sell to the state of California," he said.

With this year's deficit estimated at $24.3 billion, and the state already in a deep recession, the prospect of a prolonged budget mess has raised concerns to new levels.

"It's certainly more of a disruption that makes it more difficult to operate in a bad economy," said economist Jeff Michael of the University of the Pacific. "It's one more thing that we don't need right now."

Call The Bee's Dale Kasler, (916) 321-1066. Read his blog on the economy, Home Front, at www.sacbee.com/blogs.