<<However I don't see how the housing situation is correlated to their economy. E.g. California's economy has multiple footings, e.g. high tec, entertainment, agriculture, etc...>>
Agree that California has a broad economic base which provides a degree of safety when one sector turns down, but it may not be enough when:
1. Homebuilding and home improvement grind to a halt, resulting in fewer construction jobs, less demand for hundreds of ancillary products including concrete, glass, lumber, kitchen cabinets, lighting, swimming pools. Less revenue for Lowe's, Home Depot and a host of other retail suppliers.
2. Service jobs tied to the industry including mortgage brokers, building inspectors, realtors, interior designers, etc... get reduced by 20 to 50%, depending upon who you believe.
3. The impact of these losses multiplies across a spectrum of goods and service industries, from restaurants that served the construction trade at lunch, to newspapers that sold classified ads to the woman down at the nail salon, etc...
The following abstract, while a little dated, sums it up quite well:
<<Both figures reveal that the housing boom was a key contributor to the growth in both jobs and GDP over this recovery. It thus comes as little surprise that a slowing housing market creates a significant drag on the rest of the economy. Absent a considerable boost in demand from other sources (personal consumption, a lower trade deficit, or accelerated business investment), we can expect slower growth in coming quarters.>>
As to the second issue:
<<And eventually the cheap money situation (rate cuts) will result in propping up the economy, while we're working through the housing inventory.>>
I particularly agree with the 'eventually' part. The irony of our present situation is that despite all of the liquidity that the fed is trying to inject into the economy, very little of that money is finding its way to businesses or individuals.
Instead, banks and brokerages are using it to address their own near term liquidity crises and are lending very little to third parties.