Highlights and Analysis of the Governor's 2013-14 May Revision

Friday, June 21, 2013

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Executive Summary

Economic Slowdown. The May Revision reflects a downward change to the economic forecast that is largely driven by the federal payroll tax increase.  It is unclear what the effects have been from the $45 billion sales and income tax increase voters approved in Proposition 30, and the lack of any measures to improve California’s hostile business climate or create new jobs, but certainly those factors have not helped the economy.

The Revenue Windfall That Wasn’t. On May 1, 2013, state revenues were about $4.6 billion above the January budget forecast, but the Governor projects that they will end up only $2.8 billion higher for the 2012-13 fiscal year ($95.4 billion grows to $98.2 billion), and will drop by $1.3 billion (from $98.5 billion to $97.2 billion) in 2013-14 compared to the Governor’s January budget projections.  With other accounting and accrual adjustments for prior years the net effect is that state revenues are only about $1.2 billion higher than expected per the January 2013-14 Governor’s Budget.  Absent a $500 million loan from Cap-and-Trade fee revenue, state revenues would be just $750 million higher.

Legislative Analyst Calls Governor Pessimistic. The Legislative Analyst’s Office (LAO) has released a new state revenue forecast that differs significantly from the Governor’s Department of Finance estimates.  The LAO projections are $3.2 billion higher than the Governor’s May Revision total (noted above).  The disagreement is largely over the amount of capital gains revenue the state will collect, and the LAO specifically points to recent increases in stock prices and higher housing prices.  The Analyst does agree with the Governor that the Legislature should be cautious about increasing spending and seems to believe that any new revenues provide an opportunity to build a budget reserve and pay off past debts as a priority.

State Spending Hits New Record.  Notwithstanding his pleas for fiscal restraint, the 2013-14 Governor’s May Revision actually proposes a net increase in General Fund spending relative to the January budget plan.  State spending in 2012-13 grows by $2.7 billion (from $93 billion to $95.7 billion), and it drops by $1.3 billion in 2013-14 (from $97.7 billion to $96.4 billion) resulting in a net spending increase of $1.4 billion General Fund compared to the January 2013-14 Governor’s Budget proposal.  In fact, total state spending from all fund sources is $232.9 billion in 2013-14, $8.3 billion higher compared to the January budget plan - a new historic state spending record.

The Scorpion and the Frog. Unfortunately, it is clear that the Governor’s May Revision represents the state spending floor from which legislative Democrats will only increase the costs – just as in the parable of The Scorpion and the Frog, it is their nature.  Legislative Democrats have already exhibited their disappointment with the Governor’s “fiscal prudence” as they call for potentially billions of new government spending on everything from welfare programs to low-income housing and government subsidized child care. The lesson of the “boom and bust cycle” that occurred twice in the past decade clearly has not been absorbed.

Tax Frenzy--From Bags to Bullets. Despite the current base revenue increases and the $50 billion of new tax increases approved by voters in November 2012, legislative Democrats have about twenty new tax and fee measures pending at the moment that would affect everything from plastic bags to bullets; they even propose taxes on soda and strippers.

Budget Risks Everywhere.  The Governor has acknowledged that the budget is only precariously balanced at best. The following is the short list of large-ticket items that could swing the state budget back into deficit mode:

  • Despite a widely-held expectation that the Governor will be granting grant pay raises and benefit increases to the public employee unions there is no funding in budget for upcoming collective bargaining.  Each one percent pay increase equals about $100 million General Fund and one of the largest public employee unions (SEIU) has already requested a $2,500 bonus for each employee in 2013, and seven and nine percent salary increases in 2014 and 2015 respectively.
  • There is no funding included to address the recent federal court order to reduce the prison population, which could easily cost hundreds of millions of dollars for receivers and reduction programs, community supervision and additional secure facilities.
  • There are pending federal regulations that could increase In-Home Support Services (IHSS) overtime costs by at least $200 million to $300 million, according to the Administration.
  • The budget assumes $1.5 billion from the dissolution of Redevelopment Agencies, despite at least 70 lawsuits pending on this issue.
  • Both the Governor and LAO have expressed concern over volatility in the capital gains revenue forecast, which could swing revenues by billions of dollars.
  • Rising health care costs could strain the budget since Medi-Cal will cover nearly 25 percent of the state’s population, and state employee/retiree health care already costs billions of dollars. A change in the inflation rate could cost hundreds of millions more.
  • The greatest risk to the budget is pent-up spending demand among legislative Democrats, the advocates that influence their decisions, and public employee union demands.

California Needs A Common Sense Rainy Day Reserve Fund.  To his credit, Governor Brown has said “It’s not time to break out the champagne” and he is trying to prevent his fellow Democrats who rule the Legislature from taking California back into a new budget crisis.  However, he fails to set an example by following the State Constitutional requirement to put money into a budget reserve fund.  In addition, the Governor should support the Republican effort to allow a vote of the people on a true rainy day reserve pursuant to the bipartisan plan enacted in ACA 4 (2010) that would help ensure budget stability and avoid future budget crises.

Read Complete Analysis (pdf)