California Budget Deal Is a Bad Band-Aid

State once again fails to address the spending and structural problems that cause deficit

California’s budget plan, now signed by Gov. Arnold Schwarzenegger, may help address the state’s fiscal crisis in the very near-term, but what is not included in it is just as important as what is. After voters soundly rejected several measures that were part of the previous budget deal, the governor and some policymakers seemed to get the message that Californians are already taxed to the hilt and are unwilling to accept tax increases or borrowing schemes. Thus, the good news: the new budget package contains no new tax or fee increases.

The budget plan claims to rely upon a reported $15.5 billion in cuts to plug the $26.3 billion deficit. Regrettably, the rest is made up through accounting gimmicks, borrowing schemes, and raids of local government funds. One of the gimmicks: Delaying a payday for state workers by one day, from the last day of the current fiscal year to the first day of the next fiscal year. That may put off the bill, but it does nothing to reduce costs. What happens next year when the economy is still struggling and the state now has to account for that extra $1.2 billion payment?

It seems that legislators and the governor are hoping that the economy will suddenly snap back and that economic growth will bring in enough revenues to bail them out of the current budget crisis. But that hope is just that: wishful thinking, especially given California’s burdensome tax and regulatory climate. Experts, including those in the state government, expect the recession to drag on for some time. The state’s unemployment rate remained at 11.6 percent in June, which is even higher than the 11.0 percent rate achieved during the peak of the 1982-83 recession. According to the Department of Finance (DOF), things are not expected to get much better real soon. DOF forecasts call for double-digit unemployment through at least 2011. So assuming the state’s economy does not rebound quickly, and corporate, income, and sales tax revenues remain depressed, the state will continue to operate in budget crisis mode until it recognizes that stop-gap measures alone cannot fix its fiscal problems and embarks on some true structural reforms.

Over the past 11 years (FY 1997-98 to FY 2008-09), General Fund spending increased nearly 80 percent. If the state had just held spending increases during that period to the average annual growth rate of inflation plus population, it would not have any budget deficit at all. In fact, there would be a small surplus of a couple of billion dollars. Moreover, there would have been no need for the $12 billion in tax increases imposed by the February budget deal.

Since legislators and the governor have shown that they are incapable of restraining spending on their own, it is imperative that the state adopt a real spending and revenue limit. One might not know it, given the state’s recent budgetary dilemmas, but California actually does have a spending limit in place. The state appropriations limit, also known as the Gann limit, was approved by voters in 1979, just a year after Proposition 13 was passed. The limit was adjusted for population and cost-of-living factors, and any state revenues that exceeded the limit over a two-year period were to be returned to taxpayers. It worked well at first, but was gutted over the years as the calculation of the limit was altered and numerous exemptions were carved out. As a result, it has become irrelevant. It is time to restore a true spending and revenue limit to prevent the kinds of budgetary imbalances that the state has experienced in recent years from happening yet again in the future.

One major element of controlling spending will be controlling how much state employees are paid in wages and benefits. California’s pension costs ballooned when a measure passed in 1999 increased state workers’ pensions by as much as 50 percent. The state will be paying for those increases for decades to come. Government workers not only receive significantly greater benefits than their private-sector counterparts, but higher salaries as well. As part of a real, long-term budget solution, the state should abandon the unsustainable defined-benefit retirement system and adopt a 401(k)-style defined contribution system with compensation rates comparable to those in the private sector. Taxpayers should not have to pay for more and more generous pensions for government workers while they are seeing their own retirement benefits cut during difficult economic times.

Finally, in addition to controlling the state’s spending, California must change the entire budget process to make it more rational and effective. The existing line-item budgeting process is purely arbitrary, leading to even more chaos. Government programs should all be evaluated based on outcome measures so their performance can be determined objectively. Performance-based budgeting and prioritization should be built into the budget process so that ineffective and low-priority programs can quickly be identified and named as the first to go during a fiscal crunch.

California’s latest budget package is a Band-Aid on a wound that needs some serious medical attention. The state will continue to bounce from one budget crisis to the next until policymakers get serious about addressing unsustainable state spending and implementing the long-term, structural reforms needed.

Adam Summers is a policy analyst at Reason Foundation.