Fiscal Policy

Decoding California's May Special Election

Mark Paul — Thu, 30 Apr 2009 01:30:00 -0400

It's no easy thing for Californians to figure out exactly what the six measures on the May 19 special election ballot do. For one thing, the Legislature and Governor did their best to hide the real impact of the measures by ordering up some glossy campaign-speak to decorate the titles and summaries on the ballot. It's easier to sell "budget reform" and "lottery modernization" than a tax increase (Proposition 1A) and more borrowing (Proposition 1C).

But even without the deceit, these measures do not yield to a quick study. For the first time in the nation's history voters are being asked to amend a state constitution to require the use of linear regression in determining how much the state will invest in higher education, health, and environmental protection. If it were necessary for a voter to actually explain how Proposition 1A works before being allowed to vote for it, I suspect it would get less than 1 percent of the vote.

As hard are the measures to understand, it may be harder still for them to answer the critical question: What do they mean for California? What signal will voters be sending by passing them?

Propositions 1D and 1E are the most clear-cut. If they pass, these measures will shift to the state's general fund revenues currently being raised for, and dedicated to, services for preschool children and the mentally ill. These programs, and their supporting revenue, were originally enacted by voters in Proposition 10 (1998) and Proposition 63 (2004). If they temporarily reverse themselves, voters will be making a statement about priorities: protecting schools, health care, and prisons is more important than funding mental health and early childhood services. But as Joe Mathews has pointed out, they will also send a signal that initiative campaigns should never again do the responsible thing and pay for new spending with new revenue.

The meaning of Proposition 1C is more hidden. It's called the Lottery Modernization Act but that title is just political cover. Gov. Arnold Schwarzenegger, having famously promised in 2003 and 2004 to "tear up the credit card forever," wants another MasterCard moment.

At its heart Proposition 1C allows the Governor to borrow against future lottery revenues to pay our bills today. Schwarzenegger resists the notion that this is actually borrowing. It's a "gift from the future," he said a few months ago. But the reality is that Proposition 1C asks voters to take on more debt, a very expensive and risky debt at that. No one can be sure that changing the lottery will yield significant new revenue. Investors will price that uncertainty into their calculations when it comes time to set an interest rate for the lottery bonds. This debt will cost taxpayers more than the 2004 deficit bonds Schwarzenegger once vowed would be the state's last.

Resorting to debt is a popular tactic in the state Capitol. It lets governors and lawmakers put off budget reckonings -- tax increases and spending cuts -- until term limits boot them out of town. But there's no escape for the voters. Pay it now or pay up later, but the bill will come due.

The bumper sticker for Proposition 1A is that California needs a rainy-day fund and a spending limit to get its budget under control. And it would be hard to find any budget expert who doesn't believe it makes sense for the state to put aside revenue in good times to draw down when economic storms swamp the budget in waves of red ink. In fact, as I've explained elsewhere, it's such a good idea that the constitution already requires it. At Schwarzenegger's urging in 2004, voters approved Proposition 58, part of which sets aside a growing proportion of revenues to create an $8-billion budget stabilization account. California also has a spending limit, originally passed as Proposition 4 in 1979 and revised by voters in 1990, which prevents state spending from growing faster than the economy itself.

But the real impact of Proposition 1A will be in the way its impossibly complex machinery changes California's budget priorities.

Voters are being asked to write in stone a new budget direction for the state. Schools and community colleges will continue to follow the spending trajectory set out by Proposition 98, the state's minimum funding guarantee for education. But through the interaction of Proposition 1A's rainy-day fund and spending limit, infrastructure projects -- roads, dams, canals, pipelines, sewage treatment plants, levees, the kinds of projects California formerly (and intelligently) funded through fees and taxes on those who used and benefited from the projects -- will have a permanent new claim on general fund revenue. Tax cuts will also get a favored position.

But all else in the state budget -- higher education, health, social services, parks and the environment -- will be ratcheted down over time. And major initiatives to address pressing state problems, such as the health care reform proposed in 2007 by Governor Schwarzenegger, will become simply impossible to enact.

More than a decade ago my longtime colleague Peter Schrag began writing about what he called the "Mississippification" of California in the wake of Proposition 13 and the tax revolt. May 19 may be the day we Californians really start singing "Dixie."

New America's California program is partnering with the California Center for Research on Women and Families to create a rich debate among policy experts and citizens about the May election ballot measures. This piece and others can be found at CCRWF's new site.

HEALTH REFORM: Key to Avoiding Permanent Fiscal Crises in the States

Micah Weinberg — Tue, 10 Feb 2009 17:29:00 -0500

California is among the states currently experiencing mind-bending budgetary shortfalls. Eventually returning to a period of wealth wisely will depend on fixing health care systems that were strained to a breaking point even before the crisis began. Here are some highlights from an event on Monday that The New America Foundation's Next Social Contract Program and its California Program co-hosted at the Commonwealth Club in San Francisco: "California, the Crisis, and the Next Social Contract: Staying Healthy, Wealthy, and Wise in Challenging Times." (We'll link to the webcast when it's available in a few days.)

Reinventing Government guru David Osborne kicked off the event with a presentation that laid out starkly how, unless brought under control, spiraling health spending will keep the states in permanent fiscal crises. Throughout the rest of the morning, the issue of health care costs kept rearing its head in panels on topics from economic development to education. As it turns out, making progress on any policy issue of importance to state governments will first require getting these costs under control.

It was only fitting, therefore, that the day culminated with a panel on the prospects for national health care reform that could bring desperately needed relief to states and their citizens. Secretary of the California Health and Human Services Agency Kim Belshé said that as a marathon runner, she had come to see healthcare reform as the most challenging endurance sport in politics. But she also believes that there has to be opportunity somewhere in this crisis. Her most trenchant insight, perhaps, was that the health reform effort under Gov. Schwarzenegger in California in 2007 was ultimately not about systems change but about expanding the existing costly system. The current fiscal crisis has helped put changing the health care delivery system on the national agenda, and a consensus is developing even among healthcare stakeholders that such change is necessary.

Jacob Hacker, professor of Political Science at the University of California at Berkeley, highlighted the human costs of delay on healthcare reform within the context of the Great Risk Shift from the broad shoulders of governments and corporations onto the narrow shoulders of working families. He explained that in many ways the social contract has been revised slowly during the past several decades to edit out many of government's basic obligations to its citizens. It is not just the uninsured that the country is leaving behind. Dr. Hacker noted that almost half of medical bankruptcies in the past year have been filed by families that had some form of health insurance. He ended by invoking the words of Franklin Delano Roosevelt in 1938 that, "There is still today a frontier that remains unconquered, an America unclaimed. This is the great, the nationwide frontier of insecurity, of human want and fear. This is the frontier the America we have set ourselves to reclaim." Seventy years later, those words continue to ring true.

Crystal Hayling, president and CEO of the Blue Shield of California Foundation, reminded us that we have reason to be hopeful. She shared her own inspiration born of witnessing the inauguration of President Barack Obama, a day that—perhaps not unlike the eventual passage of national healthcare reform—many thought would never come. She also shared how her foundation is pursuing a strategy of simultaneously helping those most in need because of the gaps in our current system and supporting organizations such as The New America Foundation who are pushing to put new and better policies in place.

Len Nichols, director of New America's Health Policy Program, wrapped up the event by sagely handicapping the prospects for national reform now as compared to the early 1990s. Many differences augur well for this round, perhaps most notably the strong bipartisan interest in health policy in the Senate. He also underscored how the different elements are interlinked through a "virtuous cycle of reform." Coverage expansion is the key to bringing stakeholders on for delivery system reform. Delivery system reform will control costs. Cost control will make coverage expansion sustainable. Yet he cautioned that many powerful forces still benefit from the status quo and will fight tooth and nail against comprehensive reform. Healthcare reform, he concluded, is impossible... but necessary.

The Roadblock to Obama's Infrastructure Dreams

Mark Paul — Tue, 09 Dec 2008 19:36:00 -0500

President-elect Obama's call for enormous new investment in national instructure has the potential, as Steve Coll recently noted, to both stimulate the economy in the short run and strengthen it for the long haul. But as the situation in California illustrates, the economy cannot get the full benefit of that infrastructure package unless the stimulus package also includes a large dose of direct aid to state budgets.

In every respect but one, California is ideally positioned to take advantage of Obama's infrastructure plans. With its congested freeways, crumbling levees, and burgeoning population, it has boundless infrastructure needs. It has existing voter authorization to issue tens of billions worth of state bonds to cover the state's share of cost for projects. It has a bountiful supply of workers, now idled by the collapse of housing construction, to retrofit buildings for energy efficiency or to repair schools and public buildings. It has a vigorous corps of entrepreneurs and venture capitalists to spur a wave of green infrastructure investments, contributing new ideas and technologies to the effort.

It has everything to carry out an infrastructure stimulus program except cash.

Speaking December 8 to an unusual joint session of the California Legislature, Treasurer Bill Lockyer announced that, as of December 17, the state of California, its till increasingly bare, will have to stop providing the short-term cash financing needed by most state infrastructure projects. Billions of dollars worth of planned and approved projects –– school builidings, road and transit projects, levee improvements –– will come to a stop, resulting in the loss of $12.5 billion worth of private sector activity and 200,000 jobs, according to Lockyer's estimate.

When the media and politicians talk about infrastructure and bonds, the discussion usually involves a simple shorthand: Voters approve bonds; state sells bonds; state uses bond proceeds to build projects. In actual fact, the financial plumbing is more tangled. Because of federal tax laws, most infrastructure financing must follow a two-step process. When a state agency is ready to begin an infrastructure project with authorized bond funding, it first applies for a loan from the state's Pooled Money Investment Account, the cash reserve where state and local revenues and special fund cash balances are temporarily parked until they are needed. This bridge financing is used to build the project. Once the project is ready, the state sells authorized bonds and uses the proceeds to pay the short-term loan with interest.

In normal times, this process works seamlessly and without any public attention. (In the 18 months I served as executive secretary of the Pooled Money Investment Board, I never saw a reporter at a board meeting.) But today it is ready to break down.

The state's cash reserves, already depleted by years of internal borrowing and budget gimmickry, are fast draining as the recession drives down revenue collections. To make matters worse, the meltdown of the financial markets prevented the state earlier this autumn from being able to sell the full amount of revenue anticipation notes it normally issues to keep its cash drawer full until most of its tax revenues arrive in the spring. Because the pool in the state's cash reserve is already so low, all of the remaining dollars will have to be loaned to the general fund over the next several months to pay day-to-day bills, leaving none available for infrastructure financing. And without drastic and immediate action by the Legislature to raise taxes or cut state programs, the state will run out of cash, in February or March, for any purpose. In Governor Schwarzenegger's words, California is "headed toward a financial Armageddon."

Yet even drastic action won't be enough to make infrastructure financing available in California for more than a few months. At the same joint session, Controller John Chiang told lawmakers that the state's revenue loss is so great that the cash crisis will return next summer, at the beginning of the next fiscal year, in which the state faces a projected deficit of $19 billion, roughly equal to 20 percent of its general fund. To close that deficit by spending cuts alone would require closing the University of California and the California State University system, ending welfare payments, and eliminating all state funding for the developmentally disabled, for mental health, and for In-Home Supportive Services.

Given that the California Legislature has been unable, to date, to take budget actions, either tax increases or spending cuts, far less painful than these, it seems unlikely that California finances will permit the normal funding of infrastructure at any time in the next several years.

Obama has said he will provide infrastructure funding for the states, which must use it quickly or lose it. But without federal assistance to cope with its budget calamity, California, and likely other states as well, will be in no financial shape to take full advantage of this infrastructure moment. As I have written before, using the coming stimulus bill to bolster state finances is essential to prevent state budget actions from deepening the recession. But as California's plight illustrates, generous assistance to the states, on the order of $100 billion to $150 billion, is also vital to making Obama's infrastructure hopes come alive.

Why the States Belong in the Stimulus Package

Mark Paul — Mon, 17 Nov 2008 23:05:00 -0500

With state revenues in free fall, governors are banging on the door of Congress, calling on lawmakers to put assistance to the states at the top of the list in the next economic stimulus package. In the ubiquitous media shorthand, the states want a “bailout.”

This shorthand, however, muddies the issue and the stakes here.

Giving help to the states is not the same thing as opening up the Treasury to shore up a failing private bank or manufacturer. States and the federal government are partners. In much of what the states do––educate, medicate, and incarcerate––Washington sets the standards and requirements, whether through No Child Left Behind, Medicaid, or the constitutional prohibition against cruel and unusual punishment. The big items in state budgets––schools, health care, social services––are, to varying degrees, jointly financed by state and federal dollars. When those budgets must be deeply cut, it is not just a state issue. National purposes are being defeated, too.

The shorthand about “bailouts” also misses the central reason for including the state in a stimulus package: to bolster, or at least protect, the economy.

When recession drives state budgets out of balance, states have only two choices, both of them bad.
The first is to cut spending. But every dollar of state spending eliminated to close a budget deficit is a dollar of demand potentially removed from the larger economy. When teachers are laid off and the blind and disabled have their grants cut, they spend less for goods and services. State spending cuts throw the economic multiplier effect into reverse.

The second choice, raising taxes to close a deficit, also weighs down the economy. Tax increases on low- and middle-income households, which generally spend nearly all of their income, reduce their ability to consume. That is less true of higher-income households, which can choose to reduce their saving to sustain their current levels of consumption. But even taxing the rich to close state deficits is likely to drive down demand and slow the economy further.

To understand how bad those choices can be, consider California’s budget situation. It faces a deficit of $28 billion over the next year and a half. Let’s assume it must close that deficit with a combination of tax increases and spending cuts, which would be the case if Congress does not include the states in the stimulus package. And let’s assume that those measures reduce effective demand by an equal amount.

The result? Demand would shrink by about 1 percent of California’s gross state product, making the recession that much worse.

So the question for the stimulus package isn’t, as the media shorthand puts it, whether to “bail out” the states. It’s whether Washington will stand idly aside and watch the states, forced to balance their budgets, take fiscal actions sure to make the recession deeper and longer.

Will John Chiang Block An Illegal California Budget?

Mark Paul — Tue, 16 Sep 2008 17:31:00 -0400

There are a lot of adjectives being used to describe the long-delayed California state budget passed in the wee hours of the morning on Sept. 16, few of them printable and none complimentary: “disgraceful,” “stop-gap,” “sham,” to cite just a few. But the most pertinent adjective now is “illegal."

A little history: In 2004, near the beginning of California’s long budget nightmare, newly elected Gov. Arnold Schwarzenegger, and most of California’s leaders, offered voters a two-part deal. Approve $15 billion in deficit borrowing to get the state through the budget crisis, the state’s grandees told voters, and then we “tear up the credit card.” Voters took them at their word. They approved both Proposition 57, authorizing the unprecedented borrowing, and Proposition 58, called “The California Balanced Budget Act,” forbidding the state from further deficit borrowing and making it illegal for the Legislature to pass, or the governor to sign, a budget in which spending exceeds revenue.

“Overspending has led to serious shortfalls which threatens the state’s ability to pay its bills and access financial markets,” Schwarzenegger wrote in the ballot pamphlet. “This proposition is a safeguard against this EVER HAPPENING AGAIN. Proposition 58 will prevent the Legislature from ENACTING BUDGETS THAT SPEND MORE MONEY THAN WE HAVE.” (Emphasis in the original.)

The budget just passed by the Legislature is plainly illegal and unconstitutional under those provisions. Everyone understands that it is unbalanced, and that lawmakers have attemped to make it appear otherwise with gimmicks and borrowing, including forced borrowing from taxpayers by mandating that their wage withholding and estimated tax payments be set at levels that exceed their tax liability.

Most Californians probably have no legal recourse against this illegal act. But one Californian does: Controller John Chiang.

As controller, Chiang took an oath to defend the constitution, and as the state’s chief financial officer, he is the official who actually doles out the money the budget appropriates. He has the opportunity –– and the duty –– to say that the budget is illegal under the terms of Proposition 58, and that he will not recognize or honor it. That would undoubtedly trigger a court challenge, but I doubt that any court in the state would be prepared to override the judgment of the controller and rule that the gimmick-ridden mess passed by Legislature can meet the Proposition 58 constitutional test.

Some will ask why California would want to prolong this year’s budget battle. Legislators are weary of it. (Which perhaps explains why the Democratic leadership of the state Senate committed the greatest act of political malpractice in recent California history by surrendering to the minority Republicans’ budget demands and then graciously permitting most Republicans to vote against the misbegotten result.) The voters are angry. The temptation to turn to other subjects, and revisit the budget next year is strong.

But failing to balance the budget now will only increase the damage to the future. The state’s structural deficit still yawns. With the effects of the housing bust now spreading to the larger economy, a real ––and perhaps very deep –– recession looms, which will widen California’s budget gap. When the voters passed Proposition 58, they were assured that this kind of budget irresponsibility would never happen again.

John Chiang has shown he is willing to stand up and defend the paychecks of state employees. Is he also willing to stand up for the promises made to California’s voters and the integrity of the state’s finances?

The California Budget Loot That Won't Stay Stolen

Mark Paul — Thu, 24 Jul 2008 21:52:00 -0400

One of the prime uses of the California initiative process is budget theft: a special interest, unhappy with its cut of state spending, passes a ballot measure to increase or fence off its budget. But sometimes the loot doesn’t stay stolen.

Just ask the road lobby. Alarmed by reports that Republican legislators want to grab dollars from transportation accounts to paper over the state’s budget deficit, it has launched a radio ad campaign to defend its booty.

The loot at issue is the portion of the state’s sales tax revenue derived from the sale of gasoline.
Until this decade, the state, for tax purposes, treated gasoline like any other purchased good. California levied the normal state sales tax on sales at the gas pump and put the money into the general fund, along with the revenue from sales of surfboards, Steely Dan records, and other goods. This money helped pay for schools, health care, and prisons. (The sales tax should not be confused with the separate 18-cents-a-gallon state excise tax on motor fuels, a levy on road users exclusively dedicated to fund road maintenance and improvement.)

But as the new century rolled around, the road lobby had a problem. The revenue from the gasoline excise tax, last increased in 1994, was being eaten away by inflation and more fuel-efficient cars. The inflation-adjusted gas tax revenue per mile driven fell by about 20 percent even as the number of cars and miles driven increased by about 20 percent. California no longer had enough gas tax money coming in to maintain and improve roads.

There was, of course, a tried-and-true solution available for this problem: raise the fuel excise tax on road users and index it to inflation. User-pay has been the central road financing mechanism for the better part of a century. But telling voters that they must pay for driving is against the California way –– remember, Californians drive on freeways, not highways. And with the Internet boom at its peak, California was rolling in revenue.

So the road lobby stole some of that money, fair and square. In March 2002 it convinced voters to pass Proposition 42, shifting the state sales tax on gasoline purchases out of the General Fund and earmarking it for transportation.

But like the tax cuts California enacted during the dot-com stock bubble, the road lobby’s raid was built on an illusion. Once the hot Internet money evaporated, the raid threatened to add another $1.4 billion to the state’s growing budget gap. To prevent that, the Legislature and Governor stole the money right back, suspending Proposition 42.

Not for long. In November 2006 the road lobby got voters to pass Proposition 1A, which limits how often the sales tax shift can be suspended and requires any suspension to be treated as a loan, to be paid back to transportation accounts, with interest, on an accelerated schedule.

Where’s the high moral ground in this budget border war of raid and counter-raid? Both sides have plausible claims. California is in no fiscal shape to shift general fund revenues away from schools, colleges, and health care. But it has also failed to adequately fund transportation. (For the moment, let’s give the road lobby a pass on the Loony Tunes nature of earmarking the sales tax, a general tax on consumption, according to the kind of goods being purchased. Other than to ask, What’s next? Dedicate the sales taxes collected on condoms and Victoria’s Secret lingerie to family planning services?)

What’s indefensible is having a two-track budgeting system: a main legislative track where budgeting is a matter of priorities and trade-offs; a second ballot-box budgeting track where voters decide every question in isolation, without the discipline of having to make the needed trade-offs for what they want. It is hard to see how California can ever escape budget hell unless it changes the initiative process to require every measure submitted to the voters to include its own funding source.

The Rich Will Always Be with Us

Mark Paul — Mon, 12 May 2008 22:26:00 -0400

Like generals who are always fighting the last war, California's pundits are still fighting their way out of the last budget crisis. Latest case in point: George Skelton of the Los Angeles Times, who recently complained again that California's income tax "depends too heavily on the wealthy." In Skelton's world, the wealthy are just like those men mothers always warn their daughters about: they'll show you a good time, and then disappear, leaving you heartbroken. "Their incomes rise and fall steeply with the economy," he writes, "and therefore so do state budget deficits."

Except that's not why California has a budget crisis. As the state controller reported on May 9, personal income tax collections for the first nine months of the current budget year are $1.4 billion over the estimate in Gov. Schwarzenegger's January budget and within a whisker of the amount budgeted last summer. Through the first nine months California revenues are up 1.2 percent over a year ago, thanks entirely to the income tax, which has more than made up for the decline in sales tax revenues caused by the housing crash.

The pundits' obsession with the volatility of income tax revenues is a holdover from the past. In 1999 and 2000 the incomes--and income tax payments--of the wealthy, powered by huge capital gains and stock option grants during the Internet stock market bubble, soared. Then they fell back to earth in 2001 and 2002, dragging California into a budget crisis. But as I've explained in more detail elsewhere, the bubble and its subsequent popping were an unprecedented event. Just look at the chart below, showing California's four largest sources of general fund tax revenue over the last three decades.

Uploaded with plasq's Skitch!

Take out the bubble years, and revenues don't resemble a "roller coaster," as Skelton puts it. They rise when the economy grows and flatten out when it shrinks, as it did in the sharp recession and restructuring that hit California in the early 1990s. Charts of federal revenue, also dependent on income taxes, show the same pattern. The Internet boom was an anomaly.

But let's suppose for a moment that it wasn't. What would the pundits do so that California no longer "depends too heavily on the wealthy"?

Raise taxes on the poor and middle class? According to an analysis done for the California Budget Project by the Institute on Taxation and Economic Policy, low- and middle-income households already pay a higher percentage of their incomes in state and local taxes than do those in the top 1 percent.

Cut income tax rates on the wealthy? California has already done that. The state had top marginal rates of 10 percent and 11 percent on the wealthy through the 1970s, most of the 1980s, and some of the 1990s, but lowered them to 9.3 percent (in 2004 voters added, by initiative, an extra 0.7 percentage points on incomes over $1 million, with the funds earmarked for expanded mental health care.) Yet the amounts collected by the income tax continue to grow.

Why? Because of an underlying economic shift the pundits rarely mention: California gets an increasing share of its budget from income taxes on the wealthy because that's where all the money is. According to California Franchise Tax Board data, in 1979 the top 10 percent of taxpayers had about one-third of the state's total adjusted gross income. In 2005, their share had grown to roughly half.

If the pundits know a way to balance the budget, reduce the share of taxes paid by the wealthy, and not widen this growing income gap between the wealthy and everybody else, they should let us in on the secret.

Budget Confusion in California

Mark Paul — Wed, 07 May 2008 20:25:00 -0400

As usual, California faces a budget crisis. And just as predictably, Californians are mired in budget confusion.

How big is the crisis? a conscientious citizen might ask. The answer is: As big as you want it to be. Just take your pick. An "$8 billion budget shortfall," reports the San Jose Mercury News. "A $10 billion gap," says the Sacramento Bee. Gov. Arnold Schwarzenegger uses a more technical description: "$20 billion out of whack," he recently said.

This cacophony of numbers and nouns is a big piece of California's budget problem. Not only does California routinely fail to balance its budget, it can't even talk straight about its finances.

In normal accounting and common understanding, a budget is balanced when spending doesn't exceed revenues in a budget year. If revenues are greater than spending, the difference is a surplus; if spending exceeds revenues, the difference is a deficit. Revenues are the proceeds of taxes, fees, and interest on investments.

But not in California. Here, state leaders (and the press) variously and promiscuously refer to the state's budget problems as a "shortfall," a "hole," a "gap," and a "deficit." Sometimes they actually mean to talk about the annual deficit. More often than not, though, they are referring to an amalgam of the state's cash reserve at the beginning of the current year, a current year deficit, a projected budget year deficit, and the desired reserve for the budget year. As UCLA Prof. Daniel Mitchell, who's campaigned tirelessly (and, alas, so far unsuccessfully) for budget transparency, points out, California's bad habit of talking about this "shortfall" confuses a stock (your savings account) and a flow (your paycheck), obscuring the true size and nature of the state's deficit. Most households understand that if they earn $50,000 a year and spend $100,000, making up the difference from their savings, they don't have a balanced budget. California doesn't. Even if it spends more than it collects in taxes, California counts the budget as balanced if has sufficient cash reserves to make up the difference.

To understand how badly confused California is, just imagine what national budget discussions would be like if the same loose terminology were used in Washington. News reports would be talking about Washington's "$5.5 trillion budget shortfall": the $350 billion deficit for the current year and the projected $200 billion deficit for the 2009 budget year, all topped off by the $5 trillion of outstanding public debt rung up by Congresses and presidents since they powdered their wigs and buckled their knee britches.

California is also confused about the meaning of "revenues." For example, at a recent budget conference, Thomas Sheehy, a deputy director of California's Department of Finance, was asked whether Schwarzenegger would consider raising revenues to balance the budget. Sheehy replied that the governor's budget, in fact, already included new revenues: $3.3 billion from the sale of deficit bonds!

Don't try this at home. The cash advance you take out on your credit card isn't revenue. It's debt. And so, of course, is California's borrowing to cover up deficits. When the top people in the state's finance department think debt is revenue, you know California's fiscal problems go all the way to the bone.

Getting the accounting right isn't just a cosmetic nicety. It's essential to making good decisions. In 2003, former Gov. Gray Davis hyped the size of the state's budget problem, talking about a $38 billion "shortfall." He apparently believed the bigger the stated challenge, the more likely California would be to tackle it. He was half right. Californians were indeed appalled by the size of the "shortfall." But they responded not by supporting Davis' proposed solutions, but by recalling the feckless leader who'd let the problem grow so big.

Now Schwarzenegger seems to be taking the same path, talking about a budget that's "$20 billion out of whack," the equivalent of one dollars out of every five in the general fund budget. He apparently hopes to bludgeon lawmakers into budget action. It's more likely, though, that exaggerated figures will only make Californians throw up their hands in hopelessness.

In fact, California's real problem is more manageable: an annual deficit of about $5 billion to $8 billion a year. That amounts to about a half penny on a dollar of state output and is about the same magnitude as the state's annual cost ($6.1 billion) for Schwarzenegger's car tax reduction in 2003. Schwarzenegger has spent much of the year trying to sell Californians on various kinds of budget reform, most of them with little relevance to the crisis at hand. But he doesn't need anyone's consent to insist on budget transparency and clarity. Budget reform could start right at his own desk.

Any Levers Left?

Sam Sherraden — Tue, 04 Mar 2008 19:39:00 -0500

It is unclear what response, if any, will right the U.S. economy. Chairman of the Federal Reserve, Ben Bernanke, gave a speech today calling for "a vigorous response" to the mortgage crisis and suggested reinvigorating government-sponsored enterprises, like Fannie Mae and Freddie Mac, with increased regulation and possibly writing down the principal on home mortgages. Treasury Secretary Henry Paulson said in a speech yesterday, "Let me be clear: I oppose any bailout." It appears policy makers, officials, and economists still cannot agree on appropriate solutions to the mortgage crisis.

Snapshot asks, what policy will get the U.S. economy out of its current slump and not threaten long run growth?

Bloomberg - U.S. Stocks Fall on Bernanke Plan
Ben Bernanke - Reducing Preventable Mortgage Foreclosures
Morgan Stanley - If Monetary Policy Can’t Do the Job, Then What?
David Greenlaw - Leveraged Losses: Lessons from the Mortgage Market Meltdown
Henry Paulson - U.S. Housing and Mortgage Market Update before the National Association of Business Economists