Constraints and Opportunities in the 2016-17 State Budget Deliberations

In a few weeks Governor Brown will release the May Revision to his proposed 2016-17 state budget. Since the Administration released its proposed budget in January, the Governor and the Legislature have closed a deal to restructure and extend the state’s current tax on health plans, which brings in more than $1 billion in federal funds each year to support critical health services that low-income Californians receive through Medi-Cal, our state’s Medicaid program. State leaders also reached a deal to raise the state’s minimum wage to $15 an hour by 2022 (2023 for small businesses). Both of these agreements make significant policy advances in improving conditions for Californians confronting challenges of poverty and economic insecurity. Both deals also build on the significant progress made in recent years, including new revenues resulting from the passage of Proposition 30 (approved by voters in 2012), Medi-Cal expansion, restructuring California’s K-12 education finance system in order to provide additional resources to support disadvantaged students (the Local Control Funding Formula), and the enactment of California’s first-ever Earned Income Tax Credit (EITC).

These major advances, and the momentum built by state leaders, lay the groundwork for additional steps to address the serious economic challenges confronting many families and communities across our state. While the Governor’s proposed budget presents a relatively robust state revenue outlook for the coming year, our California Budget Perspective 2016-17 chartbook highlights how the Administration’s proposals are built around a set of constraints on the state’s ability to make significant additional investments that would help broaden prosperity and foster greater economic security.

Constraints: Expiring Revenues from Proposition 30 and Rainy Day Fund Requirements from Proposition 2

While the Governor often points to unknown prospects for future economic growth as a rationale for fiscal restraint, two other major factors constrain the Governor’s proposed budget for 2016-17: the coming expiration of Prop. 30’s tax rate increases, and Prop. 2’s (2014) requirements to set aside dollars for the state’s rainy day fund and for paying down budgetary debt. The Governor’s view of both the expected loss of Prop. 30’s revenues and the set-aside under Prop. 2 combine to constrain a budget proposal that in general provides for very limited investment in vital public systems and supports.

Proposition 30: Assuming Revenues Will Expire Limits Future Investment

The personal income tax rate increases on the highest-earning Californians and the sales tax rate increase approved by voters in 2012 raise billions of dollars each year to fund vital state services. Under Prop. 30, these tax increases are not permanent — the sales tax rate increase is set to expire at the end of 2016, and the personal income tax rate increases are set to expire by the end of 2018 — and the Governor’s budget proposal assumes their expiration as scheduled. This assumption results in a permanent gap in state revenues (see chart) and constrains the state’s ability to boost investments in other state programs. For instance, the estimated size of this gap by 2019-20 — $8.5 billion — would be greater than the proposed $8.0 billion in General Fund spending on CSU, UC, and student financial aid combined for 2016-17.

Expiration of Prop 30

A ballot initiative that proposes to extend the high-income tax rate increases of Prop. 30 for another 12 years, through 2030, is currently in the signature-gathering phase and is most likely headed for the November 2016 ballot. Early polling shows that approximately three in five Californians support this proposal.

Proposition 2: Underestimating Revenue Projections Means Owing Deposits Later

Prop. 2 constitutionally requires the state to set aside a portion of projected tax revenues each year, with half of these funds deposited into the state’s Budget Stabilization Account (BSA), often referred to as the rainy day fund, and the other half used to pay down budgetary debt. Prop. 2 also requires the state to “true-up” prior years’ deposits to the rainy day fund if actual revenues turn out to be higher or lower than projected. For example, if actual revenues come in higher than projected, future state budgets must make additional deposits to cover the funds “owed” to the rainy day fund.

Because the Administration has significantly underestimated state revenues in prior years, the Governor’s proposed 2016-17 budget sets aside $2 billion beyond what is required by Prop. 2 (see chart) in hopes of covering potential future true-ups in advance. This would bring the total rainy day fund deposit to $3.6 billion in 2016-17.

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It is unclear whether making this additional deposit in 2016-17 would count toward future reconciliation of the rainy day fund. If not, or if the opposite scenario emerges where a reduction in the deposit is required, the extra $2 billion proposed to be placed in the rainy day fund in 2016-17 would still be locked away under the rules put in place by Prop. 2.

The combination of the two presumed constraints that underlie the Governor’s proposed 2016-17 budget — assuming that Prop. 30’s tax increases expire and making Prop. 2 deposits beyond what is constitutionally required — results in a state spending plan that in many key ways seeks to minimize investment in other state programs. As we show in California Budget Perspective 2016-17, the Administration proposes no additional investments in the state’s child care, preschool, or CalWORKs programs, leaving those systems operating at or near recession-era lows.

Opportunities: Additional Advances Could Help Ensure a Strong and Prosperous California

Even within the constraints that frame the Governor’s proposed 2016-17 budget, there remain ways for the Governor to work with legislative leaders and advocates on making public investments that increase economic security and opportunity for individuals, families, and communities across the state. Examples of where there is room for negotiation might include rolling back the extra $2 billion that the Governor proposes to deposit in the rainy day fund and revisiting the one-time allocation of $1.5 billion from the General Fund for renovating state office buildings (other more commonly used financing options are available).  Through these and other means, state leaders in the coming weeks have the opportunity to make additional progress by improving investments in vital state programs and services, including:

  • Repealing the CalWORKs “family cap” rule. The CalWORKs Maximum Family Grant (MFG) rule, also known as the “family cap,” denies additional cash assistance when a child is conceived and born while any member of the family is already receiving assistance. Repealing the MFG, which is widely regarded as punitive and racist and only serves to push children deeper into poverty, would cost the state in the range of $190 million to $220 million annually, according to both the Senate and Assembly Appropriations Committees.
  • Expanding access to child care and preschool. State policymakers could increase the number of subsidized child care and preschool slots, boosting support for a system of subsidized care still operating at a funding levels 20 percent below that in 2007-08 (see chart). This could mean continuing a strategy used over the last few years of incrementally increasing slots over multiple years in order to make up for cuts made during the Great Recession. Reimbursement rates for providers could also be increased, a move that is many years overdue.
  • Expanding and improving California’s state Earned Income Tax Credit (EITC). California’s EITC could be expanded to include self-employed workers, many of whom would qualify for the credit due to having very low incomes. Similarly, the income eligibility limits for the EITC could be raised to ensure that the credit is available to people earning up to the level of full-time work at the state’s minimum wage.
  • Expanding the Housing Support Program (HSP) in CalWORKs. Many families in CalWORKs struggle to afford safe and stable housing, jeopardizing parents’ ability to find and sustain work and making it harder for children to thrive in school. The two-year old HSP could be augmented so that it reaches more families and children.

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We know that a strong and prosperous state means having strong and prosperous families and communities. Thanks to smart choices made by state policymakers, and the tireless work of numerous champions for advancing economic security, California has achieved much in recent years. These prior achievements provide a platform for continuing to make smart budget decisions for 2016-17 that help to lift California’s families and children out of poverty, promote economic security and opportunity, and strengthen California’s communities and its economy.

— William Chen and Chris Hoene