Brown Faces a Reckoning in California as $28 Billion Gap Shadows Inaugural

Jerry Brown returns as California governor today after an absence of almost three decades, facing a “day of reckoning” over a $28 billion budget gap that promises battles with lawmakers, unions and investors threatening to shun the bonds of the most-indebted state.

Brown, 72, a Democrat who served two terms as governor from 1975 to 1983, has pledged an austerity budget, due Jan. 10, that will be free from gimmicks and that will skirt the gridlock that forced the state to pay bills with IOUs two years ago. He’s told Californians they’ll face painful choices to restore fiscal health. Whether that will mean higher taxes, he hasn’t said.

In the U.S. state with the biggest economy and population, Brown faces a super-size version of the stress governors confront coast to coast. States will contend with about $140 billion in deficits in the next fiscal year after closing $160 billion in gaps this year, the Center on Budget and Policy Priorities, a Washington research group, estimated Dec. 16.

“Please sit down if you’re reading the stories on the budget on Jan. 10,” Brown told educators in Los Angeles last month. “If you’re driving, fasten your seat belt, because it’s going to be a rough ride.”

Photographer: Noah Berger/Bloomberg

California Governor Jerry Brown. Close

California Governor Jerry Brown.

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Photographer: Noah Berger/Bloomberg

California Governor Jerry Brown.

Largest Deficit

Brown has said he wants a budget to erase the nation’s largest state deficit approved within 60 days. That task was eased by voters’ decision in November to allow lawmakers to authorize spending plans with a simple majority, doing away with a 77-year-old rule requiring a two-thirds vote.

“The day of reckoning is upon us and I’m determined to bite the bullet and get it done,” Brown said in Los Angeles last month.

The new governor’s budget will be introduced after former Governor Arnold Schwarzenegger grappled with shortfalls that totaled $100 billion combined since June 2008. During that time, the state cut spending more than $45 billion and raised taxes by $12.5 billion. Another $36 billion of one-time or temporary solutions pushed some of the deficit into future years.

Brown is likely to propose even more cuts and call for a special election to ask voters for money, said Jaime Regalado, executive director of the Edmund G. Brown Institute of Public Affairs -- named for Jerry Brown’s father, himself a former governor -- at California State University, Los Angeles. Options include extending temporary tax increases on income, retail sales and vehicle registrations put in place in 2009. They are set to expire this year.

University Cuts

The reductions may include eliminating local redevelopment agencies, shrinking social-services benefits, slashing aid to state universities and closing parks, the Sacramento Bee reported today, citing a source close to Brown’s budget proposal.

“What he’s doing is setting up expectations of a very dire situation and choice for Californians,” Regalado said in a telephone interview.

“He’s going to tell them that belt-tightening is going to have to happen, no matter what type of fiscal remedies the administration and legislative leaders take, but it’s going to be the voters’ choice of what services they want to keep -- and for those that they keep, are they willing to be taxed for them,” Regalado said.

The governor inherits the nation’s third-highest unemployment rate at 12.4 percent, what the treasurer’s office says is $88.3 billion of bond debt and as much as $500 billion of pension liabilities following the longest recession since World War II.

Term Limits

The former state attorney general succeeds Schwarzenegger, the movie star and former body-building champion swept into office in 2003 through the unprecedented recall election of Gray Davis, a Democrat. Schwarzenegger, a Republican, couldn’t seek re-election because of term limits.

Brown takes charge of a state whose $1.89 trillion economy is bigger than Russia’s. It is home to 14 percent of the companies in the Standard & Poor’s 500 Index including Apple Inc., Google Inc., Chevron Corp. and Wells Fargo & Co.

The new governor brings “a tell-it-like-it-is sober approach to the problems facing California,” Eli Broad, the billionaire philanthropist, long-time Brown supporter and former SunAmerica Inc. chief executive officer, said in a telephone interview. “People are waiting for some plain talk and are tired of politicians using smoke and mirrors to solve the problems of the state.”

60 Percent

While Democrats control both Senate and Assembly, they lack a so-called supermajority of 60 percent. Starting a ballot measure that would extend temporary levies, or increase taxes and fees, would need the assent of two-thirds of lawmakers or a citizen initiative drive.

Brown will let residents choose their pain, said Broad, who has donated at least $34,000 to him since 1999.

“He’s said he’s not going to raise taxes without going to the people first,” he said. “So the voters will have a choice, which is do they want to cut all these services and education or do they want to pay for them?”

California shares with Illinois the lowest credit rating of any state from Moody’s Investors Service. The A1 grade is Moody’s fifth-highest. Standard & Poor’s rates California A-, its fourth-lowest level for investment-quality securities.

Only Illinois and Arizona are financially weaker than California, according to a Dec. 30 report from BMO Capital Markets in Chicago.

Extra Yield

Investors are betting that California will surmount its difficulties. The extra yield that buyers want for 10-year California bonds compared with top-rated municipal bonds fell to 115 basis points Dec. 30, from 150 on March 11, the 2010 peak. A basis point is one-one hundredth of a percent. The Bloomberg California Index of stocks outperformed the S&P 500 by 1.63 percentage points in 2010.

Curbing the cost of state workers’ salaries and their pensions may put Brown at odds with the labor unions that supported his campaign, such as the 120,000-member California Federation of Teachers. The state will spend $9.2 billion on payroll this year, according to the Finance Department. Payments to the two public-employee pensions, the largest in the U.S., will consume 5 percent of the general fund.

Brown signed legislation during his first term that gave teachers and state workers the right to bargain collectively, which Schwarzenegger and other Republicans repeatedly criticized.

Brown in November defeated Meg Whitman, 54, a former EBay Inc. chief executive officer who poured at least $141.6 million of her own fortune into the campaign, a U.S. record for self- funding by a candidate.

Driving Himself

Brown, who ran for president unsuccessfully three times, also traveled the world, studied Buddhism in Japan, worked with Mother Teresa in India, and was elected mayor of Oakland in 1998. Since 2007, he had been attorney general, the state’s top law-enforcement officer.

The son of Edmund Brown, California’s governor from 1959 to 1967, Jerry Brown became secretary of state in 1970. Four years later, he won the state’s highest office. He earned the nickname “Governor Moonbeam” for promoting policies such as a state- sponsored space program.

As governor in the 1970s, he shunned the official mansion and predecessor Ronald Reagan’s Cadillac limousine in favor of a two-bedroom apartment near the Capitol and a Plymouth Satellite he drove himself. He dated rock star Linda Ronstadt and they were featured together on the cover of Newsweek magazine in April 1979.

For his first inauguration, he took the oath of office in the Assembly chambers followed by an eight-minute speech. He declined to have an inaugural ball and instead celebrated with dinner at a Chinese restaurant in Los Angeles. Four years later, he gave another short inaugural speech in Sacramento and then ordered food from a Chinese restaurant that he ate with friends and staff in his office.

This year, Brown will be sworn in at a Sacramento auditorium with seating for 3,849. He plans a private reception later in the day at the nearby state railroad museum.

To contact the reporter on this story: Michael Marois in Sacramento at mmarois@bloomberg.net

To contact the editor responsible for this story: Mark Tannenbaum at mtannen@bloomberg.net

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