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Brown Faces Quandary as Taxes Beat Forecasts

California Governor Jerry Brown today will unveil his plan to erase a $15.4 billion deficit, as unanticipated revenue growth undercuts his message that the state needs higher taxes to offset spending cuts.

Brown, 73, will revise the $84.6 billion general-fund budget he introduced in January. California governors are required to update their spending plans in May with new revenue projections for the fiscal year starting in July. Receipts as of April 30 were more than $2 billion above forecasts.

Brown, a Democrat who took office in January pledging to fix the fiscal malfunctions of the most-populous U.S. state, has sought a five-year extension of $11 billion of expiring income, sales and vehicle-registration tax increases to prevent more cuts to schools and public safety. Republicans opposed that plan and blocked a June statewide vote on the higher levies.

“The increase in revenue is not going to fix this problem,” said Mike Genest, who was budget director for former Governor Arnold Schwarzenegger, a Republican. “A billion here and a billion there isn’t materially changing the situation.”

Brown may announce that he’ll postpone asking for the higher income-tax rate until next year, making up the difference with the revenue growth, the Los Angeles Times reported May 14, citing unidentified officials. He would still seek an extension of the sales tax and vehicle-registration fee that are set to expire by July 1, the report said.

Gil Duran, a Brown spokesman, declined to confirm the report.

Ask Voters

California, which accounted for close to 15 percent of U.S. gross domestic product in 2009, will run out of money by July if lawmakers and Brown can’t agree on a fix, according to Controller John Chiang. He said that may force him to pay bills with IOUs for the second time in three years, which may drive down the state’s credit rating and push borrowing costs higher.

One option Brown has signaled is to get the Legislature to extend the taxes and then ask voters in November to validate the move. Spending would then be based on the higher revenue with a provision that triggers cuts if voters don’t go along.

Such a path doesn’t change the political math Brown faces. He would still need at least four Republicans, two in the Senate and two in the Assembly, to gain the two-thirds margin needed to approve extending the taxes. A handful of Republicans have shown willingness to compromise, though they have their own demands that Democrats have found unpalatable.

Pension Overhaul

The Republicans have insisted on an overhaul of public pensions. One suggestion would replace current plans with a mix of traditional defined benefits and 401(k)-style savings accounts. They also want a spending cap tied to inflation and population change, as well as easing environmental rules they say hinder business growth.

Democrats in March approved bills that reduced a $26.6 billion deficit to the remaining $15 billion. Along with accounting maneuvers, the measures cut spending and shifted some public-safety costs to local governments. The state will close a fourth of its parks to save $33 million over the next two years.

Once tax-referendum talks to get Republican support collapsed, Brown traveled the state last month warning that without the revenue he’d have to cut school and public-safety spending to close the deficit.

This month, the state controller and Legislative Analyst’s Office reported tax receipts for the fiscal year through April had come in $2.5 billion higher than projected in Brown’s January budget proposal.

Revenue for Schools

Republicans seized on the cash reports as proof the deficit can be erased without higher taxes. They argued that $2 billion of the additional revenue could be used for schools to maintain spending at the level Brown proposed.

“By dedicating this new revenue to the classroom, there’s no need for the Draconian education cuts that Democrats have proposed to justify massive tax hikes,” said Assembly Republican Leader Connie Conway of Tulare.

Conway proposed a plan to eliminate the deficit that relies on higher revenue projections, additional spending cuts and reduced employment costs. The proposal also would siphon cash from about 400 local redevelopment agencies as well as special- tax financed programs for children and mental health.

Senator Mark Leno, a San Francisco Democrat who heads the Senate Budget and Fiscal Review Committee, said the public needs to understand that the additional receipts won’t come close to putting the state’s spending and revenue in balance.

All Cuts

“An all-cuts budget, without the additional revenues, will be very devastating to the state,” Leno said. “I don’t think anyone’s going to suggest that the additional revenues will reduce the deficit to anything less than $10 billion.”

A coalition of business organizations, including the Silicon Valley Leadership Group and local chambers of commerce, wrote to Brown and lawmakers May 11 urging them to compromise on what they called a “financial workout plan.”

The group endorsed the governor’s proposal for a referendum on extending the expiring taxes, as well as Republican demands for an overhaul of public pensions, a mandated spending cap and reduced environmental and business regulations.

“That’s what California needs: A workout plan where taxpayers agree to extend temporary taxes on the condition that the state government fixes the underlying conditions that got California in trouble,” the group said in the letter.

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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