Brown Nurses California’s Debt Binge With Dose of Cash

California Governor Jerry Brown has a remedy for the fiscal headaches left behind by a borrowing binge in the past decade.

Buoyed by a surge in capital-gains revenue and $7 billion in temporary income- and sales-tax increases, Brown proposed to pay down half of what he calls a “wall of debt” accrued to balance previous budgets, stash away funds for a rainy day and begin to cover a $74 billion gap in teachers pensions.

“We are not in the hole anymore,” Brown told reporters in Los Angeles yesterday. “We’re in the black. We have a commitment and a plan to keep it that way.”

The 76-year-old Democrat is campaigning for an unprecedented fourth term as he makes the case for rating companies to take a new look at California, the state with the country’s highest debt and second-lowest credit score.

“The budgetary debts largely represent a fiscal hangover from prior-year deficits,” said Gabriel Petek, a Standard & Poor’s analyst in San Francisco. “There is a time-sensitive element to paying off the wall of debt -- namely, before the temporary taxes” expire.

Brown proposed a record $107.8 billion in general-fund spending, which pays for most core operations of state government. That’s 7 percent more than this year as revenue has exceeded projections, helping offset the cost to expand health care to more people and debt payments.

The spending plan reflects a changed economic landscape from 2010, when Brown campaigned on a promised to mend state finances that had become so dysfunctional that California sank to the bottom of state credit ratings and had to issue IOUs to cover expenses.

Accounting Maneuvers

California accumulated $34.7 billion of loans, deferred payments and accounting maneuvers used in the past decade to cover budget shortfalls. Brown already has paid off about a quarter of that debt. Under his proposal, it will decline to $14.8 billion by June 2015 and will be completely erased by 2018.

The budget calls for spending an extra $1.6 billion to completely repay what is left from $15 billion of deficit bonds former Republican Governor Arnold Schwarzenegger borrowed in 2004.

Credit rating companies such as Standard & Poor’s have long criticized California for its failure to set aside money when the economy is booming and for relying on capital gains, which vary with the performance of the stock market.

Rainy Day

Brown and legislative leaders struck a compromise last week to seek voter approval of a constitutional amendment requiring the state to set aside 1.5 percent of general-fund revenue each year, as well as excess capital gains taxes that exceed 8 percent of the general fund. Half the money must be spent paying down state debt such as unfunded pension costs.

“The rainy-day fund is a great proposal -- it’s something that California needs,” Ron Schwartz, who helps manage $1.8 billion of munis at Orlando, Florida-based Ridgeworth Capital Management, said yesterday in an interview. “It will help them on the credit rating and so it’s great to see some responsible steps being taken.”

The penalty California pays to investors to buy California demand has declined 45 percent in the past year, according to data compiled by Bloomberg. California investors get 32 basis points, or 0.32 percentage point, more than top-rated debt for 10-year securities. That’s down from 56 basis points on June 25.

S&P raised California’s credit grade in January 2013 to A, its sixth-highest level. It was the first time the company lifted the state’s rating since 2006. Fitch Ratings followed in August with a boost to A, the highest score from that company since 2009.

Teacher Pensions

Brown also laid out a proposal to begin erasing the $73.7 billion unfunded liability of the California State Teachers’ Retirement System, the second-biggest U.S. pension fund with $183 billion of assets.

School districts under his plan would see their annual contribution more than double to 19.1 percent of payroll from 8.25 percent, phased in over seven years. Teachers would pay 10.25 percent instead of the current 8 percent, while the state would boost its contribution to 6.3 percent from 3 percent.

The contribution changes would bring an additional $450 million to the fund in the coming fiscal year, rising to $5 billion more a year by 2021.

“We’re paying down our debts, we have a plan for teacher retirement, and the rest is restraint,” Brown said. “There it is.”

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

To contact the editors responsible for this story: Stephen Merelman at smerelman@bloomberg.net Pete Young, Jeffrey Taylor

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