Los Angeles Daily News

Prop. 1A is faulty reform for California

By Robert Krol Robert Krol is a professor of economics at California State University, Northridge. He can be contacted at robert.krol@csun.edu.
Updated: 05/20/2009 11:09:56 AM PDT

UNABLE to resolve California's budget problems on their own, legislators and Gov. Schwarzenegger have offered voters Proposition 1A, which extends the tax increases approved in February, in exchange for budget reform. Prop. 1A offers a constitutional amendment its proponents say will improve operation of the state's budget stabilization fund and restrain spending in the future. Prop. 1A is a confusing modification of the state constitution. It is a poorly designed initiative unlikely to achieve effective budget reform.

The purpose of a stabilization fund is to set aside revenues in good years - rather than expanding programs which need to be cut when the economy stalls. To be effective, stabilization funds must be accompanied by rules that require politicians to deposit revenues into the fund when the economy is growing. Otherwise, not enough money will be set aside.

Also, stabilization funds must be accompanied by constraints on how politicians may use the money. Without strong rules, revenues initially directed to the stabilization fund will be siphoned off to pay for special interest projects.

Prop. 1A maintains deposit rules that are like those included in the stabilization fund established in 2004. Each year 3 percent of revenues are to be deposited into the stabilization fund until the balance reaches 5 percent of general fund revenues. However, the governor may stop these deposits at any time by executive order. Prop. 1A includes a rule to limit the governor's power to suspend transfers to the fund, but the rule is weak.

The proposed rule allows the governor to suspend transfers even when tax revenues are growing.
Another troubling part of Prop. 1A concerns how stabilization funds may be spent. Stabilization funds should be used to limit spending cuts in the overall budget during a recession, instead they are directed to specific programs.

If Prop. 1B also passes, top priority would be given to repaying previous cuts to K-14 education. So, in reality, what is being proposed is not a stabilization fund but a means to funnel more state revenues into education. No wonder teachers unions support it and other public employee unions oppose it.

Clearly, giving the education establishment the first shot at funds is the result of a political deal between Democratic politicians and the teachers unions. But what if state spending priorities change over time? With stable student enrollment rates, education is a questionable priority to embed in a constitutional amendment. During a recession, it might be more important to maintain health care for the poor than provide additional funding to education.

Prop. 1A would correctly increase the size of the stabilization fund from 5 percent to 12.5 percent of revenues. For a state like California with a large budget and volatile revenue stream, the larger fund size makes sense. However it would only work if strict deposit and withdrawal rules are put in place, something Prop. 1A fails to accomplish.

California currently has a nonbinding spending limit that allows spending to grow no faster than the sum of state personal income growth plus state population growth. Prop. 1A would tie spending to the trend growth in revenues over the most recent 10-year period. Although this would smooth spending to a degree, it fails to impose a tight limit on spending growth, the source of our financial problems.

Under Prop. 1A, the top spending priority of unexpected revenues - those in excess of trend growth - is given to education. Additional spending priorities include adding to the stabilization fund, which should have already received funding in the normal budget process, or funds may be used to pay off debt. This kind of requirement ties the hands of policymakers, making budgeting more difficult. Once again, it might make more sense to expand health care for the poor. Finally, it fails to make tax relief an important option.

Fortunately, Californians are not buying Prop. 1A as serious budget reform. A recent Field Poll indicates likely voters oppose the initiative 49 percent to 40 percent. Voters are tired of the budget game played in Sacramento, they want real reform.

While the recession has caused a large drop in revenues, rapid growth in spending lies at the heart of our financial problems. A real spending limit that caps spending increases to population growth plus inflation or to a percentage of state output is a needed step toward slowing the growth of government and restoring prosperity to the state.