LAO Fiscal Analysis of the 2019-20 California Budget
The LAO notes that headed into the next fiscal year, California will have reserves of $14.5 billion and an additional $14.8 billion for the Legislature and new Governor to allocate in the next fiscal year. Looking out further, the LAO notes that if the economy enters a recession, California will have sufficient reserves to weather the recession, assuming 1) it’s a moderate recession and 2) the state does not spend its current surplus. If the economy continues to grow the state will have operating surpluses of $4.5 billion annually. The LAO further notes that a severe recession will rapidly decimate the state’s revenues and that even in the context of a moderate recession, public school systems have no reserves to hold schoolchildren harmless.
The LAO projects that wage and salary growth will be steady, job growth will decline, home price growth will decline and the stock market will be pretty flat. The unresolved trade disputes could force California consumers to pay higher prices for goods. As a result primarily of, strong and steady wage growth, General Fund revenues will grow by 5.5% in 2019-20 and then slow the following year.
The LAO projects that baseline state General Fund spending growth will be only 1.5%. This is a function of several factors: 1) increasing receipts from local property taxes means the state General Fund has to contribute less towards schools, 2) the improving economy and increase in the minimum wage means fewer on Medi-Cal, and 3) changing soci0-demographics (fewer school wage children and more high wage earners paying state taxes). Two primary cost drivers are higher cost medical care and higher pay for the state’s correctional officers.
Schools and community college spending would increase by 3% (about $2.8 billion). Health and Human Service spending would increase by $1.6 billion (about 4%); that increase is comprised of the following: the lapse of the MCO tax, the increasing costs of medical care, the growth in DDS spending due to caseload of the developmentally disabled and the state minimum wage, and the growth if IHSS spending due to caseload growth of the frail elderly and the effects of the state’s minimum wage. State spending on employee compensation will increase by $2 billion due primarily to the 5% wage increase for correction officers and the rising costs of medical care and retirements. The state made $3.6 billion in one-time investments in infrastructure improvements, the UC system, SSI cash grants and homeless assistance last year, which do not carry over into the coming year.
The net result of slow spending growth on programs plus strong wage and salary growth leaves California with a $14 billion surplus going into next fiscal year. This budgetary surplus if the economy stays healthy could be used to increase reserves in light of the next recession, grow urgently needed programs or reduce high taxes or some combination of all of the above.
Differences between the two scenarios of modest growth and a modest short live recession are pretty dramatic over the next five years. Under moderate growth, state tax revenues grow by 3.8% annually. Under a moderate and shortlived recession revenues fall by $46 billion over 5 years.
Under moderate growth, school attendance falls slightly and school funding grows by 3.4% annually. In the same time frame, state Medi-Cal spending grows 5% annually due to increasing medical costs and reductions in federal matching formulas. In the modest recession scenario, state school spending falls by $4 billion and Medi-Cal spending accelerates by $1 billion more due to higher caseload growth.
What happens if the state makes new funding commitments over the time period? LAO created a scenario where the state makes $3 billion in ongoing commitments and $2 billion in one-time commitments next year. In the event of modest growth the budget surplus is gone in five years. If a short and moderate recession intervenes, the state is $500 million in the red and must cut programs or increase taxes.
What will our state look like over the next five years? The school age population will decline, the working population will increase slightly, and seniors will increase dramatically. This will put spending growth pressure on Medi-Cal, IHSS and retiree health programs. On the other hand, the shrinking population of children will reduce the state’s financial pressure on school spending and child services programs.
The LAO urges prudent fiscal choices given the short=term nature of the state’s substantial operating surplus in the coming year. In other words, don’t go wild expanding programs or increasing spending, as the good times will not last; invest the surplus very wisely. This is tough but important advice for a newly elected progressive Governor and the large Democratic super-majorities and their supporters.
Prepared by: Lucien Wulsin