State Budget:
Legislative Analyst Generally Supportive of Governor's Budget, but Raises Some Policy Concerns

In its review of Governor Jerry Brown's state budget proposal for 2013-14, the Legislative Analyst's Office approves the governor's emphasis on fiscal restraint and paying off debt, but raises several policy issues – including "serious concerns" with the budget's use of funds generated by Proposition 39, the single sales factor initiative approved by voters in November.

The governor's budget projects general fund revenue of $98.5 billion in 2013-14, and assumes $97.7 billion in general fund expenditures, producing an $851 million operating surplus in 2013-14 (this does not include all state spending – just the amount that comes out of the general fund). The governor estimates that the general fund will end 2013-14 with a $1 billion reserve.

The LAO's budget review, released January 14, explains the differences between the governor's budget estimates and its own, which are less rosy:

"Our November 2012 publication, The 2013–14 Budget: California's Fiscal Outlook, estimated that the Legislature and Governor would need to address a $1.9 billion budget problem by June 2013. The Governor's budget, on the other hand, produces a $1 billion reserve at the end of 2013–14." The LAO said the $2.9 billion difference between the estimates is mostly explained by:

• Higher tax revenue projections of $1.1 billion. Across the three fiscal years (2011–12, 2012–13, and 2013–14), the administration's forecast includes about $1.1 billion in higher revenue. Specifically, this total includes $1.4 billion more from the personal income tax, $200 million more from the sales and use tax, and $600 million less from the corporation tax, as compared to the LAO's projections.
• Higher estimates of savings, totaling $1 billion. The administration's January forecast includes about $700 million in higher savings associated with the dissolution of redevelopment agencies and $300 million in higher savings from using cap-and-trade revenue to offset programs traditionally supported by the general fund.
• Revenues from health taxes and fees, totaling $700 million. The administration proposes extending the hospital quality assurance fee to raise $310 million, and reauthorizing the gross premiums tax on Medi-Cal managed care plans to generate $364 million.
• Lower repayments of special fund loans, accounting for $500 million. The LAO's November forecast assumed the repayment of about $1.3 billion in special fund loans from the general fund. The administration's forecast includes lower net repayments of such loans. In some cases, the administration proposes to delay repayment dates, and in other cases, it plans to repay loans earlier.

The analyst generally praised the budget, but said the state is not out of the woods yet. The LAO wrote: "The Governor's emphasis on fiscal discipline and paying off the state's accumulated budgetary debts is commendable, especially in light of the risks and pressures that the state still faces. We note that there are still considerable risks to revenue estimates given uncertainty surrounding federal fiscal policy and the volatility inherent in our revenue system. In addition, under the Governor's multiyear plan, the state would still have no sizable reserve at the end of 2016-17 and would not have begun the process of addressing huge unfunded liabilities associated with the teachers' retirement system and state retiree health benefits. As such, the state faces daunting budget choices even in a much-improved fiscal environment."

Turning to the budget's proposed use of Proposition 39 funds, the LAO voiced "several serious concerns." Those concerns, in the LAO's words:

• Treatment of Proposition 39 Revenues Highly Questionable. The Governor applies all revenue raised by Proposition 39 – including the revenue required to be spent on energy-related projects – toward the Proposition 98 calculation. This is a serious departure from our longstanding view of how revenues are to be treated for the purposes of Proposition 98. It also is directly contrary to what the voters were told in the official voter guide as to how the revenues would be treated. Based on our view, revenues are to be excluded from the Proposition 98 calculation if the Legislature cannot use them for general purposes – typically due to restrictions created by a voter-approved initiative or constitutional amendment. The voter guide reflected this longstanding interpretation by indicating that funds required to be used for energy-related projects would be excluded from the Proposition 98 calculation. Given these concerns, we recommend the Legislature exclude from the Proposition 98 calculation all Proposition 39 revenues required to be used on energy-related projects. This would reduce the minimum guarantee by roughly $260 million. We also recommend the Legislature count the $450 million in allocations for energy efficiency projects as non-Proposition 98 expenditures (though the state still could choose to spend a portion on schools and community colleges). Relative to the Governor's proposal, these two recommendations combined would result in roughly $190 million in additional operational Proposition 98 support for schools and community colleges (with total state costs increasing by the same amount).
• Exclusive Focus on School and College Facilities Unlikely to Maximize Energy and Job Benefits. Proposition 39 requires that the Clean Energy Job Creation Fund maximize energy and job benefits by, among other things, supporting energy efficiency retrofits and alternative energy projects in public schools, colleges, universities, and other public facilities. Proposition 39 specifically states that projects must be selected based on the number of in-state jobs they would create and their energy benefits. By dedicating all the energy-related funding over the five–year period only to school and community colleges and excluding other eligible projects that potentially could achieve a greater level of benefits, the Governor's proposal very likely would not maximize state energy and job benefits. We believe that a more effective approach would be to first evaluate the relative energy savings and job benefits among all potential projects.
• Plan to Distribute Funding Among Districts Also Not Based on Need. The Governor's approach to distributing Proposition 39 funding does not link funding with potential benefits. Instead, the Governor proposes to provide every school district and community college district with funding on a per–student basis. This presumes the potential for energy savings is equal among all districts and does not focus on those school and community college energy projects likely to provide the greatest energy and job benefits. Most notably, the Governor's approach does not take into account that the need for energy efficiency projects varies by district, with the need depending on the size, age, and climate zone of the facilities in each district.
• Proposal Lacks Other Key Components Required by Proposition 39. Proposition 39 requires that monies from the Clean Energy Job Creation Fund be appropriated only to agencies with established expertise in managing energy projects and programs. Proposition 39 also requires that funding be coordinated with the CEC and CPUC to avoid duplication and maximize leverage of existing energy efficiency and clean energy efforts. The Governor's proposal does not appear to adhere to these provisions. Specifically, because the funding is to be appropriated to CDE and the Chancellor's Office, the Governor's proposal might not meet the Proposition 39 provision requiring funds be provided only to agencies with established energy-project expertise. Additionally, the Governor indicates that CDE and the Chancellor's Office have the option to consult with CEC and CPUC – despite Proposition 39 requiring more formal CEC and CPUC involvement.

January 18, 2013
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