The 2014-15 Budget: Overview of the Governor's Budget

The 2014-15 Budget: Overview of the Governor’s Budget MAC TAYLOR • L E G I S L A T I V E A N A L Y S T • JANUARY 13, 2014 2014-15 BUDGET 2 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET TABLE OF CONTENTS Executive Summary ..................................................................................................5 Overview ...................................................................................................................7 Economy and Revenues .........................................................................................14 Governor’s Major Proposals ..................................................................................18 Rainy-Day Fund ............................................................................................................................18 CalSTRS ...........................................................................................................................................22 Proposition 98 .............................................................................................................................23 Higher Education ........................................................................................................................28 Health and Human Services ....................................................................................................32 Infrastructure ................................................................................................................................34 Resources and Environmental Protection ..........................................................................37 Judicial and Criminal Justice ...................................................................................................40 www.lao.ca.gov Legislative Analyst’s Office 3 2014-15 BUDGET LEGISLATIVE ANALYST’S OFFICE Legislative Analyst Mac Taylor State and Local Finance Education Jason Sisney Jennifer Kuhn Marianne O’Malley Edgar Cabral Chas Alamo Carolyn Chu Justin Garosi Natasha Collins Seth Kerstein Rachel Ehlers Ryan Millera Paul Golaszewski Nick Schroeder Judy Heiman Brian Uhler Kenneth Kapphahn Brian Weatherford Jameel Naqvi Paul Steenhausen Corrections, Transportation, and Environment Anthony Simbol Health and Human Services Brian Brown Mark C. Newton Drew Soderborg Shawn Martin Ashley Ames Ross Brown Aaron Edwards Amber Didier Anton Favorini-Csorba Rashi Kesarwani Jeremy Fraysse Lourdes Morales Helen Kerstein Ginni Bella-Navarre Sarah Larson Felix Su Anita Lee Ryan Woolsey Lia Moore Jessica Digiambattista Peters Tiffany Roberts Administration and Information Services Support Larry Castro Izet Arriaga Sarah Kleinberg Anthony Lucero Karry Dennis-Fowler Tina McGee Sarah Scanlon Michael Greer Jim Stahley Vu Chu Jim Will Douglas Dixon Sandi Harvey a Overview coordinator. 4 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET EXECUTIVE SUMMARY The Governor’s Budget Proposal Proposes $2.3 Billion Reserve. On January 9, 2014, the Governor presented a budget package that included $151 billion in spending from the General Fund and special funds, an $11 billion increase over the revised 2013-14 level. The Governor proposes a $2.3 billion reserve at the end of 2014-15—comprised of $1.6 billion in the rainy-day reserve created by Proposition 58 (2004) and $693 million in the General Fund’s traditional reserve. Recent, sharp increases in personal income tax (PIT) collections—driven largely by soaring stock prices in 2013—have improved the state’s budget condition significantly. Major Features of the Governor’s Budget. The budget package uses much of the large projected growth in the Proposition 98 budget to pay down $6.2 billion in school and community colleges deferrals. Outside of Proposition 98, the budget accelerates $1.6 billion in payments for the state’s prior deficit financing bonds. In addition, the Governor proposes a rainy-day fund measure for the November 2014 ballot that would base deposits on capital gains related revenues—the state’s principal source of revenue volatility. The Governor’s budget includes a plan for allocating $850 million in cap-and-trade auction revenues and proposes $618 million to address the state’s water challenges. Further, the budget includes $815 million for deferred maintenance infrastructure projects. LAO Comments Governor’s Budget Would Continue California’s Fiscal Progress. California has made substantial progress in recent years in addressing its prior, persistent state budgetary problems. This progress has been facilitated by a recovering economy, a stock market that has been soaring recently, increased revenues from the temporary taxes of Proposition 30, and the Legislature’s recent decisions to make few new ongoing spending commitments outside of Proposition 98. The proposal continues the Governor’s focus on paying down the “wall of debt,” a selection of budgetary liabilities the state incurred in addressing its past budget problems. The Governor’s emphasis on debt repayment is a prudent one. Overall, the Governor’s proposal would place California on an even stronger fiscal footing, continuing California’s budgetary progress. Addressing Some of California’s Biggest Budgetary Issues. The Governor’s proposal for a new rainy-day fund requirement emphasizes the importance of regular state contributions to a larger budget reserve. So does ACA 4, the measure currently scheduled for the November 2014 statewide ballot. In general, setting aside money for a rainy day is exactly what the state should be doing when revenues are soaring, as they are now. In this report, we discuss issues the Legislature will want to consider for these and other rainy-day fund alternatives. With regard to another difficult budgetary issue for California—addressing the large unfunded liabilities of the state’s teachers’ retirement system—we suggest that the state set aside funds beginning this year in anticipation of a future long-term funding plan. www.lao.ca.gov Legislative Analyst’s Office 5 2014-15 BUDGET 6 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET OVERVIEW The Governor’s Budget Proposal • Higher 2011-12, 2012-13, and 2013-14 Revenues. Over 2012-13 and 2013-14 On January 9, 2014, the Governor presented combined, the administration now his 2014-15 budget proposal to the Legislature. estimates General Fund revenues and net As displayed in Figure 1, the Governor’s spending transfers to be $4.8 billion higher than plan includes $151 billion in spending from the budget act estimates. In addition, there General Fund and special funds combined. This is a $558 million upward fund balance reflects an $11 billion—or 8 percent—increase over 2013-14 revised levels. Figure 1 Recent, sharp increases Governor’s Budget Expenditures in personal income tax collections—driven largely (Dollars in Millions) by soaring stock prices in Change From 2013-14 2012-13 2013-14 2014-15 2013—have improved the Fund Type Revised Revised Proposed Amount Percent state’s budget condition General Funda $96,562 $98,463 $106,793 $8,331 8.5% significantly. Special funds 37,724 41,153 43,979 2,826 6.9 Budget Totals $134,286 $139,616 $150,772 $11,156 8.0% Administration’s Selected bond funds $6,715 $8,181 $4,166 -$4,015 -49.1% Budget Forecast Federal funds 70,431 85,803 84,562 -1,241 -1.4 a Includes Education Protection Account created by Proposition 30 (2012). Improved General Fund Condition. Figure 2 Figure 2 displays Governor’s Budget General Fund Condition the administration’s Includes Education Protection Account (In Millions) projection of the General 2012-13 2013-14 2014-15 Fund condition. The June 2013 spending plan Prior-year fund balancea -$1,100 $2,254 $3,938 Revenues and transfers 99,915 100,147 106,094b assumed that 2013-14 Total resources available $98,816 $102,401 $110,032 would end with a Expenditures $96,562 $98,463 $106,793c $1.1 billion reserve. The Ending fund balance $2,254 $3,938 $3,239 Governor’s budget now Encumbrances $955 $955 $955 estimates a $3 billion Reserved $1,299 $2,983 $2,284 reserve for the state at Budget Stabilization Account — — $1,591 the end of 2013-14. The Special Fund for Economic Uncertaintiesd $1,299 $2,983 693 a $1.9 billion increase in the The 2014-15 Governor’s Budget Summary, as released on January 9, 2014, included an $832 million net increase in the 2012-13 entering fund balance, compared to data in the state’s June 2013 enacted 2013-14 reserve is largely budget plan. The number listed on this line for 2012-13 reflects a $274 million downward adjustment related to personal income tax accruals for 2011-12 and prior years, reflecting an error identified by the explained by: administration subsequent to the release of the Governor’s budget. b Amount differs from that in the 2014-15 Governor’s Budget Summary. To improve the comparability with prior-year figures, the number listed here includes all revenues, including those transferred to the Budget Stabilization Account, resulting in $1.6 billion higher revenues than shown in administration totals. c Includes $1.6 billion to accelerate the retirement of economic recovery bonds. d Lower than displayed in the 2014-15 Governor’s Budget Summary by $274 million due to the downward adjustment described in footnote a. www.lao.ca.gov Legislative Analyst’s Office 7 2014-15 BUDGET adjustment for 2011-12 and prior years Major Features of the Governor’s Budget mainly related to revenue accruals. Figure 3 displays the major features of the Governor’s budget proposal. In recent years, the • Higher General Fund Proposition 98 primary focus of the budget process has been Spending. The administration’s estimated on the General Fund. Until the 2013-14 budget revenue gains are in large part offset by deliberations, the state had faced a multibillion $3.6 billion in increased General Fund dollar General Fund shortfall in nearly every year spending on schools and community over the preceding decade. Recently, however, the colleges in 2012-13 and 2013-14. In need for these actions has diminished, and this year addition, the administration has revised its the state is faced with choices on how to allocate non-Proposition 98 spending estimates for several billion dollars of surplus General Fund 2012-13 and 2013-14—changes that, on net, resources. The Governor’s budget reflects this shift improve the budget condition by a small in focus away from the General Fund, as many of amount. his major proposals are for special fund programs. Governor Proposes $2.3 Billion Reserve at End Below, we describe the major proposals in the of 2014-15. The Governor’s budget plan includes Governor’s budget plan. General Fund spending in 2014-15 that exceeds Proposes $2.3 Billion Reserve. For the first revenues by about $700 million. The budget, time since 2007-08, the Governor’s budget reflects however, includes several one-time spending items, his intent to transfer funds to the BSA. (Under including a $1.6 billion one-time supplemental Proposition 58, the Governor determines whether payment to retire the state’s outstanding the scheduled BSA transfer occurs annually.) economic recovery bonds (ERBs). The Governor Specifically, the budget plan shifts 3 percent can trigger this supplemental payment under ($3.2 billion) of General Fund revenues to this Proposition 58 (2004), the state’s existing rainy-day rainy-day fund. Half of these funds must go to fund requirement. (The supplemental payment accelerate repayment of the ERBs, which were used will result in an early retirement of the ERBs, to finance state budget deficits of the early 2000s. generating General Fund savings from expiration Includes New Rainy-Day Fund Constitutional of the so-called “triple flip” in 2015-16—about one Proposal. The Governor’s budget package proposes year earlier than otherwise would be the case.) to replace ACA 4—the rainy-day fund measure The Governor proposes the state end 2014-15 with currently scheduled for the November 2014 a total General Fund reserve of $2.3 billion— ballot—with an alternative measure. Specifically, $700 million below the revised reserve level the measure would base the required deposits at the end of 2013-14. The 2014-15 reserve is a into the rainy-day fund on projections of capital combination of $1.6 billion in the Proposition 58 gains-related PIT—the state’s principal source of rainy-day fund (known as the Budget Stabilization revenue volatility. In addition, the proposal would Account [BSA]) and $693 million in the General create a Proposition 98 reserve to attempt to reduce Fund’s traditional reserve, the Special Fund for volatility within the Proposition 98 budget. Economic Uncertainties (SFEU). Pays Down State Debts. The Governor’s proposal reflects his continued focus on repaying items on the wall of debt. As discussed above, half 8 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET of the transfer to the BSA will be used to accelerate for the Emergency Repair Program (ERP). the pay down of the ERBs. The Governor plans to Additionally, the plan provides funds to pay off use much of the large growth in Proposition 98 $1.6 billion in special fund loans in 2013-14 and funding to pay off the remaining school and 2014-15 combined, including a $328 million community college deferrals ($6.2 billion). The Highway Users Tax Account loan and $100 million Proposition 98 package also includes $188 million of the loan from the Greenhouse Gas (GHG) Figure 3 Major Features of the Governor’s Budget Reserve/Rainy-Day Fund • End 2014-15 with $2.3 billion reserve (including $1.6 billion in Proposition 58 reserve). • Create new rainy-day fund mechanism to replace existing Proposition 58 reserve with new Proposition 98 reserve. Paying Down State Debts (One-Time Costs) • Accelerate pay down of economic recovery bonds by about one year ($1.6 billion General Fund). • Pay off remaining school and community college deferrals ($6.2 billion Proposition 98 funds). • Repay $1.6 billion in special fund loans in 2013-14 and 2014-15 combined. • Provide $188 million for school repairs. Education • Provide additional $4.5 billion for K-12 Local Control Funding Formula. • Increase funding for community college student support ($200 million). • Provide 3 percent increase for community college enrollment growth ($155 million). • Provide unallocated base augmentations to UC and CSU ($142 million each). • Create $50 million grant program for universities and community colleges to change service delivery. • Shift debt-service payments into CSU’s budget. Health and Human Services • Exempt certain Medi-Cal providers from recoupment of prior-year payment reductions previously enjoined. • Restrict overtime for IHSS workers in response to new federal regulations. Infrastructure • Deliver to Legislature first five-year infrastructure plan since January 2008. • Provide $815 million in one-time funds (from General Fund and other funds) for deferred maintenance projects. • Authorize $500 million in lease-revenue bond authority for jail construction. Cap-and-Trade • Allocate $850 million in cap-and-trade auction revenues to various programs, including: $250 million for construction of the high-speed rail system and $200 million for low-emission vehicle program. Water • Propose $618 million plan (almost all from special funds) for various water-related programs, including protecting groundwater basins, augmenting local water supplies, and improving flood protection. • Transfer safe drinking water program from Department of Public Health to State Water Resources Control Board. Judiciary and Criminal Justice • Provide $105 million ongoing increase to judicial branch. • Assume two-year extension of court-ordered population cap. Other Programs • Assume that most state employees receive at least 2 percent pay increase in 2014-15 ($173 million all funds). www.lao.ca.gov Legislative Analyst’s Office 9 2014-15 BUDGET Reduction Fund. (As described later, the latter modernization. Similar to last year, the Governor two repayments are related to the Governor’s proposes to shift debt-service payments into CSU’s infrastructure and cap-and-trade proposals.) main appropriation. The Governor’s budget plan Includes $11.8 Billion for Proposition 98 also proposes $500 million in lease-revenue bond Above 2013-14 Budget Act Levels. The Governor’s authority to help counties construct and modify jail budget includes $11.8 billion in Proposition 98 facilities. spending increases—$7.6 billion attributable to Proposes $850 Million Cap-and-Trade 2014-15, $3.7 billion attributable to 2012-13 and Spending Plan. In 2006, legislation was enacted 2013-14, and $503 million for earlier years. Of the to reduce GHG emissions statewide to 1990 levels $11.8 billion, $6.8 billion is designated for one-time by 2020. Among these efforts, the state’s cap-and- purposes and $5 billion for ongoing purposes. Most trade program places a “cap” on aggregate GHG of the one-time funding is allocated for paying emissions from entities responsible for roughly off the school and community college deferrals 85 percent of the state’s GHG emissions. The ($6.2 billion). Of the ongoing funding, $4.5 billion Governor’s budget includes a plan for allocating is for the school district Local Control Funding $850 million in cap-and-trade auction revenues, Formula (LCFF). including $250 million for the state’s high-speed Proposes Increased General Purpose rail project. Funding for Universities. The Governor proposes Includes $618 Million Plan for Water Projects. unallocated base budget increases of $142 million In October 2013, the administration released each for University of California (UC) and a draft plan to address water challenges facing California State University (CSU) in 2014-15. the state. These challenges include limited and These increases represent the second annual uncertain water supplies, poor quality of surface installment in a four-year funding plan proposed water and groundwater, impaired ecosystems, and by the Governor last year. The Governor conditions high flood risk. The Governor’s budget package his proposed annual funding increases for the includes $618 million to implement some aspects of universities on their maintaining tuition at current the plan. levels. Similar to last year, the Governor does not The Administration’s Multiyear Forecast propose enrollment targets or enrollment growth funding for the universities. Forecasts Balanced Budgets Through Infrastructure Proposals Include $815 Million 2017-18. The administration’s multiyear budget for Deferred Maintenance. According to the projection reflects both its updated revenue and Governor’s Budget Summary, the administration expenditure projections, as well as projections intends to deliver to the Legislature the first of various proposals made by the Governor in five-year infrastructure plan since 2008. The his 2014-15 budget plan. It projects that General budget plan includes major proposals related to Fund revenues will annually exceed expenditures infrastructure, including $815 million (mostly after 2014-15, resulting in an operating surplus of from special funds) for deferred maintenance $1.7 billion in 2015-16, growing to $2.3 billion in projects. In addition, the budget proposes to shift 2017-18. Compared to our November forecast, these $211 million in remaining bond authority from operating surpluses are much lower. This disparity various school facility programs, such as seismic results in large part from a few billion dollars in mitigation, to new school construction and school each year for wall of debt payments that are not 10 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET included in our forecast. Even with these payments, proposal, the Governor started with a possible the administration forecasts that 2017-18 would surplus comparable in size to the one we estimated end with an $8.3 billion reserve—$4.6 billion in the in our November 2013 fiscal forecast. (While the BSA and $3.7 billion in the SFEU. Consistent with administration’s revenue estimates are somewhat standard forecasting conventions—including our lower, so are its Proposition 98 and some other office’s—the administration’s multiyear forecast spending estimates.) The Governor prioritized implicitly assumes continuation of the current making wall of debt repayments in his proposal. In economic expansion for several years. the budget summary, the administration estimates that the Governor’s plan would reduce the wall of LAO Comments debt by $11.8 billion in 2014-15. These reductions Governor’s Budget Would Continue can be broken into three categories: (1) ERB wall California’s Fiscal Progress. California has of debt costs that are mandatory, which are about made substantial progress in recent years in $2 billion in 2014-15; (2) Proposition 98 wall of addressing its prior, persistent state budgetary debt reductions of about $6.7 billion—principally problems. This progress has been facilitated by the Governor’s choice to propose pay downs of a recovering economy, a stock market that has school payment deferrals (to be paid from the been soaring recently, increased revenues from overall pot of state funds required to be provided the temporary taxes of Proposition 30, and the to schools); and (3) the remaining $3 billion or so state’s recent decisions to make relatively few of wall of debt repayments in the Governor’s plan. new non-Proposition 98 spending commitments. This $3 billion consists mainly of the Governor’s Overall, the Governor’s proposal would place planned $1.6 billion payment to retire the California on an even stronger fiscal footing and remaining ERBs one year early and his proposed continue California’s fiscal progress. By allowing $1 billion of payments to pay off past loans from deposits to the state’s existing Proposition 58 the state’s special funds. While the Governor has rainy-day fund to resume, the state can begin to the authority under Proposition 58 to trigger the build a strong precedent for accumulating reserves accelerated ERB repayment, this decision and during good revenue times. The Governor’s at least some of his proposed special fund loan planned early repayment of the state’s deficit bonds repayments represent choices that he made in would free up sales tax resources now dedicated designing his budget proposal. In general, we to bond repayment to support the General Fund think the Governor’s focus on debt repayments beginning in 2015-16 or so. The Governor also is a prudent one. The Legislature, however, has prudently proposes to continue paying down the ability to amend the Governor’s special fund special fund loans and other wall of debt items, loan repayment plan by adding different special including his plan to pay off all school payment fund loan repayments, deleting others, changing deferrals from Proposition 98 funds. Finally, the proposed repayment amounts, or adopting broader Governor proposes limited new spending outside of changes to fees and expenditures of the special Proposition 98, some of which is one-time spending funds involved. commitments such as his deferred maintenance Goals of Governor’s Rainy-Day Proposal Are proposal. the Right Ones. As described in the “Rainy-Day Governor Prudently Prioritizes Debt Fund” section of this report, regularly contributing Repayments. In crafting his 2014-15 budget to a larger rainy-day fund is exactly the direction www.lao.ca.gov Legislative Analyst’s Office 11 2014-15 BUDGET the state should be taking at a time when revenues Focus on Deferred Maintenance Positive. As are soaring. The Governor’s proposal would base described earlier, the Governor’s budget proposes deposits into the rainy-day fund on capital gains $815 million for deferred maintenance projects. related revenues—the principal source of state We believe that it is important for the state to begin revenue volatility. The state’s experience with to address its accumulated deferred maintenance constitutional formulas, however, suggests that any needs. While deferring annual maintenance lowers formula-based proposal merits careful legislative costs in the short run, it often results in substantial consideration. In the “Rainy-Day Fund” section costs over the long run. The Governor’s plan is a of this report, we discuss some of the factors the positive first step towards dealing with an important Legislature may wish to consider in weighing a and often ignored program. constitutional rainy-day fund requirement. Issues With Other Infrastructure Proposals. Governor’s Overall Proposition 98 Plan The Governor’s budget contains several Reasonable. We believe the Governor’s infrastructure ideas and proposals, including Proposition 98 plan provides a reasonable mix ones relating to school facility funding, CSU debt of one-time and ongoing spending. By retiring service, and county jail construction. With regards the $6.2 billion in outstanding K-14 deferrals, to rethinking the financing of school facilities, the the Governor’s plan would eliminate the largest Legislature would have many issues to consider— component of the school and community college from differences in local revenue-raising ability wall of debt by the end of 2014-15. In addition to among districts to the distribution of any state reducing outstanding one-time Proposition 98 funds among districts, the stability of that funding, obligations significantly, the Governor’s plan also and the incentives provided for districts to build would increase ongoing programmatic spending and maintain facilities cost-effectively. Regarding significantly by augmenting both the LCFF and the Governor’s CSU debt-service proposal, we community college programs. The mix of one-time are concerned that the approach diminishes the and ongoing spending is particularly important in Legislature’s oversight over the university’s use of 2014-15 given the minimum guarantee likely will be state funds. And with respect to the Governor’s very sensitive to volatility in General Fund revenues, proposal for $500 million in bond authority for with estimates of the guarantee potentially swinging county jail construction, we suggest that the widely over the coming months. Legislature seek from the administration additional Governor’s Higher Education Proposals— information on county jail needs and other issues in Similar Concerns as Last Year. The Governor’s considering the proposal. higher education budget plan is very similar to Cap-and-Trade Proposal Unlikely to Maximize last year, with the continuation of most of his Emission Reductions. The Governor’s budget proposals relating to unallocated base budget proposes a plan for using $850 million in auction increases; no specified expectations with regards revenues generated from the cap-and-trade program to operations, facilities, or performance; and no for various projects to GHG emissions. Most enrollment expectations. As with last year, we notably, the plan includes $250 million for the remain concerned that his plan would lead to less state’s high-speed rail project. As discussed later in responsiveness from the segments in meeting state this report, we are concerned that the Governor’s priorities as well as diminished state guidance and proposal likely would not maximize the reduction oversight. of GHG emissions. 12 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET Governor’s Integrated Approach for Water a significant portion of the recent revenue surge Has Merit. The Governor’s budget proposes probably results from capital gains-related $618 million to begin implementing a plan to PIT caused by large increases in stock prices address water challenges facing the state. We throughout 2013. The Governor is prudent to find that the Governor’s integrated approach warn Californians that this revenue surge may has merit, though we lay out some policy prove short-lived. considerations and funding issues that the When a similar revenue surge materialized Legislature may want to consider in weighing the in the late 1990s, we now know that state leaders Governor’s proposal. made spending and revenue commitments that Setting Aside Some Money for CalSTRS contributed to the state’s financial problems Now Would Be Smart. The Governor’s Budget throughout the last decade. We advise the Summary expressed an interest in working Legislature to avoid making similar mistakes with school districts and teachers over the this year. The Governor’s plan contains a coming year to reach agreement on a long-term number of features that would help improve the California State Teachers’ Retirement System state’s fiscal footing, including an emphasis on (CalSTRS) funding plan that would fully fund debt repayments and an effort to improve the the system over a 30-year period. We agree state’s rainy-day fund requirements. By making with the Governor regarding the key goal of a relatively few ongoing new non-Proposition 98 shared responsibility to achieve a fully-funded, spending commitments, the Governor is sustainable teachers’ pension system within attempting to minimize, as much as possible, about 30 years. In the meantime, however, we future budget pressures that could result from suggest that the state set aside some money making such new commitments today. during the 2014-15 budget process—when the In the event that revenue projections state is experiencing a significant influx of increase between now and May, the Legislature revenues—in anticipation of the state’s adoption would face important decisions regarding how of a long-term CalSTRS funding plan. to allocate additional revenues. Much of any Planning for Possibility of Even Higher such revenue increases could be required to Revenue Estimates in May. In May, when the be spent on schools and community colleges Governor presents his revised budget plan to the under Proposition 98. After addressing these Legislature, both the administration and our requirements, we believe the Legislature should office will release new economic and revenue give highest priority to increasing the size of the estimates. Given recent economic and tax Governor’s proposed reserves and setting aside collection data, however, there is a significant additional funds in anticipation of making bigger possibility that 2013-14 and perhaps 2014-15 payments on the state’s key retirement liabilities revenue estimates will rise by a few billion (including payments to address CalSTRS’ dollars. The state’s recent revenue gains are good unfunded obligations). In order to keep the news for state finances. These gains reflect the state on a sound fiscal footing, we advise the state’s continuing economic recovery, which Legislature to make only limited and targeted seems to be accelerating somewhat. Nevertheless, ongoing program commitments from additional revenues that may be identified this spring. www.lao.ca.gov Legislative Analyst’s Office 13 2014-15 BUDGET ECONOMY AND REVENUES Administration’s Economic Forecast economic forecast for 2013 and 2014 and compares it with other recent estimates, including those from Recovery Expected to Accelerate our office. Somewhat. The administration’s 2014-15 Governor’s Recent Economic Improvements. In order Budget economic forecast assumes that the current to meet the Governor’s January 10 budget moderate economic recovery will accelerate in deadline, administration officials finalize some 2014, leading to broad-based improvements in of their work on this economic forecast by both the U.S. and California economies over the mid-December. Economic data from December and next two years. This forecast incorporates the January, including a strongly positive revision to negative impact of the recent federal government GDP during the period coinciding with the federal shutdown—which caused most economists to government shutdown, suggest the U.S. economy lower expectations for 2013 economic growth—but may be performing somewhat stronger than assumes these effects were short-lived and therefore previously estimated. This strength is reflected will not linger into 2014. The administration in the most recent economic forecast included expects the U.S. economy (as expressed by in Figure 4 from IHS Economics (an economics real gross domestic product [GDP]) to expand advisory firm), which indicates the U.S. economy, 2.5 percent in 2014, accelerating to 3.1 percent as measured by real GDP, performed better in growth in 2015. These growth rates are on par with 2013 than either our office or the administration rates seen typically during a mature economic estimated when completing our most recent expansion, reflecting the consensus outlook that forecasts. U.S. economic growth is returning to more normal levels. Figure 4 summarizes the administration’s Figure 4 Comparing Administration’s Economic Forecast With Recent Forecasts 2013 2014 IHS IHS 2013-14 LAO DOF Economics 2013-14 LAO DOF Economics Budget November January January Budget November January January Act 2013 2014 2014 Act 2013 2014 2014 United States Percent change in: Real gross domestic 2.0% 1.5% 1.7% 1.9% 2.8% 2.5% 2.5% 2.7% product Personal Income 2.8 2.8 2.8 2.9 5.1 4.7 4.6 4.6 Employment 1.5 1.6 1.6 1.6 1.6 1.7 1.6 1.7 California Percent change in: Personal income 2.2% 2.1% 2.6% NA 5.7% 5.4% 4.6% NA Employment 2.1 1.7 2.1 NA 2.4 2.2 2.3 NA Unemployment rate 9.4 8.9 8.9 NA 8.6 7.8 7.9 NA Housing permits 82 88 87 NA 121 120 114 NA (thousands) NA = Not applicable. 14 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET Federal Actions No Longer Seem a Significant Administration’s Revenue Forecast Threat to Growth in 2014. The partial shutdown As shown in Figure 5, the administration’s of federal government operations in October 2013 new revenue forecast projects the General and uncertainty about whether Congress would Fund will book $100.1 billion of revenues and increase the federal government’s so-called “debt transfers in 2013-14 and $106.1 billion in 2014-15. ceiling” likely slowed economic growth somewhat (Administration summaries show estimated in the final quarter of 2013. These risks—along 2014-15 revenues of $104.5 billion. This is with the automatic spending cuts known as reduced by the amount of the Governor’s planned sequestration and the Federal Reserve’s gradual $1.6 billion transfer to the BSA, the state’s existing tightening of monetary policy—constituted Proposition 58 rainy-day fund. We display all a threat to consumer, business, and investor General Fund revenues in our summaries so that confidence that could have slowed the modest figures are more comparable to those of prior recovery. Fortunately, these risks now appear years.) Both Figure 5 and Figure 6 (see next page) to be fading for the following reasons: (1) the show how several key revenue metrics have been government shutdown does not seem to have revised above levels in the state’s 2013-14 budget act affected economic prospects, (2) the debt ceiling (passed in June 2013) in both our office’s November was extended until early 2014, and debate on the 2013 revenue projections and the administration’s issue appears less contentious than it was in 2013, revised January 2014 projections. (3) Congress passed a bipartisan budget agreement to soften the sequestration spending cuts, and Key Points (4) financial markets have reacted calmly to date Revenue Forecast Now Significantly Above upon announcement by the Federal Reserve that Budget Act Projections. As shown in Figure 6, the it would begin “tapering,” the gradual elimination administration has increased its revenue forecast of its unconventional bond purchase program. Figure 5 Comparing Administration’s General Fund Revenue Forecast With Prior Forecastsa General Fund and Education Protection Account Combined (In Millions) 2013-14 2014-15 LAO DOF LAO DOF 2013-14 November January 2013-14 November January Budget Act 2013 2014 Budget Act 2013 2014 Personal income tax $60,827 $66,002 $64,287 $67,132 $71,363 $69,764 Sales and use tax 22,983 22,809 22,920 24,702 23,561 24,071 Corporation tax 8,508 8,278 7,971 9,095 8,851 8,682 Subtotals, “Big Three” Taxes ($92,318) ($97,089) ($95,178) ($100,929) ($103,775) ($102,517) Insurance Tax $2,200 $2,163 $2,143 $2,265 $2,343 $2,297 Other revenue 2,249 2,254 2,480 1,858 1,874 2,046 Transfers and loansb 331 342 346 -385 -375 -765 Total Revenues and Transfers $97,098 $101,847 $100,147 $104,667 $107,617 $106,094 a The Department of Finance (DOF) Governor’s budget forecast updated revenues for prior years as well, 2011-12 and 2012-13, that are not shown here. These updates increase available General Fund revenue from those years by a combined $2.3 billion above the 2013-14 Budget Act assumptions. b Does not include transfer of revenues from General Fund to Budget Stabilization Account to improve comparability of totals with those of prior years. www.lao.ca.gov Legislative Analyst’s Office 15 2014-15 BUDGET compared to the forecast used in the state’s 2013-14 Higher Estimates Due Largely to Higher budget plan. For the four fiscal years of 2011-12 PIT Projections. Across the four fiscal years, the through 2014-15 combined, the administration’s Governor’s budget forecast for PIT revenue is forecast of total General Fund revenues and $7.6 billion above the 2013-14 Budget Act estimate, transfers is now $6.7 billion higher than last year’s as shown in Figure 6. This total consists of higher budget act forecast. About one-half of this increase estimates of $56 million in 2011-12 and prior years, ($3 billion) is the result of the administration’s $1.4 billion in 2012-13, $3.5 billion in 2013-14, and new higher revenue and transfer estimates for $2.6 billion in 2014-15. The improvement in the 2013-14. Also included in the $6.7 billion total is administration’s PIT revenue estimates is offset $536 million of higher PIT and corporation tax somewhat by lower estimates of CT revenue (a (CT) revenue accruals and adjustments for 2011-12 combined $517 million across the four fiscal years) and prior years, which the administration reports and sales and use taxes ($452 million over the as an increase to the beginning 2012-13 General period). Fund balance. Compared to the administration’s Personal Income Tax budget act projections, the new revenue estimates include a net amount of $300 million more of PIT Revenue Depends on Volatile Capital transfers out of the General Fund across the four Gains. The PIT is the state’s largest revenue fiscal years—largely accelerated special fund loan source, accounting for two-thirds of General repayments proposed by the Governor in his Fund revenue in 2014-15 in the administration’s 2014-15 budget plan. projections. In addition to traditional sources of income such as hourly wages and salaries, the Figure 6 Change From 2013-14 Budget Act Revenue Projections to Those in Recent State Revenue Forecasts General Fund and Education Protection Account Combined (In Billions) Change From 2011-12 2013-14 Budget Act— and Prior All Four Years Years 2012-13 2013-14 2014-15 Combined Personal Income Tax (PIT) LAO November 2013 forecast -$0.5 $1.1 $5.2 $4.2 $10.1 Administration January 2014 forecast 0.1 1.4 3.5 2.6 7.6 “Big Three” PIT, Sales, and Corporation Taxes Combined LAO November 2013 forecast — $1.5 $4.8 $2.8 $9.2 Administration January 2014 forecast $0.5 1.6 2.9 1.6 6.6 Total Revenues and Transfers LAO November 2013 forecast — $1.6 $4.7 $3.0 $9.4 Administration January 2014 forecasta $0.5 1.7 3.0 1.4 6.7 a Unlike the LAO November 2013 forecast, reflects Governor’s proposals for accelerated loan repayments to certain state special funds in 2014-15 and other adjustments, which result in a net amount of $300 million more transfers out of the General Fund for the four fiscal years combined. Like the LAO November 2013 forecast, the amounts displayed in this line do not reflect the Governor’s planned transfer of 2014-15 revenues to the Budget Stabilization Account. 16 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET tax is paid on realized capital gains, principally Recent Forecasts Account for 2013 Stock from the sale of stocks, bonds, and real estate. Gains. Figure 7 shows the upward trend of These types of assets are concentrated among U.S. stock prices during 2013, as measured by the high-income taxpayers in the state’s top marginal S&P 500 stock index. Both the administration’s income tax brackets. The 1 percent of taxpayers revised PIT forecast and our office’s November 2013 with the most income typically have paid around forecast attempt to account for this development 40 percent of PIT in recent years (rising to nearly in their estimates of capital gains income. The 50 percent on occasion), a large portion of which administration’s upward PIT revenue adjustments is in the form of capital gains taxes. In addition in 2013-14 and 2014-15 result primarily from higher to its concentration, capital gains are determined capital gains estimates. largely by sometimes turbulent and unpredictable Recent Data Suggest Potentially Higher PIT Graphic Sign Off stock prices. In the space of five years, for Revenue. Many high-income taxpayers make example, tax agency data shows that estimated estimated payments throughout the year as their Secretary PIT revenues from realized capital gains peaked income materializes. December and January Analyst at $10.9 billion in 2007, fell to $2.3 billion in 2009, are important months for these payments, MPA and returned to $4.2 billion in 2011. Actual data as year-end payments are due January 15th. Deputy on capital gains realizations and taxes lags by December estimated payments—as well as PIT around a year and a half, meaning that 2012 data withholding—were stronger than we expected. In will become available this year. the next few days, we will have more information about January estimated payments. Based on recent Figure 7 S&P 500 Index Rose Notably During 2013 1,900 1,800 1,700 1,600 1,500 1,400 1,300 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec www.lao.ca.gov Legislative Analyst’s Office 17 ARTWORK # Template_LAOReport_large.ait 2014-15 BUDGET tax collection trends, we would not be surprised at were to change or if there were negative surprises all if actual PIT revenues for 2013-14 exceeded the in state tax collections between now and April. administration’s revised projections by a few billion Nevertheless, we advise state leaders to plan for the dollars. This assessment definitely could change in significant possibility that revenue estimates for the coming months if positive trends in stock prices 2013-14 and perhaps 2014-15 will be higher when they are revised in mid-May. GOVERNOR’S MAJOR PROPOSALS Rainy-Day Fund the Governor to suspend or reduce the amount of the deposit by executive order. The Legislature can State Has a Volatile Revenue System. transfer up to the entire balance of the BSA back to Principally due to revenues from capital gains— the General Fund by majority vote. paid mostly from the state’s highest-income State’s Experience With Proposition 58. The taxpayers—the state’s revenue structure is volatile. state deposited funds into the BSA twice—in In many years, the normal volatility of capital gains 2006-07 and 2007-08, for a total rainy-day fund can result in annual revenues being a few billion of $1.5 billion—but the fund was emptied when above or below ours or the administration’s revenue revenues plummeted during the financial crisis. forecasts. While our volatile revenue structure Since 2007-08, governors have suspended the BSA promotes strong growth in revenues over the deposit each year. longer term, its inherent uncertainty complicates ACA 4 Rainy-Day Fund Measure Scheduled budgetary planning. One of the most important for November 2014 Ballot. In 2010, the Legislature tools the state can use to reduce budgetary volatility voted to place ACA 4 before voters. Assembly is its rainy-day reserve. Specifically, by setting Constitutional Amendment 4 aims to increase aside revenues when times are good, the state can: the maximum size of the state rainy-day fund—to (1) avoid ongoing spending commitments that 10 percent of estimated General Fund revenues— cannot be sustained over time and (2) build up a when state revenues are experiencing strong growth reserve to cushion the impact of the next economic and to limit the amount that can be withdrawn turndown. from the fund in any single year. These changes State Constitution Contains Rainy-Day Fund would tend to further mitigate budgetary volatility Requirement. Proposition 58 (2004) created the in the future. In addition, in certain circumstances, state’s rainy-day fund, known as the BSA. Each some of the funds transferred to the rainy-day fund year, Proposition 58 requires that 3 percent of could be used for one-time infrastructure-related estimated General Fund revenues be deposited into purposes and for paying down other liabilities. the BSA. Until the state’s prior deficit financing Deposits to Rainy-Day Fund Under ACA 4. bonds are repaid, half of the annual deposit goes Assembly Constitutional Amendment 4 includes to accelerating the repayment of those bonds. The two requirements for making deposits to the deposits continue until the BSA reaches either rainy-day fund. First, the measure continues the $8 billion or 5 percent of General Fund revenues, current practice of requiring a deposit equal to whichever is greater. Proposition 58 authorizes 3 percent of estimated General Fund revenues each 18 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET September. Second, ACA 4 requires another deposit we understand the Governor’s proposal in May when the state is experiencing particularly would require certain projected capital strong revenue growth. Specifically, the May gains income taxes exceeding 6.5 percent deposit would equal the amount by which annual of annual General Fund revenues to be estimated General Fund revenues were above deposited to the rainy-day fund. Deposits (1) the historical trend of General Fund revenues would be “trued up” over the next two or (2) the prior year’s General Fund expenditures years as more capital gains and other adjusted for change in population and cost of formula data emerges. living, whichever is less. The historical trend of • Creates a Proposition 98 Reserve. The General Fund revenues would be calculated each Governor proposes that a portion of a year by the Director of Finance. Specifically, the required rainy-day fund deposit go into a measure requires the calculation to be based on a Proposition 98 reserve (essentially, as we linear regression—a statistical analysis technique— think of it, a dedicated reserve within the that involves adjustments to exclude the revenue rainy-day fund). This portion would be effects of changes in tax policy that have been in determined by calculating the part of the effect for less than 20 years. increase in the Proposition 98 minimum Governor’s Proposal guarantee caused by capital gains revenues over the 6.5 percent threshold Budget Proposes to Replace ACA 4 With described above. The Proposition 98 Alternate Measure. The Governor’s budget reserve deposit would count toward proposes a rainy-day fund that aims to reduce meeting the minimum guarantee in that budgetary volatility by basing the size of a required year, but as the deposit would be held in deposit on capital gains-related revenues—the reserve, total appropriations to schools principal source of state revenue volatility. Our and community colleges would be less comments are based on the general description than the minimum guarantee in the years in the Governor’s Budget Summary and our when deposits are made. In a subsequent discussions with administration staff. Specifically, year, when year-to-year growth in the the Governor’s proposal: guarantee is insufficient to fund specified • Increases the Size of Rainy-Day Fund. growth and cost-of-living adjustments The Governor’s proposal increases the (COLA), funds from the Proposition 98 size of the rainy-day fund to 10 percent reserve would be distributed to schools of estimated General Fund revenues. and community colleges. In this instance, This larger reserve would provide greater the Proposition 98 reserve distributions protection against unexpected revenue would provide schools and colleges with shortfalls. funding above the minimum guarantee in some of the more difficult fiscal years. • Amount of Deposit Based on Capital Because the minimum guarantee can be Gains Revenues. Compared with ACA 4, highly sensitive to changes in General the Governor’s proposal uses a different Fund revenues, in some years with method for determining the size of the significant capital gains, most or all of annual required deposit. Specifically, www.lao.ca.gov Legislative Analyst’s Office 19 2014-15 BUDGET the proposed rainy-day fund deposits regular feature of the budget process. We believe this under the Governor’s plan would go to is precisely the direction the state should be taking the Proposition 98 reserve—meaning to improve its budgeting practices—particularly at those funds would remain unavailable for a time when state revenues are soaring due in large non-Proposition 98 spending in the future. part to rising stock prices. State’s History With Constitutional Budgetary • Limits Withdrawals. For any portion Formulas. California’s state budget system is already of the rainy-day fund outside of the very complex. Formula-driven ballot measures Proposition 98 reserve, the Governor’s have added considerably to this complexity. plan would limit the amount that can be Proposition 98, as currently administered, is withdrawn in the first year of a revenue understood by a small number of insiders. The downturn. Specifically, the state would be Gann limit, as amended by Proposition 111, has limited to withdrawing half of that part seldom played a significant role in the state budget of the rainy-day fund in the first year of a process, and its detailed estimates—listed in obscure downturn. For the Proposition 98 reserve appendices of annual administration budget itself, in certain instances, we understand documents—are difficult to fathom. Given this that the Governor’s plan would allow the experience, writing additional budgetary formulas full amount to be withdrawn if needed into the Constitution could diminish the public’s to provide specified growth and COLA already limited understanding of the state’s budget adjustments to schools and community system. colleges. Legislature Should Consider Formulas Carefully. As is likely to be the case with any • Allows Funds to Be Used to Pay Down rainy-day fund formula to be written into the State Various Liabilities. As described in the Constitution, both ACA 4 and the Governor’s Governor’s Budget Summary, the proposal proposal probably would produce unforeseen or allows the amount otherwise required to be unintended consequences for the state in the future. transferred to the rainy-day fund to instead As described earlier, we understand the Governor’s be used to pay down various budgetary proposal would require certain projected capital liabilities, such as those on the Governor’s gains taxes exceeding 6.5 percent of annual General wall of debt. Fund revenues to be deposited to the rainy-day fund. As income distributions change in the future and as LAO Comments stock prices and capital gains grow or decline over Goals of Both ACA 4 and Governor’s Proposal time, this constitutional threshold could result in a Are the Right Ones. Assembly Constitutional stronger or weaker rainy-day fund requirement—in Amendment 4 and the Governor’s proposal both general, meaning less or more flexibility for the provide mechanisms to “take money off the table” Legislature and the Governor to address their during good times in order to build larger rainy-day budget priorities during some periods of time. In the reserves. By doing so, either plan could reduce average and median fiscal year since the mid-1990s, budgetary volatility, resulting in more predictable capital gains taxes have made up around 7 percent funding for state and local programs. The measures of General Fund revenues. While 6.5 percent, seek to make contributing to a rainy-day fund a therefore, currently represents something like a 20 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET “normal year” for capital gains, that may not be such a scenario, the Legislature would see more of its the case over time. Similarly, ACA 4 contains a powers shifted to the executive branch. linear regression calculation that requires many Both Measures’ Effectiveness Likely Affected adjustments and assumptions to be made to account by Proposition 98 Interactions. Both ACA 4 for tax policy changes over the prior 20 years. We and the Governor’s measure make choices have concerns about the workability and reliability regarding how Proposition 98 interacts with of this calculation. Given these concerns, we advise the non-Proposition 98 side of the budget. For the Legislature to consider these proposed formulas example, some large influxes of revenues can carefully. result in little growth in the state’s rainy-day fund Formula-Based Decisions Often Made Using under ACA 4 due to Proposition 98. Under the Imperfect Information. Various rainy-day fund Governor’s measure, in a similar year of revenue proposals of recent years seem to assume that the growth, nearly all of the revenues set aside for data necessary to compute their formulas exists, rainy-day fund purposes may sometimes go to the is knowable with some certainty at a given point Proposition 98 reserve. in time, and is not subject to interpretation. This How Should the Legislature Proceed? is often not the case. For example, revenues for a given fiscal year remain uncertain for about Possible Alternative Approaches. Despite our two years, complicating calculations required by concerns, both ACA 4 and the Governor’s proposal ACA 4. In addition, by May when the Legislature foster a critical debate. Both aim to address one and Governor would finalize the estimate of capital of the state’s most challenging budget problems— gains and the amount of the deposit under the revenue volatility. While we think that both ACA 4 Governor’s proposal, the state would have no hard and the Governor’s proposal have meritorious data on capital gains taxes for the fiscal year just features, other alternatives could be considered by ending and imperfect information for the year the Legislature. If the Legislature wishes to place before that. Moreover, projections of future capital before voters a revised constitutional rainy-day gains taxes are well known to be unreliable—a fund requirement, the measure could focus on point the Governor has made forcefully during the simple, incremental changes to the Proposition 58 past year. As such, locking a reserve formula into requirement. Below, we list some options that the the Constitution based on capital gains projections Legislature may wish to consider in this regard. should be considered carefully by the Legislature. • Increase Size of Reserve. Increasing the Concerns Regarding Possible Shift of Power size of the Proposition 58 reserve, the BSA, to the Executive Branch. Under ACA 4 and the would provide the state greater protection Governor’s measure, the amount of the deposits against unexpected revenue shortfalls. would be dependent on various estimates. Assembly Constitutional Amendment 4 contains formulas • Limit Amount of Withdrawals. Limiting explicitly required to be compiled by the executive the amount that can be withdrawn from branch. While we understand the estimates in the the BSA in any single year could improve Governor’s proposal would be subject to legislative the state’s ability to mitigate budgetary review, future governors may well premise their shortfalls in multiyear recessions, but would approval of state budget bills on legislative agreement diminish the ability to cover a significant to their administrations’ formula calculations. In budget shortfall in any single fiscal year. www.lao.ca.gov Legislative Analyst’s Office 21 2014-15 BUDGET • Limit Frequency of Withdrawals. Limiting lawmakers. Regardless of the Legislature’s decision the frequency of withdrawals to a specified about a possible constitutional ballot measure, number of years in any decade could decisions made in this year’s budget process can increase the likelihood that the rainy-day begin a new tradition of setting aside revenues fund would be used only when needed when times are good to provide a cushion for most. when revenues decline. The Governor’s budget proposal to reinstate the annual deposit to the • Limit Frequency of Suspensions. Limiting BSA, for example, could create a strong precedent the frequency of BSA suspensions or for accumulating reserves during good revenue reductions to a specified number of years times. Further, the proposal is evidence that the in any decade could encourage more Proposition 58 mechanism can work. If revenue consistent rainy-day fund deposits. estimates rise even more between January and May, the Legislature and the Governor have the • Consider Balance Between Proposition 98 chance to build an even larger reserve than the and Other Expenditures. In amending Governor proposes this year. Through actions such Proposition 58—or in considering any as these, the state can establish a tradition of sound rainy-day fund proposal—the Legislature fiscal stewardship—with or without any proposed will have to consider the extent to which constitutional change. the Proposition 98 and non-Proposition 98 sides of the budget, respectively, are CalSTRS constrained in periods when the rainy-day Longstanding Funding Problems. CalSTRS fund is being filled and aided when has not been appropriately funded for much of budgetary trends are weak. its 100-year history. Simply put, CalSTRS is not • Ensure Reserve Deposit Plans Consistent funded enough to ensure its solvency over the long With Annual Budget Agreements. term. Moreover, state law does not even make clear Proposition 58 currently requires the who is responsible for providing more funding Governor to decide whether to suspend to the system: teachers, districts, or the state. The or reduce scheduled transfers to the BSA basic pension math is clear—CalSTRS must receive no later than June 1. Yet, the Legislature more money. In our view, now is the time for action passes the annual budget on June 15, and to begin addressing this very difficult problem. the Governor signs the budget plan on 30-Year, Full-Funding Plan Should Be Focus or before July 1. Proposition 58 could be Now. We agree with the Governor that the key goal amended to allow the Governor to alter his of the state should be developing a plan of shared initial June 1 determination on or before responsibility to achieve a fully-funded, sustainable July 1 to ensure the state’s rainy-day fund teachers’ pension system within about 30 years. The deposit plan is compatible with the budget CalSTRS board has stated that this is the “definitive plan adopted by the Legislature. approach” to addressing the system’s funding problem. This will be a very expensive proposition, California Can Build Tradition of Sound potentially requiring around $5 billion per year Fiscal Stewardship. Assembly Constitutional initially (growing over time) in extra resources Amendment 4 and the Governor’s proposal should from some combination of the state, districts, and lead to an important budgetary discussion by 22 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET teachers. This amount will remain substantial over Proposition 98 the long term regardless of the fact that stock prices Proposition 98 funds K-12 education, the have been growing recently. California Community Colleges (CCC), preschool, Setting Aside Some Money Now Would Be and various other state education programs. Smart. The Governor suggests that state officials The Governor’s budget includes $11.8 billion and the education community attempt to come in Proposition 98 spending increases. Of that to agreement on how the state, districts, and amount, $7.6 billion is designated as 2014-15 teachers respectively will fund CalSTRS over the Proposition 98 spending, $3.7 billion is additional long term. In the meantime, however, a portion funding attributable to 2012-13 and 2013-14, and of the state’s 2014-15 budget reserve could be set $503 million is attributable to earlier years. Of the aside in anticipation of making the first deposit $11.8 billion, $6.8 billion is designated for one-time to CalSTRS after development of a new long-term purposes and $5 billion for ongoing purposes. funding plan over the next year or two. In any Under the Governor’s budget, ongoing K-12 event, the responsibility to adopt a solution will in per-pupil funding would increase from $7,936 in the end rest squarely with the Legislature and the 2013-14 to $8,724 in 2014-15—an increase of $788 Governor. (10 percent). Over the Long Term, the State’s Role Should Change. The Governor’s budget summary Changes to the Minimum Guarantee comments that the state’s long-term role as a direct 2012-13 Minimum Guarantee Up $1.9 Billion. contributor to CalSTRS should be evaluated. We As Figure 8 shows, the administration’s revised agree. Employers and employees should be partners estimate of the 2012-13 minimum guarantee in defined benefit pension systems, and the state is $58.3 billion, a $1.9 billion increase from the is not the employer of California’s public school estimate made at the time the 2013-14 budget plan teachers. In our November 2011 publication on the was enacted. Of the increase in the minimum Governor’s initial pension proposal, we noted that guarantee, roughly $1.8 billion is due to General the state can—and probably should—play a key Fund revenues being $1.7 billion higher than role in addressing the large unfunded liability that assumed in the 2013-14 budget plan, and the exists for past and current teachers’ benefits. We remainder is due to an increase in baseline property also have suggested that the state create a plan for tax revenues. (The 2012-13 minimum guarantee future teachers’ benefits to be paid completely by is a “Test 1” year, in which increases in property districts and teachers over the long term. tax revenues result in higher funding for schools Figure 8 Increase in 2012-13 and 2013-14 Proposition 98 Minimum Guarantees (In Millions) 2012-13 2013-14 Budgeted Revised Change Budgeted Revised Change Minimum Guarantee General Fund $40,454 $42,207 $1,752 $39,055 $40,948 $1,893 Local property tax 16,011 16,135 124 16,226 15,866 -361 Totals $56,465 $58,342 $1,877 $55,281 $56,813 $1,532 www.lao.ca.gov Legislative Analyst’s Office 23 2014-15 BUDGET and community colleges.) Though the Governor’s lower-than-expected student attendance. The estimate of the minimum guarantee has increased, higher minimum guarantee combined with lower- his estimate of 2012-13 Proposition 98 spending is than-expected costs creates a 2013-14 settle-up $130 million lower, primarily due to lower-than- obligation of $1.7 billion. expected student attendance. The higher minimum 2014-15 Minimum Guarantee $4.7 Billion guarantee combined with lower-than-expected Above Revised 2013-14 Level. As Figure 9 shows, costs create a total “settle-up” obligation of the Governor’s budget proposes $61.6 billion in $2 billion. total Proposition 98 funding for 2014-15. This 2013-14 Minimum Guarantee Up $1.5 Billion. is $4.7 billion higher than the revised 2013-14 The administration’s revised estimate of the spending level. The increase is driven by strong 2013-14 minimum guarantee is $56.8 billion, a growth in General Fund revenue and increases $1.5 billion increase from the amount assumed in in property tax revenues. (Test 1 is operative in the 2013-14 budget plan. This increase is due to the 2014-15, such that marginal increases in property higher 2012-13 minimum guarantee and higher tax revenues—except for RDA asset revenues—are year-to-year growth in per capita General Fund resulting in a higher Proposition 98 minimum revenues, offset slightly by lower-than-anticipated guarantee.) growth in student attendance. Though the Wall of Debt Proposal minimum guarantee is up $1.5 billion, the state’s General Fund Proposition 98 requirement is up by One of the largest components of the $1.9 billion due to estimates of local property tax Governor’s budget plan is his proposal to retire revenues decreasing by $361 million. The Governor all wall of debt obligations, including school also has a revised estimate of 2013-14 spending, and community college obligations, by the end which is down $150 million primarily due to of 2017-18. The state currently has a total of Figure 9 Proposition 98 Funding (Dollars in Millions) Change From 2013-14 2012-13 2013-14 2014-15 Revised Revised Proposed Amount Percent Preschool $481 $507 $509 $2 — K-12 Education General Fund $37,740 $36,361 $40,079 $3,718 10% Local property tax revenue 13,895 13,633 14,171 537 4 Subtotals ($51,634) ($49,995) ($54,250) ($4,255) (9%) California Community Colleges General Fund $3,908 $4,001 $4,396 $395 10% Local property tax revenue 2,241 2,232 2,326 94 4 Subtotals ($6,149) ($6,233) ($6,723) ($489) (8%) Other Agencies $78 $78 $77 -$1 -1% Totals $58,342 $56,813 $61,559 $4,746 8% General Fund $42,207 $40,948 $45,062 $4,115 10% Local property tax revenue 16,135 15,866 16,497 631 4 24 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET $11.5 billion in such outstanding school and provide low-performing schools with a total of community college obligations—$6.2 billion in $800 million for emergency facility repairs. Of deferrals (late payments), $4.5 billion in unpaid the $188 million proposed for ERP in 2014-15, mandate claims, $462 million for ERP, and $94 million is being redirected from free-up QEIA $410 million for the Quality Education Investment funds (mentioned above) and $94 million is coming Act (QEIA). (The state also has a $1.5 billion from unspent prior-year Proposition 98 funds. outstanding Proposition 98 settle-up obligation, Under the Governor’s proposal, the state would which can be used to pay off the obligations have $274 million in outstanding ERP obligations mentioned above.) We discuss the Governor’s plan at the end of 2014-15. for retiring these obligations below. Retires Remaining Wall of Debt Obligations Retires All School and Community College by End of 2017-18. The Governor proposes to Deferrals by End of 2014-15. The Governor retire all remaining wall of debt obligations in the proposes to pay down all $6.2 billion in following three years, with all obligations paid outstanding school and community college off by 2017-18. In 2015-16, the Governor would deferrals by the end of 2014-15. As Figure 10 provide $1.5 billion to retire the state’s outstanding shows, the Governor designates Proposition 98 Proposition 98 settle-up obligation. Because funding from 2012-13, 2013-14, and 2014-15 to pay settle-up payments can be provided to schools and down these deferrals. Under the Governor’s plan, community colleges for any purpose, the Governor all higher Proposition 98 spending proposed in proposes to dedicate these settle-up funds for 2012-13 and 2013-14 is used for deferral pay downs. repaying the remaining $274 million owed for ERP About one-third of the new spending proposed for and paying off $1.2 billion in outstanding mandate 2014-15 is for deferral pay downs. claims. The remaining $3.2 billion in mandate- Makes Final $410 Million QEIA Payment. claim payments would be spread across 2016-17 QEIA provides funding to low-performing and 2017-18. schools for various improvement activities and to Other Major Proposition 98 Proposals community colleges for career technical education. Through the QEIA program, the state is providing Figure 11 (see next page) shows all major additional funds to schools and community changes to Proposition 98 spending in 2014-15. As colleges as part of a Proposition 98 settle-up the figure shows, the budget provides $7.6 billion in agreement relating to 2004-05 and 2005-06. Although statute requires a $410 million payment Figure 10 to fully retire the state’s 2004-05 and 2005-06 Governor Proposes to Pay Down settle-up obligations, the estimated costs of the All Outstanding K-14 Deferrals QEIA program in 2014-15 are $316 million. (Fewer (In Millions) schools are now participating in the program.) The K-12 CCC Totals Governor proposes to redirect the $94 million in Pay down scored to: freed-up funds to the ERP (as discussed further 2012-13 $1,813 $194 $2,007 below). 2013-14 1,520 163 1,683 2014-15 2,238 236 2,474 Provides $188 Million for ERP. The ERP was Total Proposed $5,571 $592 $6,164 created in 2004 through legislation associated Deferral with the Williams settlement and is intended to Pay Down www.lao.ca.gov Legislative Analyst’s Office 25 2014-15 BUDGET policy-related spending increases. Of this amount, would be approximately 80 percent of the full $5.2 billion reflects program augmentations implementation rates. The Governor also proposes and $2.5 billion is for paying down the last of to add two categorical programs to the LCFF— school ($2.2 billion) and community college Specialized Secondary Programs ($4.8 million) ($236 million) deferrals. As shown in the figure, and agricultural education grants ($4.1 million). the largest programmatic augmentation is for the Under the Governor’s proposal, school districts school district LCFF. We discuss this and other receiving funding for these two programs in notable proposals below. For community colleges, 2013-14 would have those funds count towards we discuss the Governor’s Student Success and their LCFF targets beginning in 2014-15. (No Support Program (SSSP) proposal later in the change would be made to the LCFF target rates.) “Higher Education” section of this report and The currently required categorical activities would the Governor’s $175 million maintenance-related be left to districts’ discretion. The Governor’s plan proposal later in the “Infrastructure” section. also provides county offices of education (COEs) Provides $4.5 Billion for LCFF Increases. The with an additional $26 million in LCFF funding. proposed $4.5 billion increase in LCFF funding The administration projects that this increase reflects an 11 percent year-to-year increase and will be sufficient to provide COEs their full LCFF is estimated to close 28 percent of the remaining target rates in the budget year. gap between school districts’ 2013-14 funding Proposes New Automated Budget Formula levels and the LCFF full implementation rates. for LCFF Funding. The Governor proposes Under the Governor’s proposal, we estimate statutory language requiring that a specified the 2014-15 per pupil LCFF funding level percentage of annual Proposition 98 funding automatically be Figure 11 dedicated to LCFF Increases in 2014-15 Proposition 98 Spending each year (the exact (In Millions) percentage has yet to Accounting Adjustments be determined). Under Remove prior-year one-time actions -$2,423 current law, prior-year Fund QEIA program outside of Proposition 98 -361 LCFF appropriations Adjust energy efficiency funds -101 are continuously Subtotal (-$2,885) appropriated—that is, Policy Changes these appropriations are Fund increase in school district LCFF $4,472 automatically made to Pay down remaining deferrals (one-time) 2,474 Augment CCC Student Success and Support Program 200 school districts, even Augment CCC maintenance and instructional equipment (one-time) 175 without an approved Fund 3 percent CCC enrollment growth 155 state budget. Increases in Provide 0.86 percent COLA to select K-14 programs 82 Increase funding for K-12 pupil testing 46 LCFF funding, however, Fund increase in COE LCFF 26 are made at the discretion Other changes 1 of the Legislature and Subtotal ($7,631) must be approved in Total Changes $4,746 QEIA = Quality Education Investment Act; LCFF = Local Control Funding Formula; CCC = California the annual budget. Community Colleges; COLA = cost-of-living adjustment; and COE = county office of education. 26 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET Under the Governor’s proposal, the Legislature each course into an equivalent number of hours for effectively would have no role in making this key purposes of generating funding. The Governor also determination moving forward. proposes to allow student-teacher ratios in these Other Changes to Existing Programs. The courses to exceed limits established by current law, Governor’s budget plan includes several other provided these changes are collectively bargained notable changes. The budget provides $82 million by local education agencies. to fund a 0.86 percent COLA for most K-12 Governor’s Overall Proposition 98 categorical programs and community college Plan Reasonable apportionments. The Governor also provides a $46 million increase for pupil testing to reflect the Plan Contains Prudent Mix of One-Time and higher cost of administering new standardized Ongoing Spending. We believe the Governor’s tests aligned to the Common Core State Standards. Proposition 98 plan provides a reasonable mix of The budget also reflects a $101 million reduction programmatic funding increases and pay downs of in funding for Proposition 39 energy projects. (The outstanding obligations. By retiring the $6.2 billion Governor estimates that the amount of corporate in outstanding K-14 deferrals, the plan would tax revenues deposited into the Clean Energy Job eliminate the largest component of the school Creation Fund in 2014-15 will be $101 million lower and community college wall of debt. Dedicating than assumed in the 2013-14 budget plan, thus a substantial amount of new funding to one-time requiring a corresponding reduction in funding.) purposes also helps the state minimize any future To accommodate the reduction, the Governor disruption in school funding as a result of revenue provides no additional funding in 2014-15 for the volatility or an economic slowdown. Though a revolving loan program ($28 million savings) and significant amount of funding is dedicated to reduces school and community college grants one-time purposes in the Governor’s plan, his by $65 million and $8 million, respectively. The plan also significantly increases LCFF funding Governor also proposes to add three mandates— and provides a variety of community college Uniform Complaint Procedures, Public Contracts, augmentations, thereby building up ongoing and Charter Schools IV—to the Mandate Block programmatic support. Grant. Given none of the three mandates is 2014-15 Minimum Guarantee Very Sensitive relatively costly, the Governor’s plan does not to Changes in General Fund Revenues. Because provide an associated increase in block grant 2014-15 is a Test 1 year in which a relatively funding. large maintenance factor payment is required, Proposes Simplification of Rules for marginal increases or decreases in General Fund Independent Study. To facilitate the use of online revenues can result in dollar-for-dollar changes instruction, the Governor proposes to create a in the minimum guarantee. (As we’ve previously simplified independent study program for grades discussed, this is driven by the state’s approach 9-12. Current independent study programs require to paying maintenance factor in Test 1 years.) that each student assignment within a course be As a result, estimates of the 2014-15 minimum translated into an equivalent number of classroom guarantee will be highly sensitive to changes in hours for purposes of generating funding. Under General Fund revenues and could experience large the Governor’s proposal, independent study swings over the coming months. This volatility and programs alternatively could choose to translate associated swings in the guarantee makes a prudent www.lao.ca.gov Legislative Analyst’s Office 27 2014-15 BUDGET mix of one-time and ongoing support particularly provides $13 billion in General Fund support for important. higher education in 2014-15. This is $1.2 billion Concerns With Proposal to Automate Future (10 percent) more than the revised current-year LCFF Funding Increases. Though we believe level. the Governor’s overall Proposition 98 plan is Major Higher Education Proposals reasonable, we have concerns with his proposal to set in statute the specific share of Proposition 98 The majority of the new funding is for funding that would be dedicated to LCFF each year base increases at the universities, increases in moving forward. Though we believe the bulk of apportionment funding and two categorical future K-12 funding increases should be dedicated programs at the community colleges, repaying to funding LCFF, we are concerned that such an bonds that support CIRM research, as well approach would remove the Legislature’s discretion as increased participation in Cal Grants and to appropriate funding and make key budget implementation of the new Middle Class decisions. Given the considerable loss of associated Scholarship program. legislative authority and discretion, we recommend Proposes Increase in General Purpose the Legislature reject this proposal. Funding for Universities. The Governor proposes unallocated base budget increases of $142 million Higher Education each for UC and CSU in 2014-15. These increases California’s publicly funded higher education represent the second annual installment in a system consists of UC, CSU, CCC, Hastings College four-year funding plan proposed by the Governor of the Law (Hastings), the California Student last year. Under this plan, the universities, which Aid Commission (CSAC), and the California received 5 percent base funding increases in the Institute for Regenerative Medicine (CIRM). current year, would receive the proposed 5 percent As shown in Figure 12, the Governor’s budget increase in 2014-15, followed by 4 percent increases Figure 12 Higher Education General Fund Support (Dollars in Millions) Change From 2013-14 2012-13 2013-14 2014-15 Actual Revised Proposed Amount Percent University of California $2,566 $2,844 $2,987 $142 5% California State Universitya 2,473 2,789 2,966 177 6 California Community Collegesb 4,269 4,390 4,828 438 10 California Student Aid Commissionc 1,559 1,682 1,904 222 13 California Institute for Regenerative Medicine 53 97 284 187 193 Hastings College of the Law 9 10 11 1 13 Awards for Innovation in Higher Education — — 50 50 N/A Debt-service obligationsd (1,027) (1,027) (1,255) (228) (22) Totals $10,930 $11,812 $13,030 $1,218 10% a Includes health benefit costs for CSU retired annuitants. b Includes Quality Education Investment Act funds. c Includes federal Temporary Assistance for Needy Families funds and monies from the Student Loan Operating Fund—both of which directly offset General Fund expenditures for Cal Grants. d Amounts, which include debt service on general obligation, lease-revenue, and UC general revenue bonds, are shown for reference only, as they already are reflected in the lines above. 28 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET in each of the subsequent two years. (The increases year’s budget. (Under current law, UC and CSU for both universities are based on 5 percent of are required to report annually by March 1 on a UC’s support budget, resulting in an increase of specified set of performance measures.) 5.6 percent for CSU.) About $10 million of CSU’s Significantly Increases CCC Funding. In increase is related to a new proposed process for addition to paying off CCC deferrals (discussed funding capital projects (discussed later in the earlier in the Proposition 98 section of this report), “Infrastructure” section of this report). the Governor provides significant programmatic No Enrollment Targets for Universities. increases to the CCC system. These augmentations Similar to last year, the Governor does not propose include $200 million for the Student Success and enrollment targets or enrollment growth funding Support categorical program (discussed in more for the universities. The Governor’s budget detail below), $175 million (one-time) for deferred documents show resident enrollment flat in the maintenance and instructional support (discussed budget year at UC, growing by 2 percent at CSU, later in the “Infrastructure” section of this report), and decreasing by 8 percent at Hastings. (The $155 million for 3 percent enrollment growth (an administration indicates these enrollment levels additional 34,000 full-time equivalent students), are shown for “display purposes only and do not and $48 million to provide a 0.86 percent COLA to constitute an enrollment plan.”) apportionments. Assumes No Tuition Increases. Although the Proposes Major Augmentation for CCC Governor acknowledges in his budget summary Categorical Program. The Governor provides that college is relatively affordable for California’s a $200 million augmentation to CCC’s SSSP public-college students (due to high public (formerly known as matriculation), which subsidies, relatively low tuition and fees, and robust represents a tripling of current-year funding for the financial aid programs), he conditions his proposed categorical program. The SSSP funds assessment annual funding increases for the universities on and orientation services for new students, as well as their maintaining tuition at current levels. Under academic counseling for both new and continuing his plan, tuition levels, which have not increased students. Of the $200 million, $100 million since 2011-12, would remain flat through 2016-17. would be allocated to districts in support of all Requires UC and CSU to Adopt Sustainability CCC students (using a formula based on student Plans. The Governor proposes budget language enrollment). The remaining $100 million would requiring the UC and CSU governing boards be allocated to districts specifically to target “high to adopt three-year sustainability plans by need” CCC students. The Chancellor’s Office would November 30, 2014. Under this proposal, the be tasked with defining what constitutes high universities would project expenditures for each need as well as with developing a methodology for year from 2015-16 through 2017-18 and describe allocating these monies to districts. The Governor’s changes needed to ensure expenditures do not intent is for districts to provide additional exceed available resources (based on General services—beyond the base services provided under Fund and tuition assumptions provided by the SSSP—so as to reduce student achievement gaps Department of Finance [DOF]). The segments also (related to students’ gender, ethnic/racial group, or would project resident and nonresident enrollment disability). The Governor’s budget also expresses for each of the three years and set performance a desire for districts to improve coordination of targets for the outcome measures approved in last SSSP with CCC categorical programs that serve www.lao.ca.gov Legislative Analyst’s Office 29 2014-15 BUDGET similar students and also would permit districts eligible applicants. The commission will make a to reallocate up to 25 percent of funds from three preliminary determination about whether awards CCC categorical programs to other programs that will need to be prorated in April, after receiving the serve high-need students. universities’ estimates of qualifying students. Proposes New Innovation Awards. Also Funds Cal Grant Participation Growth. included in the Governor’s budget is one-time The budget also provides $103 million for funding of $50 million for awards to encourage increased participation in Cal Grants. A portion innovation at UC, CSU, and CCC campuses. of this growth is due to a surge in new awards Proposed budget language defines three state in the current year, which increases renewals in priorities: (1) significantly increasing bachelor’s the budget year. (The budget does not assume degree attainment in the state, (2) shortening time additional growth in the number of new awards for to degree, and (3) easing transfer across segments. 2014-15.) In addition, the second cohort of Dream Campuses, both individually and in groups, could Act students accounts for about one-quarter of the apply for awards to implement innovative higher increase. education models that achieve these priorities. Mixed Review of Governor’s Proposals A committee of five Governor’s appointees representing DOF and the segments’ governing Below, we provide our initial assessment of the boards (including the State Board of Education) Governor’s higher education proposals. and two legislative appointees selected by the Does Not Link University Funding to State Assembly Speaker and Senate Rules Committee Priorities. Although the Governor enumerates would make award decisions. The committee several higher education priorities in his budget would look for proposals that reduce the costs of documents (for example, reducing the cost of instruction; involve collaboration across campuses, education and improving affordability, timely segments, and educational levels; are replicable; completion rates, and program quality), his and show commitment from campus officials and funding plan includes large unallocated increases stakeholders. tied only to maintaining flat tuition levels. The Funds Implementation of Middle Class budget requires the universities to set performance Scholarship Program. The budget provides goals, but does not establish state performance $107 million for the first year of scholarship awards expectations or link the universities’ funding under this new program, as approved in last year’s to meeting these expectations. This approach budget legislation. Students at UC and CSU with diminishes the Legislature’s role in key policy family incomes up to $100,000 qualify for awards decisions and allows the universities to pursue that cover 40 percent of their systemwide tuition their own interests rather than the broader public (when combined with all other public financial aid). interest. The state could connect university funding Awards decrease in size for students with family with state priorities in a variety of ways. For incomes between $100,000 and $150,000, such that example, the state could allocate new funding for a student with a family income of $150,000 qualifies specific purposes such as a COLA, maintenance for an award covering 10 percent of tuition. The projects, or pension obligations. It also could legislation directs CSAC to reduce award amounts use the performance results the universities are for all students proportionately if the appropriation required to report in March to inform funding is insufficient to provide full awards to all decisions—including the allocation of new funding 30 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET among the segments—rather than committing in will need to carefully assess these data to evaluate advance to specified annual augmentations. the merit of the Governor’s enrollment growth Tuition Freeze Likely to Increase Future proposal. If it decides the entire $155 million for Volatility. We remain concerned that locking enrollment growth is not justified, the Legislature in tuition and fee levels for a total of six years, could use any associated freed-up funds for other as proposed by the Governor, could lead to Proposition 98 priorities. larger increases and greater tuition volatility for Governor’s Focus on CCC Support Program future students. A tuition policy that allows for Is Laudable but Fails to Fully Address Student moderate increases and provides a rational basis for Needs. Over the past several years, a number of allocating costs between state and students is more reports have highlighted the relatively low success likely to serve the state’s interests in the long run. rates of CCC students. For example, the Institute Sustainability Reports Could Help Inform for Higher Education Leadership and Policy has Budget Discussions. By requiring UC and CSU found that only about one-third of CCC students to develop an expenditure plan and performance who seek to transfer or graduate with an associate goals based on the administration’s estimate degree or certificate actually do so. As a result of of available resources, the expenditure plans data such as these, the Legislature has shown a could help clarify the trade-offs involved in strong interest in improving student outcomes the funding levels included in the Governor’s and, through recent legislation and budget actions, budget. We would emphasize, however, that has identified SSSP as a key priority. Given these these reports should be treated as only a starting factors, the Governor’s focus on student success point for discussion because they would reflect is reasonable. We have concerns, however, that only the administration’s resource proposals the Governor’s emphasis on SSSP is too narrowly and the segments’ own performance targets. The focused. As state and national research has shown, Legislature may have different ideas regarding how students often need a variety of support to succeed. much to invest in higher education (both through Different types of students may need different state appropriations and tuition policies) and what support services and many students need multiple outcomes to expect from the universities. types of support that extend beyond undergoing Information to Date Suggests Governor’s initial assessment and meeting with an academic CCC Enrollment Growth Proposal May Be Too counselor. For example, a student with a learning High. We have concerns that the Governor may be disability (such as dyslexia) may require specialized providing too much funding for CCC enrollment assistance. A financially needy and academically growth. After several years of strong demand for underprepared student may need access to financial a CCC education during the recent recession, a aid advising and intensive tutoring in basic skills number of districts throughout the state have (remedial) coursework. By placing the entire indicated that they are having difficulty achieving $200 million augmentation in SSSP, however, the their enrollment targets. In 2012-13, more than Governor limits the ability of districts to provide a dozen districts failed to meet their enrollment a fuller range of effective services to students. targets. By late February, the CCC Chancellor’s We recommend the Legislature consider a more Office will have updated information from districts comprehensive approach that spreads funds across regarding whether districts are on track to meet support programs (including SSSP, Disabled their targets in the current year. The Legislature Student Programs and Services, and Student www.lao.ca.gov Legislative Analyst’s Office 31 2014-15 BUDGET Success for Basic Skills Students), or gives districts addition, the budget assumes General Fund savings more flexibility to allocate resources as they see fit of $300 million in 2013-14 and $900 million in (such as by combining categorical program funding 2014-15 from implementation of the optional into a block grant). Medi-Cal expansion. These savings are realized Concerns About Innovation Awards. The through changes to 1991 health realignment that Governor’s proposed innovation award program were authorized as part of the 2013-14 budget and could result in some confusion about the state’s result in lower state General Fund costs in the higher education priorities. Last year, the Governor California Work Opportunity and Responsibility to signed SB 195 (Liu), which set three broad state Kids (CalWORKs) budget. goals for higher education that differ somewhat Estimates Are Subject to Substantial from the state priorities the Governor proposes. Uncertainty, but Additional Data Should Be In addition, the Governor indicates that the award Available in Coming Months. Our office’s November program builds on last year’s efforts to expand the 2013 report, The 2014-15 Budget: California’s use of technology to remove course bottlenecks Fiscal Outlook, assumed about $350 million in and reduce the costs of education. However, the costs for the mandatory expansion in 2014-15, results of those efforts are not yet clear, and it and $930 million in savings related to changes to appears premature to fund a new award program 1991 realignment and the Medi-Cal expansion before giving the existing efforts time to show in 2014-15. The fiscal estimates included in the results. Finally, we are concerned that earmarking Governor’s budget are similar to our office’s most a relatively small amount of one-time funding for recent estimates. However, both our recent estimates campuses to address state priorities could send a and the Governor’s budget estimates are subject to poor message and encourage business-as-usual considerable uncertainty and are based on limited with the bulk of the state’s higher education data. As the Medi-Cal expansion was implemented investment. beginning January 1, 2014, more reliable estimates should be available in a few months, after more data Health and Human Services are collected and analyzed and the effects of ACA implementation are better understood. Implementation of the Patient Protection and Affordable Care Act (ACA) Status of Medi-Cal Provider Payment Reductions Budget Assumes Significant Fiscal Effects Associated With ACA Implementation. The budget Budget Proposes to Forgive Retroactive assumes a couple of major fiscal effects associated Recoupment of Payment Reductions for Some with various ACA-related provisions that were Medi-Cal Providers. In 2011, budget-related enacted as part of the 2013-14 budget. For example, legislation authorized reductions in certain the budget assumes about $400 million in net Medi-Cal provider payments by up to 10 percent. General Fund costs in 2014-15 largely associated Until recently, federal court injunctions prevented with implementation of simplified Medi-Cal the state from implementing many of these eligibility and enrollment processes that are reductions. In June 2013, the injunctions were expected to increase enrollment among individuals lifted, giving the state authority to (1) apply the who are eligible for the program—often referred reductions to current and future payments to to as the “mandatory” Medi-Cal expansion. In providers on an ongoing basis, and (2) retroactively 32 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET recoup the reductions from past payments that Fund) in 2014-15 and a total estimated cost of were made to providers during the period in which $115 million (General Fund) over the duration of the injunctions were in effect. Since the 2013-14 the demonstration. budget was enacted, several types of providers Grant Increase. The Governor’s proposal also have been exempted from the ongoing payment includes full-year funding for a 5 percent increase reduction through either an administrative to CalWORKs cash grants that was approved as decision by the Department of Health Care Services part of the 2013-14 budget package and is scheduled or recently enacted legislation. to go into effect in March 2014. As provided in the The Governor’s budget proposes to exempt 2013-14 budget package, this grant increase is to certain (but not all) classes of providers and be funded with certain funds redirected from 1991 services from the retroactive recoupments, and realignment growth revenues, with the General includes $36 million in increased General Fund Fund making up the difference if the redirected expenditures associated with this proposal. Because funds are insufficient. The Governor’s proposal the recoupments are otherwise scheduled to take assumes that the full-year cost of the grant place over several years, the total General Fund increase in 2014-15 is $168 million and that most cost of the proposal over this multiyear period is of this amount will be paid for with the redirected estimated to be $218 million. The administration funds. The General Fund will cover a shortfall has stated that while federal approval is required to estimated to be $6.3 million. The estimated implement this proposal, no statutory changes are amount of redirected funds available to pay for necessary. this grant increase is preliminary and is likely to Achieve Savings From Provider Reductions be updated, along with the amount of any General Prospectively. The budget assumes that the state Fund contribution, as part of the Governor’s May will continue to implement reductions to payments Revision. to providers and services that have not been Developmental Services legislatively or administratively exempted from ongoing reductions. The budget assumes that these Provides Funding for Sonoma Developmental ongoing reductions will result in General Fund Center to Meet Federal Requirements. The budget savings of $245 million in 2014-15. proposes $5.1 million from the General Fund ($9.2 million total funds) for improvements needed CalWORKs at the Sonoma Developmental Center to comply Parent/Child Engagement Demonstration with federal certification requirements for receipt Pilot. The Governor’s CalWORKs proposal of federal funds. While three other developmental includes a three-year demonstration project that centers were recently found to be out of compliance would provide intensive case management, life with federal certification requirements, the budget skills and work readiness training, and licensed does not propose additional funds to address child care to a limited number of CalWORKs these federal certification issues. The Governor’s families that face the highest barriers to budget summary document notes that a plan to employment and may not be fully participating resolve the certification issues at these three centers in the CalWORKs program. This demonstration is currently under development. (This plan will project would operate in six counties (yet to be dictate the funding requirements to address the determined) with a cost of $9.9 million (General certification issues.) www.lao.ca.gov Legislative Analyst’s Office 33 2014-15 BUDGET In-Home Supportive Services (IHSS) (see Figure 13). Of this spending, $337 million is proposed to repay a General Fund loan from the Restricts Overtime for IHSS Providers in Highway Users Tax Account, with the monies Light of New Federal Labor Regulations. The allocated for state highway pavement rehabilitation budget includes $99 million from the General and maintenance, traffic management mobility, and Fund ($209 million total funds) in response local streets and roads projects. Additionally, the to new federal labor regulations (effective budget includes $188 million for the K-12 Schools January 1, 2015) impacting IHSS providers (and Emergency Repair Program and $175 million other home care workers). In accordance with for community colleges (to be split equally the federal regulations, the proposal provides between maintenance projects and instructional funding for certain work activities that were support, such as replacement of library materials previously ineligible for compensation, such as and classroom projectors). The Governor also wait time during doctor’s appointments. The new includes a total of $100 million from the General federal regulations also require overtime pay for Fund to help support the maintenance needs of home care workers (which would include IHSS nine departments. Finally, the budget proposes providers). In response to this new regulation, the $15 million from the State Court Facilities budget proposes to restrict providers from working Construction Fund to address maintenance overtime and require IHSS recipients in need of projects within the courts. additional assistance to utilize a “Provider Backup Focus on Deferred Maintenance Is Positive. System” to identify another provider to perform We believe that it is appropriate for the state to the assistance. After 2014-15, it is estimated that address its accumulated deferred maintenance as the annual full-year cost of this proposal will be proposed by the Governor. When repairs to key $153 million General Fund ($328 million total building and infrastructure components are put funds). off, facilities can eventually require more expensive Infrastructure investments, such as emergency repairs (when systems break down), capital improvements (such According to the Governor’s Budget Summary, as major rehabilitation), or replacement. As a the administration intends to release soon a result, while deferring annual maintenance needs statewide five-year infrastructure plan—a required avoids expenses in the short run, it often results in annual document that was last provided in 2008. In substantial additional costs in the long run. While addition, the Governor’s proposed budget includes the Governor’s proposal does not address all of the several major proposals related to infrastructure. state’s significant deferred maintenance needs, we We discuss these specific proposals below. think it is a commendable first step towards dealing Deferred Maintenance with an important and often ignored problem. Proposal Raises Questions for Legislative Proposes One-Time Funding for Deferred Consideration. As it evaluates the specifics of the Maintenance. The Governor’s budget identifies Governor’s deferred maintenance proposal, the state infrastructure deferred maintenance needs Legislature will want to consider the following of $64.6 billion, most of which are related to the issues. state’s transportation system. The budget proposes one-time spending of $815 million from various fund sources to begin to address these needs 34 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET • Amount and Allocation of Deferred appropriate funding sources for deferred Maintenance Funding to Departments. maintenance. There may be some programs The Legislature will want to consider where there could be a role for alternative whether the total level of funding proposed or additional funding for deferred mainte- is the appropriate amount to dedicate to nance from other sources, such as bond deferred maintenance given the state’s funds, private donations, or user fees. needs, as well as whether the proposed Identifying such sources would increase distribution among departments is the number of projects that could be consistent with legislative priorities. completed or reduce the amount of General Fund dollars that are required. • Prioritization and Accountability of Projects Within Departments. The • Prevention of Future Deferred Legislature may want to provide guidance Maintenance. Providing one-time on the priorities for spending these funding, regardless of size, is only a short- deferred maintenance dollars. For example, term response to the problem. Ideally, it may wish to emphasize projects that there should be no deferred maintenance. address fire, life and safety issues, reduce As such, the Legislature may want depart- state liability, and prevent higher future ments to describe what specific factors led state costs. The Legislature may also to its deferred maintenance problem—for wish to consider whether projects should instance, insufficient maintenance funding be required to address deferred Figure 13 maintenance Administration’s Deferred Maintenance Proposal only, rather than (In Millions) using funds for Proposed Fund other purposes Department/Program Amount Source such as instruc- Caltrans $337 General Funda tional support K-12 Schools Emergency Repair 188 General Fundb Program for community California Community Colleges 175 General Fundc colleges, which, Parks and Recreation 40 General Fund while potentially Corrections and Rehabilitation 20 General Fund Judicial Branch 15 State Court Facilities worthy, do not Construction Fund directly address Developmental Services 10 General Fund the condition of State Hospitals 10 General Fund General Services 7 General Fund the state’s existing State Special Schools 5 General Fund facilities. Forestry and Fire Protection 3 General Fund Military 3 General Fund • Appropriate Food and Agriculture 2 General Fund Funding Sources. Total $815 a The Legislature To repay Highway Users Tax Account loan. b Consists of $94 million in prior-year unspent Proposition 98 funds and $94 million in funding attributable may wish to to a 2005-06 Proposition 98 settle-up obligation. c Counts toward 2014-15 Proposition 98 minimum guarantee. consider the www.lao.ca.gov Legislative Analyst’s Office 35 2014-15 BUDGET in the base budget or diversion of funds eligibility criteria, application process, and provided for maintenance to other areas cost-sharing requirements between the state and of operations. This information could districts. Alternatively, if the Legislature were to assist the Legislature in crafting policies adopt a per-student grant, it would need to consider to address underlying problems and to whether the grant should be weighted or uniform, ensure that, over time, appropriate ongoing as well as whether the grant could be integrated maintenance is sustained and deferred into the LCFF. In all these cases, the Legislature maintenance is eliminated. also would need to consider whether to make payments for facilities from within Proposition 98. School Facility Funding CSU Capital Outlay Process Governor Seeks Conversation on School Proposes New Capital Outlay Process for Facility Funding. In his budget summary, the CSU. Similar to the new capital outlay process Governor notes that most state bond funding for approved for UC last year, the Governor proposes new school construction and school modernization to shift debt service payments into CSU’s main has been depleted. He proposes to shift $211 million appropriation. Moving forward, CSU would be in remaining bond authority from four targeted responsible for funding debt service from within school facility programs to these two school facility this main appropriation. Under the proposal, the programs. He also seeks “to continue a dialogue university would issue its own revenue bonds on the future of school facilities funding, including for various types of capital projects and could what role, if any, the state should play.” If the state restructure its existing lease-revenue bond debt. decides to continue funding school facilities, the The university would notify the Joint Legislative Governor suggests that any future program: (1) not Budget Committee of project proposals and rely too heavily on state bonds, (2) be easy to submit them to DOF for approval. administer, and (3) provide incentives for districts Issues for Legislative Consideration. The to use “modern educational delivery methods.” administration indicates that the main purpose of Several Major Issues for Legislature to this change is to compel CSU to weigh operations Consider. The Governor questions whether the and infrastructure requirements and determine state should continue its traditional role in funding the best allocation of resources between them. school facilities but does not elaborate on what We are concerned, however, that the Governor’s factors to consider in making this determination. approach diminishes the Legislature’s oversight Some factors to consider include the availability over the university’s use of state funds. In of funding at the local level for facilities and addition, this approach presupposes that a differences in local revenue-raising capacity particular amount of debt service funding—in among districts. If the Legislature were to decide this case, the 2013-14 amount for general to continue to fund school facilities, then it would obligation bond debt service and the estimated need to consider whether to continue using state 2014-15 amount for lease-revenue debt service—is bonds or move to another financing mechanism, an appropriate amount upon which to base such as an annual per-student grant. If the ongoing needs, yet the administration offers no Legislature were to authorize a new bond-funded evidence to this effect. program, it would need to determine the associated 36 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET Jail Construction established the goal of reducing GHG emissions statewide to 1990 levels by 2020. In order to help Governor Proposes an Additional achieve this goal, the California Air Resources $500 Million for Jail Construction. Since 2007, Board (ARB) adopted a regulation that establishes the Legislature has approved two measures a cap-and-trade program that places a “cap” on authorizing a total of $1.7 billion in lease-revenue aggregate GHG emissions from entities responsible bonds to fund the construction and modification for roughly 85 percent of the state’s GHG emissions. of county jails. Chapter 7, Statutes of 2007 (AB To implement the cap-and-trade program, ARB 900, Solorio), provided $1.2 billion to help counties allocates a certain number of carbon allowances address jail overcrowding. Chapter 42, Statutes of equal to the cap. Each allowance equals one ton of 2012 (SB 1022, Committee on Budget and Fiscal carbon dioxide equivalent. The ARB provides some Review), authorized an additional $500 million allowances for free, while making others available to help counties construct and modify jails to for purchase at auctions. Once the allowances have accommodate longer-term inmates who have been allocated, entities can then “trade” (buy and been shifted to county responsibility under the sell on the open market) the allowances in order to 2011 realignment of lower-level offenders. The obtain enough to cover their total emissions for a Governor’s budget for 2014-15 proposes that given period of time. another $500 million in lease-revenue bonds be To date, ARB has conducted five auctions since authorized to support the construction of jail November of 2012, which have generated a total facilities. Under the proposal, counties would be of $532 million in state revenue. Future quarterly subject to a 10 percent match requirement. auctions are expected to raise additional revenue. LAO Comments. The administration has The 2013-14 Budget Act authorizes the Director not yet provided an analysis of county jail needs of Finance to loan $500 million in cap-and-trade or other rationale for why the level of funding auction revenue to the General Fund. proposed is needed for jail projects or what criteria Governor’s Proposal. The Governor’s budget would be used to award the lease-revenue funding. proposes to spend $850 million from cap-and-trade For example, it is not clear whether funding would auction revenue in 2014-15 on various activities be awarded in a manner to alleviate crowding or to such as energy efficiency projects, low-emission build additional facility space for programs, such vehicle rebates, and the state’s high-speed rail as substance abuse treatment classes. Without such project. Figure 14 (see next page) provides a list information, it will be difficult for the Legislature of the proposed programs and funding levels. to assess whether the additional funding will be The Governor’s budget also includes a partial allocated in a manner that is cost effective and in repayment of $100 million of the 2013-14 budget line with state priorities. loan to the General Fund. Resources and Environmental Proposal Unlikely to Maximize GHG Protection Emission Reductions. In order to minimize the economic impact of cap-and-trade, it is important Cap-and-Trade Expenditure Plan that auction revenues be invested in a way that maximizes GHG emission reductions. Maximizing Background. The Global Warming Solutions emission reductions (specifically in the capped Act of 2006 (Chapter 488, Statutes of 2006 [AB 32, sectors) reduces competition for allowances, Núñez/Pavley]), commonly referred to as AB 32, www.lao.ca.gov Legislative Analyst’s Office 37 2014-15 BUDGET thereby putting downward pressure on the price the potential legal risks associated with some of of allowances. This, in turn, reduces the overall the activities that the Governor proposes to fund cost for covered entities to comply with AB 32 with cap-and-trade auction revenue. Based on an and the potential negative economic impacts opinion that we received from Legislative Counsel, of the program on consumers, businesses, and the revenues generated from ARB’s cap-and-trade ratepayers. It is, however, unclear to what extent the auctions are considered “mitigation fee” revenues. complement of activities proposed by the Governor Thus, the use of these revenues are subject to maximizes GHG emission reductions. For example, certain legal criteria. Specifically, we are advised a GHG emission analysis completed by the High that their use is subject to the so-called Sinclair Speed Rail Authority (HSRA) indicates that once nexus test. This test requires that a clear nexus must the high-speed rail system is operational in 2022, exist between an activity for which a mitigation it would contribute a relatively minor amount of fee is used and the adverse effects related to the GHG emission reductions to the state. Moreover, activity on which that fee is levied. Given this legal the construction of the project would actually requirement, the administration’s proposal to fund produce additional emissions (though HSRA activities (such as high-speed rail) could be legally will try to offset these emissions). Despite these risky. While the high-speed rail project could findings, roughly 30 percent of the funding in the eventually help reduce GHG emissions somewhat Governor’s proposal goes to the high-speed rail in the very long run, it would not help achieve project. Compared to a different mix of investments AB 32’s primary goal of reducing GHG emissions that could be made with the cap-and-trade by 2020. revenue, the Governor’s proposal is unlikely to Water Action Plan maximize GHG emission reductions. Therefore, the Legislature will need to consider the most effective Proposal. In October 2013, the administration use of the cap-and-trade auction revenue. released a draft Water Action Plan that intends to Certain Aspects of Proposal Could Be Legally address multiple water challenges facing the state, Risky. The Legislature will also want to consider including limited and uncertain water supplies, Figure 14 Governor’s 2014-15 Cap-and-Trade Expenditure Plan (In Millions) Department Activity Amount High-Speed Rail Authority Rail planning, land acquisition, and construction $250 Air Resources Board Low-emission vehicle rebates 200 Strategic Growth Council Transit oriented development grants 100 Community Services and Development Low-Income Home Energy Assistance Program 80 Caltrans Intercity rail grants 50 Forestry and Fire Protection Fire prevention and urban forestry 50 Fish and Wildlife Water Action Plan—wetlands restoration 30 CalRecycle Waste diversion 30 General Services Energy efficiency upgrades in state buildings 20 Food and Agriculture Reducing agricultural waste 20 Water Resources Water Action Plan —water use efficiency 20 Total $850 38 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET poor quality of surface water and groundwater, Integrated Approach in Water Action Plan impaired ecosystems, and high risk of flooding. As Has Merit. Traditionally, individual areas of water shown in Figure 15, the Governor’s budget proposes policy have been treated as largely unconnected, $618 million (mostly bond funding) to begin with responsibilities spread across numerous implementing some aspects of the plan. Significant departments. Considering the diverse areas of components include (1) $473 million in one-time water policy together in a consolidated manner bond funds for the Integrated Regional Water would be a more effective approach, particularly Management (IRWM) program, which provides since these areas are highly interconnected. For grants for various water stakeholders to collaborate example, unsustainable groundwater use can cause by funding projects that meet multiple goals; water quality problems and damage nearby levees. (2) $77 million in one-time bond funds for flood We find that the Governor’s plan would move control planning and projects; and (3) $50 million the state towards a more integrated approach in in cap-and-trade auction revenues for projects several ways, including his proposals to (1) transfer intended to have both water and climate benefits. drinking water responsibilities to SWRCB, which In addition, the budget proposes transferring could allow for a more integrated approach to water drinking water regulation and financial assistance quality and improve program efficiency; (2) expand responsibilities from the Department of Public monitoring of both the quality and storage capacity Health to the State Water Resources Control of the state’s groundwater, which could increase Board (SWRCB) in order to improve water policy integration in groundwater management policy; coordination and efficiency. and (3) fund IRWM projects. In addition, there may be benefits to considering water and climate policy Figure 15 Budget Proposal for Water Action Plan Addresses Multiple Water Issues (In Millions) Activity Department Amount Fund Source IRWM grants DWR $473 Proposition 84 bond Flood protection DWR 77 Proposition 1E bond Wetlands and watersheds restoration DFW 30 Cap-and-trade auction revenues Water quality grants for SWRCB 11 Various special funds disadvantaged communities State Water Project energy efficiency DWR 10 Cap-and-trade auction revenues Water use efficiency project grants DWR 10 Cap-and-trade auction revenues Groundwater monitoring and SWRCB, DWR 8 General Fund, Waste Discharge management Permit Fund Salton Sea restoration maintenance DFW —a Salton Sea Restoration Fund Drinking Water Program transferb SWRCB -1 Propositions 50 and 84 bonds Total $618 a Proposal totals $400,000. b Included in Water Action Plan but proposed separately in budget. IRWM = Integrated Regional Water Management; DWR = Department of Water Resources; DFW = Department of Fish and Wildlife; SWRCB = State Water Resources Control Board. www.lao.ca.gov Legislative Analyst’s Office 39 2014-15 BUDGET in conjunction. For example, increasing water use Considering Appropriate Funding Sources. efficiency can reduce energy use and associated Nearly 90 percent of the expenditures proposed GHG emissions because California’s water delivery for 2014-15 are supported by one-time bond funds. and treatment systems are highly energy intensive. However, unappropriated bond funding is limited Because of the potential for such “co-benefits,” and is likely to be exhausted in the next few years. considering resources policies together in an Accordingly, implementing the Water Action integrated manner has the potential to reduce the Plan in future years would require new funding cost of meeting various environmental goals. sources. The plan describes a need to identify Significant Policy Implications. The Water long-term funding sources for many of these Action Plan lays out a broad approach to water programs and includes some specific funding policy in California over the next five years. As such, recommendations. However, the budget does not the Legislature will want to consider whether the propose any specific new funding sources. The policy objectives and strategies included in the Water Legislature may also wish to consider whether any Action Plan are consistent with legislative priorities future water bonds, including the one currently before deciding whether to approve the specific scheduled for the November 2014 ballot, and the funding proposals in the Governor’s budget. This Water Action Plan are consistent with each other. includes consideration of policy questions related Finally, the Legislature may want to consider to (1) the most appropriate level of state oversight whether some activities should be funded by other and regulation of groundwater use; (2) whether sources, such as user fees or charges on polluters. the Bay Delta Conservation Plan—included in the Judicial and Criminal Justice Water Action Plan, but not funded in the Governor’s budget proposal for 2014-15—is the desired approach Trial Court Funding to improve water supply reliability and enhance the ecosystem in the Sacramento-San Joaquin Delta; Background. Over the past few years, the and (3) what policy tools the state should use to help judicial branch utilized a number of one-time develop local water supplies. solutions (such as the use of trial court reserves) Implementation Strategy and Priorities. to offset ongoing reductions to the trial courts The budget proposal does not include funding and mitigate the impact of these reductions on for all activities described in the Water Action court users. In addition, trial courts partially Plan. In proposing the specific expenditures accommodated their ongoing reductions by above, the administration has implicitly identified implementing operational actions, such as certain activities as priorities and as needing to leaving vacancies open, closing courtrooms and be implemented in the near term. If the overall courthouses, and reducing clerk office hours. direction of the plan is consistent with the Some of these operational actions resulted in Legislature’s policy objectives, the Legislature may reduced access to court services, longer wait want to ask the administration (1) for a long-term times, and increased backlogs in court workload. implementation and expenditure plan that describes Proposal. The Governor’s budget provides how the plan will be carried out over the next several an ongoing General Fund augmentation of years and (2) why these specific expenditures were $100 million to support trial court operations. prioritized for 2014-15 over other elements of the (The budget also proposes a $5 million plan. augmentation to support state level court and 40 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET Judicial Council operations.) The budget requires Chapter 310, Statutes of 2013 (SB 105, Steinberg), that the allocation to the trial courts be based to address the federal three-judge panel order on the new workload-driven funding formula requiring the state to reduce the prison population recently adopted by the Judicial Council. However, to no more than 137.5 percent of design capacity the trial courts would have flexibility in spending by December 31, 2013. Chapter 310 provides these funds. the California Department of Corrections and Funding May Not Significantly Increase Level Rehabilitation (CDCR) with an additional of Court Services. While the Governor’s budget $315 million in General Fund support in 2013-14 provides an additional $100 million in ongoing and authorizes the department to enter into General Fund support for trial court operations, contracts to secure a sufficient amount of inmate these funds may not result in a substantial housing to meet the court order and to avoid the restoration of access to court services. First, as early release of inmates which might otherwise be indicated above, the Governor’s proposal does necessary to comply with the order. The measure not include a list of priorities or requirements for also requires that if the federal court modifies its the use of the funds, such as requiring that they order capping the prison population, a share of the be used to increase public access to trial court $315 million appropriation in Chapter 310 would services. Second, approximately $200 million be deposited into a newly established Recidivism in one-time solutions previously used to offset Reduction Fund. ongoing reductions from prior years will no longer On September 24, 2013, the three-judge panel be available in 2014-15. Thus, trial courts will issued an order directing the state to meet with need to take actions to absorb this on an ongoing inmate attorneys to discuss how to implement a basis, which could include further operational long-term overcrowding solution. The order also reductions. In addition, the trial courts indicate prohibits the state from entering into any new that they will face increased cost pressures in contracts for out-of-state housing without an order 2014-15, particularly for increased pension and of the court. A subsequent order moved back benefit costs totaling an estimated $65 million. the deadline for meeting the population cap to In view of the above, it is possible that the April 18, 2014. increased funding proposed in the Governor’s Governor’s Proposal. Although the state has budget will only minimize further reductions of yet to come to an agreement with inmate attorneys court services. We also note that the impact of the on how to implement a long-term overcrowding proposed funding increase will vary across courts. solution, the Governor’s budget assumes that such This is because there are differences in (1) the an agreement will include a two-year extension of cost increases faced by each court, (2) the specific the deadline to April 18, 2016. The budget assumes operational choices each court has made over that the extension will reduce planned expenditures the past few years to address their share of the on contract beds by $87.2 million in 2013-14. Based ongoing reductions, and (3) how the new funding on the requirements specified in Chapter 310, formula impacts each court. the budget reflects a deposit of $81.1 million to the Recidivism Reduction Fund for expenditure Meeting Court-Ordered Prison Population Cap in 2014-15. Of this amount, the administration Background. In September 2013, the proposes using $32.8 million to expand inmate Legislature passed and the Governor signed and parolee treatment programs. The remainder www.lao.ca.gov Legislative Analyst’s Office 41 2014-15 BUDGET of the funds would help expand CDCR’s capacity: LAO Comments. The administration’s (1) $8.3 million to fund the design of a project to proposals raises several issues for legislative renovate a former youth correctional facility into consideration. First, it will be important for the a 600-bed reentry facility and (2) $40 million to Legislature to evaluate the cost-effectiveness of purchase space in community reentry facilities the proposed expenditures from the Recidivism for offenders within one year of release. The Reduction Fund—that is, how each proposed administration also proposes various changes expenditure reduces the prison population and intended to reduce the inmate population. These helps the state comply with the population limit. actions include (1) streamlining the parole process, It will also be important for the administration (2) expanding medical parole and instituting to provide details on how each proposal would elderly parole, and (3) implementing various credit be implemented, such as how the proposed enhancements. community reentry facilities would be operated The budget also includes $497 million to and how inmates would be selected to be placed in house about 17,700 inmates in out-of-state and the limited space available at such facilities. in-state contract beds in 2014-15. This represents As discussed above, the administration’s an increase of $97 million and 4,700 contract beds proposal to comply with the prison population above the 2013-14 level. In the event that the federal cap—if it is not extended by the federal court— court does not extend the deadline as assumed would rely on the increased use of out-of-state in the Governor’s budget, the administration contract beds. However, the state is currently indicates that it will further expand the use of prohibited from entering into any new contracts out-of-state contract beds in 2013-14 and reevaluate for out-of-state housing without an order from the its proposed expenditures from the Recidivism court. It is unclear if and when the federal court Reduction Fund. would grant such authorization. 42 Legislative Analyst’s Office www.lao.ca.gov 2014-15 BUDGET www.lao.ca.gov Legislative Analyst’s Office 43 2014-15 BUDGET LAO Publications The Legislative Analyst’s Office (LAO) is a nonpartisan office that provides fiscal and policy information and advice to the Legislature. To request publications call (916) 445-4656. This report and others, as well as an e-mail subscription service, are available on the LAO’s website at www.lao.ca.gov. The LAO is located at 925 L Street, Suite 1000, Sacramento, CA 95814. 44 Legislative Analyst’s Office www.lao.ca.gov