The 2022-23 Budget: Overview of the Governor's Budget

The 2022-23 Budget: Overview of the Governor’s Budget GABRIEL PETEK | LEGISLATIVE ANALYST JANUARY 2022 2022-23 BUDGET LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET Executive Summary Budget Structure How Much in Discretionary Resources Does the Governor Allocate? We estimate the Governor had a $29 billion surplus to allocate in the 2022-23 budget process. The Governor proposes spending about 60 percent of discretionary resources, or $17.3 billion, on a one-time or temporary basis for a variety of programmatic expansions. The Governor also proposes using $6.2 billion to reduce revenues and $2 billion for ongoing spending increases. (These ongoing proposals would increase to $5.2 billion by 2025-26.) In addition, the Governor’s budget allocates nearly $13 billion in discretionary spending for schools and community colleges (which we exclude from the surplus because these amounts are constitutionally required). The figure below displays the major budgetary decisions that the Governor made in allocating state discretionary funds. Major Discretionary Spending Choices in 2022-23 Governor's Budget Nearly $13 Billion in School and Community Colleges Spending; $19 Billion in General Fund Discretionary Spending Choices Schools and Community Collegesa Transportation Other Resources and Environment Health Criminal Justice Housing and Homelessness Workforce Development Higher Education One Time or Temporary Ongoing Human Services 2 4 6 8 10 12 $14 Billion a Includes General Fund and local property tax revenue. Note: Bridge funding for homelessness included in the "Health" section. How Does the Governor Address the State Appropriations Limit (SAL) Requirement? The SAL limits how the Legislature can use revenues that exceed a specific threshold. The Governor’s budget shows excess revenues of $2.6 billion across 2020-21 and 2021-22. The Governor’s budget does not include a proposal to address these excess revenues, but the administration states it plans to put forward a plan to address these requirements at the May Revision. In 2022-23, the Governor’s budget reflects $5.7 billion in room—meaning appropriations subject to the limit are under the limit by this amount in this year. This room in part reflects $12.5 billion in proposals for revenue reductions and SAL exclusions. www.lao.ca.gov 1 2022-23 BUDGET Overall Comments Multiyear Revenue Projections Are Reasonable, but New Spending Proposals Exceed Administration’s Estimates of the Budget’s Capacity. Whereas we often noted previously that the administration’s multiyear revenue estimates appear to be fairly cautious, we characterize this year’s estimates as a middle of the road among potential outcomes. Despite these improved revenues, the administration’s multiyear estimates reflect negative balances in the Special Fund for Economic Uncertainties (SFEU) in 2023-24 (and throughout the rest of their forecast) due to proposed spending exceeding estimated resources. By planning to have a negative balance in the SFEU, the administration assumes that next year revenues will be higher than anticipated, costs will be lower than anticipated, taxes will be increased, or reductions will be required. While multiyear revenue and expenditure forecasts are imprecise, committing to spending above anticipated resources carries considerable risk. Strongly Consider Building More Reserves. The reserve for schools and community colleges has increased from zero in 2019-20 to nearly $10 billion—or nearly 10 percent of their funding—under the Governor’s estimates in 2022-23. The state’s other budget reserves, however, have not increased as a share of other General Fund spending and, in fact, are significantly below the pre-pandemic share. Given this, we recommend the Legislature consider building general purpose reserves above the level currently proposed by the Governor. SAL Remains Important Consideration. The SAL will continue to constrain the Legislature’s choices in the upcoming budget process. Deferring plans to meet the SAL’s requirement further decreases the Legislature’s flexibility. We encourage the Legislature to develop a plan for how it wishes to meet the requirement across 2020-21 and 2021-22. For the budget year, as the Legislature considers the Governor’s budget proposals, those proposals that currently count as excludable expenditures—such as spending on capital outlay—for the most part can only be reallocated to other SAL-related purposes, such as tax reductions or an alternative excluded expenditure. Focus on Ensuring Success of Recent Initiatives. We recommend the Legislature dedicate the early part of the budget process to overseeing the implementation of last year’s significant augmentations. This information could inform the Legislature’s approach to allocating this year’s surplus. For instance, if departments face challenges with administrative capacity, the Legislature could consider whether additional staffing is warranted. Moreover, given the scale of last year’s commitments, we suggest the Legislature be cautious in creating additional new programs as well as expanding the scope of existing programs. Consider Longer-Term COVID-19 Planning. The Governor’s budget includes additional spending for COVID-19-related expenditures like testing and vaccination and an intent to modify the state’s COVID-19 sick leave policies. It largely does not include, however, the extension of program flexibilities and temporary supports provided in last year’s budget. In part, this likely reflects that the Governor’s budget was developed before Omicron became the prevailing COVID-19 variant in California. As the Legislature starts its deliberations on the budget, we recommend considering whether any program flexibilities—like remote assessments for human services programs—or temporary supports—like targeted cash assistance—are warranted. Moreover, as COVID-19 likely will remain a public health and economic challenge in future years, we recommend the Legislature closely consider the extent to which the Governor’s proposals properly prepare the state for this reality. 2 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET INTRODUCTION On January 10, 2022, Governor Newsom proposals for the Legislature, including any themes presented his proposed state budget to the that emerged as we conducted our preliminary Legislature. In this report, we provide a brief review. We also provide our initial assessment summary of the proposed budget based on of the structure of the budget—including how our initial review. In the coming weeks, we will the Governor proposes addressing the state’s analyze the plan in more detail and release several constitutional State Appropriations Limit (SAL) additional budget analyses. requirements—and raise issues for legislative The objective of this report is to summarize consideration on the major budget proposals. the Governor’s budget structure and major Appendix 1 provides definitions for some key terms used in this report. HOW MUCH IN DISCRETIONARY RESOURCES DID THE GOVERNOR ALLOCATE? BUDGET CONDITION revenues from capital gains taxes. Under the administration’s revenue estimates, the state’s Figure 1 shows the General Fund condition 2022-23 BSA requirement totals $3.9 billion. based on the Governor’s proposals and using the However, the BSA also would reach a administration’s estimates and assumptions. threshold level, requiring the state to spend General Purpose Reserves Reach Nearly $2.4 billion of this total on infrastructure. $25 Billion. The bottom of Figure 1 shows The box on the next page describes this general purpose reserves planned for the end of infrastructure spending requirement in 2022-23 under the administration’s estimates and more detail. assumptions. Under the Governor’s proposed budget, the state would end 2022-23 with nearly $25 billion Figure 1 in general purpose reserves. This represents an increase of General Fund Condition Summary $4.2 billion over the enacted (In Millions) reserve level of $20.7 billion in 2021-22. The increase is the result 2020-21 2021-22 2022-23 Revised Revised Proposed of three factors: Prior-year fund balance $6,332 $37,011 $23,651 • Deposit of $1.6 Billion Revenues and transfers 194,132 196,669 195,718 in BSA for 2022-23. Expenditures 163,453 210,030 213,127 Proposition 2 (2014) requires Ending fund balance $37,011 $23,651 $6,242 the Legislature to set aside Encumbrances 3,175 3,175 3,175 monies each year in the SFEU balance 33,836 20,476 3,067 state’s constitutional reserve, Reserves the Budget Stabilization BSA $14,287 $19,303 $20,868 SFEU 33,836 20,476 3,067 Account (BSA). Generally, Safety net 900 900 900 these reserve deposits are Total Reserves $49,023 $40,679 $24,835 higher when the state collects SFEU = Special Fund for Economic Uncertainties and BSA = Budget Stabilization Account. more revenues, especially www.lao.ca.gov 3 2022-23 BUDGET • $3.5 Billion in Reserve Deposit GENERAL FUND SURPLUS Adjustments. Proposition 2 also requires We Estimate the Governor Allocated a the state to revise, or “true up,” BSA deposits Surplus of $29 Billion. We estimate the Governor for the two preceding fiscal years based had a $29 billion surplus to allocate in the 2022-23 on updated revenue estimates. Under the budget process. This is somewhat larger than the administration’s assumptions, the state $21 billion discretionary General Fund surplus would need to make $3.5 billion in true-up identified by the administration. Both our office deposits to the BSA for 2020-21 and 2021-22, and the administration estimate the budget primarily due to higher estimates of capital “surplus” by tallying up the amount of discretionary gains revenues. spending, excluding spending on K-14 education, • Decrease in the Discretionary Reserve and revenue reductions in the budget. Both of Balance of Nearly $1 Billion. The state’s our offices define discretionary spending as new main discretionary reserve is called the spending not required under law or to maintain Special Fund for Economic Uncertainties current service levels. In a number of areas, (SFEU). The 2021-22 budget package however, our office and the administration differ on enacted a discretionary reserve balance of whether a specific proposal is discretionary or not. nearly $4 billion and the Governor proposes For example, our office considers the $3.5 billion a year-end balance of $3.1 billion in that proposal for transportation infrastructure reserve—a reduction of nearly $1 billion. discretionary because those funds have reverted to the General Fund, but the administration Proposition 98 Reserve Reaches Nearly proposes reallocating them. The administration, $10 Billion. In addition, the Proposition 98 Reserve, however, considers this proposal part of its which is dedicated to school and community baseline. (The Governor’s budget also refers to a college spending, would reach nearly $10 billion total surplus of nearly $46 billion, which includes under the Governor’s budget. We do not include constitutional requirements under Proposition 98 this reserve in general purpose reserves because and Proposition 2. We discuss the discretionary withdrawals supplement the constitutional minimum spending choices within Proposition 98 in the next spending level for K-14 education and therefore do section. We do not typically consider Proposition 2 not help the state address future budget problems. requirements to be part of the surplus.) However, this reserve does benefit schools because it mitigates the funding reductions that occur when the constitutional minimum drops. Infrastructure Spending Requirement Under Proposition 2 in 2022-23 Proposition 2 Requires Infrastructure Spending After Budget Stabilization Account (BSA) Reaches Threshold Level. Under Proposition 2 (2014), the state is required each year to set aside funds for reserves, debt payments, and—potentially—infrastructure. In particular, the state must deposit funds into the BSA until its constitutional deposits reach 10 percent of General Fund tax revenue. Once the BSA reaches this threshold, required deposits that would bring the fund above 10 percent of General Fund taxes instead must be spent on infrastructure. Governor’s Budget Anticipates State Reaches This Threshold in 2022-23. Under the administration’s revenue estimates, the state would reach the 10 percent threshold in 2022-23. As a result, under these estimates, the state is required to spend $2.4 billion on infrastructure in 2022-23. The Governor’s budget does not allocate these funds to specific proposals. Rather— given the magnitude of capital outlay proposals in the budget—the administration notes it has fulfilled this constitutional requirement. (As a result, for the purposes of our surplus calculation described in the next section, we must treat this $2.4 billion in spending on capital outlay as part of the surplus, although we would not ordinarily define a constitutional requirement in this way.) 4 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET Comparison to LAO November Outlook. In our on COVID-19 emergency response will be Fiscal Outlook released in November 2021, our higher. However, the administration also office anticipated the state would have a surplus of estimates baseline costs in a variety of other $31 billion, slightly higher than the surplus allocated program areas—such as In-Home Supportive in the Governor’s budget. This relatively small Services and the California State Teachers’ difference reflects many moving—and offsetting— Retirement System—will be lower than what factors across the budget. Specifically, relative to we estimated. our outlook, the administration’s estimates include: Surplus Excludes Last Year’s Budget • $10.5 Billion in Lower Revenues. Setting Agreements. There were a number of multiyear aside policy changes, federal funding budget commitments agreed to last year. Based scored as revenues, and reserve deposits, on our initial assessment, the Governor’s budget the administration’s baseline revenue are reflects these commitments. These allocations $10.5 billion lower than our November are not reflected in our surplus calculation. estimates across 2020-21, 2021-22, and For example, they include: 2022-23. This primarily is due to our differing • Climate Resilience Package. The 2021-22 estimates of corporation tax revenues, budget agreement included $3.7 billion particularly in the current year. from the General Fund over three years • $6.5 Billion in Lower School and for a variety of activities to respond to Community College Spending. Reflecting the impacts of climate change—such as these lower revenue estimates—and including extreme heat and sea-level rise—including policy changes in the Governor’s budget—the $2.1 billion in 2022-23, which is included in administration’s estimates of constitutionally the Governor’s proposal, consistent with the required General Fund spending on budget agreement between the Governor and K-14 education is about $6.5 billion lower than the Legislature our November estimates. This largely offsets • Student Housing. The 2021-22 budget the revenue reduction described above. agreement included $2 billion General Fund • $2 Billion in Lower Other Spending. Across over three years—including $750 million in the rest of the budget, the administration’s 2022-23—for grants to increase affordable estimate of spending is lower than ours by student housing at the three public higher $2 billion. This is the result of many differences education segments. in our estimates, both higher and lower. For example, as described in the nearby box, the administration assumes the state’s spending COVID-19 Emergency Response Spending Update The administration estimates direct COVID-19 expenditures are $3.2 billion in 2021-22 ($1.4 billion higher than budget act assumptions) and $1.3 billion in 2022-23. Both of these estimates are higher than our November assumptions. (Direct COVID-19 expenditures include testing, contact tracing, vaccine distribution and administration, and hospital and medical surge.) The administration requests the Legislature take immediate or early action to approve the additional 2021-22 funding, of which $1.2 billion is for the California Department of Public Health (CDPH) and $206 million is for the California Department of Corrections and Rehabilitation (CDCR). Of the 2022-23 total, $761 million is estimated for CDPH, $425 million for CDCR, and $65 million for the Department of State Hospitals. The administration continues to assume that many of these costs will be federally reimbursable. For example, the Federal Emergency Management Agency will continue to reimburse eligible COVID-19 costs at the increased rate of 100 percent through April 1, 2022. www.lao.ca.gov 5 2022-23 BUDGET • Sustainable Agriculture Package. future cost. The Governor’s 2022-23 budget The 2021-22 budget agreement included a contains $515 million ongoing General Fund total of $1.1 billion from several fund sources to launch the revamped program. over two years for various proposals related to • Foundational Support for Public Health. agriculture. This included $417 million from the The 2021-22 budget agreement included General Fund in 2022-23, which is included in $300 million ongoing General Fund beginning the Governor’s proposal, consistent with the in 2022-23 for state and local public health budget agreement between the Governor and staffing and general support. The Governor’s the Legislature. 2022-23 budget provides a proposed • Middle Class Scholarship Program. spending plan for the funding, directing The 2021-22 budget agreement included $200 million to local health jurisdictions and significant statutory changes that revamped retaining $100 million for state operations. this program, significantly increasing its HOW DID THE GOVERNOR ALLOCATE THE DISCRETIONARY RESOURCES? Figure 2 displays the major budgetary decisions describe the major proposals.) As the figure shows, that the Governor made in allocating state schools and community colleges would receive discretionary funds. It includes: (1) the General Fund the largest spending allocations. We also provide surplus and (2) discretionary school and community more program-level information in Appendix 2. college spending choices. The remainder of (Appendix 2 only is available for the online version this section discusses the major components of of this report.) each of these funding amounts. (Later sections Figure 2 Major Discretionary Spending Choices in 2022-23 Governor's Budget Nearly $13 Billion in School and Community Colleges Spending; $19 Billion in General Fund Discretionary Spending Choices Schools and Community Collegesa Transportation Other Resources and Environment Health Criminal Justice Housing and Homelessness Workforce Development Higher Education One Time or Temporary Ongoing Human Services 2 4 6 8 10 12 $14 Billion a Includes General Fund and local property tax revenue. Note: Bridge funding for homelessness included in the "Health" section. 6 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET GENERAL FUND CHOICES Figure 3 How the Governor Allocates the Surplus. Figure 3 shows how the Governor proposes How the Governor the Legislature allocate the $29 billion surplus. Allocates a $29 Billion Surplus Specifically, the Governor proposes allocating: • $17.3 Billion to One-Time or Temporary Spending. The Governor proposes spending about 60 percent of discretionary Revenue resources, or $17.3 billion, on a one-time or Reductions temporary basis for a variety of programmatic expansions. (We define temporary to mean three years or fewer.) • $6.2 Billion to Revenue Reductions. The Governor proposes using $6.2 billion, about SFEU Balance Debt and One-Time or 20 percent of the surplus, to reduce revenues. Loan Payments Temporary Most of this total, $5.5 billion, would be Spending allocated to end, one year early, temporary Ongoing limits on the ability of businesses to use net Spending operating loss (NOL) deductions and tax credits to reduce their tax payments. • $3.1 Billion to the SFEU Balance. The Governor proposes the Legislature enact a SFEU = Special Fund for Economic Uncertainties. year-end balance in the SFEU of $3.1 billion. The Legislature can choose to set the SFEU How the Governor Allocates the Surplus balance at any level above zero. However, by Program Area. Figure 4 on the next recent budgets have enacted SFEU page, shows how the $19 billion in one-time, balances around $2 billion to $4 billion, temporary, and ongoing spending proposals which the state uses to cover costs for are distributed across major program areas. unanticipated expenditures. The largest proposals include: $3.5 billion for a • $2 Billion to Ongoing Spending Increases. transportation infrastructure package, $1.3 billion The Governor’s spending proposals include in funding for school facilities, $1 billion to repay $2 billion in ongoing spending, slightly less the unemployment insurance trust fund loan in than 10 percent of the surplus. That said, 2022-23, and $1 billion to provide funding for bridge under the administration’s estimates, the housing through the Behavioral Health Continuum ongoing costs of the Governor’s budget Infrastructure Program. proposals would grow significantly over time, totaling $5.2 billion by 2025-26. • $590 Million to Repay Debts and Liabilities. In addition to $4 billion in constitutionally required debt payments, the Governor proposes the Legislature use $590 million in discretionary resources to repay state debts and liabilities. Specifically, these funds would be used to repay some special fund loans made in 2020-21. www.lao.ca.gov 7 2022-23 BUDGET Figure 4 Discretionary General Fund Spending Choices in the 2022-23 Governor’s Budget $19 Billion in One-Time, Temporary, and Ongoing Budget Proposals Criminal Justice Higher Education $1 Billion Housing and Homelessness UI Trust Fund Loan Repayment Resources and Other Environment School Facilities Program Transportation Infrastructure Package Human Services Workforce Development Transportation Health Note: Bridge funding for homelessness included in the "Health" section. Excludes proposals below $20 million. UI = Unemployment Insurance. 8 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET SCHOOLS AND COMMUNITY Figure 5 COLLEGES CHOICES Governor's Major Spending Choices The State Constitution sets a minimum annual for Schools and Community Colleges funding requirement for schools and community colleges. After setting aside funding for statutory $13 Billion cost-of-living adjustments (COLAs) and other planned program expansions, the Governor’s K-12 Declining budget includes nearly $13 billion in discretionary Attendance spending proposals to meet the constitutionally Adjustment required funding level for schools and community Other Ongoing colleges. As Figure 5 shows, the Governor proposes allocating $7 billion of this total for one-time activities, $3.4 billion ongoing for the One-Time Spending Expanded Learning Opportunities Program, K-12 Expanded Learning Opportunities $1.2 billion ongoing for a new funding adjustment Program for school districts with declining attendance, and $1.3 billion for other ongoing increases. HOW DOES THE GOVERNOR ADDRESS THE SAL REQUIREMENTS? The SAL limits how the Legislature can use revenues or spending more money for purposes revenues that exceed a specific threshold. excluded from the SAL. These exclusions include: In particular, under these constitutional subventions to local governments, capital outlay requirements, each year the state must compare projects, debt service, federal and court mandates, the appropriations limit to appropriations subject and certain kinds of emergency spending. to the limit. As shown in Step 1 of Figure 6 on Alternatively, the state can address excess the next page, this year’s limit is calculated by revenues (shown in Step 3). Under this alternative, adjusting last year’s limit for a growth factor that the state must split the excess between additional includes economic and population growth. As school and community college payments and shown in Step 2, appropriations subject to the limit taxpayer rebates. (For more information about the are determined by taking all proceeds of taxes and SAL, see our report, The State Appropriations subtracting excluded spending. In Step 3, the state Limit.) compares appropriations subject to the limit to the Prior Year (2020-21) and Current Year limit itself. If appropriations subject to the limit are less than the limit, there is “room.” If appropriations (2021-22) subject to the limit exceed the limit (on net) over any Estimates and Proposals. In 2020-21, the two-year period, there are excess revenues. Governor’s budget reflects nearly $19 billion in As the figure shows, there are essentially “negative room,” meaning appropriations subject two different ways that the state can meet its to the limit exceed the limit itself by this amount in constitutional requirements under the SAL. The this year. In 2021-22, the Governor’s budget reflects state can preemptively lower appropriations subject $16.4 billion in room—meaning appropriations to the limit. It can do this by either lowering tax subject to the limit are under the limit by this www.lao.ca.gov 9 2022-23 BUDGET amount in this year. This estimate includes about Budget Year (2022-23) $6.3 billion in revenue and spending proposals Estimates and Proposals. In 2022-23, the which meet SAL requirements and therefore lower Governor’s budget reflects $5.7 billion in room— appropriations subject to the limit. The exclusions meaning appropriations subject to the limit are include: $4.3 billion for a transportation under the limit by this amount in this year. As shown infrastructure package, $1.4 billion for green school in Figure 7, this estimate includes about $12.5 billion buses (Proposition 98), and $450 million for school in proposals that either reduce revenues or kitchen upgrades (Proposition 98). appropriations subject to the limit (thereby Excess Revenues of $2.6 Billion. As shown meeting SAL requirements). On the revenue side, in Figure 7, on net, across the two years, the the Governor’s budget includes $5.5 billion to Governor’s budget shows excess revenues of restore net operating losses and business credits $2.6 billion. The Governor’s budget does not and various other tax credits, which reduce include a proposal to address these excess SAL revenues by a total of $6 billion. On the revenues, but the administration states it plans to spending side, the Governor’s budget includes put forward a plan to address these requirements $6.5 billion in discretionary SAL-related exclusions. at the May Revision. Importantly, this requirement The largest of these are: $1.3 billion in funding for could change substantially between now and the School Facilities Aid Program, $1.2 billion for May. Nonetheless, the Legislature currently can various transportation projects, and $545 million for choose to address this requirement with any of clean energy and building decarbonization. the three choices described earlier—lowering tax revenues, splitting excess revenues between school payments and taxpayer rebates, or spending more on excluded purposes. Figure 6 How the State Appropriations Limit (SAL) Works Step 1 Determine the Limit Prior-Year Limit SAL Growth Factor Adjustment includes COLA Step 2 and Change in Population Determine Appropriations Subject to the Limit Proceeds of Taxes Appropriations Subject to the Limit Exclusionsa Step 3 Determine the “Room” If proceeds of taxes (after exclusions) are below the limit over a two-year period, do nothing. “Room” If proceeds of taxes (after exclusions) are above the limit over a two-year period, there are excess revenues. a Exclusions are appropriations that are not counted towards the state appropriations limit. For example, spending on capital outlay is excluded. COLA = cost-of-living adjustment. 10 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET The Surplus and the SAL Figure 7 The Governor’s budget allocates SAL Estimates and Proposals in the a surplus of $29 billion across a 2022-23 Governor’s Budget variety of programs. As shown in (In Millions) Figure 8, these proposals include $16.9 billion in discretionary 2020-21 2021-22 2022-23 proposals across 2021-22 and 2022-23—both revenue and SAL Revenues and Transfers Baseline revenues $215,221 $224,037 $233,124 spending—that address SAL Proposals (revenue reductions) — -130 -6,006 requirements. (These figures Totals $215,221 $223,907 $227,118 exclude school and community Exclusions college spending, which is not Baseline expenditures -$80,266 -$108,322 -$94,970 part of the surplus.) The remainder Proposals (SAL exclusions) -97 -6,282 -6,473 of the surplus—$12.1 billion— Totals -$80,363 -$114,604 -$101,443 is proposed for purposes not Appropriations Subject to the Limit $134,858 $109,303 $125,675 excluded from the SAL, including Limit 115,860 125,695 131,365 $8.5 billion in spending-related Room/Negative Room -$18,998 $16,392 $5,690 proposals, the $3.1 billion Excess Revenues? -2,606 —a balance of the SFEU, and about a Future budgets will determine whether there will be excess revenues across 2022-23 and 2023-24. $600 million to repay special fund loans. Broadly speaking, to maintain appropriations below the limit in 2022-23, any excluded Figure 8 spending (or tax reductions) Surplus Includes Nearly $17 Billion in Discretionary proposals rejected by the Proposals That Address SAL Requirements. Legislature must be repurposed for an expenditure that also meets SAL requirements (in particular, excluded spending General Fund Spending Proposals or tax reductions). Conversely, (Not SAL Exclusions) General Fund Spending the Legislature has flexibility to Proposals (SAL Exclusions) reallocate the proposals that are not excluded from the SAL to any of its priorities. Consequently, Not Excluded Address(cid:31)SAL From the SAL Requirements within the Governor’s budget framework, the Legislature’s flexibility over roughly half of the SFEU Balance surplus is restricted. Debt and Loan Payments General Fund Tax Revenue Reductions Note: Figure excludes discretionary proposals that meet SAL requirements within Proposition 98. SAL = State Appropriations Limit and SFEU = Special Fund for Economic Uncertainties. www.lao.ca.gov 11 2022-23 BUDGET WHAT ARE THE MAJOR BUDGET PROPOSALS? TAXES pandemic-related economic relief programs. Conforming to the federal tax treatment of the Business Tax Reductions SVOG and RRF grants would be consistent with Lifts Temporary Limits on Business Tax that previous action. Provisions. The Governor’s budget proposes to New Business Tax Incentives. The budget end, one year early, temporary limits on the ability of includes proposals for two new business tax businesses to use NOL deductions and tax credits credit programs: to reduce their tax payments. These limits were put • Climate Change Research and in place for three years at the onset of the pandemic Development (R&D) Credit. This new as a solution to an anticipated $54 billion budget credit would be available to companies problem. Lifting the NOL deduction and credit headquartered in California that are spending limits will reduce tax revenues by an estimated on R&D activities related to mitigating climate $5.5 billion in 2022-23 and then, over following change. The administration intends for the years, increase revenues by several hundred million new R&D credit to reduce revenues by about dollars per year. $250 million per year for three years. LAO Comment: Ending NOL and Credit Limits • Green Energy Technology Credit. Early Is Reasonable. The state’s actual revenue The Governor’s Office of Business and situation improved significantly faster than the state Economic Development (GO-Biz) would anticipated when it adopted the temporary limits on allocate tax credits to companies that are NOL deductions and credits. These business tax developing green energy technologies. Credit provisions were enacted to address an anticipated recipients would be required to share future budget problem, not to raise revenue for new state profits with the state. GO-Biz would allocate spending. Lifting the limits one year early would $100 million in credits per year for three years. be reasonable given the significantly improved revenue outlook. LAO Comment: Effective Incentives Require Thoughtful Design and Timing. Business tax Conform to Federal Tax Treatment of Federal incentives must be carefully designed to be Economic Relief. The Governor’s budget proposes effective. Some past business incentives have been to exempt certain federal pandemic-related ineffective and provided large windfall benefits to grants from taxation. In late 2020 and early businesses for actions they already had decided 2021, the federal government created two new to take. In light of this, should the Legislature grant programs, the Shuttered Venue Operators move forward with the Governor’s proposals, we Grant (SVOG) and the Restaurant Revitalization recommend including elements that guard against Fund (RRF), to provide additional fiscal relief to such windfalls—such as basing the tax credit on businesses that were especially impacted by the future, incremental changes in business investment pandemic. These grants are not taxable under and requiring data collection and evaluation. federal law. Under current state law, however, both grants are taxable. This proposal would conform Managed Care Organization (MCO) Tax state law to the federal law, exempting the grants No Proposal to Renew MCO Tax, Allowing from taxation. This change would reduce state tax for Its Expiration. For many years and following revenues by about $500 million over several years. multiple renewals, the state has imposed a tax on LAO Comment: Proposal Consistent With MCOs and used the revenues to offset General Previous Legislative Action. Chapter 17 of Fund costs in Medi-Cal. The current MCO tax is 2021 (AB 80, Burke) conformed state law with scheduled to expire in December 2022. By not federal tax treatment of most other federal proposing to renew the MCO tax, the Governor’s 12 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET budget would allow it to expire, raising General SCHOOLS AND Fund costs in Medi-Cal by $1.6 billion or more COMMUNITY COLLEGES annually beginning in 2023-24. The administration Nearly $18 Billion in New Spending has shared that the scheduled reprocurement of Proposals. Proposition 98 (1988) establishes a Medi-Cal MCO contracts and anticipated volatility minimum annual funding level for schools and in the Medi-Cal caseload present challenges for community colleges commonly known as the renewing the MCO tax. While we agree that both minimum guarantee. Due to increases in the factors present important challenges, we think minimum guarantee over the 2020-21 through that careful structuring of a renewed MCO tax 2022-23 period (see nearby box), the state potentially could overcome such barriers. Given the has $17.7 billion available for new spending on importance of the MCO tax as a reliable funding K-14 programs. The Governor’s budget proposes source for Medi-Cal, we recommend the Legislature to allocate this funding for an array of existing explore the feasibility and trade-offs of renewing the programs and more than a dozen new initiatives. MCO tax as part of its budget deliberations. Changes in the Proposition 98 Guarantee Under Governor’s Budget Substantial Upward Revisions to Estimates of the Minimum Guarantee. The state calculates the minimum guarantee each year using formulas in the State Constitution. The guarantee encompasses state General Fund revenue as well as local property tax revenue. Compared with the estimates in the June 2021 budget plan, the administration revises its estimates of the guarantee up $2.5 billion (2.7 percent) in 2020-21 and $5.3 billion (5.7 percent) in 2021-22. For 2022-23, the guarantee is up $8.2 billion (8.8 percent) relative to the 2021-22 enacted budget level. These increases—combined with nearly $1.6 billion freed up from the expiration of various one-time Proposition 98 costs—make $17.7 billion available for new commitments. Most of the increases in the guarantee are due to state General Fund revenue being significantly above previous estimates. For 2022-23, the higher guarantee also reflects growth in local property tax revenue and an adjustment to “rebench” the guarantee for the expansion of Transitional Kindergarten. Total Proposition 98 funding for schools and community colleges in 2022-23 is $102 billion—$73.1 billion from state General Fund and $28.9 billion from local property tax revenue. Significant Deposits Into the Proposition 98 Reserve. Proposition 2 (2014) established the Proposition 98 Reserve and set forth rules requiring deposits and withdrawals under certain conditions. Generally, the state is required to deposit Proposition 98 funding into the account when revenue from capital gains is relatively strong and the minimum guarantee is growing faster than per capita personal income. The state is required to withdraw mandatory deposits from the Proposition 98 Reserve if the minimum guarantee is not growing quickly enough to support the prior-year funding level, as adjusted for student attendance and inflation. These withdrawals are provided in addition to the minimum guarantee and can be allocated by the Legislature for any school or community college programs. (The state also can make optional deposits and withdrawals.) The June 2021 budget estimated the state would be required to make deposits totaling $4.5 billion across 2020-21 and 2021-22. Under the Governor’s budget, the required deposits in those years increase to nearly $6.7 billion and the state makes an additional $3.1 billion deposit in 2022-23. By 2022-23, the cumulative balance would be more than $9.7 billion—nearly 10 percent of the total Proposition 98 funding allocated to schools and community colleges that year. Once the balance reaches 10 percent, additional deposits are no longer required. www.lao.ca.gov 13 2022-23 BUDGET Of the total, nearly $10.6 billion is for ongoing $388 million for deferred maintenance and augmentations and nearly $7.2 billion is for one-time instructional equipment at the community activities. Most of the larger proposals fall into four colleges. Separate from these allocations, the main areas: budget also proposes to provide $2.2 billion in non-Proposition 98 General Fund for the • $5.3 Billion Ongoing for Previous School Facilities Aid Program ($1.3 billion in Commitments. The Governor’s budget 2022-23 and $925 million in 2023-24). Under provides funding to implement several the Governor’s budget, these infrastructure program expansions agreed upon in proposals count as exclusions from the SAL. the June 2021 budget plan. The largest augmentation is $3.4 billion to accelerate the • $1.5 Billion One Time for College and implementation of the Expanded Learning Career Pathways. The budget proposes Opportunities Program, which funds summer $1.5 billion to develop college and career and before/after school programs. The budget pathways for high school students interested allocates another $1.9 billion to expand in technology, health care, education, and Transitional Kindergarten, provide school climate-related fields. The funds would meals for all students, reduce staffing ratios be available over four years to support in Transitional Kindergarten classrooms, local partnerships involving schools, implement State Preschool rate increases, colleges, universities, employers, and other and cover community college financial community organizations. aid expansions. LAO Comment: School and Community • $4.1 Billion Ongoing for COLAs and College Budget Likely Prepared for a Mild Attendance Changes. The Governor’s Recession. Under the Governor’s budget, the budget funds a 5.33 percent COLA for the balance in the Proposition 98 Reserve would primary K-14 funding formulas and several reach $9.7 billion by the end of 2022-23 (see box). categorical programs. For schools, the If the Proposition 98 guarantee were to drop, budget anticipates a 2.19 percent decline in the Legislature would be able to withdraw this funded attendance but proposes to offset amount to maintain funding for programs. (In some this decline with a new funding adjustment cases, the constitutional formulas would require for districts with declining attendance. This withdrawals.) In addition, the budget contains a adjustment would credit districts with their one-time cushion of more than $4 billion in 2022-23. average attendance over the previous three This cushion consists of the one-time spending and years if it exceeds their current- and prior-year reserve deposit specifically attributable to 2022-23. attendance. For community colleges, the The expiration of these allocations the following budget funds enrollment growth of 0.5 percent year creates a buffer that helps insulate ongoing and proposes a new minimum funding level programs from future drops in the guarantee. Based beginning in 2025-26. This proposal would on the reserve balance and one-time cushion, provide all colleges with at least as much we think the state likely could weather a relatively funding as they received under certain mild recession without resorting to significant cuts calculations in 2024-25—regardless of the or payment deferrals for school and community number of students they serve in the future. college programs. The budget provides nearly $3.7 billion for LAO Comment: Some Major Ongoing schools and $487 million for community Augmentations for Schools Seem Reasonable. colleges to cover these adjustments All of the major ongoing increases for K-12 schools and proposals. relate to previous commitments or involve additional • $2.3 Billion One Time for Infrastructure. funding for longstanding programs. Although we The Governor’s budget proposes $1.5 billion are still reviewing the details, these proposals to replace diesel school buses with electric generally appear reasonable and align with previous buses. It also provides $450 million to cost estimates. The Governor’s proposal to upgrade school kitchen infrastructure and accelerate the Expanded Learning Opportunities 14 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET Program could give districts more certainty about proposal to provide funding for community college their funding levels and potentially improve local deferred maintenance addresses a longstanding planning. For the community colleges, some of maintenance backlog resulting from chronic the Governor’s ongoing spending proposals might underfunding. Addressing the backlog would be worth revisiting. For example, the Governor improve learning conditions for students and proposes a major expansion of the Part-Time reduce costs in the future. On the other hand, the Faculty Health Insurance program (increasing proposal to provide $1.5 billion for college and the existing $490,000 allocation by $200 million), career pathways appears to have similar goals as without a clear explanation of how this several existing programs. We recommend the augmentation works in concert with the Governor’s Legislature avoid creating a new program until it other proposals to expand health care coverage receives evidence that these existing programs are and reduce associated costs. We anticipate insufficient to support college and career pathways having more comments on these proposals in the in the targeted areas. Prioritizing proposals using coming months. this approach would increase the likelihood that LAO Recommendation: Fund Fewer of the state funding results in long-term improvements One-Time Proposals. School and community and avoid fragmenting existing efforts to improve college districts are currently navigating several services and outcomes for students. issues that will affect their ability to implement new programs next year. Specifically, districts UNIVERSITIES face (1) ongoing cost pressures related to higher Governor Establishes Multiyear Compacts inflation and pension rate increases, (2) challenges With the Universities. The Governor’s budget maintaining continuity of operations due to the increases ongoing General Fund for the California effects of the pandemic on students and staff, State University (CSU) and the University of and (3) elevated uncertainty over future enrollment California (UC) by a total of $775 million. Much of trends and program participation levels. In addition, the new spending is linked to the Governor’s districts are in the midst of implementing many recently announced compacts with CSU and UC. new programs and requirements included in the The largest components of the compacts are June 2021 budget plan. Due to these issues, we 5 percent annual General Fund base increases think districts have relatively limited capacity to over the next five years (through 2026-27). implement additional programs in 2022-23. We are Whereas the Governor provides funding for concerned that the Governor’s budget contains approximately 3 percent resident undergraduate so many proposals that districts will be unable enrollment growth for CSU and UC in 2022-23, the to implement them all effectively. Accordingly, administration’s expectation is that the segments we recommend the Legislature fund fewer new increase resident undergraduate enrollment activities than the Governor proposes. In some by approximately 1 percent annually over the cases, the Legislature could consider providing a subsequent four years using a portion of their smaller amount or delaying implementation. The base increases. Regarding tuition levels, the Legislature could use the funding it frees up from Governor’s budget assumes no increase at CSU funding fewer proposals to address district cost in 2022-23. In contrast, the Governor’s compact pressures (such as rising pension costs), or it could with UC assumes the university implements the set this funding aside in the Proposition 98 Reserve Board of Regents-approved tuition plan. This tuition for future allocation. plan generally pegs annual tuition increases to LAO Recommendation: Prioritize Proposals inflation, applies annual increases to all academic That Address Clearly Defined Problems. As the graduate students, and uses a cohort model in Legislature evaluates the Proposition 98 budget, we applying higher charges to incoming undergraduate encourage it to prioritize proposals that (1) clearly students (with charges held flat for continuing identify underlying problems and (2) explain undergraduate students). why existing programs are unable to address those problems. For example, the Governor’s www.lao.ca.gov 15 2022-23 BUDGET Compacts Contain Many Expectations details hampers the Legislature’s ability to hold for the Universities. In tandem with providing the universities and the Governor accountable for ongoing base augmentations, the Governor delivering on the compact promises. sets forth a total of 40 associated expectations LAO Comment: Legislature Has Better for the universities (22 for CSU and 18 for UC). Budget and Planning Options for the These expectations focus on student access, Universities. Instead of focusing on the Governor’s overall student outcomes, equity in student compacts, we encourage the Legislature to think outcomes, college affordability, intersegmental about its spending priorities and the universities’ collaboration, workforce preparedness, and underlying cost drivers, then fund CSU and UC online education. Some of the expectations accordingly. Importantly, the Legislature can (for example, improving graduation rates and couple this more standard budget approach with closing equity gaps) build off goals the segments meaningful long-term planning. For example, state already had established. Other expectations (for law already requires CSU and UC to submit annual example, improving the affordability of student performance reports. If interested, the Legislature housing and instructional materials) reflect could work with the administration and segments priorities driven by the administration. Regarding to establish specific performance benchmarks accountability, the Department of Finance indicates over the next five years, linked with appropriate that the administration reserves discretion to repercussions. In some cases, repercussions likely propose smaller future base increases were a would not be solely fiscal. For example, if a segment segment not to demonstrate progress in meeting failed to close a student equity gap as planned, its expectations. it could be required to report on the strategies it LAO Comment: Three Key Concerns With had implemented to date, how it would change Governor’s Compact. Historically, several those strategies moving forward, and how it would governors have established multiyear compacts reallocate existing resources. with CSU and UC. The Legislature has been wary of these compacts for three reasons—all of which WORKFORCE DEVELOPMENT apply to the new compacts. First, the Governor Proposes Many New Workforce Training and universities agreed to these compacts Programs. The Governor’s budget allocates without legislative input. Though the Legislature over $2 billion in discretionary General Fund likely shares some of the Governor’s interests (for (plus additional funding under Proposition 98) for example, to improve student outcomes and close more than 20 new, one-time workforce training equity gaps), its interests likely diverge at least proposals. These include proposals for several new in part (for example, the Legislature might prefer training programs in clean energy fields, as well as other outyear enrollment targets). Second, much new and expanded training programs to recruit and like previous compacts, the Governor’s multiyear train teachers, social workers, nurses, community funding plan establishes arbitrary future base health workers, and behavioral health workers, increases regardless of underlying cost drivers. among others. The broad aim of these proposals Even the Governor’s proposed base increases is to recruit and train more workers in fields that for 2022-23 are not linked to specific cost are growing or in demand. Many of the proposals increases for personnel, equipment, and other also would seek to increase diversity within operating expenses—the core building blocks of existing occupations. any university budget. Third, enforcement of the LAO Comment: Can So Many New Efforts compact is unclear. For example, the Governor Be Effectively Launched at Once? The sheer has not explained how he plans to determine if the number of new proposals to plan, implement, and segments have made sufficient progress toward administer may make it difficult for the agencies to meeting their expectations and to what extent carry out the programs effectively. This is especially he would reduce funding were one or more of true in light of recent program roll-outs. Specifically, the expectations not met. The lack of these key these new proposals would be in addition to 16 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET the more than 20 workforce items funded as 2021-22 budget for different packages of proposals part of the 2021-22 budget. related to climate resilience, zero-emission vehicles LAO Comment: How Do the Proposals Work (ZEVs), and drought. For example, the proposed Together to Meet Clear Goals? Despite seeming budget includes $2.1 billion that was part of a overlap of many of the proposed and recently Climate Resilience package. Some of the key new created programs, the administration has not climate-change proposals and packages include: shown how the myriad individual proposals work • ZEV Package. The 2021-22 budget together to meet an overarching goal and avoid agreement included a total of $3.9 billion duplicating efforts. Further, given the number of over three years for various programs to state and local agencies that would be involved in support ZEVs. The Governor’s budget administering the proposals, carefully considering includes $660 million General Fund in 2022-23 how these agencies would coordinate and consistent with this agreement. In addition, complement each other will be important. the budget proposes a total of $6.1 billion LAO Comment: Understanding Underlying over five years—$2.7 billion in 2022-23 and Issues Is Key to Moving Forward and Crafting $3.4 billion in subsequent years—in additional Solutions. Before wading into the Governor’s funding for ZEV-related programs. This workforce development package, we encourage total includes $3.5 billion from the General the Legislature to consider what problems it wishes Fund (non-Proposition 98), $1.5 billion in to solve by allocating additional funds to workforce Proposition 98 General Fund, $676 million development efforts. Are individuals facing barriers from the Greenhouse Gas Reduction Fund to enrolling in existing state-funded training (GGRF), and $383 million in federal funds. programs? If so, why do those barriers exist, and • Energy Package. The Governor proposes why have they not already been removed? Once a total of roughly $2 billion over two years the most recent COVID-19 surge subsides, will ($938 million in 2022-23 and $1.1 billion in several now-pressing workforce issues dissipate? Is 2023-24), almost entirely from the General the aim of the programs to help individual workers Fund, for various proposals related to clean improve their career prospects, to increase the energy and building decarbonization. Some number of workers in a particular field, or both? of the funding would go to programs that the If the aim is to increase the number of workers in Governor proposed in his 2021 May Revision, a field, how will the state determine which fields but that were not adopted as part of the need additional workers and how many? Further, is 2021-22 budget. lack of workforce training the main impediment to • Wildfire Resilience Package. The Governor increasing the number of workers in these fields? proposes $800 million from the General Fund In addition to training and recruitment, the number over two years—$400 million in 2022-23 and of workers in a field also is affected by the job’s 2023-24—to implement various efforts to working conditions, salary, benefits, upward ladder, improve forest health and make communities and perceived prestige. The clear role of these more resilient to future wildfires. This is in other factors raises questions as to whether training addition to $200 million annually from GGRF, efforts can effectively lead more workers to pursue which is already continuously appropriated these jobs. from 2022-23 through 2028-29 as part of the 2021-22 budget package. CLIMATE CHANGE • Drought Package. The Governor proposes Key Climate Change-Related Proposals. The $750 million one-time General Fund for a Governor’s budget includes numerous proposals variety of activities to respond to current related to climate change, some of which are drought conditions and build the state’s presented as packages. This is in addition to full resilience to weather future dry years. This inclusion of 2022-23 funding that was agreed to amount includes (1) $180 million for water by the Legislature and the Governor as part of the conservation programs, (2) $145 million to www.lao.ca.gov 17 2022-23 BUDGET address communities experiencing water as housing, transportation, health, workforce, and supply shortages, (3) $250 million to set education. For the state to adequately respond aside as unspecified “contingency” funding to these large and widespread impacts, climate the Governor would propose for specific change considerations will need to be integrated drought response allocations later in the across policy areas. budget process, and (4) $175 million for LAO Comment: Legislative Considerations various other drought-related activities. These in Reviewing Climate Change Proposals. As funds are in addition to $880 million General the Legislature evaluates the myriad climate Fund proposed for water and drought-related change-related proposals and packages across activities in 2022-23 consistent with the the budget, there are many different issues to 2021-22 budget agreement that included a consider. These considerations include (1) how total of $4.6 billion across three years. to prioritize funding between programs that • Wildfire Suppression Proposals. The address the effects of climate change and Governor’s budget provides augmentations for those that reduce greenhouse gas emissions various proposals related to fire suppression. that contribute to climate change; (2) whether Some of the major fire protection-related the specific proposals are likely to be the most proposals include: (1) $400 million ongoing cost-effective set of policies and programs to meet General Fund to improve the health and the Legislature’s climate change goals, particularly wellness of California Department of given the significant amount of funding provided Forestry and Fire Protection (CalFire) in the current year for similar activities; (3) to what firefighters; (2) $190 million General Fund in extent the proposals have benefits in addition to 2022-23, along with some outyear funding, addressing climate change impacts (such as, for for equipment such as helicopters and example, reducing pollution or expanding housing); fire engines; (3) $175 million in 2022-23 (4) how the benefits of the programs are distributed ($120 million in General Fund and $55 million among different populations (such as vulnerable in lease revenue bonds) for CalFire capital and low-income communities); (5) to what extent outlay projects, and (4) $69 million General administering departments and grantees— Fund in 2022-23, increasing to $81 million particularly those that have received significant ongoing, to increase the availability of funding in recent budgets—have capacity to year-round fire crews. implement the new proposed or expanded programs; and (6) whether one-time, multiyear, In addition to the proposals identified above, or ongoing funding is most appropriate given the the Governor’s budget includes numerous other nature of the proposed activity. proposals across a wide range of policy areas— such as education, workforce development, and INFRASTRUCTURE transportation—to which the Governor draws a nexus to climate change. Key Infrastructure Proposals. The Governor’s budget includes numerous proposals to spend LAO Comment: Integrating Climate Change significant amounts of funding on infrastructure. Considerations Across Policy Areas Makes Some of the proposed funding continues projects Sense. The Governor’s focus on considering and initiatives previously approved or agreed to climate change response activities across a wide by the Legislature, whereas others would support range of areas of the budget—not just natural new projects and initiatives. These proposals span resources and environmental protection—has great multiple policy areas, including transportation, merit. California is already experiencing significant education, energy, and water, and would be impacts from climate change, such as more severe supported by the General Fund and other fund droughts and wildfires, and higher temperatures. sources. The Governor’s major infrastructure As the climate continues to warm, these impacts proposals include: are expected to grow. They are also expected to be widespread, affecting different policy areas such 18 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET • Transportation. The Governor’s budget projects has merit. In reviewing the Governor’s proposes a total of $4.9 billion from the various proposals, the Legislature will want to General Fund—$3.3 billion in 2021-22 and consider various issues. First, it will be important $1.6 billion in 2022-23—to support various to consider whether the proposed infrastructure transportation projects, including transit and projects are aligned with the Legislature’s highest intercity rail, active transportation, and climate priorities and how the intended benefits of projects adaptation. (We note that the $3.3 billion are distributed across different communities. proposed for the current year reflects funds Second, the Legislature will want to consider that were approved in the 2021-22 Budget Act whether the specific projects proposed and their but eventually reverted to the General Fund anticipated time line will meet the identified needs. as subsequent legislation to allocate the For example, it is unclear on the extent to which funding was not enacted in the time line the proposed funding for port infrastructure will required.) In addition, the Governor’s budget address the current supply chain issues in a includes $1.8 billion in 2021-22 and $1.9 billion timely manner. 2022-23 in new federal transportation funds Third, the Governor’s proposals should be that the state is expected to receive through assessed in context of the billions of dollars formula-based transportation programs as in federal funds that the state is anticipated to part of the Federal Infrastructure Investment receive over the next five years from IIJA. While the and Jobs Act (IIJA) that was enacted in proposed budget includes some initial allocations of November 2021. IIJA funds for transportation and ZEV infrastructure, • Port Infrastructure and Goods Movement. the budget does not include the significant amounts The Governor’s budget proposes $1.2 billion of additional funding expected in the next several from the General Fund—$600 million in months, as federal agencies award competitive 2022-23 and 2023-24—for projects that grants and remaining funding guidelines are improve the movement of goods on rail and finalized. As a result, it will be important to consider roadways that serve ports, including railyard how state funding can best complement federal expansions and new bridges. funds, particularly in the areas of water, energy, • School Facilities. As discussed earlier and transportation, where significant amounts of in this report, the Governor proposes funding are anticipated, but not yet allocated. Fourth, one-time General Fund support—$1.3 billion the Legislature will want to consider the extent to in 2022-23 and $925 million in 2023-24— which state and local agencies have the capacity to to support new school construction and administer funding and implement projects, given the modernization projects. influx of funding at the federal and state levels. Finally, as a result of the SAL, the Legislature In addition to the proposals identified above, has limited flexibility to reallocate these proposals the Governor’s budget includes numerous to other purposes. In particular, for the majority of other infrastructure proposals. For example, the the Governor’s infrastructure-related proposals, climate-related packages discussed earlier in this the Legislature could only reallocate those funds report includes funding for infrastructure projects, to another SAL-related purpose, such as more such as infrastructure to support ZEVs. We also spending to respond to COVID-19, different types of note that the Governor continues to request capital outlay, tax reductions or tax payments, and $4.2 billion in Proposition 1A bond funds for the additional school payments. state’s high-speed rail project. LAO Comment: Legislative Considerations HEALTH CARE AND PUBLIC HEALTH in Reviewing Infrastructure Proposals. Given Proposals to Address Health Care Access and the various needs of and demands on the state’s Affordability. The Governor’s budget includes a aging infrastructure, as well as local facilities, number of proposals aimed at improving health care allocating one-time resources to infrastructure access and affordability. The two largest proposals www.lao.ca.gov 19 2022-23 BUDGET are to expand comprehensive Medi-Cal Coverage to made available after enhanced federal premium all income-eligible undocumented immigrants and subsidies (authorized through 2022) effectively commit to addressing the affordability of health care replaced state premium subsidies and resulted through Covered California programs. We describe in savings to the state. A key consideration when these proposals in more detail below. In addition, the determining what affordability options to adopt Governor reintroduces his earlier proposal to establish will be whether pending federal legislation will an Office of Health Care Affordability and proposes extend federal premium subsidies beyond 2022. efforts to lower the cost of insulin. To the extent the federal premium subsidies continue, the Legislature might want to explore • Expand Comprehensive Medi-Cal Coverage options such as cost-sharing assistance to to All Income-Eligible Undocumented reduce out-of-pocket costs. On the other hand, Immigrants. Historically, undocumented if the federal premium subsidies expire, the immigrants who were income-eligible for Legislature might want to reestablish a state Medi-Cal only qualified for coverage for their premium subsidy program. emergency- and pregnancy-related services. Over the last several years, and in a number One-Time Funding to Provide Increased of steps, the Legislature has expanded Provider Payments. The Governor proposes comprehensive Medi-Cal coverage to all $400 million in one-time spending ($200 million income-eligible undocumented immigrants who General Fund and $200 million federal funds) in are under the age of 26 or over the age of 49. The 2022-23 on payments to Medi-Cal managed care Governor proposes to expand comprehensive plans and their contracted providers to promote health Medi-Cal coverage to all income-eligible equity and improve outcomes in the areas of children’s undocumented immigrants aged 26 through preventive services, maternal health, and mental health 49 (the remaining population not currently and substance use disorder treatment. The goals of the eligible for comprehensive Medi-Cal coverage) initiative include, for example, the closing of racial and beginning no earlier than January 1, 2024. ethnic disparities in child immunizations, prenatal care, The administration estimates this would cost and child delivery via cesarean section. In evaluating $819.3 million ($613.5 million General Fund) in this proposal, the Legislature might wish to explore 2023-24, increasing to $2.7 billion ($2.2 billion whether targeted provider payments would address General Fund) annually at full implementation, health equity or improve outcomes as opposed to other which the administration is anticipating will begin types of interventions. Moreover, we suggest asking in several years. We currently are evaluating the administration whether one-time funding would be the reasonableness of the administration’s cost sufficient to address these long-standing disparities. estimates. The Legislature also might want to Foundational Support for Core State and consider whether it agrees with the proposed, Local Public Health Functions. The 2021-22 extended implementation time frame, which is budget agreement included a commitment to provide longer than for previous expansion proposals. $300 million ongoing General Fund beginning in • Signals Commitment to Improving 2022-23 for public health “infrastructure”—the Affordability in Covered California. The workforce, training, data and information technology Governor signals a commitment to working with systems, partnerships, and other resources needed the Legislature and other stakeholders on options to successfully carry out core public health functions. to improve affordability and access to health care Pursuant to this agreement, and informed by a coverage through California’s health insurance stakeholder workgroup, the 2022-23 budget proposal marketplace, known as the California Health includes a spending plan for the $300 million in Benefit Exchange (Covered California). These foundational public health funding. The spending options would utilize a $333.4 million reserve plan includes $100 million for California Department fund established through the 2021-22 budget of Public Health (CDPH) state operations, largely for package for future health affordability programs workforce development, recruitment, and training operated by Covered California. This funding was ($57.9 million) and emergency preparedness and 20 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET response ($27.6 million). The remaining $200 million HOUSING AND HOMELESSNESS would be allocated to the state’s 61 local health Homelessness Package Proposes to Focus jurisdictions (LHJs) (58 counties and 3 cities), with on Near-Team Needs. The Governor proposes funding allocated based in part on each LHJ’s $2 billion in one-time General Fund over two years population share, level of poverty, and racial/ethnic intended to address near-term homelessness needs make-up. CDPH would require that 70 percent of an while previously authorized funding for long-term LHJ’s funding allocation be used for staffing. Each housing solutions are implemented. Specifically, the LHJ would be required to submit its own public health budget proposes $1.5 billion to the Department of spending plan for its funding allocation by July 1, 2023 Health Care Services’ Behavioral Health Continuum and every three years after that. The plans would Infrastructure Program for housing support for people include metrics by which an LHJs’ progress could with behavioral health needs. Many details of this be assessed. proposal are still under development. Additionally, the LAO Comment: Spending Plan Has Merit, Governor proposes $500 million for the Encampment Ongoing Oversight Will Be Essential. The Resolution Grants Program in 2022-23 administered by COVID-19 pandemic exposed weaknesses in state the California Interagency Council on Homelessness and local public health systems—in staffing levels, to provide targeted grants to local governments to expertise, lab capacity, and flexibility. Public health rehouse individuals living in encampments. systems previously have been funded largely with Housing Development Package Primarily categorical sources of funding—federal grants and Expands Existing Programs. The Governor state special funds—or one-time General Fund for proposes $1 billion in one-time General Fund over two specific purposes. The agreement reached in the years to expand housing development. Specifically, 2021-22 budget negotiations between the Legislature the budget proposes $500 million for infill housing and Governor to increase General Fund support development, $300 million for the Affordable Housing significantly for public health systems beginning in and Sustainable Communities Program, $100 million to 2022-23 thus represents an opportunity for CDPH and build housing on excess state sites, and $100 million to LHJs to rethink their operations, organization, staffing repurpose existing commercial buildings for housing. models, and capabilities. The proposed spending While most of these efforts already are underway as a plan describes overarching goals for use of the result of prior-year budget actions, the budget proposal funding, while the department notes that many of the represents an increased level of funding for them. specific implementation details would be worked out The administration notes the climate benefit of these through planning over the coming year or longer. The proposals as these programs support more dense Legislature may wish to request additional information housing development. about how the current spending plan provisions tie to Affordable Housing Package Primarily Expands the findings from its legislatively required pandemic Existing State Programs. The Governor proposes response review that was intended to identify gaps and $1 billion in one-time General Fund over two years for problems in the public health system. (A stakeholder affordable housing development. The budget largely workgroup was convened for this review.) In addition, expands existing state programs related to affordable in light of the latitude requested by the administration housing. Specifically, the budget proposes $500 million for use of this funding, particularly in the near term, for tax credits to builders of rental housing affordable to we suggest the Legislature require a regular annual low-income households, $200 million for mixed-income update on the use of the $300 million funding with housing, $200 million to preserve affordable housing release of the Governor’s budget. The annual update units, and $100 million to preserve affordable could include, for example, information about spending mobile homes. decisions, hiring status of additional staff supported by LAO Comments. In total, the proposed budget this funding, LHJ progress in meeting plan objectives, includes $2 billion in housing-related proposals and and findings from evaluations about the use of $2 billion in homelessness-related proposals. While a this funding. significant amount for these purposes, the proposed resources reflect a reduction from the $16 billion in www.lao.ca.gov 21 2022-23 BUDGET new spending in 2021-22. While this reduction may ensuring that the housing and homelessness be appropriate given capacity constraints to allocate efforts authorized in the prior budget are additional funding, housing and homelessness remain adequately supported and can be maintained one of the state’s most significant challenges. Similar to over time will be important. (For instance, we recent years, while the Governor’s budget reflects his have raised whether local governments need commitment to addressing homelessness and housing additional support to establish services and affordability by once again proposing significant supports for Homekey properties especially over state resources toward these issues, the Governor’s the long term.) response continues to focus on one-time, rather than • Bridge Funding May Make Sense but on-going, funding. In considering the Governor’s Forthcoming Details Will Be Important. proposals, some of our preliminary questions and The Governor indicates the homelessness comments include: funding proposed in the 2022-23 budget is • How Is the Proposal Informed by Prior intended to address near-term needs while Housing and Homelessness Actions? In many previously funded long-term housing solutions cases, the state recently authorized significant come online. While this seems like a reasonable funding for housing and homelessness programs strategy, whether the short-term options the Governor now proposes for additional proposed by the administration are most augmentation. Prior to authorizing additional effective, especially in the context of what the funding for these efforts, the Legislature may state already has invested towards housing and wish to ask (1) have the previously authorized homelessness infrastructure, is unclear. Some funds been spent, (2) how have previously key questions include: (1) to what extent is the authorized funds been used, (3) what are the Governor’s proposal focused on behavioral demonstrated program successes health infrastructure versus longer-term and/or are there opportunities for improving housing solutions; (2) given the scope of the these programs, (4) how will the proposed state’s homelessness challenge, is one-time additional funding complement existing efforts, bridge funding sufficient or are longer-term and (5) how will outcomes be measured and resources necessary to provide assistance until assessed? Finally, while relying on existing more permanent housing is available; (3) what programs helps to expedite release of funding would happen to resources once permanent compared to establishing new programs, do housing comes online; and (4) how would the these existing programs have capacity to absorb funding support transitioning individuals into the proposed funding? permanent housing? Finally, the focus of the proposal—whether for behavioral health or • Are Prior-Year Programs Sufficiently broader homelessness-related services—should Supported? The Governor’s budget does determine which state entity should oversee the not increase support for the infrastructure program. Currently, many state entities are tasked investments—such as Homekey and the with different homelessness responsibilities, Community Care Expansion—from prior years. so ensuring programs are properly suited to a Prior to authorizing increased funding for the department’s mission is important. activities proposed in the 2022-23 budget, OVERALL LAO COMMENTS Budget Condition upward adjustment to revenues. Despite this, the administration’s revenue estimates remain meaningfully Multiyear Revenue Projections Are below our Fiscal Outlook for 2021-22. While there is Reasonable. Consistent with our Fiscal Outlook a reasonable possibility 2021-22 revenues could end forecast, the Governor’s budget reflects a dramatic 22 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET up as the administration assumes, we think there on schools and community colleges. As such, budget is a better than two-thirds chance that revenues reserves should be thought of in two categories: those come in higher. In the budget year and beyond, which must supplement school and community college the administration’s estimates are very close to our funding (the Proposition 98 Reserve) and those which Fiscal Outlook. Whereas we often noted previously generally can supplement spending on any purpose that the administration’s multiyear revenue estimates (namely, the BSA, SFEU, and Safety Net Reserve). appear to be fairly cautious, we would characterize General Purpose Reserves Remain Below this year’s estimates as a middle of the road among Pre-Pandemic Levels. The Proposition 98 Reserve potential outcomes. Middle of the road assumptions has increased from zero in 2019-20 to nearly are an entirely reasonable foundation for a spending $10 billion—or nearly 10 percent of school and plan. That being said, relative to recent budgets built community college funding—under the Governor’s around more cautious revenue assumptions, building a estimates in 2022-23. The state’s other budget spending plan around middle of the road revenues calls reserves, however, have not increased commensurately for allocating additional resources to plan for future with other General Fund spending. Figure 9 shows this budget shortfalls. dynamic. In particular, after reserves reached a high of New Spending Proposals Exceed nearly 20 percent of nonschool spending in 2019-20, Administration’s Estimates of the Budget’s they dipped in 2020-21 and 2021-22, following historic Capacity in Future Years. The administration’s revenue growth that was allocated to a variety of multiyear estimates reflect negative balances in the spending programs. Under the Governor’s budget, SFEU in 2023-24 (and throughout the rest of their these reserves as a share of nonschool spending forecast) due to proposed spending exceeding would reach 15.5 percent by the end of 2022-23, still estimated resources. While the administration is not significantly below the pre-pandemic level. required by law to plan for future positive balances in Strongly Consider Building More Reserves. the SFEU beyond the budget year, doing so is prudent. Given these dynamics, we think more general A positive SFEU balance generally reflects a budget purpose reserves are warranted. While we and the that is balanced. In contrast, by planning to have a administration have acknowledged the trade-off negative balance in the SFEU, the administration assumes that next Figure 9 year revenues will be higher than anticipated, costs will be lower than Since the Pandemic, School Reserves Have anticipated, taxes will be increased, Grown as a Share of Its Budget While Other or reductions will be required. While Reserves Have Not multiyear revenue and expenditure (Actuals) forecasts are imprecise, committing to spending above anticipated resources carries considerable risk. 25% Reservesa as a Share of Nonschool Budget School Reserves as a Share of School Budget 20 Reserves 15 Consider Reserves in Two 10 Categories. The state’s constitutional formulas essentially divide the 5 budget into two parts. The first part 2014-15 2015-16 2016-17 2017-18 2018-19 2019-20 2020-21 2021-22 2022-23b generally is more flexible and is used to pay for health care, human a Includes Budget Stabilization Account and Safety Net Reserve. Excludes Special Fund for Economic Uncertainties (SFEU) because this graphic shows actual, rather than enacted, levels. Actual levels of SFEU can vary widely services, universities, corrections, depending on revenue fluctuations. b Proposed. and many other program areas. The Note: We define the nonschool budget as General Fund expenditures excluding Proposition 98. The school budget second is restricted under the rules of is defined as the minimum guarantee (which includes both General Fund and local property tax revenues). Proposition 98 and can only be spent www.lao.ca.gov 23 2022-23 BUDGET between building reserves and the state’s ability surplus during the upcoming budget process. to meet its SAL requirements (because reserve In particular, as the Legislature considers the deposits are not excluded spending), the budget Governor’s budget proposals, those proposals has the capacity to make additional reserve that currently count as excludable expenditures— deposits. In particular, the Governor proposes such as spending on capital outlay—for the most $8.5 billion in spending that is not excluded from part can only be repurposed for other SAL-related the SAL. We recommend the Legislature repurpose purposes, such as tax reductions or an alternative a portion of this funding for building more general excluded expenditure. purpose reserves. Moreover, if the Legislature Spending Proposals adopts an otherwise similar level of spending as the administration, additional reserves are warranted Devote Attention to Overseeing Recent given the risks posed by this approach. Augmentations. We recommend the Legislature dedicate the early part of the budget process SAL to overseeing the implementation of last year’s Develop Plan for Meeting Current-Year SAL significant augmentations. Specifically, we Requirement. The Governor’s budget identifies a recommend the Legislature ask the administration $2.6 billion SAL requirement across 2020-21 and and affected departments to provide 2021-22, but defers action on this requirement implementation updates, including progress until the May Revision. Moreover, our revenue made to date in: establishing the programs, estimates suggest that it will grow. The Legislature distributing associated funding, and collecting can meet the requirement in three ways: (1) lower performance results. The updates also should tax revenues, (2) split the excess revenues identify any implementation barriers departments between additional school and community college have overcome and any barriers that still exist. district spending and taxpayer rebates, and This information could inform the Legislature’s (3) appropriate more money for purposes excluded approach to allocating this year’s surplus. For from the SAL. Excluded spending includes, most instance, if departments face challenges with notably, spending on infrastructure and/or on administrative capacity, the Legislature could statewide emergencies, such as for COVID-19. consider whether additional staffing is warranted. We encourage the Legislature to develop a plan If programs are oversubscribed, the Legislature also for how it wishes to meet the requirement across could consider providing additional funding this 2020-21 and 2021-22. Deferring plans to meet year. Alternatively, if programs remain in the early the SAL requirement decreases the Legislature’s stages of implementation, are undersubscribed, or flexibility. For instance, assuming revenues continue show other signs that program modifications might to exceed budget act estimates, if the Legislature be needed, then the Legislature could address wishes to address a portion of the requirement by those issues as part of the budget. lowering taxes, early action likely would be needed. Assess Capacity for and Alignment of New Waiting to take such action could eliminate this Programs and Proposals. The Governor’s budget option for the Legislature. reflects a mix of additional spending on existing SAL Will Continue to Constrain the programs, expanding the scope (and funding for) Legislature’s Flexibility to Allocate the existing programs, and new initiatives. Given the Surplus in Budget Year. For the budget year, the scale of last year’s commitments, we suggest Governor’s budget currently reflects $5.7 billion in the Legislature be cautious in creating additional room under the limit. However, this room, under the new programs as well as expanding the scope Governor’s proposal, reflects about $12.5 billion in of existing programs. In planning its budget, we SAL-related exclusions included in the Governor’s suggest the Legislature assess departments’ discretionary General Fund proposals. This ability to roll out recent initiatives in a timely and means that the SAL will continue to constrain the effective manner to inform whether new programs Legislature’s flexibility to allocate the General Fund could be implemented—or existing programs 24 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET could be expanded—at this time. To the extent not include, however, the extension of program that departments have faced challenges in rolling flexibilities and temporary supports provided in out new programs, the Legislature could focus last year’s budget. In part, this likely reflects that on ensuring the success of recently enacted the Governor’s budget was developed before augmentations and take more time to fully develop Omicron became the prevailing COVID-19 variant in any new program proposals to ensure they can California. As the Legislature starts its deliberations address the identified problems. We also suggest on the budget, we recommend considering whether the Legislature consider whether new proposals any program flexibilities—like remote assessments or expansions would complement recent efforts or for human services programs—or temporary be duplicative. supports—like targeted cash assistance—are Consider Longer-Term COVID-19 Planning. warranted. Moreover, as COVID-19 likely will The Governor’s budget includes additional remain a public health and economic challenge spending for COVID-19-related expenditures like in future years, we recommend the Legislature testing and vaccination and an intent to modify the closely consider the extent to which the Governor’s state’s COVID-19 sick leave policies. It largely does proposals properly prepare the state for this reality. www.lao.ca.gov 25 2022-23 BUDGET APPENDIX 1 Below, we provide a definition of some of the key Discretionary General Fund Spending. terms used in this report. We define discretionary spending as General Surplus. The Governor’s January budget is the Fund spending not authorized under current law starting point for legislative deliberation. Ultimately, and policy. Current law and policies include, for the Legislature will make its own determination example, constitutional requirements, and other about how to allocate funds available in the baseline costs, such as increases (or decreases) upcoming budget process. One of the goals of in costs to cover caseload or price increases. this report is to estimate for the Legislature how Put another way, discretionary spending is the much capacity the budget has to make those Governor’s new spending proposals that allocate allocations under the Governor’s estimates of the General Fund surplus. revenues. Assuming the proposed budget is Discretionary Spending on Schools and balanced, we answer this question by assessing Community Colleges. The State Constitution sets the size of the General Fund surplus. A surplus a minimum annual funding requirement for schools occurs when revenues exceed spending under and community colleges (the Proposition 98 current law and policy. Our estimate of the surplus minimum guarantee). Because this funding excludes discretionary resources available within requirement is constitutional, we do not consider the Proposition 98 (1988) minimum guarantee it part of the General Fund surplus. However, after because the State Constitution requires those accounting for current law and planned program funds to be spent on schools and community expansions, the Legislature has choices about colleges. Similarly, we typically do not include the how to allocate the remaining funding within K-14 reserve, debt, and infrastructure requirements of education. We refer to these spending choices Proposition 2 (2014). as discretionary spending on schools and community colleges. 26 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET APPENDIX 2 Note: In the online version of this report, we plan to include a series of Appendix tables that have detailed information on the discretionary choices in the 2022-23 Governor’s Budget. www.lao.ca.gov 27 2022-23 BUDGET 28 LEGISLATIVE ANALYST’S OFFICE 2022-23 BUDGET www.lao.ca.gov 29 2022-23 BUDGET LAO PUBLICATIONS This report was prepared by Ann Hollingshead, with contributions from analysts across the office, and reviewed by Carolyn Chu and Anthony Simbol. 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, California 95814. 30 LEGISLATIVE ANALYST’S OFFICE