How to Manage State Finances: California

Aug 5, 2019

By Chris Hoene, GFRC External Advisory Board Member and Executive Director, California Budget & Policy Center

In California, Governor Newsom and legislative leaders recently enacted a state budget for the 2019-20 fiscal year. Much of the attention has focused on a state “surplus” of more than $20 billion and significant programmatic expansions. From my vantage point, the new state budget is equally notable for how well it manages a state’s finances – any state’s finances for that matter.

Let’s talk about that surplus. State leaders found themselves with a revenue forecast $21 billion more than had been forecast at the close of last year’s budget (the 2019-20 state General Fund is $148 billion) as a result of economic growth and income tax increases approved by voters in recent years. Technically, these funds didn’t constitute a “surplus,” though they can be used in much the same way. True surpluses, by definition are funds left over at the end of the budget process. In California, these are funds available to state leaders to allocate for the coming fiscal year.

The question for state leaders, then, was how to allocate the additional funds.

The response of state leaders was to balance the 2019-20 state budget across those competing demands – like building up services while still fleshing out the state’s rainy day fund – in a way that offers a blueprint for good budgeting practices and provides state leaders with the fiscal policy space (a concept Mike Pagano and I applied to our research on city finances) to continue to make good decisions in future years.

Building Up Reserves

The California state budget will build the state’s reserves to $19.2 billion by the close of the 2019-20 fiscal year. This includes $16.5 billion in the state’s primary rainy day fund, a reserve placed into the state constitution by California voters in 2014 that requires that the state put away a percentage of General Fund revenues and excess capital gains revenues. The state’s reserves also include a “safety net reserve” ($900 million) that was put in place for the first time in the current (2018-19) fiscal year to help protect safety net programs; a “Special Fund for Economic Uncertainties” ($1.4 billion), and a reserve for public schools ($370 million). In total, this means that California will have the equivalent of 13% of General Fund revenues in reserves – a level that would help the state manage a small-to-medium sized economic downturn.

Paying Down Debts and Liabilities

The 2019-20 state budget pays down a series of state debts and liabilities. Beyond required contributions, it provides supplemental payments for the state’s retirement systems: $3.0 billion for the California Public Employees’ Retirement System (CalPERS) and $2.9 billion to the California State Teachers’ Retirement System (CalSTRS) over the next several fiscal years. In addition, the budget includes a one-time $3.1 billion payment to CalSTRS and CalPERS to reduce schools’ shares of liabilities.

Even with supplemental pension payments, the state still has work to do to more adequately fund its liabilities – the funded status of CalPERS and CalSTRS is 70 and 66 percent, respectively. But, the progress made in building up reserves and paying down debts also leaves state leaders with more fiscal policy space – if economic conditions hold up – to address these issues in future budgets.

The budget package also pays off all remaining liabilities incurred to help resolve prior budget shortfalls.

Expanding Vital Programs and Services With One-time and Ongoing Funding

The 2019-20 budget package includes a mix of one-time and ongoing investments in Californians’ economic prosperity, including: a $600 million expansion of the state’s Earned Income Tax Credit paid for by closing a set of tax loopholes for businesses and higher income households, investments in early childhood development, extending paid leave, continuing to expand health care coverage, boosting investments in K-12 and state higher education systems, increasing state investments on housing affordability, and promoting greater access to homelessness services. These proposals, individually and in combination, will significantly improve the economic and social well-being of millions of Californians.

A Blueprint for State Budgeting

I remember that it wasn’t so long ago – almost a decade now – that headlines about the state’s fiscal health warned of California becoming the next Greece, on the brink of collapse as a result of ill-advised fiscal policy making and a lack of preparedness for changing economic conditions. Today, the story I see in California is vastly different. Sound fiscal leadership has resulted in a series of state budgets which effectively balance competing demands for building up reserves, paying down debts, and making investments in vital programs that support Californians. Those are good outcomes for the fiscal health of the state and, ultimately, for the well-being of Californians, and provide a good blueprint for managing state finances beyond California.