Proposition 2’s New Reserve for K-14 Education Is Unlikely to Have Impact, Though Local School Districts’ Reserves May Be Affected

October 19, 2014

This is the fourth in a series of blog posts highlighting key components of the CBP’s analysis of Proposition 2, which will appear on the November 4, 2014 statewide ballot.

As we have blogged about recently, setting aside funds in good economic times to help meet the challenges that arise during economic downturns is a sound budgeting practice — and one California voters supported when they approved Proposition 58 in 2004. Proposition 2, a constitutional amendment placed on the November 4, 2014 ballot by the Legislature, would rewrite the rules governing deposits into and withdrawals from the state’s existing Budget Stabilization Account (BSA) — and, as we explained last week, would require the state to pay down “budgetary debt” for the next 15 years.

Proposition 2 also would create a new state-level budget reserve for schools and community colleges called the Public School System Stabilization Account (PSSSA). However, our recent analysis explains that because deposits into the PSSSA would only happen under limited circumstances, they would be unlikely to occur until at least 2020-21, and in most years thereafter. Without deposits into the PSSSA, this new reserve would not have dollars to provide to schools and community colleges during an economic downturn. As a result, Proposition 2’s impact on state funding for K-14 education would likely be negligible.

While deposits into a new state-level reserve for schools and community colleges would be unlikely for many years under Proposition 2, much attention has focused on a provision of a new state law — Senate Bill 858  — that would take effect if voters approve the ballot measure. The provision in SB 858 could limit the amount that K-12 school districts are allowed to keep in their local school district budget reserves. However, this cap would only take effect in a year after a transfer is made to the new PSSSA, which means school districts would not likely be required to limit their local budget reserves until at least 2021-22. SB 858, which would not apply to community colleges, could place a limit on most local school district reserves between 3 percent and 10 percent of a district’s annual spending. Unlike the provisions contained in Proposition 2 itself, which would be placed into the state Constitution, the Legislature could revise or repeal this cap on local school district reserves with a simple majority vote. Moreover, county offices of education could exempt school districts from the cap on local budget reserves for up to two consecutive years.

The focus on local K-12 district budget reserves as part of the debate around Proposition 2 is understandable. Schools suffered significant cuts in state support as revenues plummeted during and in the aftermath of the Great Recession. Some school districts were able to buffer these cuts with dollars they had saved in their local budgets. Despite the likelihood that the cap on local budget reserves would not take effect until at least 2021-22, some school districts may spend down their local reserves to bring them closer to the cap in the new law. To the extent this occurred, local districts would have fewer dollars available for economic uncertainties, such as tough budget years.

As is often the case, voters may find it difficult to sort through all of the issues raised by a ballot measure as complex as Proposition 2. But one thing is clear: Voters should not expect Proposition 2 to solve the problem that drops in state revenue mean for K-14 education funding.

— Jonathan Kaplan



Proposition 2 Asks Voters to Require the State to Pay Down Budgetary Debt for the Next 15 Years

October 14, 2014

This is the second in a series of blog posts highlighting the CBP’s analysis of Proposition 2, which will appear on the November 4, 2014 statewide ballot.

Proposition 2 is often casually referred to as a “rainy day fund” measure because it would significantly change the state’s budget reserve policies.

As we noted in our blog post last week, “setting aside funds in good economic times to help meet the challenges that arise during economic downturns is a sound budgeting practice. Budget reserves — also known as rainy day funds — are critical because they can help policymakers limit the need for deep cuts to vital public systems and services when tax revenues decline.”

In addition to changing the state’s rainy day fund policies, Proposition 2 would require the state to pay down “budgetary debt” over the next 15 years and, unlike with the deposits into the rainy day fund, would not permit policymakers to suspend these payments in times of fiscal emergency.

Our analysis of Proposition 2 raises concerns about not allowing for the temporary suspension of these debt payments. Policymakers often need flexibility in adapting to unexpected changes in economic and fiscal conditions, such as when state revenues are dramatically lower than had been anticipated.

Nevertheless, paying down budgetary debt that the state accumulated during and before the Great Recession — such as borrowing from special funds or underfunding pension liabilities — is necessary to ensure that the state has the capacity to fund vital programs and services in the future.

Budgetary debt is different than debt incurred to build capital projects. The usual way that state and local governments incur debt is to issue bonds to build capital projects, such as the Proposition 1 water bond that will also appear on the November ballot. These bonds finance capital assets, such as K-12 schools, colleges and universities, transportation facilities, prisons, and water projects. The bonds come in two forms: general obligation bonds that require voter approval and lease-revenue bonds that are approved by the Legislature. The bonds are sold to investors who are repaid, with interest, according to a fixed schedule over a term of 20 to 30 years.

The purpose of using capital debt is to spread the costs across the life of the assets. For example, if a school will be in service for 30 years it is not fair for taxpayers in the year it is built to bear the full cost of building the school. Spreading the costs to taxpayers over the 30-year life of the asset ensures that taxpayers today and in the future are paying proportionate shares.

As of June 30, 2014, the state had a responsibility to repay $87 billion of capital debt bonds from its General Fund, at a cost of $7.6 billion in 2014-15 in debt service payments. The state Constitution prioritizes repaying these bonds and provides little flexibility to alter the timing and amount of debt service payments.

Recognizing the distinction between capital debt and budgetary debt is important to understanding why paying down budgetary debt is required in Proposition 2. Proposition 2 would require paying down the following types of budgetary debt:

  • Making certain payments that were owed to K-12 schools and community colleges as of July 1, 2014;
  • Repaying dollars that were borrowed — prior to 2014 — from various state funds and used to pay for services typically supported with General Fund dollars;
  • Reimbursing local governments for state-mandated services that they provided prior to 2004-05, but for which the state has not yet provided payment;
  • Reducing unfunded liabilities associated with state-level pension plans; and
  • Prefunding other retirement benefits, such as retiree health care.

These liabilities are different from the capital debt described above. First, whereas the state repays capital debt to investors, budgetary debt is repaid to school districts, local governments, and branches of state government, or is the dollars set aside to pay for pension and health benefits for retired state workers and teachers.

Second, whereas capital debt buys long-living assets that provide benefits in future years, the budgetary debt targeted by Proposition 2 was incurred in prior years, for services already provided. In other words, this is debt that requires taxpayers in the future to pay for services delivered in the past.

Carrying large amounts of budgetary debt threatens the ability of the state to support vital public services and systems in future years. For example, the state provides many of its retirees with health benefits. Generally, the state does not set aside money for (or “pre-fund”) this cost as employees earn it. Each year, the state pays the medical bills of retirees out of current year General Fund revenues. In 2014-15, this is expected to exceed $1.8 billion. If the state had pre-funded these benefits, today’s state budget would have additional funds to spend on public services and systems such as schools, health care, human services, and higher education.

The Department of Finance reported earlier this year that the total unfunded retiree pension and health benefits owed by the state were $218 billion — much larger than the amount of General Fund-supported capital debt that the state must repay.

Proposition 2’s requirement that budgetary debt be paid down more quickly would mean that the state will free up significant funds in future years. But, getting there will cost more in the near term in order to avoid even larger payments and painful service cuts down the road.

— Chris Hoene


Many Californians Struggle to Make Ends Meet Despite a Growing Economy

October 10, 2014

The economic recovery has continued to largely bypass low- and middle-income Californians, according to new Census data released last month. These latest Census figures show that California households in the bottom three-fifths of the income distribution saw their incomes essentially stagnate last year, even though the economy had been expanding for four straight years in California and nationally. The absence of any significant income gains is especially bad news given that these households suffered steep declines in their incomes in each of the prior five years.

California households in the bottom fifth, whose incomes fall below about $23,600, fared the worst in recent years. Their average inflation-adjusted income dropped by about 19 percent between 2007 and 2012, then flat-lined in 2013. This means that the lowest-income state residents have yet to gain back any of the nearly $3,000 they lost, on average, due to the weak job market during and in the aftermath of the Great Recession. While sobering, this trend is not entirely surprising given that hourly wages stagnated or declined for low-earning workers throughout the recovery.

High-income Californians also saw their incomes fall in recent years, but unlike state residents at the low end of the distribution, they regained in the last year much of what they had lost in prior years. The average inflation-adjusted income for households in the top fifth dropped by about 8 percent ($18,200) between 2007 and 2012, but then rose by about 4 percent ($9,500) in 2013. This means that in a single year the highest-income households — whose incomes averaged $224,000 — regained more than half of the income they lost, on average. The top 5 percent of California households — whose incomes averaged $399,000 — fared even better: Last year alone, they regained nearly two-thirds of the income they lost during the prior five years.

AA-chart-10814

 

The Uneven Economic Recovery Is Exacerbating Inequality in California

As the benefits of recent years’ economic growth largely accrue to Californians at the top of the distribution, income gaps are widening, exacerbating already high levels of inequality in the state. Last year, the average household in the top 5 percent had an income of $399,000 — 31 times the income of the average household in the bottom fifth ($12,700). Just six years earlier, at the height of the housing boom, the average household in the top 5 percent earned 26 times as much as the average household in the bottom fifth. This widening divide means that nearly one-quarter of total household income now goes to the wealthiest 5 percent of Californians, while less than 3 percent goes to the bottom fifth. And as striking as these figures are, they actually understate the extent of inequality in California. This is because they exclude one of the most significant sources of income for the wealthy — capital gains — and also because the Census does not report income changes for most millionaires.

Rising Inequality Isn’t Just Bad for Low- and Middle-Income Families, It’s Bad for the Economy

Should we be concerned that our nation’s economic rebound isn’t translating into income gains for a broad swath of the population? Certainly if you’re among the majority of families who have yet to see their incomes rise after years of decline, you have good reason to be concerned. As one recent New York Times analysis put it: “You can’t eat G.D.P. You can’t live in a rising stock market. You can’t give your kids a better life because your company’s C.E.O. was able to give himself a big raise.” In other words, without broadly shared income growth, an expanding economy can do little to help most families be economically secure or move up the economic ladder.

But there’s another reason we should be worried about uneven income gains. Recent reports, including one by Standard and Poor’s (S&P) Financial Services, have suggested that income inequality could be holding back our nation’s economic growth. One explanation could be that when many people’s incomes don’t keep up with their expenses, they often spend less. And when large numbers of people spend less, businesses produce less. The end result: an economy that grows more slowly than it otherwise would if fewer families were struggling to pay their bills.

Policymakers Can Reduce Inequality in California

But now for some good news: Inequality is not inevitable. As Nobel Prize-winning economist Joseph Stiglitz recently wrote, “widening and deepening inequality is not driven by immutable economic laws, but by laws we have written ourselves.” That means policymakers have the tools to reduce our growing income divide and mitigate the hardship it inflicts on low- and middle-income families. One way state policymakers could do this is by making investments to ensure that all children have sufficient opportunities to move up the economic ladder. Increasing access to high-quality education, from preschool through college, for example, would set low-income children on a path toward greater economic security in the future. State policymakers could also take steps to make California’s income tax system more progressive. Creating a state Earned Income Tax Credit (EITC), for instance, would not only help workers with low to moderate earnings better support their families, but it also would reduce after-tax income gaps. To learn more about how California could reduce inequality by establishing a state EITC, watch for our forthcoming publication on the topic.

— Alissa Anderson


Proposition 2 Asks Voters to Revise the Rules for the State’s Current Rainy Day Fund

October 8, 2014

This is the first in a series of blog posts highlighting key components of the CBP’s analysis of Proposition 2, which will appear on the November 4, 2014 statewide ballot.

Setting aside funds in good economic times to help meet the challenges that arise during recessions is a sound budgeting practice. Budget reserves — also known as rainy day funds — are critical because they can help policymakers limit the need for deep cuts to vital public systems and services when tax revenues decline.

Californians have long recognized the importance of setting aside dollars for a rainy day. Ten years ago, voters created the state’s current rainy day fund by passing Proposition 58, a constitutional amendment placed on the ballot by the Legislature. Soon afterward, the state began depositing dollars into this reserve — called the Budget Stabilization Account (BSA) — and the balance reached $1.5 billion by 2007-08. During this same year, however, the Great Recession struck and began to take a toll on state revenues. In response, state policymakers withdrew every dollar from the BSA in order to help address the substantial budget shortfall that had emerged. Moreover, during the recession and its aftermath, Governors Schwarzenegger and Brown used the authority provided by Proposition 58 to suspend the annual BSA deposit for six consecutive years, through 2013-14. It was only with the current budget, for 2014-15, that Governor Brown felt confident enough about the state’s finances to let the BSA deposit go through unimpeded. As a result, the BSA balance now stands at $1.6 billion.

On November 4, California voters will have another opportunity to weigh in on the state’s budget reserve policies. Proposition 2, a constitutional amendment placed on the ballot by the Legislature, asks voters to rewrite the rules governing deposits into and withdrawals from the BSA. Our analysis of Proposition 2 shows that the measure’s reserve policies would set up a number of trade-offs, which in some cases involve limiting state policymakers’ discretion with regard to certain budget choices. For example:

  • Compared to current law, Proposition 2 would make it harder for state policymakers to suspend or reduce annual deposits into — and withdraw funds from — the BSA. Proposition 2 would require the Governor to declare a “budget emergency” in order to begin the process of suspending or reducing the BSA transfer and/or withdrawing dollars from the reserve. The measure narrowly defines a budget emergency as resulting from either (1) a disaster or extreme peril or (2) lack of sufficient resources to meet a specific General Fund spending threshold: the highest level of spending in the three most recent fiscal years, adjusted for state population growth and the change in the cost of living. Over time, this new policy could result in a larger reserve, which would help the state limit cuts to core public systems and services during an economic downturn. But this policy also could diminish state policymakers’ ability to effectively respond to some challenging budget situations, such as when revenues are rising more slowly than previously anticipated, causing a budget gap to emerge.
  • Unlike under current law, Proposition 2 would limit the amount of funds that could be taken out of the BSA in a single fiscal year. Proposition 2 would allow no more than half of the dollars in the BSA to be taken out unless funds had been withdrawn in the previous fiscal year. This restriction means that a smaller share of the reserve could be used to support public systems and services in the first year of a budget emergency. However, it also guarantees that reserve funds would be available to help offset budget cuts for at least two consecutive years.

In short, the question before voters in November is not whether California should have a rainy day fund. The state’s current budget reserve has been around for a decade, with rules that are locked into the state Constitution. Instead, the key question posed by Proposition 2 is whether the current rules for the BSA — which give policymakers wide discretion to decide how much to deposit and withdraw each year — are adequate to the task of helping the state save for a rainy day.

— Scott Graves


Student Debt: Ripe for Comedy, but No Laughing Matter

October 2, 2014

In a recent segment, Last Week Tonight with John Oliver took on the subject of higher education in a hilarious rant on some rather serious topics, such as state disinvestment in public colleges and universities, skyrocketing tuition, and rising student loan debt. Injecting his signature brand of comedy, John Oliver touched on a number of important issues that we also highlighted earlier this year in From State to Student, the CBP report on higher education funding in California.

Oliver noted that in recent years, states have slashed funding for higher education by an average of 23 percent per student, according to a Center on Budget and Policy Priorities report. In response, public higher education institutions have raised tuition significantly. This is definitely true in California, as the state’s support for the California State University (CSU) and the University of California (UC) has deteriorated in recent decades and remains near the lowest point in more than 30 years on a per-student basis, after adjusting for inflation. This is even after accounting for the small state funding increases both CSU and UC have received in the last couple years. At the same time, tuition and fees have risen dramatically as state support has dwindled, remaining near historic highs at both CSU and UC, even after adjusting for inflation.

As Oliver points out, one of the consequences of state cuts for higher education and increased tuition is that students are being forced to take out ever-larger student loans to pay for school. The total amount of student loan debt now exceeds $1 trillion nationally after tripling in the past decade, surpassing all other forms of household debt except home loans. Shining some comedic light on the increasing pervasiveness of student loan debt, Oliver quipped that “it has surpassed Bob Marley’s greatest hits album as the thing seemingly every college student has.” Unfortunately this broader trend has not bypassed California, as a growing share of CSU and UC students are graduating with increasing amounts of student loan debt. This is a strong indicator that public four-year higher education is becoming less affordable and less accessible for many high school graduates in California.

As we discussed in From State to Student, these trends have fundamentally altered how higher education costs are shared between the state, on one hand, and students and their families, on the other. Whereas the state once paid most of the cost of public higher education in California, years of budget cuts and tuition hikes have shifted more of the costs to students and families, especially at CSU and UC. This cost shift potentially puts the state’s economic future at risk, as a well-educated workforce is critical to California’s future prosperity. At current rates, California will not produce enough college graduates to meet the demands of the state’s economy in the years ahead.

In his concluding remarks, Oliver commented that “our leaders have decided that, while [higher] education is incredibly important, it is not important enough to actually pay for.” Stay tuned in the coming months as we issue further analysis and commentary that explore these issues — and what they mean for public policy in California — in greater depth.

— Phaelen Parker


California Reduces Disparities in Drug Sentencing Laws

September 30, 2014

This past weekend Governor Brown announced that he had signed Senate Bill 1010 into law, eliminating the disparity between sentences for possession of crack cocaine and powder cocaine for sale in California. SB 1010 continues a positive national and statewide trend of divesting from drug war policies that are ineffective in promoting — and can be harmful to — public safety.

Crack cocaine is a product derived from processing powder cocaine with an alkali, such as baking soda, to make it smokable. A study in the Journal of the American Medical Association found that crack cocaine and powder cocaine are essentially the same drug and can cause the same effects when used.

Despite the similarities between these two products, sentencing laws differ in how the substances are penalized in the criminal justice system. Nationally, individuals selling small amounts of crack cocaine on the streets have received more severe sentences than have wholesale suppliers of powder cocaine. In California, possession for sale of powder cocaine has been subject to a felony jail term of two, three, or four years, whereas possession for sale of crack cocaine has been subject to a felony jail term of four, five, or six years.

These unbalanced penalties have more significantly affected communities of color, even though the likelihood of someone using crack cocaine does not differ based on their race given similar social and environmental conditions. From 2005-06 through 2009-10, African Americans in California were imprisoned for possessing crack cocaine for sale at a rate that was 43 times that of white people and four times that of Latinos.

SB 1010, authored by Senator Holly Mitchell, reduces the penalty for possessing crack cocaine for sale to a felony jail term of two, three, or four years, thereby bringing it in line with that for powder cocaine. Additionally, the bill aligns property forfeiture laws and probation eligibility requirements associated with crack cocaine with those for powder cocaine. This is a welcome reform that equalizes penalties for drug law violations and will help to reduce the racial disparities in our criminal justice system.

This bill is also expected to have a positive impact on California’s finances. The Senate Appropriations Committee projected potential state savings from SB 1010 in the low millions of dollars each year. These savings would result from reduced prison sentences and fewer prison commitments. Given the prevalence of problematic drug use in California, these savings might best be invested in effective community-based drug treatment, education, and prevention services that could improve public safety in the longer term.

SB 1010 represents a much-needed reform to a larger body of drug laws that have failed to effectively curtail supply or consumption of controlled substances; impeded public health measures designed to reduce the spread of infectious diseases, overdose fatalities, and other harmful consequences of problematic drug use; and resulted in arbitrarily harsher consequences for low-income communities.

— Selena Teji


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