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After Standoff, Calif. Reaches Budget Deal
Legislators Patch Nation's Largest Shortfall

By Karl Vick
Washington Post Staff Writer
Friday, February 20, 2009

LOS ANGELES, Feb. 19 -- In a pre-dawn bargain, California legislators on Thursday passed a budget that closes a $42 billion hole, the worst state budget shortfall in U.S. history, after spending 45 straight hours locked in the Capitol trying to find a solution.

The drama in Sacramento served as a warning to other states that their budget problems have the potential to turn into full-blown crises.

While some of the issues are unique to California, nearly all states are feeling pressure from falling revenue and rising costs as tax collections decline and demand for services increases. At least 46 states are facing shortfalls this year or next, and the combined budget gaps are estimated to total more than $350 billion, according to the Center on Budget and Policy Priorities.

Lawmakers in California finally reached a deal after bowing to the demands of a moderate Senate Republican, whose price was a ballot measure allowing voters to opt to loosen the state's restrictive primary election laws.

"These reforms were possible because we were in a crisis," Gov. Arnold Schwarzenegger (R) said afterward. "And as I've always said . . . crises also provide opportunities."

Many state offices will still be shuttered Friday, in keeping with Schwarzenegger's decision to furlough all 238,000 state employees two days a month. The budget deal calls for $1.4 billion in savings from employee compensation, and negotiations are underway with unions that will help determine how to achieve the savings.

The deal includes tax increases that are designed to expire in two years, underscoring the temporary nature of the patch. But analysts warn that California faces the prospect of chronic revenue shortfalls, grounded in some ways in Proposition 13, the taxpayer revolt that 30 years ago put a cap on property taxes and made the state more reliant on income tax revenue, which rises and falls with the economy.

"California's revenues are extra sensitive to the health of the economy," said Jed Kolko, associate director of research at the nonpartisan Public Policy Institute of California, in a December interview. "Most states are running a budget shortfall right now, but the degree of the crisis is so much greater in California."

Analysts also fault California lawmakers for writing a new budget each year rather than adopting a multiyear process that sets targets.

With an economy larger than those of all but seven nations, California lumbered into the downturn carrying the nation's biggest revenue shortfall, in terms of dollars as well as percentages.

Already hit harder than any other state's by the housing slide, the California treasury took a huge blow when the stock market dived, cutting by more than half its projections of revenue from the wedge of wealthy taxpayers who provide an outsize portion of revenue.

Revenue from capital gains -- the 9 percent that California takes from the sale of a stock or property -- accounted for 11.5 percent of the state's general fund in the past fiscal year. That was estimated to drop to 5 percent in the current year and lower still the next.

Then-Gov. Gray Davis (D) faced a similar shortfall after the tech bubble burst in 2001, causing the torrent of tax revenue flowing out of Silicon Valley to drop precipitously.

"I think a lot of people would say that California never really fully addressed the problem from 2001, which was that they had an upturn in revenues largely fueled by stock options and capital gains, and that evaporated fairly quickly," said Tracy Gordon, an assistant professor of public policy at the University of Maryland, who studied the California economy for seven years.

Schwarzenegger swept into office more than five years ago after angry voters recalled Davis for his handling of the budget crisis, one less forbidding than the current shortfall. Analysts noted that among the $12 billion in taxes that Schwarzenegger negotiated with Democrats this week was a doubling of the very tax that more than anything hastened Davis's departure from office. The budget package, which Schwarzenegger promised to sign Friday, will double the state's infamous car tax to 1.15 percent.

It will also raise the state income tax by a point, to 8.25 percent, and impose a 2.5 percent surcharge on income tax bills. The $15 billion in spending cuts come mostly from education. The balance of the patch will come from borrowing and California's share of the federal stimulus.

New York is in the next worst budget condition after California, with Gov. David A. Paterson (D) locked in negotiations with the Democratic-controlled legislature over how to plug a looming $13 billion deficit, which could total $48 billion over several years. Paterson has proposed painful cuts to health-care funding and education, but some members of the General Assembly favor a tax increase on the wealthy.

Like the federal stimulus, the California package passed with only three GOP votes in the legislature's upper chamber. But the narrative gave Schwarzenegger a fresh opportunity to talk about bipartisanship, a favorite topic. Last year he championed the passage by voters of Proposition 11, which calls for legislative districts to be drawn by an expert panel, rather than lawmakers.

The budget deal could lead to the next step in election reform. In exchange for supporting it, GOP Sen. Abel Maldonado won a promise to let voters opt for "open primaries."

Open primaries, if conducted as in Washington state, would replace party primaries with a single primary, with the top two vote-getters proceeding to the general election. Depending on how the rules are written, candidates might be able to choose whether to be identified by party; in Washington state, they can pick their own phrase.

"We've got to bring people to the center," Schwarzenegger said after the deal was reached. "We have legislators that are so out to the right and so far out to the left, it's very hard to get them together."

Democratic lawmakers resisted the change, saying it was too dramatic to be considered in the eleventh hour of a budget crisis. But Bruce Cain, a political scientist at the University of California at Berkeley, said open primaries tend to help incumbents -- chiefly because, on a crowded or confusing ballot, name familiarity is paramount.

Students of California government point to other structural issues that make the state less than a model, including the constitutional requirement of a two-thirds majority to pass a budget.

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