Thursday, July 5, 2012

California Goes From Smoke, Mirrors and Wishful Thinking to Fantasyland

By this time the state of California's budget deficit is legendary, ballooning at times to a third more than total state receipts. The deficit was borne of the dot com boom, which preceded the dot com bust, at a time when state coffers swelled with the recognition of capital gains by dot com millionaires. Eager not to be caught with a budget surplus, California responded (in a bi-partisan manner, I may add) by committing itself to permanently spending these surplus amounts, largely by pumping up government worker pensions. As soon as the dot com boom busted, California was in deep trouble with what is euphemistically referred to as a structural imbalance of spending and income.

California reacted to its budget woes by kicking the can down the road, and not very far at that. Budgets became balanced through a combination of accounting tricks and unrealistic economic assumptions regarding tax revenue forecasts. A simple example of the accounting tricks used was to not pay government bills at the end of the year, but delay payment into the first week of the following year. Presto, the deficit had been reduced by the amount of the delayed payment. Of course nobody said anything about increasing the next year's deficit by a like amount, so the problem was only solved for a year. And once you pulled an accounting trick, you had to do the same thing every year thereafter just to keep from losing ground.

But alas, smoke and mirrors can only hide the truth for so long, so not having made much progress at attacking the structural budget deficit, particularly the cost of public employee pensions, other methods must be used to balance the budget. Unfortunately, Governor Brown has chosen to resort to the truly preposterous to balance the upcoming budget. I can see counting the $8 billion of revenues which would be raised from this November's tax increase ballot initiative, as the possibility of passage of such an initiative is "iffy" and not out of the question. But what takes us to Fantasyland is a projected receipt of $2.3 billion of revenue from the federal government in anticipation of a change to the federal estate tax which would share estate tax revenues with the states. Given that there are (1) no credible proposals in Congress for any such revenue sharing and (2) the federal government needs every drop of tax revenue it could theoretically generate from increased estate taxes under existing Congressional "pay for" rules, the chances of California reaping this $2.3 billion are as good as my becoming the next Justin Bieber. By 5 pm today. I guess this is just a reminder that Governor Moonbeam was and continues to be an appropriate nickname for the leader of our state.

It is also ironic that California has turned to possible changes in the federal estate tax to balance its books, if only on paper, as the estate tax has its own history of recent incredulity. In 2001, in a climate where it was conceded by all that the estate tax needed to be updated, and contended by some that it should be repealed altogether, Congress reached a bizarre compromise. They enacted a series of reforms that would phase in gradually until the year 2009, which by itself made tremendous sense. However, they then provided that the tax would be repealed in 2010, but then revert in 2011 to its pre-2001 antiquated state. While on the surface such legislation was beyond comprehension, there actually was a logical explanation. It was presumed by all that sometime between 2001 and 2010 the law would be changed to either make the reforms permanent, or perhaps make the eventual repeal permanent. Now if you ask why they didn't do this in the first place, it has to do with arcane legislative rules regarding the measurement of lost or increased revenues from tax law changes, as well as a "kick the can down the road" attitude. What nobody counted on was for Congress to be so gridlocked that unless action needs to be taken immediately, no action is taken before then. So the bizarre 2001 tax changes stayed on the law books.

A temporary fix was made in 2010 where the 2001 act changes were extended and enhanced for two additional years, but once again the deadline is looming. And faster than you can say gridlock, even though Congress must act on the estate tax by December 31, 2012, it has been conceded that no action will be taken until after this November's elections. But whatever action Congress takes, you can bet your Justin Bieber that they're not going to send $2.3 billion California's way.

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