Sunday, August 15, 2010

Democrats' State Budget Proposal

While I was away, the Democrats finally made a budget proposal.  There is a lot to it, and I haven't been able to analyze it in detail.  Here are my preliminary thoughts on a few parts of the proposal.

1.  "Tax Swap":  The proposal to increase income tax rates and decrease the sales tax is the headline, but it is not much of a budget solution.  They also propose a sizable increase to the VLF (vehicle license fee), and that is what generates the net tax increase.  I support the income-sales tax swap, and I am less enthusiastic about the VLF increase, but there may be no better alternative here.  As the Democrats emphasize, both the income tax and VLF have the advantage of being deductible from federal income taxes, but they have been overplaying the size of the federal subsidy.  (Sales taxes may not get the federal subsidy, but they are subsidized by visitor spending, and there is a macro case to be made for taxing consumption instead of income).

As I have pointed out in other posts, I would rather see the income/sales tax swap made with local governments, as I think the local government dependence on sales tax creates a lot of negative incentives to subsidize retail and encourage sprawl.

2.  Assume the rosier LAO revenue forecast, a $1.4 billion solution.  I think this is unwise, the number comes from the LAOs May analysis of the Governor's proposed budget.  This came right as some a brief blip of positive economic data in April/May increased optimisim about the economy (remember Dow 11,000!), and most of the data in the past 3 months has been less positive.

Both the LAO and our Center are part of about 8 California forecasts compiled and compared by Arizona State.  Last I checked (about 6 weeks ago), LAO had the most optimistic forecast (we were the 2nd or 3rd most optmistic).  I really respect the LAO analysts, but I suspect that they, like most forecasters, have revised down their outlook since May.  I think the older DOF revenue estimates in the Governor's budget are more realistic at this point.

3.  Federal Government Assistance, $4.1 billion.  Even with the recent $26 billion boost in federal funding for education/health, there is unlikely to be more than $3 billion coming from Washington. 

Bottom Line:  Although there are aspects to the proposal that I like, I think the Democrat's proposal is $3 billion or more short of being balanced even if they get their revenue additions passed with the Governor's signature.  Deeper cuts will be needed, and we may not have a budget until after the election.

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