Official Warns of Potential State Deficit

California’s economy continues its upward swing, promising a rosy outlook for state revenues, but spending--particularly for schools--will increase even faster in the next few years, leaving the state with a potential deficit, the independent legislative analyst warned Thursday.

State budget reserves are dwindling, with spending obligations pushing California’s government toward a $1-billion shortfall by the 1998-99 fiscal year, when the projected general fund budget will be $55 billion, said Legislative Analyst Elizabeth Hill.

She said the trend can be reversed with quick action by the governor and Legislature to keep California in the black, and voiced confidence that “corrective action” would be taken.

She called the problem “moderate” compared to the state’s multibillion-dollar deficits of a few years ago.

“What we see emerging is a structural budget problem,” Hill said, that is “in its infancy and relatively small, but it does grow over time” without intervention from lawmakers.

She said immediate consequences include ending the current fiscal year budget on June 30 “with virtually no reserve”--in contrast to projections of reserves of more than $300 million made by the Wilson administration in May.

The state’s budget this year, including bond funds, is $63 billion. The general fund, which pays for almost all state programs, is $46.5 billion this year.

Wilson administration officials did not quibble with Hill’s findings. They said the governor’s budget, which will be unveiled in January, will address the problems she raised.

The reserve is being eaten away primarily by spiraling school costs. In particular, student enrollment is increasing faster than estimated. That is coupled with a strict formula that calls for more money for education as state revenues grow.

A new assessment by Hill--compared to a Wilson administration estimate in May--added 36,000 students to California’s average daily enrollment in kindergarten through 12th grade. That accounted for an increase in Hill’s estimated costs for education of $380 million over two years.

Hill said her enrollment estimate was based on more recent data from school districts and analysis of changing California demographics. She said estimates by budget analysts frequently differ, especially if they are made at different times.

Compounding the effect of increased enrollment on the budget are the revenue demands of Proposition 98, which voters approved eight years ago.

The initiative was intended to provide schools with a minimum level of funding. When it is combined with the spurt in enrollment, more than 40% of the state’s general fund budget will be devoted to education--for a projected growth in school spending between now and 1999 of more than 9% a year, Hill estimated.

That’s enough, she said, “to completely offset” increases in state revenues pouring in as a result of a robust economy.

H.D. Palmer, spokesman for the state Department of Finance, said analysts for his agency found nothing to disagree with in Hill’s report.

But he emphasized that her “baseline projections” assume that the governor and lawmakers will do nothing, that “you’ve taken your hands off the steering wheel, and that won’t happen”--a point underscored by Hill.

“The governor will submit a budget in January that keeps the state living within its means,” Palmer said.

Extra funds for schools in the current fiscal year, he said, were snapped up promptly for needed reforms, such as $771 million committed to class-size reduction taking place in the lower grades of California’s schools.

Hill said adjustments in state spending can be made in future years as revenues rise or fall. Even Proposition 98 can be suspended with a two-thirds vote of both legislative houses.

Politically, of course, Palmer said, “you’d have to do it behind a heat shield” of popular protest.

Hill said her findings show an emerging structural problem with the budget, caused mainly by the strict Proposition 98 school funding formula and how the state responds to the federal changes in welfare rules.

Paradoxically, the finance problems that Hill identified and that face the Legislature when it returns next year come when the state’s economy is performing well.

Still struggling out of a recession in 1995, the economy picked up in 1996 and “appears to have settled into a growth rate of between 2% and 2.5%” since July, she said.

Hill said new jobs in California are growing at about 325,000 a year, the biggest jump since the pre-recession 1980s.

“We’re estimating the state will outperform the nation both in employment and income growth” in the next three years, she said.

Partially offsetting rising demands for education dollars, Hill said, are declining state obligations to fund welfare programs.

Benefits to families with children will decline 19%, saving the state $580 million by 1999, with the biggest drop occurring this year and next, she said. Lower caseloads, previously enacted grant reductions and savings realized from federal welfare overhaul legislation will account for the decline, Hill said.

Falling at a slower rate will be benefits for the blind, aged and disabled, reflecting in part denial of benefits for noncitizens beginning next year.

Costs for Medi-Cal, the medical safety net for the poor, will continue rising but at a slower rate, Hill said.