State Revenue Looks Good, but It Isn’t Likely to Last

California economists warned Thursday that the unexpected burst of revenue flowing into state coffers -- enough to wipe out a predicted $4-billion budget deficit -- appears to be a one-time shot in the arm.

The cash infusion reported by state officials earlier this week has less to do with steady economic growth than it does with a flurry of profits pocketed by owners of stocks in red-hot companies such as Internet dynamo Google, Californians cashing in on the housing boom and record earnings by oil companies.

The corporate and capital gains taxes generated by such profits are the type that can just as quickly evaporate, as they did in 2001, when the dot-com industry collapsed.

News of the money, although good, underscores one of the state government’s biggest problems: California is far more reliant than many other states on unpredictable and often volatile forms of revenue.

“This is looking very, very short term,” said Steve Levy, executive director of the Center for the Continuing Study of the Economy in Palo Alto.

He says the best marker for sustained economic growth is an increase in jobs and wages. But the extra revenue the state is enjoying is not coming from those places.

“It is all extraordinary factors,” he said. “The economy hasn’t ratcheted up that much. What has ratcheted up are one-time gains from the housing market, corporate profits and stock market earnings.”

The huge profits oil companies have posted in recent months are also playing a big role in boosting state accounts.

None of it, Levy says, is likely to continue for the long haul.

California is so reliant on the wealthy and a few hundred large companies to pay for state programs, economists say, that the entire general fund makes dramatic swings based on their performance in a given quarter. Right now, the state is going through an abbreviated upswing, they say.

Ted Gibson, a former chief state economist, cites the “Google effect.” He said that single company, based in the Bay Area city of Mountain View, produced so much stock market income for Californians in recent months that the capital gains taxes investors paid were probably a “huge factor” in the surge of state revenue.

“We still have the same problem we found out about in spades in the early part of this decade,” Gibson said. “Too much of the state’s revenue is generated from the wealthiest 5 or 10% of Californians. If the market goes south, things turn around in a big hurry.”

Just as giant profits for Google shareholders will probably come to an end at some point, so too may the state’s booming real estate market. A healthy share of the extra revenue is thanks to the many Californians cashing in on the high price of houses.

The volume of home sales reached an all-time high last year, and speculators continue to “flip” properties, buying and selling them so quickly that they are required to pay capital gains taxes on those profits. Low interest rates have boosted the bottom line of the lending industry, also resulting in more corporate tax revenues.

Now, interest rates are rising and the market is cooling. That, in turn, will have a moderating effect on state coffers.

Esmael Adibi, director of the Anderson Center for Economic Research at Chapman University, noted that just this week one of the biggest lenders in the country, Ameriquest, announced it was laying off 10% of its workforce.

“That suggests the trend is turning,” he said.

Adibi says that could become a serious problem for the state -- not just because there would be less paid in capital gains and corporate taxes, but also because so many Californians are self-employed in the real estate industry. When their work starts to dry up, so will their income tax payments.

People in the top tax brackets pay a higher rate than everybody else and are extremely valuable to the state. But when their earnings slow and they fall into lower brackets, it’s a shock to the budget.

“When California’s economy does well -- even for a short time -- we get a nice big surprise,” Adibi said. “But as soon as the economy starts to turn, our revenue collapses even faster.”

Lawmakers have tried for years to change the state tax code to bring more stability and predictability to the budget. Entire shelves in state offices are filled with studies from blue ribbon commissions and other panels suggesting reforms. None has gotten off the ground.

The problem: There would be big winners and losers in any dramatic change in the code. True reform could require taking on such sacred cows as Proposition 13 restrictions on property tax increases. Such ideas are political nonstarters in Sacramento.

So the best the state seems to be able to do for now is to live with the current system and try to brace itself for revenue swings as well as it can. It has not been particularly good at it of late; projections are consistently wrong.

And Adibi says the revenue swings are only going to become more dramatic in the coming years. Research shows that more Californians are turning to self-employment, meaning incomes will be even less stable than they are now. A real estate agent, for example, could see personal income double from one year to the next and then crash back down again.

Still, some economists suggest that after getting burned so severely by the dot-com bust, the state may have grown too cautious in its projections -- and perhaps this temporary boom will last awhile longer.

Ross DeVol, director of regional economics at the Milken Institute in Santa Monica, says the wildly inaccurate forecasts that led up to the start of a multibillion-dollar budget crisis five years ago may have made state economists too gun-shy.

“It is one of the most precarious professions in the world,” he said. “After you have had deficits that are so huge, and revenues not growing at the rate you expected, there is a tendency to be conservative.”

DeVol said he believes the current revenue spurt could stretch on awhile. But he warned that using any of the money to expand government programs would be foolish.

“The thing to do is be prudent and build up a reserve,” he said, “so we don’t get caught with our pants down again like we did the last time.”