Gov. Arnold Schwarzenegger's plan to help close the state's budget shortfall by borrowing $15 billion against the future profits of a modernized, expanded lottery is overly optimistic and could exacerbate California's financial problems, according to the Legislature's chief budget analyst.
Nonpartisan Legislative Analyst Elizabeth G. Hill, whom both Republicans and Democrats look to for advice on spending issues, said the proposal assumes a boom in lottery earnings that is unlikely to materialize. The result, Hill said in a report released Monday, is a "strong likelihood" that the share of money that schools receive from the lottery "would fall well short of their current levels -- perhaps by $5 billion over the next 12 years combined."
She suggests the Legislature adopt a plan that would bring in just $5.6 billion over two years.
Administration officials defended the plan, saying that Wall Street consultants and other experts had assured them that a cash windfall could be generated by an updated lottery.
"Universally, they have told us, 'There is great potential in your lottery,' " said Fred Klas, chief operating officer of the Department of Finance. "They all come to the same conclusion: that this is an asset that, if modernized, is worth multiple billions of dollars."
H.D. Palmer, a deputy director at the department, noted that although the administration and the analyst disagree on the amount of cash that can be raised, Hill has "embraced the concept" of borrowing against the lottery.
The proposal, if approved by lawmakers, would come before voters in November. It calls for updating the lottery with new games, aggressive marketing campaigns and ticket sales in electronic machines at big-box stores such as Target. If Californians were to reject the proposal -- or if the plan were blocked in court -- a 1-cent-on-the-dollar sales tax increase would take effect for up to two years to keep the state in the black.
Hill supports the sales tax as a backup but suggested it be in place for one year only.
At a news conference Monday, however, she cautioned that even if the lottery expansion were to be approved by voters, the governor's plan would still "leave the state with multibillion-dollar shortfalls."
Hill said she was dubious of the administration's projection that lottery sales and profits would double within 10 years. She noted that other states had updated their lotteries and had not experienced such gains, that Californians already had a variety of gambling options to compete with the lottery, and that playing the lottery simply wasn't as popular in western states as elsewhere in the country.
Lawmakers across party lines seized on the analyst's report to bolster their criticism of the governor's budget plan.
Democrats, who say they want to avoid deep cuts in government services by raising taxes, had earlier dismissed the lottery plan as a gimmick that doesn't generate enough cash.
And almost every Republican has signed a pledge to block any tax increase. They are calling the backup sales tax hike -- a linchpin of Schwarzenegger's proposal -- a deal-breaker.
"It shows the budget for what it is -- a fiscal disaster," state Senate Leader Don Perata (D-Oakland) said of the analyst's report.
Senate Republican Leader Dave Cogdill of Modesto said, "Burdening hardworking Californians with a tax increase -- or a threat thereof -- will not improve the state's economic outlook."
The analyst's report also takes aim at the governor's plan to bring long-term balance to the state's finances with spending restraints. She said the governor's approach would lead to "counterproductive results."
Money the administration hopes to raise from the lottery, for example, could automatically get locked away in a reserve under the governor's plan and be unavailable for balancing the budget even if the state continued to run multibillion-dollar deficits.
"As a result," Hill wrote, "the administration's reforms could lock the state's operating shortfall in place and lead to automatic across-the-board reductions."
Hill proposed a more modest approach to keep the state from overspending, one that would involve increasing the size of the existing rainy-day fund to 10% of the budget and making it harder for lawmakers to tap it. Her plan would also force lawmakers to sock away in the rainy-day fund some of the sudden cash windfalls state government experiences in good economic times.
Administration officials acknowledged that the governor's spending restraints could make the business of balancing the budget more difficult in the short term. But they said that over the long haul, it would prevent the state from spending all the cash that floods in during economic good times only to be forced to slash government services as soon as the good times end.
Instead, they say, spending would remain constant over time, bringing more predictability to those who rely on state funds.
The analyst, meanwhile, renewed her call to scale back or eliminate tax breaks that her office says are not serving their purpose. The credits include those that individuals can claim for dependent children and seniors and that companies can claim for research and development as well as for hiring low-income workers. Curbing the tax breaks would bring in $3.3 billion, Hill said.
Lawmakers and the governor have said they are interested in eliminating tax "loopholes" that do not provide any benefit to the economy. But they have shown little interest in the nearly dozen that Hill has proposed, which are currently used by millions of individual and business taxpayers.