State Constitutional And Fiscal Reform: A Primer for 1995

California's existing system of government is dysfunctional, does not work together to achieve the public's goals, and the legislative process has become mired in gridlock. 

A somewhat extreme assessment you might say. But that assessment was enacted into law by the Legislature and Governor when they approved SB 16 in 1993, thereby creating the California Constitution Revision Commission (CCRC). And who can argue with them. Multibillion dollar state budget deficits since 1990, a $7 billion tax increase, billions in local property taxes stripped from local governments and given to schools, a $5 billion dollar deficit in the state's transportation improvement program, $23 billion in K-12 school construction needs over the next 10 years with minuscule state bond funds left over from 1992, dramatic increases in local fees and assessments, a $7 billion state cash flow loan from private banks tied to the potential for automatic across the board budget cuts, and public frustration with the performance and accountability of government, all point to a serious problem of fiscal indigestion (not to mention an intolerably long sentence). 

In addition, a number of initiatives are in the works which could set off a fiscal earthquake. For example, one initiative in circulation would exempt the first $30,000 of personal income from state income taxation (thereby setting up a $12 billion loss to the state's general fund). Another initiative in preparation would require voter approval of all local truces and severely limit the use of benefit assessment districts. 

These and other similarly bleak trends have stimulated a regular cottage industry of programs by various interests to develop fundamental reforms to fiscal and governance system for state and local governments. In addition to the Constitution Revision Commission, the California Council for Environmental and Economic Balance (CCEEB), the California Business-Higher Education Forum (BHEF), and the California Budget Project (CBP) are all on independent tracks to weigh in with proposals for fundamental restructuring of government. These proposals are beginning to take shape and fiscal reforms will be on the legislature's agenda in 1995. This article will summarize these projects and trends to watch for next year as politicians and the various special interests maneuver for position.

California Constitution Revision Commission

The California Constitution Revision Commission legislation was authored by Senator Lucy Killea and signed into law by Governor Pete Wilson in October of l993. The Commission began meeting last May. It is a bipartisan body composed of 20 appointees of Governor Pete Wilson, Assembly Speaker Willie L. Brown, Jr., and the Senate Rules Committee. The Chief Justice, Legislative Analyst, and Director of Finance are ex officio members. The Commission is chaired by William Hauck, a Sacramento businessman and trusted policy advisor to Governor Wilson. (Interestingly enough Mr. Hauck has also worked as a top advisor to Speaker Brown. And he worked on the last major Constitution revision in 1966 that gave the state a full time legislature.) 

Recently the Commission appointed Fred Silva, a highly respected senior fiscal advisor to the State Senate, as its Executive Director. Since May, the Commission has been meeting monthly to gather information about the various parameters of the existing system, discussing how focused their recommendations should be in light of their short life span (July 1, 1996), and trying to define their mission and direction. Their time­table calls on them to develop options to solve the major problems starting in January and running through much of the spring. During the summer they will adopt a preliminary plan and report to the Governor and Legislature by August. The Legislature is expected to hold interim bearings on the plan through the fall of next year. And presumably a final plan will be introduced in the Legislature in January of 1996. 

Since the plan will call for changes to California's Constitution, it must be submitted to the voters for their approval in November. So far little in the way of possible reform emphasis has emerged from the Commission's meetings. 

CCEEB'S Project/CPR-California Prosperity through Reform 

The California Council for Environmental and Economic Balance (CCEEB) was established in 1973 by former Governor Edmund G. "Pat" Brown as a coalition of business, labor, and public leaders. In 1993 the leadership of CCEEB identified the state fiscal crisis as a serious threat to the state's business climate and organized a project with several of its members to develop a business and labor strategy to advance fiscal and governance reform. The members of this project, dubbed Project CPR by CCEEB (pun intended), have spent a year analyzing the fiscal system and developing a set of principles to guide their approach to reform. 

Project CPR has been concerned about a number of problems. First, they point to significant duplication and inefficiency in government which is diverting funds unproductively, inhibiting performance by public agencies, and creating "drag" for private investment in economic development. Second, there is concern with the deficiency in public infrastructure investment that is critical to the business climate. This includes, for example, school construction, higher education, water, and transportation. A third concern is the growing trend in state budget deficits dating back to 1990 and the potential for a long term structural deficit if case load growth and revenue growth are not brought into alignment 

Finally, Project CPR is concerned about the effects of the state budget chaos on local finance and public services, as exemplified by the state initiated property tax shift from local governments to school districts. 

CCEEBS’s Project CPR is currently circulating a draft of its over­all approach to fiscal and gover­nance reform among key groups and opinion leaders. This document, "Principles for State and Local Fiscal Reform", focuses on four key areas. First there are a number of concepts relating to the efficiency and effectiveness of state and local tax structures. This incorporates not only taxes but also local assessments and fees. It includes the effect of the tax structure on business investment, the need to look at the issue of tax expenditures, use of the dynamic method to estimate the revenue impacts of tax policy, and the long term responsiveness of the tax structure to changes in the economy. 

Second, Project CPR principles look at budgetary reforms that address flexibility and accountability, review of tax and spending increases, performance driven budgeting, and alignment of program responsibility with funding authority. Third, the project proposes focusing on restructuring state, regional and local government. This includes the efficiency and effectiveness of government programs and regulations, accountability for program performance, planning and financing of public infrastructure, and fiscal efficiency of land use development patterns. 

Finally, Project CPR principles recommend a comprehensive approach to reform rather than a piece­meal approach. This includes calling for a strategic vision for California, balancing the various proposals (e.g., revenue increases and programmatic reductions), and the relationship between flexibility in fiscal policy and accountability to the tax­payers. 

Project CPR has begun a process of dialogue with other key interests engaged in state fiscal issues. (Collaboration has been a hallmark of CCEEB since it was established.) They are also continuing to develop specific policy options in line with their "Principles for State and Local Fiscal Reform". 

The Business-Higher Education Forum

The California Business-Higher Education Forum (CBHEF) was established as an organization of some 60 California business and higher education CEOs in 1993 under the leadership of U.C. President Jack Peltason. Their stated purpose is to promote understanding, communication, and mutual support to develop the means through which the state's business and higher education leadership can foster excellence in higher education and promote economic development, In late 1993, CBHEF established a Task Force on California Fiscal Reform under the co-direction of Bank of America Chief Economist John O. Wilson and U.C. Vice President William B. Baker. 

The Task Force spent five months of intensive analysis and research to produce a set of recommendations, "California Fiscal Reform: A Plan for Action". The report was approved by the CBHEF Board of Directors in May.

The CBHEF offered five major recommendations. First, they call for the establishment of clear goals for California's future. They offer three proposals in this area: An economic investment program, a master plan for education, and a master plan for public safety. Their second major recommendation is to improve performance and accountability of government. 

The recommendation includes eight proposals: Eliminating state general fund earmarking, reform of the initiative process, eliminating the two-thirds voter requirement for taxation, expansion of performance budgeting in state and local government, guidelines to evaluate the impact of budget decisions on the economy, improved data collection on finance and the economy, procedures to evaluate long-term consequences of budget actions, and adoption of a state capital budget. 

The third major recommendation of the CBHEF is to strengthen local government. This includes three proposals: Stabilizing the state and local relationship, strengthening regional governance systems; and strengthening neighborhoods. The fourth major recommendation is to improve the equity and efficiency of the tax base, This includes two proposals: Revisions to Proposition 13 and gradual extension of the sales tax to cover services. The fifth major recommendation is to reform the regulatory system. Specific regulations discussed include workers' compensation, tort reform, CEQA, and other environmental controls. 

The CBHEF also proposed evaluating the overall impact of regulations upon regulated industries, improving the efficiency of the regulatory process, and recognizing that high levels of environmental protection can provide an incentive for high income firms and individuals to locate in California. 

Since May representatives of CBHEF have been presenting their recommendations to groups statewide, including the Constitution Revision Commission. They have also begun discussion with other reform oriented organizations and should be expected to be a major player in the development of reform proposals. 

The California Budget Project 

The California Budget Project (CBP) is an effort to bring together major nonprofit groups which have a stake in state budget decisions to provide analysis, communication, and education programs that present these groups' perspective on fiscal reform. The project is at the end of a yearlong planning process and is currently recruiting staff. This planning has been coordinated by the Advocacy Institute West of San Francisco and funded by grants from the James Irvine and Ford foundations. The CBP currently includes participation by low income, public employee, education, religious, housing, children, and health advocacy groups. 

The stated goal of the CBP is to "promote an understanding of state fiscal issues in order to ensure a healthy public sector based on a fair and equitable tax system." They seek to focus on "establishing the link between investment in California's people and institutions and a healthy economy." They are also attempting to establish a "budget network" of organizations around the state that would make use of the analytical work CBP produces and receives strategic assistance from CBP in dealing with fiscal issues. 

Although the CBP has not produced specific proposals, their direction can be implied from a report they commissioned from the Washington D.C. think tank, Center on Budget and Policy Priorities. This report, "A Tale of Two Futures", focused on the state budget crisis as a set of structural flaws in the state’s tax structure that are forcing disinvestment in public services and infrastructure. 

The report goes into considerable detail in documenting this decline, pointing out that total infrastructure investment fell from 40 percent above the average of other states in 1960 to 11 percent below the average in 1988, making California 36th in the nation for infrastructure investment. It also argues that the average spent on K-12 public school students declined from 21 percent above the average of other states in 1960 to 14 percent below the average in 1993, giving California the second most crowded classrooms in the country and the ninth lowest graduation rate. 

"A Tale of Two Cities" proposes to rectify this situation by raising an additional $9 billion annually for the state budget. This would be accomplished by broadening the sales tax to cover services and by amending Proposition 13 to more frequently reassess both residential and business property. In addition, the report proposes to take a knife to tax expenditures, tax code provisions which encourage specific policy objectives (e.g. the mortgage interest deduction). 

The report argues that the cost of tax expenditures rose an average of 7 .8 percent annually since 1986, compared to an average annual increase of only 4.1 percent for general fund spending. Had tax expenditures been held steady, the state budget would have had an additional $4.2 billion in revenues for allocation in fiscal year 1994. 

The California Budget Project is only just now coming together, so it is too early to predict their activities in 1995. CBP is expected to enjoy foundation funding again next year and has been participating in discussions with other reform minded groups. CBP may also seek to expand its Board of Directors to include some business leadership. 

What Does 1995 Hold In Store for Fiscal Reform?

The fiscal reform debate promises to heat up considerably next year, with the critical path moving toward the 1996 general election. There are a number of key arenas to watch for insights on how it will tum out. 

The Constitution Revision Commission: As noted, the Commission will be proposing reform options for public discussion in early 1995. These will go to the Legislature in August. In a development related to the Commission, a number of fiscal stakeholder interests in Sacramento are discussing creation of a collaborative effort to try to develop a political consensus around specific reform proposals. There also are likely to be other reform proposals offered to the Commission early in 1995. For example, the California Citizens Budget Commission (CCBC), a group affiliated with the Center for Governmental Studies, is expected to release a report soon, as is the Los Angeles 2000 Partnership. And look for on-going cooperation between CCEEB, CBHEF, CBP, CBC, and other groups.

The State Budget: California avoided the potential for automatic across the board cuts in the state budget this year, even though $720 million in federal immigration funds included in state budget revenue projections were not forthcoming. The state dodged this bullet because corporate tax revenues exceeded projections, more was available to borrow from special funds, and case load growth in health, education, and welfare programs was below the budget projection. But the 1995-96 budget may be more problematic. It anticipates some $2.7 billion in federal immigration funds. 

Also, the election left the Legislature more divided than ever with a bare Republican majority in the Assembly and bare Democratic majority in the Senate. This is likely to make the task of finding a budget acceptable to two-thirds of both houses very challenging. Much will also depend on the strength and durability of the fledgling California economic recovery. 

Fiscal Voter Initiatives: As noted above, there are already two draconian fiscal initiatives in the works for the 1996 ballot. More are likely to emerge in 1995 as the state heads for a March 1996 primary ballot. The CCRC is targeting the November 1996 ballot for its proposals. 

State General Obligation Bonds: The Department of Finance anticipates the need for an average of over $6 billion per election cycle during the next ten years to meet minimal state infrastructure needs. Yet the voters rejected all general obligation bond proposals this year. Since the 1996 primary election has been moved up to March, the Legislature will be under pressure to begin negotiating a plan for general obligation bond proposals before they recess next year. And there is some concern about the fact that over 5 percent of the state's general fund already goes to bond debt service. 

Transportation Finance: There is a $5 billion deficit in the State Transportation Improvement Program (STIP), with the prospect that no new projects can be financed beginning next year. Legislative leaders have questioned the state's heavy reliance on the gasoline tax to fund the STIP. And Governor Wilson has promised to appoint a blue ribbon task force to develop proposals for transportation finance. Look for a prolonged debate about transportation finance. Again, the two-thirds vote requirement and divided Legislature will make resolution of this issue problematic. 

New Political Leadership: With the defeat of Kathleen Brown and a divided legislature, two new Democratic state officials will likely step forward on fiscal issues. Kathleen Connell is the new Controller and this gives her a great platform from which to use her financial and policy expertise. Dealine Eastin, the new Superintendent of Public Instruction, knows that revival of public education is tied to revival of a sound public finance system. She's bright, charismatic, and has fire in her belly. By the end of 1995 Republicans may be fondly recalling the days of Bill Honig.