California lawmakers take a second stab at reducing the deficit

California lawmakers fine-tuned their March budget proposal, cutting spending by $17.3 billion ahead of formal discussions to get a head start on difficult decisions amid a record deficit.

Gov. Gavin Newsom, Senate President Pro Tempore Mike McGuire and Assembly Speaker Robert Rivas announced they reached an agreement Thursday, providing specifics about how they plan to reduce the existing shortfall.

“I thank our legislative leaders for their partnership in taking this major step to address the shortfall with a balanced approach that meets the needs of Californians and maintains a strong fiscal foundation for the state’s future,” Newsom said.

Newsom estimated the state’s budget shortfall at $38 billion when he released his budget in January, but the Legislative Analyst’s Office raised its deficit estimate by $15 billion to $73 billion on Feb. 20. The Senate estimates split the difference — adding $15 billion to what it called the governor’s “point in time” estimate to $53 billion.

The proposal includes some cuts, but relies heavily on $5.2 billion in new revenue, $5.2 billion in internal borrowing and funding delays and $3.4 billion in shifts of costs from the general fund to other state funds.

The proposal includes eliminating vacant positions, for $762.5 million in savings, and cutting $500 million from the school facilities aid program. It would also delay $1 billion in funding for transit and inner-city rail and $100 million for last-mile broadband spending.

It would shift $1.8 billion from the greenhouse gas-reduction fund and cut $1.3 billion in pre-funding for pensions established when voters approved Proposition 2 in 2014. It also would freeze one-time funding that was included in the 2021, 2022 and 2023 budgets.

“We are all committed to delivering an on-time balanced budget and this early action agreement is a critical first step to shrink the state’s shortfall,” said McGuire.

The package will be included in a budget bill that will go into print in the coming days and will be vetted by the legislative budget committees early next week. A budget bill could reach the Assembly and Senate floors for a vote as soon as Thursday, April 11.

Moody’s Ratings revised the state’s outlook to negative from stable in May and affirmed that outlook on April 2, saying the negative outlook “reflects a weakened and uncertain revenue environment that raises the possibility of extended pressure on the state’s budget.”

It assigned an Aa2 rating to $885 million in taxable and $600 million in tax-exempt various purpose general obligation bonds the state plans to sell competitively on April 11, and affirmed the same rating on the state’s outstanding debt.

Fitch Ratings and S&P Global Ratings also affirmed existing ratings ahead of the deal.

Fitch Ratings assigned a AA rating, and stable outlook, saying, “the magnitude and timing of California’s current revenue shortfall… is leading the state to consider budgetary responses in its fiscal 2025 budget that could reduce its resilience to future downturns.” Fitch added, however, it “anticipates that the governor’s budget proposal, if adopted, would allow the state to retain very strong gap closing capacity.”

S&P Global Ratings assigned an AA-minus rating, and stable outlook, saying, tailwinds, which helped the state strengthen its credit profile and outlook in 2020 and 2021 appear to have faded much sooner than realized. It noted the Department of Finance has revised its revenue forecast for fiscal 2023 down by $25.5 billion or 12.2% short of forecast.

S&P added, “the about-face from surplus to deficit” is a common thread for the state due to its dependence on general fund revenue from personal income taxes from the state’s wealthiest taxpayers. These challenges are somewhat offset by the state having $23.1 billion, or 10% of general fund revenues in the budget stabilization account. The budget proposal plans to use $12 billion of that to close the deficit.”

“While the revenue picture has shifted significantly, California’s currently very strong liquidity position — approximately $94.7 billion of unused, internally borrowable resources at the end of February — and ability to issue external cash-flow notes provide the state with ample flexibility to maneuver through the remainder of the fiscal year, in our view,” S&P analysts wrote. “Together with strong reserves, these factors help offset, to some degree, the risk we see from the state’s historically volatile revenue, which can persist beyond the current fiscal year.”