California should plan for bigger deficit and more budget cuts, new analysis says

California leaders should expect a bigger-than-anticipated budget deficit and will need to make additional cuts to prevent digging themselves into a deeper fiscal hole in the future, according to a new report.

The analysis, released by the Legislative Analyst’s Office on Friday, said there is “a good chance” that California revenues will come in lower than Gov. Gavin Newsom has projected. It also criticizes the governor for attempting to fill the state’s projected $22.5 billion budget hole, in part, by deferring $7.1 billion of funding to later years when the state will likely still be dealing with budget shortfalls.

The new report comes three days after Newsom released a $297 billion spending plan for the 2023-24 fiscal year that sought to address the state’s projected multibillion-dollar budget gap. To bridge it, Newsom called for cuts to climate and transportation programs, deferred spending on childcare offerings and a slew of “trigger reductions” that could be restored if economic conditions improve.

The governor’s blueprint forecasts ongoing deficits of $9 billion in 2024‑25, followed by another $9 billion and $4 billion in the subsequent two years. Despite the gloomy forecast, half of the governor’s spending-related solutions are not cuts but deferrals that risk increasing costs for the next two budget cycles.

Under the proposal, California’s general reserves would total $27 billion by the end of 2023‑24, with an additional $8.5 billion in school reserves. Following an earlier recommendation from the LAO, Newsomchose not to tap into the reserves in case a recession hits and the state’s fiscal position worsens.

Although the LAO commended the governor for his “prudent” approach of implementing cuts rather than tapping into the state’s reserves, the agency urged the state legislature to reduce those spending delays and instead make more outright cuts.

“Given this risk, we recommend the Legislature plan for a larger budget problem and address that larger problem by reducing more one‑time and temporary spending,” California Legislative Analyst Gabe Petek recommends in the report.

The governor’s proposal serves as a launchpad for a six-month-long process involving extensive negotiations and revisions before state lawmakers must pass a balanced budget for the next fiscal year, which begins July 1. The new analysis from the LAO, which advises the state Legislature on policy and fiscal matters, will also help guide that process.

H.D. Palmer, a spokesman for the Department of Finance, on Friday did not comment on the concerns raised by the LAO. Instead, Palmer wrote in an email, “Given the uncertainties that continue to cloud the state’s revenue outlook, we’re pleased that the Analyst has found the Governor’s proposal to be a prudent approach to address the budget shortfall.”

Gavin Newsom’s budget proposal vs. analyst’s report

There are several differences between the LAO’s budget estimates and the one developed by Newsom’s administration.

The governor projects the state will see $14 billion more in revenue during the three-year budget timeline and includes $2 billion in discretionary spending, among other discrepancies.

The LAO suggests the Legislature plan for a bigger deficit by cutting more one-time and short-term spending. The agency specifically suggests lawmakers find more than $14 billion in cuts and spending delays, as well as another $6 billion in cuts “to hedge against possible lower revenues in May.”

It also advised lawmakers “need not adopt the governor’s spending solutions” and should use its own criteria to set budget priorities.

“Identifying these solutions now gives the Legislature more time to weigh these difficult choices carefully,” the LAO report said.

The LAO report estimates that Newsom’s spending plan only addressed an $18 billion deficit, rather than the larger $22.5 billion shortfall that his administration identified.

That’s because, the LAO does not consider some of the solutions used by the governor, such as shifting costs for capital improvement projects from bonds to cash, as budget solutions.

This story was originally published January 13, 2023 at 3:47 PM with the headline "California should plan for bigger deficit and more budget cuts, new analysis says."