Budget debt cuts into money for programs

May 11, 2011

By Michael Gardner of the San Diego Union Tribune
For HealthyCal.org

SACRAMENTO – Just like many California families making critical checkbook decisions, the state must always balance immediate needs against planning for the future.
But when times turn more turbulent, governors and lawmakers whip out the charge card with growing frequency as a way to avoid making even deeper cuts in current spending.

Voters are just as free-spending when it comes to bond measures that can ring up big interest bills. For example, they approved a $43 billion public works package in June 2006, just before the housing market collapse. Two years ago, in a deep recession, they signed off on a nearly $10 billion bond to build a high-speed rail network and make other improvements.

Borrowing for capital projects such as school buildings, roads, transit and flood control has grown to a point where erasing all of the state’s outstanding liabilities would nearly consume the entire general fund.

As a result, California taxpayers this coming fiscal year will pay nearly $5 billion in interest to big investors — from hedge funds to insurers — attracted by secure returns of as much as 5.5 percent for those willing to carry the state’s debt with bonds that mature after 30 years.

That $5 billion combined with another $2.5 billion in annual payments on the debt’s principle exceeds the rule-of-thumb guide that debt service should not be more than 6 percent of the state’s general fund, now $86.5 billion.

The need to service the debt also makes it all that much more difficult for the governor and lawmakers as they struggle to close a $15.4 billion budget gap over the next 14 months.

The $5 billion in interest nearly equals the combined amount allocated out of the general fund to run the California State University and University of California systems next fiscal year. The state could pay more than half of its $9 billion prison bill with that money. The amount represents one third of the existing $15 billion budget gap.

Taken another way, the interest eats about 10 percent of all personal income taxes collected by the state.

Every Californian would have to contribute about $133 to make the interest payment for just one year.

While the dollar amounts owed may be staggering, many officials believe that most debt is justified.

“As long as you’re borrowing for capital projects and it’s a good capital project it makes sense – the same way borrowing to buy a house makes sense,” said Dean Misczynski, an analyst with the nonpartisan Public Policy Institute.

Misczynski said that, when evaluating debt, the state should ponder “how much debt is too much, what are they spending it on and is it important to California’s future?’
State Treasurer Bill Lockyer, a Democrat, has been on both sides. He is the state’s banker, but at one point was leader of the state Senate charged with writing budget agreements and negotiating bond deals.

Lockyer acknowledges the conundrum. “If you’re spending for debt service, you’re not putting that money into schools, health care or something else,” he said.
On the other hand, the state cannot ignore capital projects for future generations, he added.

At the same time, voters have approved bonds to pay for things like housing, hospitals, high-speed rail and stem cell research, adding to the debt load.
Some $71.7 billion in general obligation bonds for capital projects have been sold over the years. Another $37 billion have been authorized by voters but have not been put on the market.

Those costs could very well rise. Voters next year will be asked to approve an $11 billion bond measure for water projects. The measure was yanked off the 2010 ballot by lawmakers fearing voter rejection given the economic slump. The repayment obligation is estimated at $725 million per year at 5 percent interest when the bonds sell.
Granted, a large chunk of the state’s debt is for important big-ticket projects, from schools to highways, financed through general obligation bonds. But debt takes on many forms in the Capitol.

For example, the state in November borrowed $10 billion using bonds known as “revenue anticipation notes” due June 30. That money is used to even out the flow of incoming revenues and spending. Most of the state’s bills come early in the fiscal year while the taxes are collected in the spring. But the $10 billion in these special notes was unprecedented.
Brown proposes to delay paying schools $2.1 billion they would be in line to receive under the Proposition 98 minimum funding guarantee. Another $2.6 billion is shifted from “special funds” for designated purposes mostly financed by separate user fees or taxes. Both of these debts incur little interest charges because it is internal borrowing at a token 0.5 percent rate.

The state is slowly paying down a lawsuit settlement arising out of a 1986 levee failure near Marysville that flooded hundreds of homes and a shopping center. The 10-year debt costs taxpayers $3.3 million in interest on a $226.2 million principal payment annually.

On a grander scale, in 2004 voters approved a plan developed by former Gov. Arnold Schwarzenegger and lawmakers to sell what was dubbed “economic recovery bonds” to close a monstrous budget gap without carving even deeper into programs. Of the $15 billion sold, $7.1 billion is still outstanding. Californians are paying a quarter-cent of their sales tax to erase that debt.

“We’re still paying that off and that money was spent seven years ago,” said Lockyer, the treasurer.

Separate lease revenue bonds run up the bills, too: $9.6 billion have been sold, diverting nearly $500 million a year for interest payments. Another $12 billion remains authorized, but unsold. That includes most of the $7.7 billion lawmakers approved to pay for the construction of new prison space.

Voters can also sometimes pull the plug on some borrowing. Most recently, last year they barred the state from shifting transportation dollars to other uses. That will force the state to find another $800 million over the next 14 months instead of dipping into local roads money.

There appears to be no end in sight, either. The state is sitting on $37 billion worth of various bonds that have been approved, but unsold. Brown made some headway this year, directing that no new bonds be sold this spring to save $250 million in interest.

Lockyer, the treasurer, urges restraint in future years.

“You might need to prioritize, not continue to do the flavor of the month bond,” he said.

Lockyer suggests that lawmakers consider alternatives when taking up future bonds, such as pay-as-you go projects, imposing user fees to cover the costs or forming public-
private partnerships.

There are also bills and at least one initiative circulating to cap how much the state borrows.

Gabriel Petek, an analyst for Standard & Poor’s, said the size of California’s debt burden is not the real albatross for the state’s dismal credit worthiness ratings.
“It’s more the fiscal management issues,” he said.

Those, Petek said, are legal and political constraints that cause much turmoil. At the same time, voters continue to demand more services while imposing barriers to raising taxes and fees. Also, of the $104 billion in cumulative budget shortfalls over the last three years, 75 percent of the solutions were “one-shot actions that have no structural benefit to the state. They only patch things up in the year in which they are enacted.”

Taken in context of the state’s $1.9 trillion economy, the bills are manageable, Petek said.

Still, major credit rating agencies do use debt service in part when grading states on ability to repay. California’s rating is at the bottom of all states, forcing the state to pay even higher interest rates.

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