The 1999-00 Budget Act
and Related Legislation

On June 28, 1999, Governor Davis signed the 1999-00 Budget Act. Together with related implementing legislation (trailer bills), the budget authorizes total state spending of $79.8 billion. As indicated in Figure 1, this total includes $63.7 billion from the General Fund and $16.1 billion from special funds.

The General Fund Condition

Figure 2 (see page 2) summarizes the General Fund budget condition for 1998-99 and 1999-00. It shows that 1998-99 is estimated to have ended with a reserve of $1.9 billion. The administration forecasts that 1999-00 revenues will reach $63 billion (an 8.7 percent increase from 1998-99), while expenditures are projected to be $63.7 billion (an 8.8 percent increase from 1998-99). In addition to program expenditures, the 1999-00 budget includes a $300 million set-aside for employee compensation increases and potential litigation. After accounting for this set-aside and the cost of other obligations, the 1999-00 fiscal year is projected to close with a year-end reserve of $881 million.

Spending in the Budget Year

The new budget reflects significant spending increases in a variety of program areas, as shown in Figure 3. The largest dollar increases are in K-12 education, higher education, health, and the "all other" category.

The majority of the increase in K-12 education is for enrollments, cost-of-living adjustments, "deficit reduction," and several new initiatives. Also contributing to the increase is a reduction in contributions to the teachers retirement fund in 1998-99, which lowered expenditures on a one-time basis during the year. The growth in higher education reflects significant funding increases for all three of its segments.

The increase in health-related spending reflects a variety of changes. Among the more significant policy-driven increases were those that expanded eligibility for the Medi-Cal and Healthy Families Programs, increased funding for nursing home staffing, and increased provider rates. Growth in health spending would have been higher were it not for the assumed increases in the federal funding for Medi-Cal.

The increase in the "all other" category reflects numerous one-time appropriations for such purposes as the infrastructure bank, grants to local governments, transportation, and resources projects. This category also includes the subventions to local governments to backfill their loss of vehicle license fee (VLF) revenues, caused by the VLF reduction.

The Budget in Perspective

Spending Trends Over Past Decade. Figure 4 (see page 4) shows total General Fund expenditures from 1988-89 through 1999-00, both in current dollars and as adjusted for population and inflation (that is, in real per capita terms). The figure clearly shows the impact of the state's major recession on expenditures in the early 1990s. During this period, the Governor and Legislature adopted spending cuts, funding shifts to local governments, spending deferrals, and tax increases in order to bridge major funding shortfalls that persisted during that period. The figure also shows that spending has rebounded in line with the economic expansion in the second half of the decade. As a result of recent increases, the level of budget-year real per capita spending is roughly 14 percent above its level at the start of the decade.

In this section, we discuss the development of the 1999-00 budget, beginning with the introduction of the Governor's initial proposal in January and continuing through the budget's enactment in late June.

Governor's January Proposal

As the 1999-00 budget proposal was being prepared by the administration in late 1998, there were significant concerns over the impact of the Asian economic crisis on the U.S. and California economic outlooks. As a result, the administration's initial budget proposal was based on a conservative economic forecast, which assumed that revenue growth in the budget year would not be adequate to maintain the ongoing costs of all of the commitments made in the 1998-99 budget. As a result, the January proposal was for a tight spending plan which, while funding caseloads and inflationary adjustments in many programs, included some spending deferrals, cutbacks, and a reliance on increased federal funds to maintain budgetary balance.

Most of the policy initiatives contained in the January budget were in the area of K-12 education, where the Governor proposed that $444 millionlargely from within the Proposition 98 minimum funding guarantee--be used for initiatives aimed at improving reading skills, improving teacher quality, and increasing school accountability.

The May Revision

Major Improvement in the Fiscal Outlook. For the fourth year in a row, the budget picture improved substantially between the January budget proposal and the May Revision proposal. In the months following January, fears over the impact of Asia's economic problems subsided, and revised historical data indicated that California's economy was performing much stronger than had been previously thought. In addition, April final payments on 1998 personal income tax returns substantially exceeded the January budget estimate, indicating that the trend in personal income tax liabilities was higher than anticipated in January. In response to these factors, the administration raised its revenue forecast by $1.6 billion for 1998-99 and $2.7 billion in 1999-00, for a two-year increase of $4.3 billion.

New Proposals. The Governor proposed to allocate the new revenues in three principal areas. About $1 billion was proposed for increased K-12 education spending to cover increases in estimated average-daily-attendance, as well as various initiatives for new textbooks, school safety, teacher bonuses, and deferred maintenance of school facilities. Approximately $1 billion was proposed for one-time infrastructure expenditures, including funds for a new prison, capitalizing the State Infrastructure and Economic Development Bank, transportation, and deferred maintenance for parks. Another $1 billion was proposed for other programs to cover increased costs in Medi-Cal and corrections, and to restore or augment spending for trial courts, local flood relief, and higher education.

The remaining $1.3 billion of the added revenues were allocated to set-asides, an increase in the reserve, and targeted tax relief. With regard to the set-asides, the May Revision included: approximately $300 million for employee compensation and litigation; $110 million for the Healthy Families Program, managed care rate increases, nursing home reform, and In-Home Supportive Services (IHSS) provider rate increases. In addition, $248 million was set aside for additional VLF rate reductions that, under terms of the 1998 legislation, would be triggered if revenues exceed specified amounts in 2000-01.

With regard to the reserve, the administration raised the proposed 1999-00 year-end reserve from $415 million in the January budget to $985 million in the May Revision.

The May Revision included two tax proposals. One involved eliminating the first two minimum tax payments for newly incorporated small businesses. The other was to make permanent the 50 percent capital gains exclusion for small business stock held for more than five years. The estimated revenue effect of these proposals was a $28 million reduction in the budget year, expanding to about $60 million in 2000-01.

Legislative Versions of the Budget

The Assembly and Senate approved many of the proposals contained in the Governor's January budget and the May Revision. These included his initiatives regarding school accountability and teacher retention in K-12 education, his increases in higher education, and his proposed targeted tax reductions.

However, the legislative versions of the budget also contained a number of differences from the administration's proposaland also differed significantly from one another. For example, both houses rejected the Governor's proposed spending of $355 million for prison construction, although the Assembly included $23.5 million for the initial planning and design of a prison. The Senate version augmented the May Revision by $250 million to cover local property tax relief. The Assembly provided $310 million (or $200 million more than set-aside by the Governor) for health care reform in the Medi-Cal and Healthy Families Programs, pending future implementing legislation. In contrast, the Senate provided $60 million to expand program eligibility. Both houses augmented the May Revision for higher education and social services programs, in some cases by differing amounts. The Assembly plan included the Governor's set-aside for employee compensation and litigation, but the Senate version did not.

The Assembly and Senate versions of the budget were sent to the Legislative Budget Conference Committee for reconciliation in early June. Following two weeks of negotiations--both between the two houses, and between the Governor and Legislature--the Conference Committee passed a compromise budget which was approved by both houses and sent to the Governor on June 16.

Relative to the May Revision, the compromise plan that emerged from Conference Committee included funding for expanded health care eligibility (although substantially less than was included in the Assembly version). It also included additional funding for higher education, social services, and local government fiscal relief. The compromise plan authorized lease-payment bonds to fund construction of one prison (similar to the Assembly version). It did not include the Governor's set-aside for employee compensation and litigation. As a result, any spending for these purposes would come out of the reserve.

Governor's Vetoes

Before signing the budget, the Governor used his line-item veto authority to eliminate about $581 million in spending, including $320 million from the General Fund. About two-thirds of the General Fund reductions were in health and social services programs, where the Governor scaled back augmentations the Legislature had made to Medi-Cal and the Healthy Families Programs. He reduced state funding for IHSS provider wage and benefit increases. The Governor also deleted legislative augmentations made in a variety of other program areas, including higher education, resources, and general government.

Some of the General Fund monies vetoed from the budget were redirected by the Governor to reestablish the $300 million set-aside he had proposed in the May Revision for employee compensation and litigation.

As noted above, the 1999-00 budget contains funding for expanded commitments in a variety of programs, including education, health and social services, local government fiscal relief, infrastructure, and resources. The budget also includes a one-time 10 percent reduction in the VLF, and several other targeted tax relief provisions.

Tax Relief. The budget includes the Governor's proposals for eliminating the first two minimum tax payments for newly incorporated businesses, and the permanent extension of the 50 percent capital gains exclusion for small business stock held for more than five years. In addition, the Legislature passed a one-time 10 percent reduction in the VLF rate for calendar year 2000 and three targeted tax reduction measures. These are (1) an increase in the standard research and development tax credit from 11 percent to 12 percent, (2) an increase in the income tax deduction for health costs incurred by the self employed, and (3) a 25 percent reduction in license fees paid in 1998 by truckers doing business inside and outside of California.

Health and Social Services. The budget contains a limited expansion of eligibility among low-income families for the Medi-Cal and Healthy Families Programs. It includes funds for various provider rate increases, and it increases spending for adult protective services, foster care, and nursing home reform. In the IHSS Program, the budget provides funding for a state share of the cost of increased wages that are negotiated between public authorities and IHSS providers. Finally, the budget repeals the regional 4.9 percent reduction for the Supplemental Security Income/State Supplementary Program that would have taken effect in 2002.

Education. In K-12 education, the budget provides for significant funding increases in 1999-00. The budget includes many of the Governor's proposals in such areas as deferred maintenance, school safety, and teacher performance bonuses. However, the budget generally provides more funds subject to local spending discretion than the May Revision.

In higher education, the budget includes the Governor's proposed funding increases for new enrollments and fee reductions. It also includes additional funds for faculty salaries, deferred maintenance, and the Community College's Partnership For Excellence Program.

Local Government. The budget includes the Governor's proposal for $425 million to further capitalize the infrastructure bank. In addition, it includes: $150 million for one-time general purpose local relief, $50 million to cities to offset booking fee payments made to counties, and a $18 million augmentation for public libraries.

Youth and Adult Corrections. The May Revision had proposed $355 million for the construction of one prison and the design of another. The adopted budget instead appropriates $24 million for acquisition and planning costs, and authorizes $311.5 million in lease payment bonds, for construction of a prison in Delano. The budget also includes $30 million for one-time grants to local law enforcement agencies for equipment purchases.

Resources. The budget provides significant new funds for resources programs. Included are funds for local flood control subvention arrearages, deferred maintenance for state parks, habitat acquisition, and river parkways. It reschedules into future years $100 million in expenditures proposed in the May Revision for the purchase of Grizzley Creek and Owl Creek forest lands.

Transportation. The budget provides $37.5 million for intercity rail, the Altamont Express commuter train, and ferries. This is $38 million less than proposed in the May Revision.

Employee Compensation. The budget reflects the fiscal impact of the bargaining agreements reached in 1998-99. It also includes a set-aside of $300 million for future collective bargaining agreements as well as potential litigation. For illustration purposes, this amount is equivalent to a full-year employee compensation increase of roughly 6 percent.

In addition to the 1999-00 Budget Act, the 1999-00 budget package includes several related measures enacted to implement and carry out the budget's provisions. Figure 5 lists these budget trailer bills.