Analysis of the 2004-05 Budget Bill Legislative Analyst's Office February 2004

An Overview of State Expenditures

Proposed Total Spending in 2002-03 and 2003-04

The Governor's budget proposes total spending in 2004-05 of $97.2 billion, including $76.1 billion from the state's General Fund and $21.1 billion from its special funds (see Figure 1). This total budget-year spending is slightly less than current-year spending—by $229 million (0.2 percent). Of total budget-year spending, General Fund spending accounts for about 78 percent. Proposed spending translates into $2,645 for every man, woman, and child in California, or $266 million per calendar day.

General Fund Spending

Background. The General Fund is the main source of support for state programs, funding a wide variety of activities. For example, it is the major funding source for K-12 and higher education programs, health and social services programs, youth and adult correctional programs, and tax relief.

Proposed Spending. As shown in Figure 2, the Governor proposes General Fund spending of $76.1 billion for 2004-05. General Fund spending would fall by $2 billion from 2003-04, or 2.5 percent, reflecting decreases in some areas and increases in others. One of the major factors responsible for the overall decline is the 2003-04 transfer of $3 billion from the General Fund in proceeds from the economic recovery bond to the Deficit Recovery Fund (which adds $3 billion to the 2003-04 General Fund spending total) and the support of General Fund programs from this fund in 2004-05 (which reduces General Fund spending by $3 billion in that year). In addition, there are numerous other one-time factors affecting almost every major program area in the budget. For example:

• The substantial increase in Medi-Cal spending in 2004-05 reflects the expiration of one-time savings from new federal funds and an accounting change.
• Similarly, the jump in "other" education spending reflects expiration of one-time savings related to debt service and retirement costs.
• The increase in vehicle license fee subventions reflects a partial one-time deferral in 2003-04.
• Finally, the drop in "all other" spending reflects the assumed use of pension obligation bond proceeds in place of state-funded retirement contributions in 2004-05.

These factors will also have an impact on the spending comparison statistics that follow.

Special Funds Spending

Background. Special funds are used to allocate specified tax revenues (such as gasoline and certain cigarette tax receipts) and various other income sources (including many licenses and fees) for specific functions or activities of government designated by law. In this way, they differ from General Fund revenues, which can be spent by the Legislature for any purpose. Historically, over one-half of the special funds revenues come from motor vehicle-related levies. Other major funding sources include the sales and use tax and tobacco-related receipts.

Proposed Spending. In 2004-05, the Governor proposes special funds spending of $21.1 billion (see Figure 3). This is a 9 percent increase from the current-year total of $19.4 billion. The increase is primarily related to additional special funds spending for debt service on the proposed economic recovery bond.

It should be noted that the budget's special funds spending total for 2004-05 excludes expenditures of roughly $2.4 billion from the Local Public Safety Fund (LPSF). Such spending is also excluded from the current-year and prior-year totals. Our view is that LPSF revenues are state tax revenues expended for public purposes. This treatment is consistent with how the budget treats other dedicated state funds, such as the Motor Vehicle License Fee Account (which, like the LPSF, is constitutionally dedicated to local governments) and the Cigarette and Tobacco Products Surtax Fund (Proposition 99), both of which the budget does include in its spending totals. However, although we believe that such spending does constitute state spending, we do not include it in our figures in order to facilitate comparisons with the budget's figures. 

Spending in Relation to the State's Economy

Figure 4 shows how state spending has varied over recent years as a percentage of total California personal income (which is a broad indicator of the size of the state's economy). From 1994-95 through 2001-02, total state spending increased steadily as a share of personal income—from 7.1 percent to 8.5 percent. Growth in General Fund spending accounted for nearly all of the increase.

Since 2001-02, however, total state spending as a percentage of personal income has reversed direction, and is projected to drop to 7.4 percent in 2004-05. The decline in the ratio results from the previously noted 2004-05 decline in combined General Fund and special funds spending, and our projection that personal income will grow moderately during the year. After adjusting for the use of the $3 billion in economic recovery bond proceeds and other special factors discussed previously, the 2004-05 ratio would be somewhat higher—about 7.6 percent. However, even with these adjustments, the ratio of proposed spending to California personal income would be well below the 2000-01 peak. 

Spending From Federal Funds and Bond Proceeds

In addition to the $97.2 billion of proposed 2004-05 spending from the General Fund and special funds, the budget also proposes $55 billion in spending from federal funds and another $1.9 billion from bond proceeds. If expenditures from bond proceeds and federal funds are included in total state spending, proposed 2004-05 spending exceeds $154 billion.

Federal Funds

As noted above, about $55 billion in federal funds are proposed to be spent through the state budget in 2004-05. (This is about one-fourth of the roughly $200 billion in total federal funds allocated to California. The remaining three-fourths are allocated directly to local governments, businesses, or individuals within the state.) About $27 billion (roughly 50 percent) of the total federal funds in the budget are for various health and social services programs, such as Medi-Cal, California Work Opportunity and Responsibility to Kids, and In-Home Supportive Services. Education receives another $14 billion, or 26 percent, of the total (split fairly evenly between K-12 and higher education), and transportation is expected to receive $2.6 billion, or 5 percent. In addition, the Governor's budget assumes that $350 million in new federal funding will be received in the budget year to offset General Fund costs.

Spending of Bond Proceeds

Budgetary Treatment. Debt service on general obligation and lease-revenue bonds is included in spending for the appropriate programmatic areas the bond funds are used in, as are direct expenditures on capital outlay projects from the General Fund or special funds. This gives a more complete picture of the current allocation of spending among different program areas. Spending from bond proceeds has not been included in the General Fund and special funds budget totals, however, because the spending of bond proceeds does not represent a current state cost. Instead, the cost of bond programs is reflected when the actual debt-service payments (comprised of bond-related principle and interest payments) are made. For 2004-05, the budget proposes General Fund debt-service expenditures of $3.6 billion, of which $3.1 billion is for general obligation bonds and $520 million is for lease-revenue bonds.

Although this way of treating bonds makes sense from a budgetary standpoint, tracking bond fund expenditures themselves still is useful as an indication of the actual volume of "brick and mortar" activities going on in a given year with respect to capital projects.

Spending of General Obligation Bond Proceeds. The January budget proposal estimates that the state will spend $1.9 billion in general obligation bond proceeds for capital projects in 2004-05. This compares to $10.4 billion in the current year and $11 billion in the prior year. Almost all of the decline is related to resources-related spending from bond proceeds. The administration has indicated that the January budget proposal for resources is incomplete and that it will submit the balance of the spending proposal in the spring.

Spending of Lease-Revenue Bond Proceeds. In addition to general obligation bonds, the state also uses lease-revenue bonds to finance the construction and renovation of capital facilities. Lease-revenue bonds do not require voter approval, and their debt service is paid from annual lease payments made by state agencies using the facilities financed by the bonds (funded primarily through General Fund appropriations). For 2004-05, the budget authorizes $143 million in spending from lease-revenue bond proceeds for such purposes as construction of state buildings and resources projects.

State Appropriations Limit

Background. In 1979, California's voters established a state appropriations limit (SAL) when they approved Proposition 4. The SAL places an "upper bound" on the amount of tax proceeds that the state can spend in any given year and grows annually by a population and cost-of-living factor. Most state appropriations are subject to the SAL; however, certain appropriations are exempt—including those for subventions to schools and local governments, capital outlay, and tax relief. If actual tax proceeds exceed the SAL over a two-year period, the excess must be divided among taxpayer rebates and Proposition 98 education funding.

Expenditures Projected to Be Below Limit. Due to the recent downturn in the state's economy and its adverse effects on the state's revenues, the budget's proposed expenditures are well below the SAL in both the current and budget years. This is in contrast to the late 1990s when rapid spending growth eroded the "room" under the limit until the SAL was finally exceeded by $702 million in 1999-00.

In 2003-04, appropriations subject to the limit are $13.4 billion below the limit. In 2004-05, the administration's estimate of this gap shrinks to just under $12.8 billion. The amount of room under the limit shrinks next year because tax proceeds are expected to grow by nearly 6 percent, while the limit itself is only expected to grow by 3.7 percent.

State Spending—A Historical Overview

Prior to looking at the programmatic details of the Governor's spending plan for 2004-05, it is first helpful to provide some perspective on state spending by looking at how the new plan's spending amounts compare to historical trends.

Figure 5 shows that total state spending increased moderately between 1994-95 and 1998-99, then jumped by nearly 33 percent between 1998-99 and 2001-02. In contrast, spending has been relatively flat since 2001-02. Over the full ten-year period, total spending is up $43 billion (80 percent), for an average annual rate of growth of 6.1 percent.

Figure 6 shows total state spending adjusted for inflation and population. It indicates that:

• After adjusting for inflation, spending has grown 42 percent over the entire ten-year period. This indicates that about one-half of the $43 billion increase was due to inflation.
• Real per-capita spending—which adjusts for both inflation and population growth—has increased by about 22 percent over the period. This reflects projected spending of $2,645 per capita in 2004-05, up from $2,173 per capita in 1994-95. Despite a projected decline in per-capita expenditures in the budget year of 3.9 percent (the third consecutive year of decline), real per-capita spending has grown an average of 2 percent over the entire period. 

Spending by Program Area

Total State Spending

Figure 7 shows the allocation of the proposed $97.2 billion of total state spending in 2004-05 among the state's major program areas. Both General Fund and special funds expenditures are included in order to provide a meaningful comparison of state support among broad program categories, since special funds provide the bulk of support in some areas (such as transportation).

The figure shows that K-12 education receives the largest share of total spending—about 31 percent of the total. (It also should be noted that K-12 education spending receives additional funding from local sources.) When higher education is included, education's share rises to somewhat over 41 percent. Health and social services programs account for about 30 percent of proposed total spending, while transportation and corrections together account for roughly 13 percent. The "other" category (16 percent) includes general-purpose fiscal assistance provided to local governments in the form of shared revenues. 

Relative Program Growth in the Budget Year

In order to gain perspective on how state spending has changed for each broad programmatic area, Figure 8 shows their proposed growth in the budget year compared to the average annual growth in these program areas over the past ten years. As the figure shows, most program areas would under the Governor's proposal either grow by less than their historical average or actually decline during the year. These slowdowns reflect real program reductions from current-law spending levels in a variety of program areas. The year-to-year changes in several categories are also affected, however, by the numerous one-time actions and other anomalies described earlier. For example, the above-average increases in corrections and health are related to the expiration of one-time savings in 2003-04 associated with one-time federal funds and a Medi-Cal accounting change.