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February 25,1 983
The Morning After
30 percent above the national average. Its
residents prided themselves on having enacted progressive legislation that not only
made the Golden State the True Land of
Hope and Glory, but the hoine of the ballot
initiative and referendum as well.
In presenting his fiscal year 1984 "common
sense" budget to the State Legislature early
in January, California's new governor,
George Deukmejian, proposed a $25.2
billion level of spending. The new budget
represented about a $450 million (or 2
percent) reduction from the prospective
1983 fiscal year outlays. Noting that spending had increased about $6 billion more
than revenues since 1978, wiping out the
State's $4 billion surplus in the process and
pointing to a potential fiscal 1983 deficit of
$1.5 billion, the Governor commented that
"now we are paying the terrible price for this
overindulgence."
In response to these legislative enactments
and the dynamics of a highly diversified
growth environment, State revenues blossomed and reached a record $298 million
by 1941 , or $40 per capita. The amount
sufficed (as was the case during most years
of the Great Depression) not only to cover
expenditures, but also to provide a moderate
surplus of $23 million.
E pluribus unum?
The Golden State is not alone in its fiscal
dilemma. According to the National Governor's Association, the financial condition of
most states in the nation deteriorated sharply
overthe last year as a result of the recession.
Of course, finances at the national level
have yielded some unpleasant news too.
The present administration in 1981 forecasted a $23 billion deficit forfiscal 1983
and a balanced budget for fiscal 1984, but
these estimates have been superceded by
deficits now forecasted at $208 billion and
$1 89 billion respectively. The economic
and tax revenue growth that was expected to
result froin large tax cuts in particular,
simply did not materialize as planned.
At that time, one-third of state outlays supported education, and a quarter, the highway system; both were elements of a social
infrastructure of superior quality that induced in-migration and furthered economic
growth.
On the revenue side, 47 percent of receipts
(General and Special Fund) came from the
retail sales tax and taxes on alcoholic beverages, 30 percent from motor vehicle fuel
taxes and Iicense fees, 11 percent from
bank, corporation and insurance taxes, and
only a very modest 7 percent ($20 million,
or $3 per capita) from the personal income
tax. In addition, property taxes at the local
level generated $300 million ($40 per
capita) Statewide and supported public
schools, parks, fire, police and other local
government functions.
A similar combination of circumstances,
including tax cuts in conjunction with continued rises in spending, relatively high real
interest rates, and the impact of a protracted
recession on revenues, have made coping
with soaring deficits the name of the game at
the state and local as well as national levels.
Growth a go-go
In the first flush of rapid growth following
World War II, the State budget reached $·1
billion in 1951, while at the local government level, expenditures reached almost $2
billion. Local spending was financed in part
by property taxes aggregating $800 million.
Receipt of a $112 property tax bill in this
writer's Bay Area home in 1946 triggered a
The past was prologue
In the ninety odd years following the Gold
Rush until the advent of World War II, California's population swelled to 7 million and
the State boasted a per capita income over
1
IF1&\1ll\ li
f CC
Opinions expressed in this newsletter do not
necessarily reflect thE' views of the managemellf
of the Federal Reserve Bank of San Francisco,
or of the Board of Covernors of ther Federal
Reserve System.
year will probably fall at least $2 billion
short of earlier estimates. Still other factors
contributing to a revenue loss are the indexing of personal income tax rates to inflation
(resulting in a $9 billion cumulative loss of
revenues since 1978), and last year's voterapproved abolition of the State gift and
inheritance taxes (resulting in a $SOO
million
revenue loss during the current fiscal year).
typical reaction: " Where will it end?" The
question was still being asked in fiscal year
1978 when the State budget reached almost
$14 billion and outlays at the local government level reached $31 billion, financed in
part by property taxes that reached a record
$10.3 billion.
The fifteen-fold increase in total State and
local government spending in the interim
since 1951 far outpaced a nine-fold increase
in aggregate personal income. As a result,
per capita State and local taxes increased
from $162 to $1,096. The increase not only
contributed to a State surplus of almost $4
billion by 1978, but also set the stage for
irate taxpayers' overwhelming approval of
Proposition 13 (which slashed property
taxes by about one-halO and action of the
Legislature (subsequently "permanentized"
by voter approval of Proposition 7 last year)
indexing income tax rates to inflation.
Meanwhile, property tax revenues, which
dropped from $10 to $5 billion following
Proposition 13, have recovered to an estimated $7.5 billion this year in response to
a 50 percent net increase (since 1978) in
assessedvaluations. Local government
spending, however, has increased from $32
billion to an estimated $40 billion or more,
financed in part by federal and state transfer
payments that included a $1.4 billion annual state property tax "bailout" (representing approximately 30 percent of the initial
$5 billion loss in property tax revenues).
Sending a message
Nevertheless, and in spite of the belief of
voters that they were "sending Sacramento
a message," spending (General Fund plus
Special Fund) has almost doubled since
1 978 to a projected level just under $26
billion for fiscal year 1983. The jump far
outpaces increases in the price level (up
50 percent), surpassesthe net increase in
spending over the previous eighteenyears,
and far exceeds a roughly $8 billion rise
in revenues. The principle elements in the
sharp rise in spending since 1978 have been
a more than doubling of outlays for education and a 67 percent net increase in outlays
for health and welfare ",hich, together, represent 70 percent of the total budget.
How to cope
As initially introduced, Governor
Deukmejian's proposed budget for fiscal
year 1984 contemplated a slight reduction
in State spending to slightly more than $25
billion. It also anticipated a $2.2 billion rise
in total revenues in spiteof an expected slow
to moderate recovery in the national and
State economies. The budget called for no
increase in tax rates or any imposition of
new taxes. The reason was that the rise in
revenues during the next fiscal year (starting
June 30), including an almost 20 percent
increase in revenues from the personal
income tax, was estimated to cover and pay
off the current fiscal year's (1983) deficit.
On the revenue side, proceeds from the
sales, bank and corporation, and personal
income taxes have increased by about 50
percent since 1978 and account for three
quarters of total revenues (the personal
income tax alone, for 31 percent). Still, as a
result of the recession and overly optimistic
forecasts of the performance of the national
and California economies, revenues this
Compromise
Applauded by Republicans, the Governor's
budget proposals were sharply criticized by
Senate Democrats in particular, who characterized as "fiscally irresponsible" and
incompatible with at least the spirit of the
State's Constitution, his proposal to carry a
large deficit over to fiscal 1 984.
2
M ON ETARY POLICY OBJECTIVES
Federal Reserve Chairman Paul Volcker presented a report to the Congress on "Monetary
Policy Objectives for 1 983" on February 16. The report includes a summary of the
Federal Reserve's monetary-policy plans for 1983, along with a review of economic and
financial developments in 1982. Single or multiple copies of the report can be obtained
upon request from the Public Information Section, Federal Reserve Bank of San Francisco, P.O. Box 7702, San Francisco, CA 94120. Phone-(415) 974-2246.
As part of the "compromise," the Governor
has agreed not to make "significant cuts"
in programs favored by the Democrats, but
barring further changes, families with dependent children will get no increase in aid,
while aid to the aged, blind and disabled
will increase by about 2 percent. Outlays for
mass transit also are earmarked for a decrease as are most of the State's regulatory
agencies. While an overall reduction of
1 ,000 in the State's 232,000 workforce is
planned, a 5-percent salary increase also
has been programmed, and increased personnel and budgets are contemplated for the
State prison and highway patrol system.
However, after much inter- and intra-party
acrimony, the Legislature on February 1 6
finally approved a compromise budget.
It calls for a combination of about $638
million in additional spending cuts, tax
speedups, hiring and purchasing freezes,
and internal borrowings from Special Funds
to help cover General Fund expenditures
by June 30. The compromise budget thus
leaves a deficit of between $900 million and
$1 billion to be "rolled over" into fiscal
year 1984.
As noted previously, the deficit is expected
to be covered by a substantial rise in
revenues generated by a recovering state
economy. However, the compromise stipulates that in the event that revenues fall more
than $150 million below their forecast level
by November 1 (the first three months of the
new fiscal year), or if remaining State
reservesfall below $1 00 million by February
1 ,1 984, a "temporary" 1 cent increase in
the State's six cent salestax will be imposed.
When the "rolled over" deficit is paid off,
the sales tax will then be reduced below its
presentevel so that over a two-year period
l
there will be no net tax increase.
It is the accuracy of the revenue forecasts,
however, which will largely determine the
final shape and dimensions of the fiscal year
1984 State budget.
Overly optimistic revenue forecasts?
wh i1esome Senate Republ icans predict that
the sales tax "trigger" -the key element in
the "compromise" -never will be pulled,
others are far from certain. The Governor
himself has urged the State's citizens to start
their Christmas spending 250 days early to
help bolster State revenues. In the meantime, the negotiation of $420 million in
short-term loans from private lenders has
forestalled a massive issuance of registered
warrants, or 1 .0. U .'s (which have not been
used since the Depression), to State contractors and taxpayers fi I ing for refunds,
although some were printed for distribution
prior to receipt of the short-term loans.
The compromise also broadens the Controller's authority to obtain loans from
private lenders to cope with the current cash
flow problem. (The Controller estimates that
$850 million in borrowings will be necessary in the remainder of the current
fiscal yeaL)
Spending increases and cuts
As the budget now stands, spending on
education next year will show a slight increase, financed in part by increased fees at
the University of California and the nine
State universities as well as the imposition of
a fee by the State's numerous community
colleges. At the same time, health and welfare payments are slated for a reduction (to
under $7 billion from a peak of $7.5 billion
in fiscal year 1982), largely in response to
the completion of a phase-out of medical
payments for the indigent.
Some observers also are convinced that
California's economy may lag the national
recovery this time due to the loss of traditional heavy industries and the factthat California has become increasingly dependent
upon "high tech" industries that primarily
are business rather than consumer oriented.
In short, some observers detect in the revenue forecasts at least a potential replay of the
overly optimistic forecasts of the last five
years. They note that Wishful thinking never
has balanced a budget.
I
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Ver e Jo nston
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BANKINGDATA-TWElFTHFEDERAL
RESERVE
DISTRICT
(Dollar amounts in millions)
Selectedssets Liabilities
A
and
large Commercial Banks
Loans(gross,adjusted)and investments*"
loans (gross,adjusted)- total#
Commercial and industrial
Realestate
Loansto individuals
SeCurities
loans
U.s. Treasurysecurities""
Other securities""
Demand deposits - total#
Demand deposits - adjusted
Savingsdeposits - total
Time deposits - total#
Individuals, part. & corp.
(Largenegotiable CO's)
WeeJdyAverages
of Daily Figures
Member Bank ReservePosition
Excess
Reserves ljDefidency (-)
(+
Borrowings
Net free reserves(+ l/Netborrowed(-)
Amount
Outstanding
2/9/83
163,047
141,843
44,981
57,247
23,689
2,555
7,540
13,664
38,145
27,652
61,288
74,083
65,424
25,189
Weekended
2/9/83
40'
o
40
Change
from
2/2/83
Changefrom
year ago
Dollar
Percent
-1,136
-1,203
- 435
32
- 126
- 276
95
162
-2,040
457
1,436
-1,364
-1,269
- 626
Weekended
2/2/83
83
7
75
5,316
5,627
2,835
708
294
562
1,287
1,598
546
120
30,697
17,143
16,609
10,562
3.4
4.1
6.7
1.3.
1.3
-
-
28.2
20.6
10.5
1.4
0.4
100.3
18.8
20.2
29.7
Comparable
period
79
30
49
'" Excludestrading account securities.
# Includes itemsnot shown separately.
Editorial comments may be addressed the editor (Gregory Tong)or to the author .... Freecopiesof this
to
and
other FederalReservepublicationscan beobtained by calling or writing the Public Information Section,
FederalReserveBank of SanFrancisco,P.O. Box 7702, SanFrancisco94120. Phone (415) 974-2246.
@FedFRASER