The California Budget Mess Backstory

oil addictionCalifornia’s inflation-adjusted per-capita spending has been nearly flat for more than 30 years. The state’s deficits come not from a spending binge, but from tax reductions adopted without cutting spending. Neocons promoted this “Starve the Beast” strategy as a way to cut otherwise too-popular programs (eventually), and sometimes even scared Democrats into going along (Jerry Brown reacting to Proposition 13).

Tax reductions began in 1978 when Proposition 13 reduced local governments’ revenues by 57% and further limited property tax increases. The State back-filled this shortfall, and its budgets have been in trouble ever since.

But why were property taxes such a focus of voter dissatisfaction?

  • Revenue distribution changed: In 1976 the California Supreme Court mandated sharing local school revenues with poorer districts. Property owners in affluent districts no longer had the exclusive benefit of taxes they paid for their local schools.
  • Budget surpluses: California government maintained surpluses resented by fixed-income voters who suffered during the housing bubble described below. Oddly, Republicans still say they want to collect a surplus even as the electorate suffers from the “Great Recession.”
  • Inflation/housing bubble: The inflation of the 1970’s was the principal reason for Prop 13’s passage. Fixed-income homeowners received shockingly large (and growing) property tax bills because inflation increased their homes’ taxable values dramatically. “Save Grandma’s home” was an important part of the campaign for Prop 13.

Proposition 13 also limited real estate taxes on commercial property, like homes, raising tax rates only when they changed hands. But since businesses often own property through subsidiaries, no reassessment, and no tax increase, occurs if they sell not the property but the subsidiary, in pieces, over several years. Property transfers could take longer, but no change in the tax bill would occur even if the property value doubled.

The impact is not trivial. The California Tax Reform Association reports: “in virtually every county in the state, the share of the property tax borne by [residences] has increased since the passage of Proposition 13 in 1978, while the share of the property tax borne by non-residential property has decreased. Some examples: in Contra Costa County, the residential share of the property tax went from 48% to 73%. In Santa Clara, the residential share went from 50% to 64%, despite massive industrial/commercial growth. In Los Angeles, it went from 53% to 69%. In Orange, it went from 59% to 72%.”

The 1970s inflation that led to higher real estate prices and taxes came from energy price inflation that began in 1973, just two years after a peak in domestic oil production insured we would not be able to produce our way out of even a small shortfall in worldwide petroleum supply. Unhappy with U.S. support for Israel during the Yom Kippur War, Arabs decreased oil production and prices went up fivefold almost overnight, peaking in 1982 at $42/bbl (roughly double that price in current dollars). In 1971, oil cost less than $2/bbl.

Home prices in the 1970s increased along with gas prices because, besides of petroleum’s importance in producing other goods, people bought homes as an inflation hedge. Because mortgages magnify the effect of inflation (and as we’ve recently discovered, deflation), homes were a smart investment, until they became unsalable because of high mortgage rates (16 – 18% in 1982).

So the origin of California’s tax reductions, and even its current budget deficit, is arguably oil price inflation. If we want a stable economy, and government without deficits, we need to stop kidding ourselves that spending is at the root of our budget problems, and attend to our energy addiction.

Adam Eran

Comments

  1. ChuckR says

    We should reduce our national oil consumption, but we should especially reduce our consumption of domestic oil. The greater the percentage of oil coming from foreign sources, the better for us in the long run.

    Why?
    1. The cost of oil over time will not go down, only up, due to inflation and devaluation of the US dollar. Thus oil in 2020 will cost much more than oil in 2010.

    2. As world oil supplies dwindle, scarcity will force price rises additional to those in #1 above.

    3. It’s better to be the last country standing with a domestic oil supply. The faster we use up domestic oil, the sooner we become completely dependent on foreign oil.

    Therefore:
    Anyone who says “End dependence on foreign oil” is foolish and short-sighted, or is parroting propaganda.

    USE FOREIGN OIL FIRST!

  2. Adam Eran says

    To answer hwood007: Not even the American Petroleum Institute (the oil lobby) claims U.S. domestic petroleum reserves are adequate for current demand (never mind climate change effects), so drilling more domestically is *pointless* if you are expecting to eliminate foreign oil dependency. Only the delusional would claim this is possible.

    Given the API’s position, it’s uncontroversial that U.S. domestic production peaked in 1971. Even if we got all the oil in Alaska, or offshore, we would not return to that peak. See the whole story in my previous essay here and here. The first of these links displays a graph of oil production with projected Alaska National Wildlife Reserve production shown as a bump on the right part of the graph, just to show you how insignificant such environmentally damaging drilling would be even if it was successful.

    Even during that 1971 peak of domestic production, 30% of U.S. oil was imports. Currently 70% is imports, and the price is literally 40 times more than in 1971. Notice a trend?

    To Mad Jayhawk and Bob: I first wrote about the way tax *cuts* not spending is at the root of the budget problem more than a year ago. (here). See that article for a) how consistently the political right lies about virtually everything, and for b) links to the actual primary documents that demonstrate spending has been flat.

    If you remove prisons from per-capita, inflation-adjusted state spending, spending has been in decline. So there is *no* spending binge. It doesn’t exist.

    This demonstrates once again how disingenuous is the right for touting (politically popular) tax cuts without also taking on the (politically unpopular) job of coming up with specific cuts.

    Neither MJ or Bob suggests specific cuts either. Well, y’all are at least consistent.

  3. Bob says

    Spending is not at the root of the problem? Of course it is. You mention it several times in this column — the “State back-filling”… etc. If money out is greater than money in, then there will be no money in the state coffers… Mad Jayhawk makes a good point, and a recent WSJ article pointed to how many folks now receive entitlements from the government. Destabilizing. Not good. What happened to people working for a living?

  4. Mad Jayhawk says

    Personal or government insolvency is caused by spending more than is being received as income. Only the federal government can print money so individuals who pay taxes or governments eventually have to pay the freight. The government in California keeps digging a deeper hole for itself. They keep raising taxes and not seriously cutting spending. Higher taxes drive companies and people who pay taxes out. More and more entitlements bring in more and more people who do not pay taxes.

    Problems like this will never be solved because 50% of the people in this country now do not pay taxes. They do not have a stake in our system. They will vote higher and higher taxes and no cuts in spending because those thing will not hurt them financially.

  5. hwood007 says

    I suggest using google to look for oil in America. I have and found a lot of it on land that is not being used. We need to use OUR oil, which stops us from sending money overseas, pays more tax into our government, and creates more jobs here, not overseas.

    Stop using food to mix into gas, use algae instead, the food costs too much.

    Then we need to setup the windmills in middle America and off the coasts and solve how to store the energy for latter use. Our next project is to solve dirty coal, we have the world’s record of that resource and need to use it, but to make it clean first.

    Deploy solar energy in the south ans west coast, the sun shines there a lot, but the cost needs to come down for wide spread use.

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