California Shows Voters Tiring of Proposition 13 Legacy

Bloomberg, 11/7/12.

With the passage of the first voter- backed statewide tax increase in eight years, Californians sent a clear signal they are tired of failing schools, gridlocked roads and the deterioration over the past decade of the state’s reputation as a standard bearer.

They approved Proposition 30, 54 percent to 46 percent, taking a step away from the legacy of Proposition 13, the 1978 initiative that launched a national anti-tax revolt by capping property levies. That measure prompted cuts that reduced per- pupil school spending in California to 35th nationally from seventh and saddled the world’s ninth-largest economy with the country’s highest debt and lowest credit rating.

“This is an historic moment,” said Mark Baldassare, president of the nonpartisan Public Policy Institute of California. “California is the place where tax revolt began with Prop 13. Since then, it’s been very difficult to pass a state tax increase.”

The success of Democratic Governor Jerry Brown’s Proposition 30, averting $5.5 billion in cuts to public schools, underscored the growing importance of Latinos, Democrats and younger voters in California’s policy making and highlighted the efforts of an unlikely coalition of backers, including the state’s higher education institutions and businesses.

It also showcased a realization on the part of state residents that with class sizes growing to 30 children in kindergarten and fees rising at public universities, the tax- increase proposal provided a make-or-break moment.

‘A Way Out’

“When I go to my kids’ school each day to pick them up, and look around, you can feel the threat of the budget cuts hanging over everything all the time,” said Jean Ho, 40, a public high-school teacher and mother of two elementary pupils in Davis, near Sacramento. “This was a way out. People realized that we had been screwed for a long time and we needed to stop the bleeding.”

Brown, who staked his reputation on the measure, seized on his biggest victory since he was elected two years ago. Proposition 30’s approval underscored the electorate’s confidence that elected officials will spend the money prudently, he said.

“The state has been reaching into the pockets of school districts to take money because it couldn’t pay its bills,” he said at a news briefing in Sacramento yesterday. “Those days are over. We are now living within our means because of the cuts we made and because of Proposition 30.”

Legislative Gains

California voters made more history on election day, giving Democrats what appeared to be gains in Assembly and Senate races that would provide a two-thirds majority in both chambers. That’s enough to let them pass most legislation, including tax measures, without Republican cooperation. The last time the state’s legislature was controlled with a supermajority of the same party was in 1933.

Standard & Poor’s, which rates the state’s credit A-, six levels below AAA and worse than any other U.S. state, said the increases in sales and income tax, expected to raise an estimated $6 billion annually, are a positive development for California’s credit. A cautionary note is that the levies fall heavily on high-income earners, said Gabriel Petek, an S&P analyst based in San Francisco.

‘Revenue Volatility’

“Historically, they get a lot of their income from capital gains and equity market performance is important for that,” Petek said, referring to high earners. “So one caveat to the whole thing is it could increase the revenue volatility for the state.”

Brown offered a bit of black humor as a rebuttal to that point of view.

“High-income earners have more to fear from their spouses than they do from taxes in California,” he said. “Usually it’s because they are going through a nasty divorce. So as long as they take care of their relationships, we will take care of spending their money wisely.”

The last time California voters approved a tax increase was in 2004, when they imposed an additional 1 percentage point to the rate on individuals making more than $1 million, to fund mental-health programs. Since then, the state’s electorate rejected four proposed tax increases.

The legislature, at the urging of then-Governor Arnold Schwarzenegger, a Republican, temporarily increased income and sales taxes and vehicle license fees in 2009. Brown wanted to ask voters last year to extend those measures before they expired. Republicans refused to agree.

Wages Grow

California cut spending on schools and programs for the needy in the past decade as state worker wages and benefits ballooned. State employees, for example, have collected $1.4 billion since 2005 for the value of vacation and leave they stockpiled until retirement, even though there are rules against that practice. The state’s payroll expenses include prison nurses collecting three times their wages in overtime and extra-duty pay, highway patrol officers retiring in their 50s and going on to other full-time jobs while collecting pensions that exceed $100,000 year.

Proposition 30 increases the statewide sales tax to 7.5 percent from 7.25 percent, and boosts rates on income starting at $250,000. Those making $1 million or more will pay 13.3 percent, the most of any state. The increases are to expire by 2018.

Less Risk

Investors see less risk in owning California debt with the passage of the tax increase. The extra yield over top-rated municipal bonds that investors demand on 10-year securities of California and its localities declined 0.01 percentage point yesterday to 0.78 percentage point, the lowest in a month. That spread has narrowed from a record 1.78 percentage points in July 2009, when lawmakers were locked in an impasse over how to fill what was then a $42 billion deficit, and had to issue IOU’s to pay the state’s bills.

Brown, 74, and fellow Democrats in the legislature counted on the revenue from the tax increase when they passed a budget in June that closed a $16 billion deficit. Spending cuts, equivalent to taking three weeks off the academic year, were built-in midway through fiscal 2013 to assure investors the state would have adequate cash to repay them if the tax plan lost.

Even though Proposition 30 will raise income taxes on what many consider the wealthy, the sales tax will boost costs for middle- and lower-income families, illustrating a willingness among voters to share the burden of burnishing the Golden State’s reputation.

‘Sick Man’

In an editorial earlier this year, Investor’s Business Daily dubbed California “The Sick Man of America.” The U.S. Chamber of Commerce launched a campaign to get businesses involved in fixing the state’s problems, calling it the “California Comeback.”

On the Proposition 30 website, under the headline “California in Crisis,” the chamber lays out statistic after statistic showing the state’s decline, including the fact that more than 1.5 million people left the state from 2000 to 2010, and that it ranked 50th in creating businesses in 2010, when it lost an estimated 4,600 ventures.
“There is no doubt the roads are horrible and we lag in terms of things we prided ourselves in,” said Max Neiman, a senior research fellow at the Institute of Government Studies at the University of California, Berkeley. “There is a sense of slippage and decay.”

Proposition 30’s passage doesn’t signal a change in Californians’ opposition to higher taxes, said Kris Vosburgh, executive director of the Howard Jarvis Taxpayers Association, named for the author of the state’s 1978 tax-limiting Proposition 13.

Union Spending

About $50 million in spending by public-employee unions and other supporters gave the measure an edge, along with a favorable ballot title, Vosburgh said.

“Proposition 30 was attractive because of the way it was marketed — that it was only going to be an attack on the evil rich,” he said. Vosburgh noted that a rival tax measure, Proposition 38, won only 28 percent of the vote.

That proposal, financed by Molly Munger, the daughter of Berkshire Hathaway Inc. (BRK/A)’s vice chairman, would have increased taxes for 12 years on income of more than $7,316 from 0.4 percent for the lowest earners to 2.2 percent for those making more than $2.5 million a year. The proceeds were to be earmarked for education.

Blocked Vote

Brown and unions raised more than $69 million to support the initiative, according to MapLight, a nonpartisan research organization based in Berkeley, California. Millions to oppose Brown’s plan came from Munger’s brother, Charles Munger Jr., and an Arizona non-profit that fought to keep its donors secret. Molly Munger donated $44.1 million of her personal fortune to back her proposition.

The trigger mechanism was inserted into the budget to pacify Wall Street investors who wouldn’t lend the state $10 billion of cash without assurance they would be repaid by year- end.

While approving the tax increases, California voters rejected initiatives to abolish the death penalty, to prohibit unions from spending member dues for political campaigns and to require the labeling of genetically modified food.

Voters approved a measure that strips out-of-state corporations of an option for lowering their state income taxes.

Temporary Relief

While Proposition 30 provides temporary relief from the immediate budget problems, it doesn’t sufficiently address the state’s budget deficit, said David Crane, a lecturer at Stanford University.

“I don’t think it does anything with respect to any structural problem,” Crane said. “To do that you have to address the core issues of Medicaid, pensions and retiree health care.”

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