The ongoing train wreck that is the California budget negotiations continues unabated. Legislators failed to pass a budget by the constitutional deadline of June 15, leaving the state without a budget and with no resolution in sight.  California has only managed to pass a budget by the deadline once in the past 20 years, a pitiful record indeed. 

I’m sure you’ll be pleased to learn that the lateness of the budget meant officeholders would not suffer the indignity of a pay cut this year. The head of the Commission that oversees officeholder pay shelved a proposal to cut their pay by 10% saying she couldn’t favor such an action until she knew the ramifications of the budget. No, really. She actually said that. And here I thought cutting pay would help close the budget deficit so no deep pondering of ramifications would be needed. 

To balance the budget for the coming year, the state needs to make up a $19.1 billion shortfall. That’s the problem. Worse, budget cuts of previous years have left little to cut further. It’s already down to the bone.  Massive borrowing isn’t really an option. The state is already paying billions each year in debt service and, as it is the lowest-rated state for bonds, any interest rates it pays will be higher than in other states. 

All this invariably leads to a mad scramble to beg money from the federal government. But that may not be forthcoming this year.  An unemployment bill that would have given money to states including California failed in the US Senate and a Medicaid funding bill may not pass either. 

Republican State Senator Bob Dutton has some illuminating charts questioning just how much spending has been cut, showing that the total size of the budget has increased steadily since 1998, sometimes quite dramatically. This is unquestionably correct, but a major problem is that many budget items are mandated (often by ballot propositions.) The money must be spent, even if it doesn’t exist. Therefore, budget cuts have to come from non-mandated items. 

Public pensions are a current hot-button issue. Sen. Dutton’s charts show that state employee retirement costs have risen 275% since 1998. Gov. Schwarzenegger recently got four state unions to agree to pension rollbacks. The retirement age will rise five years for new hires and workers will pay at least 10% of their salary toward their pensions. In return, the unions get an end to three unpaid furlough days per month. However, this deal still must pass the legislature and be approved by union members. Schwarzenegger hopes this will act as a model for future pension negotiations. 

Of course, the 800 lb. gorilla here is the California Public Employees' Retirement System (CalPERS.) Not only have they been losing pensioner’s money at an alarming rate these past few years, you may be astonished to learn they can tell the state to give them more money and the state must comply. So, if they lose $1 billion on an ultra-risky New York City real estate deal (as happened), no biggie, they can just demand more money from the state to make up any shortfall. 

How much money are we talking here?

For the fiscal year starting July 1, CalPERS will get $3.9 billion from the state, up $600 million from the previous year, a whopping 18% increase. You don’t have to be a conservative to realize CalPERS has little if any incentive to perform well when any losses they suffer will be made good by someone else.

To fund the pensions properly, CalPERS says they must make about 7% a year. This is unrealistic, and past losses mean they are playing catch-up, attempting to make more than 7%. This invariably means their investments must be riskier. But we’re talking retirement money here. The risk needs to be low not high.

Major reform in the California public pension system is long overdue. In fact, Gov. Schwarzenegger says he will not sign a budget that does not include such reform.