Power Crisis Batters Budget

Stock slide, rate increases erode state's revenue Greg Lucas, Sacramento Bureau Chief Monday, April 2, 2001 ©2001 San Francisco Chronicle

URL: http://www.sfgate.com/cgi-bin/article.cgi?file=/chronicle/archive/2001/04/02/MN218239.DTL

Sacramento -- Billions of dollars in electricity purchases, rate increases that will drain money from the economy and a crumbled stock market are shriveling California's state budget.

Even the modest estimates of revenue growth on which Gov. Gray Davis' budget was based are being erased by the power crisis and the stock slide.

"The assumption we had in January is no longer a prudent assumption," said Ted Gibson, chief economist at Davis' Department of Finance.

Although the flat economy is already pinching the state's cash intake, the biggest hit will come at tax time 2002 -- 10 months into the budget Davis and lawmakers are trying to put together before the new fiscal year starts on July 1.

Next April there won't be the bonanza of capital gains and cashed-out stock options the state has reveled in over the past two years.

Hard times in the dot-com world mean hard decisions for the Democratic governor and lawmakers as they put together a spending plan.

On the Senate floor last week, President Pro Tem John Burton, D-San Francisco, warned his colleagues not to expect too much from the budget because the state was tapped out.

Everything from pork barrel projects to public schools could feel the pain.

A raft of one-time spending items are at risk: $250 million in aid to cities and counties, $100 million to clean up beaches, $100 million to replace higher-polluting diesel engines, $40 million in library improvements at state universities.

The Senate has already cut $1.9 billion from the $102 billion spending plan sent to them by Davis.

Davis' January budget expected the fiscal year to end with $5.8 billion in reserve. Some $3.7 billion in electricity purchases have cut that reserve to $2.1 billion with another $1 billion in energy buys authorized just for this month.

That has led the legislative analyst to recommend that lawmakers take no action on $2.3 billion in one-time spending proposed by the Democratic governor.

"We're being very cautious because of the number of uncertainties," said Brad Williams, chief economist at the legislative analyst's office.

There are several reasons for the worsening cash drain, which will hit hardest next year but is already taking a toll on revenue collections.

One-fifth of the state's general fund revenue comes from capital gains and stock options.

That won't be happening next April.

In January, Davis predicted state taxes paid on capital gains and stock option income would be 10 percent less next year. And projections now are that it will be even less.

As more companies use stock options as compensation for employees, the more tightly the state budget is chained to the whims of Wall Street.

Last year, the state estimated that $84 billion in stock option income was generated in California. Of that, just seven high-tech companies created half of the income. Cisco Systems alone represented nearly 10 percent of the $84 billion.

Since November, the Nasdaq has lost 45.5 percent of its value, a huge hit for California, the center of the dot-com high-tech universe.

For example, Cisco has fallen from roughly $55 a share to $16 a share, making it unlikely any holders of stock options will cash out unless they have to.

Similar drops have occurred in other big technology companies like Sun Microsystems, Intel and Oracle.

"The phase we saw the last several years will not return," said Tom Lieser senior economist at UCLA's Anderson Business Forecast. "The days of the dot- com millionaires are over."

"The technology sector will come back, but this year is going to be a tough one, and next year may be transitional," Lieser said.

Income from investors realizing capital gains was originally expected to reach nearly $94 billion this year and fall to $84.5 billion next year, but budget analysts now say that next year's projections may be too optimistic.

If the stock market soars over the next eight months, the budget picture could brighten.

Another budget plus could be the taxes collected this month. Stronger than expected revenue would stanch some of next year's losses.

The economy's fade is already being felt. A slow holiday spending season last year has led to less-than-expected sales tax collections for the state.

Sales tax revenue for February came in $165 million under estimates.

And withholding taxes, which are carved out of an employee's paycheck and sent to the state, are expected to continue to grow, but not nearly at the brisk rate as last year.

Then there's the energy crisis.

The state is tearing through $50 million a day to buy power for the cash- poor utilities, with authorization for $4.7 billion in purchases.

"Even Bill Gates would feel that after a while," said Lieser.

So far, the agencies that decide California's credit rating aren't worried because Davis and lawmakers plan to make the state whole by issuing bonds in May or June.

That was one reason for the Public Utilities Commission's average 40 percent electricity rate increase: to create a big enough revenue stream to make investors more comfortable about buying the bonds.

The rate increase is going to take $4.8 billion from businesses and consumers, money that might otherwise be spent in other parts of the economy.

Although total income in California last year was nearly $1.2 trillion, $4. 8 billion is still a chunk of change.

"It will be a factor depressing growth somewhat over the next year," said Williams.

The economic effect of the energy mess is longer-term. How much will blackouts hurt productivity? Will businesses expand in California or somewhere else with a more reliable supply of energy?

Gibson says businesses are going to give the state 18 months to sort out its energy problems which Gibson thinks the state will do.

"The silver lining is that the 2-by-4 has been applied to the donkey's head, " Gibson said. "We've learned we have a problem with energy supply, and three or four years down the road this will settle out, and we may even have a surplus."

Grumbles Lieser: "The thing about this is it should have been foreseen. People were warning us."

E-mail Greg Lucas at glucas@sfchronicle.com.

-- Martin Thompson (mthom1927@aol.com), April 02, 2001