California state government bank accounts have shrunk from a nearly $100 billion surplus 18 months ago to a projected deficit of $68 billion.

How could that happen?

Three reasons:

Sacramento politicians haven’t had the guts to create a deeply flawed roller coaster tax system that generates tons of revenue in good times but goes bankrupt when the economy sours. They spend too much money. That is obvious. In any case, they spend more than the state takes in. Much more. Apart from that, rising interest rates cooled the economy by increasing borrowing costs. That hampered home purchases and business expansions, according to independent legislative analyst Gabriel Petek, who forecast the $68 billion deficit last week.

The analyst says the state has stumbled into the red ink hole in part because the federal government extended the normal tax filing deadline this year from April to November. It aimed to ease the lives of Californians affected by last winter’s severe storms. California followed the FBI’s lead and did the same.

So? It meant Gov. Gavin Newsom and lawmakers didn’t know how much revenue to spend before the deadline for approving a budget. They had to adopt a spending plan by the beginning of the budget year

on

July 1st. But not the turnover data

was not

available until tax returns in the case are filed.

Their solution was to blindly overestimate the taxes the state would collect.

If they had known that the revenue flow was slowing, palliative measures could have been taken: budget cuts, tapping reserves, internal borrowing.

The [tax filing] The delay has really confused us, said HD Palmer, Newsom’s budget spokesman. If we had had that cash data available in the spring as normal, solutions would have been needed to close the gap, and today we had a much smaller problem.

Okay, but they could have had the foresight to act long before spring. According to Newsom, annual state spending increased 53% as of 2019, more than $100 billion, compared to the $203 billion budget he inherited from the administration. Jerry Brown up to $311 billion currently.

But overspending is only part of the problem. There’s another component that neither Republicans nor most Democrats want to talk about: a volatile tax system that overreacts to economic changes.

Less money came in than expected because of California’s warped tax system, which relies primarily on high-income taxpayers regardless of whether they have a good or bad year. The system functions like a yo-yo, performing erratically depending on whether the economy is booming or busting.

Specifically, the state feeds on taxes on rich people’s capital gains, especially on their stock income. Sometimes stocks plummet. And capital gains become investment losses.

The top 1% of earners pay almost 50% of state income taxes, and the top tenth of the 1% pay 28%.

These lucky people get much of their income from capital gains and stock options, Palmer says. It turns out that 2022 was not a great year for the financial market. The Nasdaq fell 33%, the biggest drop since the Great Recession in 2008. The Nasdaq is relevant because of California’s high-tech economy.

The top 10% of earners with taxable income above $200,000 contribute roughly 80% of the tax. California has a very progressive tax system, with the bottom 60% of earners paying only about 2%.

The legislative analyst says the state collected $26 billion less than expected last fiscal year, a serious revenue decline. And he predicts a serious deficit of $68 billion in the coming budget year.

Personal tax revenues were 22%, $19 billion less than forecast

ed

only from April to November, Palmer says.

If we put this into perspective: personal income tax provides two-thirds of the general government treasury. In 1950, when our tax system was stable, the income tax was only 10%. At that time, sales tax was the main source of revenue, financing 60% of the general fund. Today it is only 16%.

A major reason the sales tax has declined in importance is that we have become less of a retail economy and more of a service economy. But we are one of the few states that don’t

not

tax services. Our tax system is stuck in the mid-20th century and needs to be modernized.

What is needed is to reduce income tax rates at all levels and extend sales tax to services.

That doesn’t mean haircuts, lawn mowing and babysitting should be taxed. But we could tax labor on car repairs, like parts already do. Tax Lakers tickets and concerts. More important

lie

tax lawyers, accountants and interior designer fees

largely

mainly used by large corporations and the wealthy.

But that thought scares politicians. Most would happily vote for an income tax cut. And that would only require a simple majority of the legislature. But expanding the sales tax to services would require a two-thirds majority. That would require strong governmental and legislative leadership. And it never came true. Politically too risky.

Former state Comptroller Betty Yee, a Democrat running for governor, advocated such tax reform for years but backed away.

People focus on one aspect without looking at the whole system and then beat me up for wanting to tax services, Yee told me. It is very difficult for people to embrace the whole system.

So Newsom and the Legislature will likely cut school funding, curtail some other spending, tap savings, borrow internally and shamefully employ fiscal tricks to balance the next budget.

And our tax system will continue to perform erratically.