Gov. Gavin Newsom’s just lately proposed 2026-27 state budget included a nice shock: a deficit of about $3 billion — considerably lower than analysts had estimated. However in terms of California state budgets, excellent news not often lasts. Newsom’s personal estimates warn that the deficit might attain $22 billion within the following fiscal 12 months.
It’s all too frequent for California’s funds to careen from 12 months to 12 months. Between 2022 and 2024 the state skilled a $175-billion swing from surplus to deficit. This time the crunch got here as a result of spending fueled by the post-pandemic financial restoration was not sustainable when income plummeted only a few years later — however the state funds has lengthy gone by means of related boom-and-bust cycles.
Though California’s leaders deserve their fair proportion of the blame for placing the state on this budgetary curler coaster, there are three underlying elements that make efficient fiscal administration in California uniquely difficult: an overreliance on the state’s private revenue tax; obligatory spending commitments that restrict policymakers’ discretion to deal with challenges; and an absence of accountability for the taxpayer cash that’s spent.
First, California has an outdated tax system. Within the 2025-26 funds, for instance, the non-public revenue tax made up practically 70% of normal fund income. By comparison, private revenue taxes account for 38% of whole state tax collections nationally. The Golden State’s excessive reliance on the non-public revenue tax signifies that when incomes are excessive in California, income collections are robust, however when the economic system slows and incomes fall, state income weakens drastically too.
The outsize position that capital features — revenue from sure investments — play in income makes the volatility worse. Excessive earners are inclined to earn a bigger share of their whole revenue this manner. In truth, the unexpectedly slender deficit in Newsom’s 2026 funds was as a result of what California’s Legislative Analyst Workplace identified as a $42-billion tailwind created by a strong inventory market, which led extra Californians to earn extra capital features and pay extra taxes on these earnings. However when fairness markets aren’t performing effectively, collections take a significant hit. Contemplate this distinction: In 2021, capital features accounted for nearly 1 / 4 of the non-public revenue tax legal responsibility within the state, in contrast with simply 10% in 2023.
The reliance on private revenue taxes signifies that as the best earners depart, so does California’s income. Within the 20 years main as much as 2023, the highest 1% of revenue earners within the state had been liable for a mean of 45% of whole private revenue tax legal responsibility. That’s why insurance policies just like the just lately mentioned “billionaires tax” may result in capital flight from California, jeopardizing the state’s potential to fund primary providers.
The second complicating think about California’s funds course of is the sum of money tied up in spending commitments over which policymakers have little discretion. Many of those restrictions have been imposed by voters during the last a number of many years in poll initiatives which have handed with important margins. Collectively, these provisions — whereas well-meaning and politically in style in lots of circumstances — create limitations that make budgeting a problem in California.
For instance, funding for the state’s public colleges is basically assured by Proposition 98, a state constitutional modification authorised by voters in 1988 that establishes an annual minimal funding quantity for public Ok-12 colleges and neighborhood faculties. About 40% of the final fund funds in California, or practically $90 billion in 2026, is dedicated with out exception to Ok-14 colleges by means of Proposition 98.
California voters have additionally authorised tens of billions of {dollars} in borrowing during the last 20 years that the state’s structure requires be paid again from the final fund. These bond authorizations create obligations to repay borrowing for priorities as wide-ranging as well being amenities, water infrastructure and wildfire prevention. Repaying these “IOUs” requires policymakers to trim spending in different areas. Additionally, the state’s rainy-day fund, which is designed to insulate the funds from financial downturns, requires an annual set-aside of 1.5% of estimated normal fund income.
Lastly, California has no systematic manner of offering accountability for and assessing whether or not any of its spending is producing promised outcomes. Governments at each stage wrestle with the idea of detailing what the “return on funding” is for public spending. However the scenario in California is especially dire. Thus, taxpayers are sometimes caught financing underperforming authorities applications riddled with waste and outright fraud, as was the case within the current $30-billion scandal that the state’s unemployment insurance coverage program.
Within the mid-2000s, California commissioned a unified monetary accounting and transparency system often known as Fi$Cal that was supposed to interchange a number of outdated techniques. Over a billion {dollars} and a number of other blown deadlines later, the platform nonetheless isn’t full and received’t be absolutely operational till July 1, 2032. Whereas the state auditor, an official appointed by the governor, does a reputable job of analyzing state spending, suggestions for enhancements are sometimes not implemented. And the state controller — the elected chief fiscal officer who’s accountable to voters for monetary oversight of state spending — hasn’t produced California’s annual monetary audit on time since 2017.
It’s exhausting for a state to correctly handle its funds when there’s confusion over how a lot it’s actually spending, or whether or not that cash is reaching its supposed objective. However that’s turn out to be enterprise as common right here.
Policymakers could have a tricky time addressing California’s funds and monetary challenges except every of those three underlying elements is addressed. Our antiquated tax code must be reformed to scale back reliance on the non-public revenue tax and lift income in a extra predictable manner. Californians should perceive that there are long-term implications of borrowing to deal with challenges and warily strategy future bond measures and different initiatives that tie the fingers of policymakers right now. And voters ought to elect politicians keen to supply them with the oversight that’s wanted for the taxpayer cash that Sacramento spends.
With out these modifications, Californians are in all probability headed for extra fiscal follies within the years forward.
Lanhee J. Chen is a fellow on the Hoover Establishment at Stanford College and was a candidate for California state controller in 2022.
