This story is taken from Forum at sacbee.com.
Lessons for California from Gramm-Rudman
By Steven Sheffrin -- Special To The Bee
Published 2:15 am PST Sunday, January 16, 2005
Gov. Arnold Schwarzenegger's
proposed structural budgetary reform calls for a new control process, expanding
the governor's powers under Proposition 58, which the voters passed in March
2004.
Under his new proposal,
if the Legislature failed to pass a balanced budget on time, the state
controller would automatically implement across-the-board reductions in
virtually all state expenditures. In the event that a budget is not enacted by
the start of the fiscal year, across-the-board budget cuts could start as early
as 30 days later. The underlying idea behind the plan is to force negotiations
between the parties and lead to the passage of a timely, balanced budget.
If this proposal sounds
vaguely familiar, it should - the U.S. Congress instituted automatic budgetary
reduction processes during the late 1980s.
Beginning in fiscal year
1986 and lasting through fiscal year 1990, Congress operated under the
Gramm-Rudman laws, named for deficit hawks Sens. Phil Gramm and Warren Rudman.
These laws called for automatic cuts or "sequestrations" in the event
that planned spending exceeded preset deficit targets.
The law was based on the
notion of the "doomsday" machine from the film "Dr.
Strangelove." The idea was that across-the-board cuts would be deemed so
mindless and draconian that Congress would be forced to meet its deficit
targets through explicit legislation in order to avoid the doomsday scenario.
The deficit targets were designed to become more stringent each year to move
the federal budget toward eventual balance.
The actual design of the
Gramm-Rudman laws and their implementation revealed much about how such
automatic schemes work in practice. First, Congress did not, in fact, subject
the entire budget to potential sequestration. In addition to exempting Social
Security and debt service payments, there were limitations on other entitlement
programs as well. The law was extremely complex - as is most budget legislation
- and sequestration applied only to a relatively modest portion of the overall
budget.
Second, Congress was well
aware that it could not meet these targets under extreme economic circumstances
and consequently wrote elaborate "safety valve" mechanisms to avoid deployment
of the sequestration trigger under such circumstances.
Third, just as in the
movie, the doomsday machine did not really work as planned - in one year,
Congress did, in fact, deliberately use the sequestration process to achieve
its budgetary targets.
Fourth, the deficit
targets had great symbolic value for the financial markets and the public - so
great, in fact, that the Gramm-Rudman law led Congress to engage in such
dubious practices as backdating payments and one-time asset sales in order to
meet their targets.
Finally, and perhaps most
important, Congress had to cope with the sobering reality that changes in
economic conditions can cause dramatic fluctuations in available tax revenues
as well as required transfer payments. At one point, Congress stretched out the
budgetary targets to make it easier to meet its deficit targets. Eventually,
when the 1991 recession hit and tax revenues plunged, meeting the deficit
targets became impossible, and the Gramm-Rudman process was simply abandoned. A
new, equally complex budgetary system was then put into place that operated
through most of the 1990s.
Looking back at the
process is sobering for all those who believe in automatic budgetary
mechanisms.
Designing appropriate
safety valves is difficult. Political considerations enter into all aspects of
the mechanism design, ensuring that the result is far from the intended
politically neutral across-the-board outcome, and Congress will exploit
budgetary loopholes viciously to avoid unpleasant outcomes. Based on this
experience, California should approach this proposed reform with caution.
What lessons does the
Gramm-Rudman experience suggest for California? First, any automatic reduction
budget law will need to be tailored closely to other parts of California's
fiscal terrain. The governor's proposal explicitly envisions changes to
Propositions 98 and 42, as well as other changes that will require voter
approval. Including K-12 education in the automatic reduction mechanism is
absolutely essential, given its proportional share of the budget, and its
supporters will place great pressure on the Legislature to avoid this scenario.
The Legislature must also recognize that across-the-board cuts will sometimes be
enacted, so they will want to think carefully about which budgetary components
should be excluded beyond debt service or requirements of federal law. For
example, should required state matches that are necessary to secure federal
funds be exempt? Second, it is important to write some safety valves into the
system in the event of a severe recession.
The experience in
California and most other states is that it takes several years to fully
recover from a recession and bring the budget into balance. States that face
more stringent balanced-budget requirements than California typically use a
wide variety of budgetary stratagems (such as disguised forms of borrowing or
revenue accelerations) precisely to avoid the major budgetary disruptions that
would occur if they were forced to totally adjust their budget within a single
year.
Former Gov. Pete Wilson,
who admirably took tough measures early on when he faced a very severe
budgetary problem, still needed several years to bring the state budget back
into balance.
Finally, we should be
clear about whether the motivation behind the governor's proposal is to force a
legislative agreement to reach a balanced budget or simply to reduce spending
to match current revenue levels. If the goal is to balance the budget, then all
tools - both revenue increases and expenditure reductions - should be on the
table. The current two-thirds voting requirement for passing a budget
effectively allows a determined minority to block any revenue increases.
Unless that feature of
California's budgetary process is changed, adding the new, across-the-board
expenditure reduction mechanism simply places more power into the minority's
hand. On the other hand, an automatic reduction mechanism coupled with a simple
majority vote for the budget would at least give the process a fair chance for
success and could be the route to long-term fiscal health for California.
Schwarzenegger opened a necessary budget dialogue - let's put everything on the
table.
About the writer:
- Steven M. Sheffrin, an economics professor, is dean of the Division of Social Sciences at UC Davis. He can be reached at smsheffrin@ucdavis.edu. This article reflects the views of the author and not the University of California.
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