California cut schools and raised taxes in its last recession. What will Newsom do now?

Heading into a new recession, California has one big thing going for it that it lacked the last time a sudden downturn sent the state’s economy reeling: A stockpile of money built up in reserves and various accounts that can be put to use in a crisis.

California during the Great Recession ran out of cash while lawmakers battled over budget fixes. The state issued IOUs because it couldn’t pay its bills, furloughed public employees and delayed payments to schools and nonprofits to buy time.

After all of that, it slashed billions of dollars in education funding, cut billions more from health care, seized local redevelopment funds and adopted temporary tax and fee increases.

This time, the state has more than $17 billion in budget reserves and another $39 billion in cash that’s sitting in internal accounts and available to borrow, according to an April statement from the State Controller’s Office.

But that doesn’t mean Newsom and lawmakers won’t have to make painful decisions.

Last week, Newsom’s administration projected a $54.3 billion deficit for the coming budget year, a number that nears the $64 billion “problem” Schwarzenegger and the Legislature dealt with 11 years ago.

“I guarantee you in two or three months the governor will say it’s worse than $54 billion, because things get worse and worse until they stop,” said Mike Genest, who was Schwarzenegger’s finance director when the economy crashed in 2008.

Unlike the federal government, the state is required to balance its budget each year. It can default on its debts, but it can’t file for bankruptcy.

California could get help from the federal government, although lawmakers can’t count on it yet. They also don’t know when to expect a rebound.

“It’s anyone’s guess as to when we’ll have an economy that’s fully productive again,” said State Controller Betty Yee.

Here’s a look at how California navigated the first year of its last recession:

‘A rolling disaster’

Schwarzenegger in August 2007 signed a budget that counted on the state collecting a $4 billion surplus by the summer of 2008. The deal was not as sound as it looked, according to the Legislative Analyst’s Office. The state had billions of dollars in debt on the books from expenses it incurred during the Dot Com bust, limiting its ability to mange new deficits.

The surplus didn’t materialize, either. In September 2008, Schwarzenegger signed a budget with a $16 billion adjustment.

But revenue kept falling. In November 2008, he reconvened the Legislature for a special session. Lawmakers closed another $42 billion budget gap in February 2009, and came up with $24 billion more in budget fixes in July 2009.

“Ours was sort of a rolling disaster,” Genest said.

He warned the coronavirus could have a similar effect today. Like 2008, the state is facing an unprecedented catastrophe, and it cannot draw clear lessons from the past to help it project how the economy will recover.

Californians paid more and got less

The crisis budget Schwarzenegger signed in February 2009 included $15.1 billion in funding cuts, including $8.6 billion in planned school spending.

Spending on health care fell by $3 billion between 2007 and 2009, according to the Legislative Analyst Office, and funding for criminal justice programs fell by $4 billion.

The cuts led to new charges in other branches of government. For instance, the California State University system increased tuition by an average of 17 percent a year between 2007 and 2012.

Schwarzenegger signed temporary measures to boost revenue, too. His 2009-10 budget included temporary increases in sales, personal income and gasoline taxes, and a doubling of the fee imposed on vehicle licenses.

Borrowing and budget tricks

By early 2009, California had the lowest bond rating of any state, making it more expensive for years for the state to borrow money. The rating kept falling.

Lawmakers scrambled to find money in other places.

The budget deal they passed in February 2009 drew revenue in part from $5 billion in loans tied to anticipated lottery revenue. Voters later shot down that element of the plan in May 2009, when they rejected five budget-related ballot initiatives.

Lawmakers used a gimmick to write away $1.6 billion owed in state worker pay and benefits, shifting the payment by one day from June 30 to July 1. That change allowed the state to move the debt to the next budget, according to the Los Angeles Times.

That trick stayed on the books until last year, when Newsom ended it.

Late checks

Lawmakers and Schwarzenegger battled over proposed and spending cuts throughout 2008 and 2009, when the Legislature required a 2/3 majority to pass a budget. Sometimes they missed deadlines. Those delays caused pain around the state when they held up checks from the State Treasurer’s Office.

In the summer of 2008, schools, cities, nursing homes and nonprofits that depended on state funds had to wait for their money when the Legislature missed its deadline to pass a budget by almost three months.

About $12 billion in late payments piled up by the time lawmakers made a deal, according to Sacramento Bee archives.

California’s cash reserves were tapped out just a few months later. By January 2009, the state had already borrowed $16.5 billion by moving money around its internal accounts, and issued $5 billion in so-called “revenue anticipation notes,” meaning money it expected to collect later.

With no more wiggle room in state funds and no chance of borrowing money from banks in the financial crisis, then-Treasurer John Chiang halted more than $3 billion owed to taxpayers expecting refunds, students awaiting financial assistance and local governments that manage social services.

“This is a very painful decision,” he told The Sacramento Bee at the time. “It pains me to pull this trigger, but it is an action that is critically necessary.”

How it ended

Looking back, Sacramento Mayor Darrell Steinberg said it took about four years for California to claw its way out of the Great Recession. He was the Senate’s president pro tempore beginning in 2009, and a key player in negotiating deals that often were criticized as incomplete because they did not fully resolve budget challenges.

California voters in 2010 approved an initiative that repealed the requirement the budgets pass the Legislature with a 2/3 majority, making it easier to adopt spending plans.

By 2012, the economy was growing, and voters approved an initiative that raised revenue with a sales tax increase and an income tax increase for high earners. Those changes, along with the budget rainy day fund that former Gov. Jerry Brown championed, set the state on track to develop the reserves and cash cushion that Newsom can use now, Steinberg said.

“You never see a bumper sticker that says it could have been worse, but in part (lawmakers’) job is to ensure that it isn’t worse than it absolutely has to be,” he said. “And that means if you have to defer or borrow to prevent an even deeper set of cuts, then you take the criticism and you do so because there’s no great value in being pure when people’s lives are at stake.”

This story was originally published May 13, 2020 at 5:00 AM with the headline "California cut schools and raised taxes in its last recession. What will Newsom do now?."