California revenues get boost from stock market in 2018, but volatility in revenue stream remains a concern, says Gabriel Petek, a managing director for S&P Global.
S&P Analyst Gabriel Petek

LOS ANGELES — California's improving finances are more than just a cyclical upswing, according to a Standard & Poor's report.

The state has had a conflux of favorable events that in the past could have resulted in temporary fiscal health, analysts Gabriel Petek and David Hitchcock say there is more to the story.

They say that the state's fiscal recovery was more a function of lowering its expenditure baseline than a revenue surge.

In November 2014, S&P raised California's general obligation debt rating to A-plus "signaling our belief that the state is positioned for a more enduring period of financial stability," Petek and Hitchcock said.

Higher than anticipated revenue in fiscal 2015 is among the favorable events cited. The state also passed temporary tax increases in the midst of a long-lived bull market for equities.

But Petek and Hitchcock said when those taxes expire California is not likely to fall off a fiscal cliff.

They cited the state's multi-year fiscal recovery and the elimination of prior deficits through lowered spending, not higher revenues as good strides. They estimate that 80% of the money collected through the temporary taxes was used to pay down the state's "wall of debt."

For instance, they said, in fiscal 2015 the higher taxes authorized in Proposition 30 will bring in $7.8 billion, most of which is being used to repay debt.

To maintain this good fortune and avoid future budget crises, the state will have to employ prudent management while revenues are growing strongly, according to the report.

The state hasn't eliminated the volatility that results from a dependence on too narrow a segment of wealthy taxpayers, however.

"In 2012, for example, the state's top 1% of income earners paid over 50% of personal income taxes," the analysts said. Returns on investment generate a significant source of income for top earners, which means the state's fortunes mirror the volatility in the financial markets.

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