Global Lessons From California's Budget Scandal

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Leave it to California to get its financial scandal completely backwards.

In most places, a state funding scandal would involve money going missing. But here in my great state, alarm bells rang when officials discovered many departments had, well, too much money. An extra $2.3 billion, in fact--not exactly chump change in this cash-strapped state.

The oversight came to light when officials discovered the Department of Parks and Recreation had an extra $54 million stashed in two accounts they'd somehow neglected to report to the Department of Finance. The accounts--comprised of user fees for state parks and off-highway vehicle parks--are supposed to be used to fund state park maintenance and ranger salaries. Thus, their discovery was rather disconcerting to the many people and non-profits who donated millions of dollars to prevent the state's government from closing 70 state parks to trim $22 million from California's deficit.

After the story broke, the investigative reporters at my local newspaper, the San Jose Mercury News, asked the logical question: If Parks and Recreation's special fund has kept some accounts off its report to the Department of Finance, how many of the state's other special funds have done the same? The answer: At least 17, based on discrepancies between accounts listed on the State Controller's register and those formally reported to the Department of Finance. The $8.8 billion in "rainy day" reserves reported to Governor Jerry Brown was more like $11.1 billion.

Now, no one knows whether the omissions were intentional, oversight or accounting quirks. Considering the state regularly borrows from special funds when the general fund-mainly tax revenues--falls short, as it has lately, the potential temptation to shield accounts seems natural. But considering how scattered the system is, without a formal means of reconciling the Controller's and Department of Finance's ledgers (when queried, the Department of Finance admitted it uses an "honor system"), at least some accounts seem bound to accidentally get lost in the shuffle.

Setting aside the question of intent, however, a key question remains: Governor Brown is asking voters to pass a big tax increase in November and again threatening to close dozens of state parks should Proposition 30 fail. He claims cutting the general fund's state parks outlays by $22 million will be necessary to plug a shortfall in education spending without a big tax revenue boost. But with the parks suddenly flush with $54 million not accounted for in the official budget, will voters accept his holding state parks hostage? Much as I love California's state parks--especially some on the closure list, like my beloved Portola Redwoods--I'm not sure I can reconcile this. In fact, I suspect most voters, like me, would prefer officials scrap the measure, recalculate the budget with a proper accounting of all special fund finances, and give us a more accurate snapshot of California's needs. Why ask us for additional money--and risk even more high earners leaving for tax-friendlier climes--if it's not entirely needed?

I suspect this question extends well beyond California, though it's getting next to no notice nationally. (I suppose finding money isn't nearly as headline-grabbing as losing it.) Surely California's not the only state with a few billion hidden in the proverbial sofa cushions. And it's certainly not the only state considering hiking taxes this year--Maryland already increased income taxes, and Alabama, Oregon and Arkansas are just some of the states where new taxes may appear on the ballot in November. Could at least some of those states have some extra cash that just might run counter to the argument for raising taxes? Don't their voters have a right to know?

And heck, what about the rest of the world--especially places where tax collection and state finances aren't as efficient as in the US? What about Greece, where tax evasion is a national pastime and even the tax bureau still runs on pencil and paper (and perhaps shoe boxes and abaci) rather than computers? The new Greek government claims it'll run out of cash later this month if it doesn't receive more EU bailout money. But if California's fiscal situation isn't as reported, I find it highly unlikely Greece's portrayal is perfectly accurate. Ditto for Spain, where it recently came to light that several regional governments had underreported their deficits to Madrid-might they have sheltered accounts, as well? And what of Italy, where corruption is high and the mafia practically in charge of some regions?

I'm not saying hidden cash could solve the eurozone's problems overnight. Nor would it mean all is suddenly well in the US's high-deficit states. I'm just a firm believer in the freedom to choose--and specifically, to make a choice based on accurate information. That's true whether it's Californians being asked to choose between schools and parks, other Americans being asked to pay higher income and sales taxes, or Europeans being asked to accept higher taxes and wage, pension and job cuts. Yes, peripheral Europe needs to reform its public sectors to regain economic competitiveness, but if finding extra cash would allow troubled nations to make more gradual cuts-making life easier on public-sector workers during the adjustment while buying the private sector more time to gain strength-then tracking it down and putting it to use seems a moral obligation, in my view.

So how about it: Who's ready to launch a global audit of state finances?

Elisabeth Dellinger is a member of Fisher Investments' editorial staff and a proud California resident. She has been with Fisher Investments since 2004.

This article constitutes the views, opinions, analyses and commentary of the author as of August 2012 and should not be regarded as personal investment advice. No assurances are made the author will continue to hold these views, which may change at any time without notice. In addition, no assurances are made regarding the accuracy of any forecast made herein. Past performance is no guarantee of future results. A risk of loss is involved with investments in stock markets.


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