California’s massive $104 billion general fund budget was signed into law by Gov. Arnold Schwarzenegger on September 23, a record 85 days into the new fiscal year. The standoff was long because the stakes were great: Would Californians be saddled with a rapidly growing government and higher taxes in economically slow times, or not? Against all odds, greatly outnumbered Republican lawmakers stood up to Democrats, labor unions, big business, and even the Republican governor and prevented billions of dollars in tax increases while trimming billions of dollars in spending.
This is the story on how conservative Republican principles prevailed in the Golden State, scoring a victory for hardworking and overtaxed Californians. The embattled Republican minority’s budget success should serve as an inspiration for Republicans in other Capitols as well.
Arnold Schwarzenegger was swept into office in a historic recall election on Oct. 8, 2003. He was elected, then reelected in 2006, as a maverick fiscal conservative, promising to “cut up the credit cards” to curtail debt, “blow up the boxes” to reform government, and never, ever raise taxes.
After getting off to a roaring start as a populist, fiscally conservative governor, Schwarzenegger ran into trouble with an ambitious but poorly coordinated special election in 2005. The governor’s special election was to be a direct assault on California’s entrenched special interests. Sensing mortal danger, California’s unions spent a quarter billion dollars in attack ads against Schwarzenegger and his reform measures. The voters rejected all four of the Governor’s initiatives.
With his popularity in shambles and his 2006 reelection looming, Schwarzenegger saw his road to recovery as being paved with a massive infrastructure bond program to “get California moving again.” Seeing their chance, Democrats larded up the bonds with environmental provisions and for good measure passed AB 32, a ground-breaking law forcing California to reduce its greenhouse gas emissions. To the consternation of the Democratic nominee for governor, legislative Democrats were seen in the fall campaign arm-in-arm with the governor, working to convince voters to pass $42 billion in new debt.
Legislative Republicans saw their relationship with the governor deteriorate throughout 2006. Republican lawmakers grumbled but generally played ball with Schwarzenegger, who was viewed with increasing skepticism but was still seen as better than having a Democrat governor.
Safely reelected by almost 17 points (but with no coattails and leaving the California Republican Party millions in debt), Schwarzenegger continued his leftward march. His 2007 inaugural address included a call for “post-partisanship.” The centerpiece of Schwarzenegger’s agenda was a universal health care plan built roughly along the lines of former Massachusetts Gov. Mitt Romney’s effort. These moves further alienated Republican lawmakers.
With tax receipts plunging, Schwarzenegger opened 2008 with a call to close $2.5 billion in so-called “tax loopholes” that included write-offs used by millions of middle class taxpayers. Republican legislative reaction was negative, unrestrained by the need to play nice to reelect a Republican governor. By May, Schwarzenegger was dropping hints that he would support outright tax hikes, saying, "Our crisis is real and it’s very serious."
As California’s economy deteriorated, driven lower by the bursting housing bubble, the governor was largely absent from budget deliberations. Democrats responded by crafting a fiscal plan that boosted spending billions above the $104 billion 2007-08 general fund while seeking an unspecified $9 billion in new taxes on the “rich” and corporations to partially close the deficit.
By early August, the state was 36 days into the new fiscal year without a budget. Schwarzenegger went public with a proposal to raise sales tax collections by 14%, hiking the rate from 7.25 percent — already the nation’s highest state rate — to 8.25. Using static economic projections, the governor’s plan was to raise some $5 billion per year for three years.
Claiming the tax rate would later be reduced, Schwarzenegger tried unsuccessfully to convince GOP lawmakers to support his plan. Instead, Schwarzenegger’s high-profile support for a major tax increase emboldened Democrats to ask for more spending and more taxes, thinking the well-known governor could deliver the Republican votes needed to muster the two-thirds vote required to pass taxes and approve a budget.
But the legislative Republican response was swift and uniform: Republicans would stand against any tax increase. On August 5, the Los Angeles Times reported, “Assemblyman Chuck DeVore (R.-Irvine) predicted that Schwarzenegger’s proposal would win no GOP votes.”
Assembly Speaker Karen Bass, a Los Angeles Democrat, scheduled a rare Sunday budget vote on August 17. The proposal included $6.6 billion in new income taxes and corporate taxes, smaller than the $8.2 billion in new taxes they had proposed three weeks earlier. After long debate, the proposal fell nine votes short of passage, failing to get Republican support and even attracting an abstention from Nicole Parra, a moderate Central Valley Democrat, who disapproved of the failure to deal with California’s critical water needs. Speaker Bass immediately ejected Parra from her capitol office. Termed-out after six years, Parra would later endorse a Republican for her seat, Danny Gilmore.
The day after the first failed assembly budget vote, Schwarzenegger called in to the popular John and Ken Show on KFI, America’s most-listened-to radio station. Hosts John Kobylt and Ken Chiampou played a high-profile role in the 2003 recall, probably leading Schwarzenegger to believe that they would be amenable to allowing him to rally support for his tax increase plans. Within minutes, however, the hosts were bashing the governor for his tax increase proposal, at one point asking Schwarzenegger, who was recovering from major knee surgery, if he was “still on anesthesia.”
The next day, the John and Ken Show invited me on air for what would be the first of several half-hour segments over the next month on KFI and other stations to explain why higher taxes would damage California’s economy. The governor’s press secretary responded within a day, calling me out by name. On August 19, the Wall Street Journal reported, “‘I’m very skeptical of any politician claiming they want a temporary tax,’ said Republican Assemblyman Chuck DeVore. In the future, he said, legislators will argue that they have ‘grown accustomed to the tax and we need the revenue.’”
Schwarzenegger kept advocating for his sales tax increase, seeing it as a compromise between the Democrats’ desire for higher income taxes and legislative Republicans’ no-taxes stand. Every time he did so, however, it set back legislative budget negotiations. Some 50 days into the impasse, Assembly Republican Leader Villines, a conservative with experience in former Gov. Pete Wilson’s administration, told the Los Angeles Times, “The legislative leaders understand we will not support a tax increase… I don’t think the governor understands that… … How many times can we say no to taxes?” If Villines was confident in his assessment of unity, it was largely because his leadership style was to promptly share key information with his leadership team and the caucus at large, instilling his 31 colleagues with a strong sense of teamwork and purpose.
Most Sacramento observers expected a tax increase budget to first pass in the 40-member State Senate where the Democrats enjoyed a 25-to-15 majority, only two votes shy of the required two-thirds. The new Senate Republican Leader, Dave Cogdill, would now be sorely tested. On August 29, a budget plan along the lines of the governor’s proposal failed on a 24-to-15 vote in the Senate. Not one Republican voted for the budget, and, with moderate Orange County Democrat Senator Lou Correa abstaining, the tax increase fell short by three votes.
More than two months into the new fiscal year, Schwarzenegger was openly impatient with GOP lawmakers. He told the public to “[c]all your legislators and tell them you’re demanding a balanced budget.” The California Teachers Association union joined in, running tailored television ads to pressure Republican legislators. Traditional GOP business allies also joined the call, with the 82-year-old California Taxpayers’ Association (Cal-Tax), a group of large corporate interests, supporting the sales tax hike.
And the voters responded — by calling Republican offices urging their representatives to hold firm and not vote for taxes. It seemed the voters knew better than the governor that with the nation’s highest income tax, highest state sales tax rate, highest gas tax, and highest corporate tax in the West, the last thing California needed was more taxes, especially with California’s unemployment rate now the fourth highest in the America.
On September 9, Gov. Schwarzenegger paid his first visit in two years to the Assembly Republican Caucus to try to convince them to raise taxes. The lawmakers wore nametags, courtesy of Assemblyman Joel Anderson, who had learned the art of political theater from his days in Young Americans for Freedom (YAF). It didn’t help the governor’s cause that the German magazine Der Spiegel had just quoted Schwarzenegger as saying the leaders of the California Republican Party were “just so out there,” and that he had “almost no contact with them. None.” The meeting was unproductive.
Anderson’s nametag gambit had its desired impact as Democrats now conclusively knew that Schwarzenegger had little pull with his “post-partisan” Republicans. Senate Democratic leader Don Perata wrote an e-mail citing Schwarzenegger’s complete lack of pull on Friday, September 12, bemoaning, “Reps won’t go on a tax. And he has no truck with them to get them.”
A no-taxes compromise $104.3 billion budget — $7 billion smaller than what Democrats wanted — was hammered out that weekend, passing the legislature early in the morning of September 16 by comfortable bipartisan margins.
Stung by his loss on higher taxes and missing a modest budget reform element he wanted, Schwarzenegger threatened a veto. More than enough lawmakers of both parties promised to override, setting up the first override of a California governor in 29 years.
Intense negotiations averted veto and by September 19 the legislature approved a couple of minor changes to the budget to gain the governor’s acceptance. Schwarzenegger signed California’s 2008-09 budget on September 23, a record 85 days into the fiscal year.
A scant week after the budget’s passage, the worldwide credit crunch intervened to disrupt the annual issuance of Revenue Anticipation Notes (RANs) that California, and many other states, routinely issue late in the year to bridge cash flow shortages. State governments often run out of cash late in the year because income tax receipts slow down at the end of the year before picking up as April 15 closes in on taxpayers. The credit market crisis led Schwarzenegger to ask the federal government for help with the normally routine $7 billion of short-term loans.
If this $7 billion cash shortfall wasn’t bad enough, the governor is openly talking about calling a special session of the legislature immediately after the November election for the purpose of reopening the budget due to plunging tax receipts. Democrats hope that Republicans might once again be pressured into voting for a tax increase.
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