Post-victory issues loom for governor

BYLINE: By Mike Zapler, MEDIANEWS SACRAMENTO BUREAU

SACRAMENTO -- Once his victory celebration ends, Gov. Arnold Schwarzenegger may be in for a nasty post-election hangover -- partly of his own making.

A host of daunting, potentially multi-billion dollar problems confront the governor as he begins his second and final term. Prisons are filled dangerously beyond capacity. Public schools are badly in need of reform, the governor has said. More than 6 million Californians lack health insurance. And a $5 billion budget deficit looms next year.

But Schwarzenegger faces those challenges constrained by his central, George H.W. Bush-esque campaign promise: No new taxes. How the governor reconciles his sweeping policy ambitions with that anti-tax stance could prove a defining challenge of his governorship.

"If the state's economy grows and brings in new revenues, he'll be able to hold to the no-taxes pledge" and pay for new programs, said Jack Pitney, a political science professor at Claremont McKenna College. But that's a big if.

"He may eventually face a situation," Pitney added, "where the state will have to either raise taxes or make some very unpopular cuts."

Schwarzenegger has offered few specifics about his agenda but he has put several major issues on his policy plate. Topping the list are health care, education, and prisons.

Meanwhile, Schwarzenegger will open his second term in a sizable hole. He has offered nosolution yet to an estimated $5 billion budget deficit next year.

Schwarzenegger approaches the job of closing the debt and paying for new initiatives with one fiscal hand tied behind his back. Not only did he explicitly rule out tax increases, he already has asked voters to authorize billions in borrowing, characterizing the request as a one-time fix. Trying to borrow again is probably not realistic.

Also, a recently-passed initiative severely restricts his ability to borrow billions in gas tax revenues for other programs -- a stash of money lawmakers have tapped twice in recent years.

That leaves two choices: cut spending, and incur the wrath of powerful Democratic interests; or hope that the economy continues to hum, bringing in more tax revenues for programs.

"If you can't raise taxes and have a budget shortfall," said Brad Williams, director of fiscal forecasting for the nonpartisan Legislative Analyst's Office, "it's going to be awfully hard to make progress in any of those areas" that require significant new spending.

Luck has played a big part in the governor's political revival over the last year. Last spring more than $7 billion unexpectedly gushed into state coffers, allowing him to settle a bruising political battle with teachers over school funding just as his campaign was gearing up.

Adam Mendelsohn, a spokesman for the governor, credited the windfall to the governor's policies.

"Since the day this governor has taken office his policies have strengthened the economy to exceed all financial projections," Mendelsohn said. "Gov. Schwarzenegger is optimistic that as we go into the next year his fiscal policies will continue to stimulate strong economic growth."

But California's volatile tax structure means revenues can plummet just as quickly as they spike.

Some experts say the governor may be one economic downturn away from some of the same difficulties that helped drive down his ratings in his first term -- or for that matter, fueled the ouster of his predecessor, Gray Davis. Although Schwarzenegger professes otherwise, finance experts say the governor's policies have little bearing on the state's fiscal fortunes; national economic trends tend to prevail.

"The governor is going to have to face up to the fact that money is, most likely, going to be in very tight supply," said Mark Baldassare, research director at the Public Policy Institute of California. "And that will once again put him at odds with various interest groups, including education."

Faced with big budget shortfalls during his first term, Schwarzenegger allocated billions less to schools than they were owed under the state constitution, raised college tuition and trimmed social services. If revenues slow and the governor refuses to raise taxes, it is likely those areas would be vulnerable again.

Schwarzenegger has further complicated his task by defining a tax as practically any government-imposed increased cost of business. Consider health insurance. During the campaign Schwarzenegger accused Angelides of backing a $7 billion "tax increase" for health care. The proposal Angelides had endorsed, however, wasn't a tax; it was a mandate on large companies to provide health insurance.

How Schwarzenegger would expand health coverage to the more than 6 million uninsured Californians under those terms remains to be seen. A widely-acclaimed universal health care plan in Massachusetts, pioneered in part by Republican Gov. Mitt Romney, forces businesses that don't provide insurance to pay a $295-per-employee assessment into a state fund. Based on Schwarzenegger's statements during the campaign, that would likely be considered a tax.

"By defining taxes very broadly," Baldassare said, "that really limits his options."

Schwarzenegger, for his part, subscribes to the conservative philosophy that keeping taxes down boosts the economy, which in turn brings in more tax revenue. But he also has acknowledged that the state's tax structure, which depends heavily on the stock and real estate markets, causes wild fluctuations in government revenues.

The state's fiscal outlook has been mixed lately, with a cooling housing market tempering a rising stock market. Tax revenues have remained fairly steady since the summer, lessening the likelihood of another windfall next year. But the fact that the state is so dependent on the markets is cause for concern.

"We are studying ... all the different taxes to see how we create more stability in this thing," Schwarzenegger told the Mercury News editorial board before the election. He may propose reforms to the tax code in his January State of the State speech, if his economic advisory group headed by former Secretary of State George Schultz is ready by then.

Mendelsohn, the governor's spokesman, insisted that the no-tax pledge isn't open to negotiation.

"The governor made no new taxes a centerpiece of his re-election," Mendelsohn said. "That is a philosophy that will continue to drive his decisions as governor."

Assembly Speaker Fabian Nez, D-Los Angeles, suggested that the no-tax declaration may come back to haunt Schwarzenegger as his policy ambitions collide with budget realities.

"You never draw the line in the sand," Nez said. "Certainly if you do it during the campaign, when it's time to govern, put that aside."