Abstract
The State of California has grown to become reliant on a progressive personal income tax (PIT) as its biggest source of state revenue. Given that the richest Californians making up a big bulk of PIT revenue, and that over 50% of the state’s General Fund revenue comes from PIT, this exposes the State of California to revenue volatility. The phenomenon of revenue volatility means that California’s budgets are linked to the cyclicality of the state economy – good economic times bring budgets with surpluses, whereas economic recessions lead to much less state revenue. Thus, revenue volatility can lead to fiscal uncertainty and unpredictability when it comes to state budgeting, as the state is susceptible to changes in the economy which causes revenue swings. In this thesis, I explored the nature of revenue volatility in California today, looking at historical financial data and linking changes in California’s revenue to changes in California’s taxation system. Subsequently, I reviewed previous tax reform studies done in California to generate potential policy alternatives for mitigating the effect of revenue volatility in California. This led me to consider three policy options for mitigating revenue volatility: 1) increasing reserves in the State Rainy Day Fund, 2) instituting a revenue-neutral broader sales tax to include selected services, and 3) instituting a revenue-neutral split roll property tax. Through my two-pronged research approach of doing five interviews and conducting a CAM analysis, I concluded that the best policy alternative for the state to manage revenue volatility is to continue adding to the State Rainy Day Fund reserves. With that said, I also called to action that the current Governor’s Office should consider doing another commissioned study in order to further look into whether the Rainy Day Fund is a policy instrument sufficient in itself for managing revenue volatility in the wake of the COVID-19 pandemic. A commissioned study can expand upon my thesis in further preparing California to continuously be mindful of revenue volatility.