There’s a hole in the budget!

A slowdown in the state’s economy, led by the “correction” in the state real estate market, has helped plunge California into a $10 billion deficit, according to new projections from the state legislative analyst.

Elizabeth Hill outlined her new budget forecast Wednesday, confirming what had been reported for weeks – that sharp decreases in both state income taxes and property taxes have created a massive hole in the state budget.

Some of the problem was created by faulty assumptions in the budget passed by the Legislature this summer and signed by Gov. Schwarzenegger. Among them was an assumption that the state could sell EdFund, which guarantees student loans. Though no serious budget watchers assumed the sale would actually go through, Capitol bean counters estimated that it would bring $1 billion worth of revenue into state coffers this year.

That allowed budgeters to count $1 billion in revenues that most assumed would never materialize.

Such budgeting gimmicks are par for the course in the Capitol, as members of both houses, both parties, and both the governor’s office and the Legislature routinely scrambled to make the state’s books appear balanced.

“All the easy solutions are gone,” Hill said Wednesday.

Platitudes abounded from all corners Wednesday, as everyone from Speaker Fabian Núñez to Senate leader Don Perata to Gov. Schwarzenegger sent out statements calling for vague, bipartisan budget solutions.

Even a former governor got into the act. Speaking at the Sacramento Press Club, former Gov. Gray Davis said the wild swings in California’s budget cycles would only be stopped when voters opt to change the state Constitution.

“I hope as a by product [of these tough budget times], that the governor and the Legislature tackle this larger question of putting this spending limit before voters,” said Davis.

That sentiment was echoed by Assembly Republican Leader Mike Villines, R-Clovis. “We need structural reforms, not just a one-year fix,” said Villines. “Until we get a Gann-type spending limit in place, this is going to be a reoccurring problem.”

Hill estimates that income tax revenues will be about $2.7 billion less than forecast for the 2006-07 and 2008-09 budget years. And her office estimates another $1 billion shortfall in property tax revenues over the two budget years.

Those shortfalls are largely due to the housing slowdown statewide. Hill said “15 to 20 percent of California’s private sector economy is based on real estate.” She said a slowdown in the real estate market obviously hurts the state’s property tax intake. But it also has a ripple effect, decreasing income taxes and sales tax revenues as well.

Meanwhile, some additional spending pressures have increased the pressure on the budget. Among them was the state’s loss of a $500 million lawsuit, when a court found that a pension obligation bond issued by the state was illegal. And Hill estimates the recent Southern California wildfires will wind up costing the state an additional $174 million.

In short, the state’s revenues are not keeping pace with the increases in state spending. Hill said the state’s spending is increasing by about 7 percent, while revenues are only up about 4.6 percent.

About $1.6 billion of next year’s projected deficit is the scheduled payments on deficit reduction bonds passed by voters in 2004. That is one area that Hill says Legislators may be able to save some money in the short term, saying it would be a “reasonable course” to delay those payments.

Hill also said the state has fewer tools at its disposal to get out of the current budget mess. She cited the passage of Proposition 63, which raised state income taxes on the wealthiest Californians to pay for mental health programs, as an example. Hill said the passage of Prop. 63 made it less likely the state could raise taxes on high-income earners to help cover the current deficit.

And there are more warning signs ahead. Among them is a lawsuit lfiled by local transit agencies that claims the state’s shifting of $1.3 billion out of a state transit fund was illegal. If the state loses the case, that could shoot another enormous hole in the state’s finances.

Perata called on the governor and his colleagues to take quick action. “I once again call on the Governor and my fellow legislative leaders to begin a serious discussion about how to build a structurally balanced budget,” said Perata.

In a statement Wednesday, Schwarzenegger vowed to act quickly. “Knowing the challenges that we face, throughout the fall, my administration has been examining a variety of options to close next year’s budget gap.  I have not made any final decisions yet, but it’s clear that the decisions that will be involved will be tough.  I have a constitutional requirement to submit a balanced budget to the Legislature in January and I will fulfill that responsibility.”