This report gives the Legislature our independent estimates and analysis of the state’s General Fund budget condition with the goal of helping lawmakers prepare for the 2026-27 budget process. 

This year’s report has four key takeaways:

  • Not Safe to Bet Artificial Intelligence (AI) Fueled Exuberance Is Sustainable. Soaring stock prices and correspondingly high income tax collections are the lone bright spot among otherwise weak economic and revenue conditions. Income tax collections are being driven by enthusiasm around AI, which has pushed the stock market to record highs and boosted compensation among the state’s tech workers. With so much exuberance surrounding AI, it now appears time to take seriously the notion that the stock market has become overheated.
  • Our Revenue Outlook Builds in Some Insurance Against a Stock Market Downturn. Reflecting concerns about the potential effects of tariffs, the budget act enacted in June assumed revenues would decline in 2025-26 and grow modestly in 2026-27. Looking primarily at strong trends in income tax collections since June would suggest a significant upgrade to budget act revenues is warranted. However, our Fiscal Outlook revenue forecast reflects a smaller, temporary upgrade which reverses beginning in 2026-27—resulting in 2026-27 revenues being in line with budget act estimates. This is because our forecast incorporates the strong risk that recent income tax gains are tied to an unsustainable stock market.
  • 2026-27 Budget Problem Now Larger Than Anticipated. Under our revenue and spending estimates, the Legislature faces an almost $18 billion budget problem in 2026-27. This is about $5 billion larger than the budget problem anticipated by the administration in June, despite improvements in revenue. This is because constitutional spending requirements under Proposition 98 (1988) and Proposition 2 (2014) almost entirely offset revenue gains. Moreover, we estimate costs in other programs to be about $6 billion higher than anticipated.
  • Budget Position Is Weak. We advise the Legislature to address the budget problem through a combination of ongoing solutions—namely, achievable spending reductions and/or revenue increases. There are three reasons these actions are now critical: (1) the budget problem is now larger than anticipated and the structural deficits—now projected to be about $35 billion per year—are significant and growing; (2) our revenue estimates, while tempered, do not reflect the declines that would occur in a recession; and (3) the state used up much of its budget resiliency tools in addressing the past three years’ of budget deficits. As it stands—with larger forecasted deficits and many fewer tools available to address them—California’s budget is undeniably less prepared for downturns.