SACRAMENTO -- California's nonpartisan fiscal watchdog on Wednesday said the state's budget shortfall has grown to $16 billion and offered an unprecedented and competing plan to close the gap by imposing both spending cuts and tax increases.

Legislative Analyst Elizabeth Hill said Gov. Arnold Schwarzenegger's proposal for the 2008-09 budget year is flawed because it fails to set funding priorities and correct the state's chronic imbalance between spending and revenue.

"A decline in revenue means we have a larger shortfall than the governor projected," she said. "Our recommendations will affect all Californians in some way. However, we think that will benefit all Californians in the long run."

Last month, Schwarzenegger pegged the shortfall at $14.5 billion through June 2009. A continuing decline in the housing market that has created ripple effects throughout the economy has contributed to a sharp drop in tax revenue.

Hill criticized the across-the-board budget cuts to most state agencies that Schwarzenegger proposed. Instead, she called for targeting and eliminating nonessential state services and raising tax revenue by cutting personal and corporate tax credits for families, businesses and motorists.

She also advocated a higher gasoline tax.

Her report immediately shifted the state's fledgling budget debate onto whether new taxes should be part of the solution -- an approach Schwarzenegger has opposed. It also sparked the kind of partisan sniping Democrats and Republicans had so far avoided in hopes of preventing a repeat of the protracted budget debate that paralyzed the capital last summer.

Hill's plan for shared sacrifice, including tax increases, competes with the budget plan Schwarzenegger released last month. He sought 10 percent across-the-board cuts to all state agencies and a smattering of new fee increases.

It was the first time California's nonpartisan budget analyst offered a wholesale, competing approach to a governor's plan before state lawmakers begin debating the budget. The spending plan for the 2008-09 budget year takes effect July 1.

She said it was needed because Schwarzenegger's plan failed to set priorities for how to fund public safety, health and welfare and other core state responsibilities.

"The governor's budget fails to put forward a plan that prioritizes state spending," Hill wrote in her annual analysis of the governor's budget, which she introduced at a news conference along with her competing plan. "We recommend the Legislature reject the administration's across-the-board approach."

Schwarzenegger issued a statement saying he looked forward to negotiating with lawmakers but remains opposed to tax increases.

"While I believe that we should begin negotiations with all ideas on the table, I have been very clear in my position against raising taxes to fix Sacramento's spending problem and our budget," he said.

Hill's report, which perennially serves as a blueprint for the Legislature's budget negotiations, immediately touched off a partisan war of words over whether tax increases should be part of the state's solution to its persistent budget woes.

Hill proposed closing the deficit with a balance of $11 billion in cuts to state programs and $2.7 billion in new revenue from tax increases.

The bulk of that revenue would be generated from rolling back tax credits for dependents from $294 per child to $94 per child, a move that would save $1.3 billion, she said.

The state also would limit research and development credits for businesses, resulting in $335 million in additional tax revenue from corporations. Her plan also called for funding transportation needs by indexing the state's gas tax to inflation, a move that would immediately add about 10 cents to every gallon of gas bought in the state.

Under Hill's plan, for example, additional tax revenue would greatly reduce the proposed cut to education. Schwarzenegger proposed cutting $4 billion from classrooms; Hill's plan would cut $800 million.

Republican Roger Niello, vice chairman of the Assembly Budget Committee, issued a statement saying Republicans disagreed with the legislative analyst's 12-point tax credit plan.

"Californians already pay enough in taxes. Republicans stand ready to begin our difficult budget work today," said Niello, of Fair Oaks.

Assembly Speaker Fabian Nunez, D-Los Angeles, said he agreed with Hill's alternate approach.

The "report makes it clear that a slash-and-harm, cuts-only approach of dismantling state government won't fix our budget problem," he said in a statement. "The report backstops our commitment to taking a balanced approach that includes eliminating tax loopholes and raising revenues so we will not have to close parks, lay off teachers and put our state's most vulnerable citizens at risk."

The $16 billion budget gap equals the projected size of the deficit when Schwarzenegger was elected during the 2003 recall election on a promise to fix the state's finances, although it's a smaller percentage of the overall state budget.

Hill blamed the surging deficit on falling tax revenue from the depressed housing market and a decline in the manufacturing sector. She also said it could swell even more in the coming months.

State revenue from all three major sources -- personal income taxes, corporate taxes and sales taxes -- is coming in below forecast, she said.

A separate economic forecast out Wednesday showed state job growth next year could be even lower than she predicted.

Hill also took direct aim at a program that bears Schwarzenegger's stamp. She recommended the Legislature ask voters to repeal the funding clause built into Proposition 49, the after-school ballot measure Schwarzenegger championed in 2002.

The initiative requires the Legislature to maintain spending for it, at about $550 million this year, even if the state is in a tough fiscal situation. It is just the kind of autopilot spending the governor has railed against this year.

The deficit projection does not factor in a variety of savings the governor and Legislature approved last week or those they promised to include in next year's budget. They include $3.3 billion in new borrowing Schwarzenegger has initiated, $1 billion in emergency cuts and the governor's promise to delay $1.5 billion in debt payments next year.

Hill said that if all of those actions are carried out as promised, the actual deficit the Legislature will have to close for the budget year that begins July 1 will be about $8 billion.