California could allow new oil drilling under a tentative agreement the state's governor and lawmakers reached to plug the state's $26.3 billion budget hole.

In a rare agreement with environmental groups, oil producer Plains Exploration & Production Co. (PXP) has proposed promptly expanding oil drilling off the coast of Santa Barbara, then shutting down four oil platforms and two onshore processing facilities in Santa Barbara by 2022. The company also agreed to donate 4,000 acres of land for public use. The company would slant-drill into the state's seafloor from a platform it operates in federal waters.

Environmental and community groups in Santa Barbara have hailed the project, called Tranquillon Ridge, as a major milestone in their efforts to shut down the oil rigs off Santa Barbara's coast. Current law allows offshore drilling operations that were in place prior to a 1981 moratorium on new offshore drilling to continue indefinitely.

Gov. Arnold Schwarzenegger has championed the project as a new source of desperately needed cash to fill the state's budget gap. The state would collect an up-front payment of $100 million from Plains, followed by and as much as $2.3 billion in royalties over the 13 years of the project.

California's budget difficulties could be a boon for Plains Exploration. In addition to the company's potential opportunity to expand oil drilling in California, where officials have expressed near-unanimous opposition to expanded drilling on the Outer Continental Shelf, Schwarzenegger scuttled a proposal by Democrats to increase fees on oil production in the state.

The Tranquillon Ridge project is one of the few bright spots in California's budget agreement, reached late Monday by Schwarzenegger and legislative leaders. Reports of the agreement indicate that it would scale back many state services, particularly to the elderly and the poor, and include less pay for government workers, among other cuts. The state Senate and Assembly could vote on the bill as early as this week.

-By Cassandra Sweet, Dow Jones Newswires; 415-439-6468; cassandra.sweet@dowjones.com