1-4-13 Alaska's Budget Policy Is Unsustainable But Fixable
|From Ziff Energy: North American gas resource has the capability to deliver over 90Bcf/d by 2020. Western Canada will provide 15% over which the Montney Tight Gas region is a third. While Western Canada full cycle costs are slowly being ground down to $5.15/Mcf in 2011 from a high of $8.70/Mcf in 2007, the economic uplift of LNG is boosting the net gas price for the producer.|
Alaska's State Budget: The Good News and the Bad News
Yesterday, the University of Alaska's Institute of Social and Economic Research produced a new study, "Maximum Sustainable Yield: FY 2014 Update". More on that later.
Yesterday, the incoming President of the Alaska State Senate and Speaker of the House of Representatives appeared before the Resource Development Council of Alaska, signaling the direction of their leadership over the coming legislative session. Here is the full presentation.
Just before Christmas, Governor Sean Parnell (NGP Photo) released his budget proposal for the coming year.
As the 28th Alaska Legislature mobilizes for opening day on January 15, we perceive the good news to be a united front by the Governor, Senate President Charlie Huggins (NGP Photo-R) and House Speaker Mike Chenault (NGP Photo) to reform what may be the most predatory and unpredictable oil and gas tax regime in the free world...if not the whole world. With marginal tax rates capturing for government most of the profits otherwise earned by companies that took the risk and made the investment, we have seen massive movement of investment dollars from Alaska to other more inviting oil and gas provinces.
The flight of capital from the state has resulted, in part, in dramatic reduction of Trans Alaska Pipeline System (TAPS) throughput -- diminishing by 6-8% annually. Without significant new investment, the billions of barrels of oil remaining on Alaska's North Slope (ANS) could be stranded as the end of TAPS' life approaches. Having TAPS almost 3/4 empty now, at a time when over 90% of Alaska's general fund spending comes from that source, puts the future of Alaska's people at risk. Therefore, reforming taxes in a meaningful way would be good news because it could cause investors to make investment decisions that could, over the next 5-10 years, reverse the decline in TAPS throughput.
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But budget policy consists of more than taxing private enterprise. A big part of government budget policy revolves around spending, spending money to satisfy consistent wants, needs and demands for subsidies, services, infrastructure, entitlements. Government leaders, therefore, have two primary tools to deal with budget policy: 1) adjusting tax revenue and 2) adjusting spending expense. When tax policy produces an abundance of revenue, elected officials have the relatively pleasant job of distributing that abundance and obtaining credit and public approbation therefrom. When tax revenue is down, the job becomes very tense as taxpayers attempt to defend against a greater government take while hoards of government spending beneficiaries are storming the gates demanding more and more.
In the Governor's budget message he proposes a reduction in spending for capital projects and a small increase in the operating budget. While the Senate and House leaders also acknowledge that budgets are currently unsustainable, they are also sensitive to constituent needs and wants for utility distribution systems, energy systems, bridges and other projects. Yes, it is possible that the Legislature will reduce the Governor's proposed budget to a more sustainable level wherein spending is matched -- long term -- with the result of tax reform. However, with history and human nature as a guide, we acknowledge the possibility that the Legislature's actions could result in less revenue in the name of investment climate improvement and more spending in response to constituent demands.
This latest ISER study, by economist Scott Goldsmith (NGP Photo), carefully addresses these issues. The Governor's budget calls for general fund spending of $6.49 billion. "With our budget proposal, even with this spending plan we’re putting forward, we project a surplus of more than $500 million – so we leave room for some community and legislative priorities", the Governor said. (Translation: "Legislators can split $500 million as they may wish.")
While from Governor Parnell's viewpoint the proposed budget is 'solid', ISER takes a little longer view of the trend. According to Goldsmith, "In fiscal year 2014, Alaska’s state government can afford to spend about $5.5 billion. That’s an estimate of the level of Unrestricted General Fund spending the state can sustain over the long run, based on the current petroleum nest egg of about $149 billion—a combination of state financial assets (the Permanent Fund and cash reserves) and the value of petroleum still in the ground."
In short, were Alaska's budget to be sustainable, this year's unrestricted general fund spending should be reduced from Governor Parnell's proposal of $6.49 billion to $5.5 billion, according to ISER. That is based on the current trend of diminishing production, the current oil tax structure and other factors.
Perhaps the Governor and Legislative leaders are counting on OCS revenue sharing, new oil discoveries, or massive new investment based on tax reform and that hope would be understandable.
It boils down to a question of judgment. Does a responsible money manager plan for the worst and hope for the best or plan for the best and hope for it to happen?
For more than a decade we've urged policy makers to exercise restraint in both spending and taxing policy. Various legislative efforts over the years have urged the same. In the early 1980's Common Sense for Alaska urged passage of a constitutional amendment to limit spending during a "time of plenty". Then Representative Lisa Murkowski (NGP Photo) and Representative Andrew Halcro (NGP Photo-L) dedicated themselves to such issues by participating in the "Fiscal Policy Caucus" over a decade ago. in 2002 Senator Fred Dyson (NGP Photo-L) and others argued for fiscal responsibility via the "Crouching Grouches Caucus". None of those efforts resulted in a long-term, sustainable budget policy for Alaska.
We have commented that lack of a sustainable budget policy will inevitably result in intergenerational inequity--or lack of opportunity and more debt for our children. Today, Brad Keithley (NGP Photo-L) comments on the same subject, perhaps more artfully.
While the trend of increased spending and decreasing revenue is unsustainable, some good news is that this lamentable circumstance is the product of our own making...and fixable. Alaska could use the ISER model as a guide for budgeting. The bad news is that there would be less to spend and cuts would be required. More good news is that when circumstances change for the better, spending can be more generous. Still more good news: if circumstances do not change meaningfully, we will have responsibly planned for difficult times in a way that still offers hope to the generation of children that trust us to protect them.