Thursday, March 7, 2013

Alaska Budget| Some progress, but a long, long way to go ...

This week's release by the House Finance Committee of its proposed FY 2013 Operating Budget is worth noting.   It provides a good time to check in and see where the legislature is on developing a sustainable state budget.

As readers will recall, earlier this year the University of Alaska-Anchorage's Institute of Social and Economic Research (ISER) published a report on Alaska's current fiscal policy and where it is leading the state.  The study is entitled "Maximum Sustainable Yield:  FY 2014 Update."

The report concludes,
"Right now, the state is on a path it can’t sustain. Growing spending and falling revenues are creating a widening fiscal gap. In its 10-year fiscal plan, the state Office of Management and Budget (OMB) projects that spending the cash reserves might fill this gap until 2023, as the adjacent figure shows. But what happens after 2023? 
Reasonable assumptions about potential new revenue sources suggest we do not have enough cash in reserves to avoid a severe fiscal crunch soon after 2023, and with that  fiscal crisis will come an economic crash."
The report suggests that, in order to avoid the result, the state adopt a sustainable budget model.  Under the model, the state would establish an endowment similar to an individual retirement account, commit to putting current savings and annual revenues in excess of the sustainable spending level in the endowment account, allow the endowment account to build as revenues continued to exceed sustainable spending levels, and then, as with an individual retirement account, gradually start to take earnings from the endowment as revenues started to dip below the sustainable spending level.

The result would be a revenue stream that maintained sustainable spending levels not only currently, but virtually perpetually into the future as earnings from the endowment proved sufficient to maintain the same level of spending.

The approach treats all generations of Alaskans equally, supporting future generations with the same level of government spending as current generations.  Absent such an approach, the current generation will leave future generations with a much lower standard of living, likely requiring the imposition of income, property and sales taxes to maintain even a moderate level of government spending.

Absent such an approach, the state also will severely undermine its current efforts at oil reform.  Oil investors depend on predictability when making investments.  As Greg Laliker, the President of Hilcorp Energy, put it in a recent interview with Petroleum News,
“The main thing I need, care about and worry about is predictability,” Lalicker said. “What I can’t put up with is the notion that two, three, four years down the road the deal’s going to change, because then I’m going to stop investing because I can’t predict what’s going to happen.”
Looking at a future in which the state faces a "severe fiscal crunch" after 2023 -- right in the heart of the payout cycle for major investments made in the next few years -- it is reasonable to believe that the state's major investors will avoid making long-term investments in the first place, unless and until they become confident that a more secure future is likely to occur.

Key to accomplishing that result is reducing spending now -- to the current sustainable spending level -- while current revenue levels exceed that level and are available to be invested in the endowment.  According to the ISER study,
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 ....
Which leads us to the proposed House Finance Committee Operating Budget.

In his December FY 2014 budget, Governor initially proposed Unrestricted General Fund spending of roughly $6.5 billion -- or $1 billion over the ISER-calculated sustainable level.  In January, the Governor subsequently amended that number slightly, but with rounding proposed spending stayed at the same level.

Alaska's budgets essentially divide into two categories -- operating and capital.  In his January budget, the Governor proposed $5.7 billion in the Operating Budget and $800 million in the Capital Budget.  The House traditionally takes the lead in evaluating the Operating Budget, and the Senate takes the lead in evaluating the Capital Budget.  The challenge facing both bodies this legislature is to find ways to reduce both budgets -- significantly -- in order to reach sustainable levels.

The proposed House Operating Budget indicates some slight progress has been made thusfar this session, but that there is a long, long way ago before the legislature can claim to have produced a sustainable budget.

As noted, the Governor's amended budget proposed $5.7 billion for the FY 2014 Operating Budget.  According to the Legislative Finance Office, that figure apparently subsequently grew another $100 million to $5.8 billion.  The proposed House Operating Budget proposes to cut that figure to $5.6 billion, a 3.4% reduction from the Governor's amended budget (as reported by Legislative Finance), and importantly a 2.7% reduction from the FY 2013 budget.

Both figures are encouraging but not enough to achieve a sustainable budget.  Even standing alone, the House's proposed $5.6 billion Operating Budget exceeds the $5.5 billion recommended in the ISER study.  It certainly does not leave room for a Capital Budget of any size.  If the Legislature, as anticipated, ultimately adopts a moderately sized Capital Budget, the "fiscal burden passed on to future generations," to borrow ISER's terminology, will be significant.

According to the ISER study, at current levels each $1 billion in excess spending over the current sustainable level will require $25 billion in additional savings (or other unanticipated increases in the endowment) in future years to make up the difference.

The proposed House Operating Budget is an initial step down the right path, but there is still a long way to go to put Alaska on the course of a sustainable fiscal future.  Hopefully, taking a fresh look the Senate will find additional ways to reduce the Operating Budget, and the Senate and House combined will similarly find ways significantly to reduce the Governor's proposed capital spending plan.

If not, Alaskans are in for a much more difficult future than they currently anticipate.