Alaska Oil| Maybe the tide starts turning here ...

As we have made clear elsewhere on these pages ("The most important slide in this election ..."), given the spending spree Alaska's legislature has been on the past few years oil reform has to start with fiscal reform first. Achieving fiscal reform requires a change in legislative approach, if not in individual legislators. In summarizing some key legislative races going into the final weekend, the Alaska Dispatch suggests that the tide may be turning ...

Senate District K: Fiscal fur flies

If there were ever an election in which 27-year old upstart Jeff Landfield could rattle fellow Republican and incumbent Sen. Lesil McGuire, one of the most powerful and visible state senators in Alaska, this would be it. Moderate Republicans are under fire in this state, and McGuire hasn’t helped herself by spending lavishly on travel, and shepherding through what appear to be pet projects. And worse, she can come across as if she’s entitled to her seat. Landfield, who is a Ron Paul supporter, is smart enough and has worked hard enough to pry an opening there. His attacks have focused squarely on McGuire’s spending, her vote on former Gov. Sarah Palin’s huge oil tax increase, and that she along with other five Republican senators, joined the bipartisan Senate coalition.

The money, however, is still on McGuire, who’s a great debater and an articulate defender of her stances. Too, she’s much better at the fundraising game. His roughly $12,000 pales in comparison to McGuire’s more than $66,000, much of which comes from some of Alaska’s largest businesses and business titans.

Landfield, however, is counting on good old-fashioned door-knocking ....

The Solution to Alaska's Fiscal Issues ...

In listening this morning to the podcast of Glen Biegel's show from a couple of days ago, I was struck by the response of a couple of legislative candidates to Glen's questions about the state budget.  Glen started by asking each if they thought the current state budget was "sustainable."  Each answered "no;" so far, so good.

Then Glen asked how they would "fix" the budget.  With varying degrees of speed, both ultimately suggested using "zero based budgeting" to address the problem.  Not as good (in my opinion).

Generally speaking, zero based budgeting is a "method of budgeting in which all expenses must be justified for each new period. Zero-based budgeting starts from a 'zero base' and every function within an organization is analyzed for its needs and costs. Budgets are then built around what is needed for the upcoming period, regardless of whether the budget is higher or lower than the previous one."

In other words, zero based budgeting is a way of more deeply examining costs; it is not a way of setting overall budget levels.

For those of you remember (or more likely, have studied it as a history lesson), zero based budgeting first gained significant notoriety for use in developing government budgets during the Presidency of Jimmy Carter.  I recall because I was at the Pentagon at the time, and somewhat involved in dealing with the implementation of the approach on a few programs.

While President Carter touted the approach as a way of reducing government spending, it did not.  It took a little longer to develop the bdugets, but spending levels continued to grow.  The reason is that the approach only looked at programs from the cost side, requiring that the proponents justify each element of cost as they rebuilt their budgets.  Good people always can come up with justifications for programs and their related costs; after some "log rolling" ("I'll agree to your costs if you agree to mine"), the budgets were built and the spending levels continued.

Alaska's needs are different.  The first, and most important, step that Alaska needs to take going forward is to establish a hard cap on General Fund spending at the fiscally "sustainable" level.  Without that as a starting point, overall spending levels will never be controlled.  As now, well intentioned people will simply build good stories for why their program needs to be approved, and approve others in order to have theirs approved.  That explains how Alaska General Fund spending has exploded over the last six years from $3.0 billion for FY 2006, to $6.7 billion for FY 2012, and now to $7.6 billion for FY 2013.  And it also explains why spending will continue to match cash flow, at the expense of future Alaskans, until something is done.

By putting a hard cap on overall spending at sustainable levels, Alaska will control the end result from the start.  Once that is done, the various Commissioners, state agencies and legislators can work on prioritizing programs and projects within the cap.  Zero based budgeting to facilitate that approach may or may not be helpful; it can and should be used where it is.

But relying on zero based budgeting as the primary approach to control state spending is -- as the University of Alaska Athletic Director recently told me I was on when I suggested that there was a need to bring accountability to that program -- a "fool's errand."  I disagree with that characterization in that instance and will have more to say about it soon.  But that characterization is true when thinking that zero based budgeting is the primary solution to Alaska's fiscal issues.

A hard cap on overall spending is the most -- and possibly, only -- effective solution to Alaska's fiscal issues.  I hope that, as this election cycle continues, those appearing on Glen's show earlier this week and other legislative candidates increasingly think of that solution as their first line response.

Dear Governor ... The Future is Now

George Allen -- the Hall of Fame football coach (and the father of the former Governor and United States Senator from Virginia of the same name) -- had a favorite saying, "the future is now."  By that, Allen meant he coached to win in the coming year, not to develop players for the future.  Applying that philosophy, Allen was known for trading away draft picks year after year for proven, but older, veterans, to position his team to win in the upcoming year, rather than the potential to win somewhere down the road.  It was a successful philosophy; in 12 seasons as a head coach, Coach Allen compiled a regular season record of 116-47-5.

It is a philosophy that Governor Parnell would benefit from studying.  In a recent interview, Governor Parnell is quoted as saying "that he wants to rein in state spending."  But -- and this is the important part -- he also is quoted as saying "he hasn't yet set any parameters for agency spending."

As this page has discussed elsewhere, Alaska state spending has grossly exceeded sustainable levels for at least the last two budget cycles.  As calculated by the University of Alaska's Institute of Social and Economic Research ("ISER"), the current annual sustainable spending level from the General Fund is in the range of $5.35 billion.  The General Fund spending levels passed by the Legislature and approved by the Governor for the past two years, however, are in the range of $6.72 billion (FY 2012) and $7.6 billion (FY 2013).

As ISER has emphasized, spending in excess of sustainable levels passes on a "fiscal burden to future generations ....  The fiscal burden will grow every year ... at an accelerating pace, until the state reduces spending [to sustainable levels] or finds an alternative source of revenue.”   As I explain elsewhere, excess spending also has seriously undermined the Governor's priority of oil tax reform.

Reigning in state spending levels is an imperative.  ISER has made clear that failure to do so is adversely affecting future generations of Alaskans.  The Governor's own OMB Director has made clear that the failure to do so is undermining the Administration's efforts to reform oil taxes.

But just "any ol' level" of reductions is not sufficient.  To avoid continuing to transfer a fiscal burden to future generations of Alaskans, state spending levels need to be reduced to sustainable levels.  Any less simply panders to current Alaskans at the expense of the future of the state.  The Governor is responsible to both.

As George Allen used to explain, the "future is now."   Its not enough to say that state agencies need to reduce state spending in general; as the Chief Executive, the Governor needs to step up and tell them precisely what the overall target is, and then let them fill in the details within that guidance.

The maximum sustainable level of General Fund spending is $5.35 billion; that is the target.

Honored: Institute of the North Welcomes Three New Directors to Board

An honor to be in such company.  "The Institute of the North is pleased to announce the election of three new members to its Board of Directors – Matt Ganley, vice president of Resources and External Affairs at Bering Straits Native Corporation; Brad Keithley, partner and co-head of the Oil and Gas practice at Perkins Coie; and Karen Matthias, Alaska economic and political consultant at Matthias Consulting, as well as new officers. ... The new board members join the newly elected executive committee – Drue Pearce (chair), Duane Heyman (vice chair), Randy Hagenstein (secretary), Peter Scott (treasurer), Ira Perman (at-large); and current members Admiral Thomas Barrett, Dr. Jack Hickel, Brit Ashleigh Szymoniak, and Dr. Michael Sfraga. Emeritus members are John Hendrickson, Max Hodel, Gail Phillips, Steve Shropshire and Leif Selkregg."

The full release is available here.

State earns $983 million, ConocoPhillips $551 million from CP Alaska production in 2nd Quarter ...

The Anchorage Daily News ran an article yesterday on ConocoPhillips Alaska's quarterly earnings report.  The headline was "ConocoPhillips earned $551 million in Alaska in 2Q."  The headline, and story, was roughly the same also in the Alaska Dispatch ("Conoco turns $551 million profit in Alaska for second quarter") and the Juneau Empire ("ConocoPhillips produces strong Alaska profits").  The Fairbanks News-Miner and APRN, except for the Dillingham affiliate ("ConocoPhillips Alaska reports huge profits") do not appear yet to have a run a story on CP's quarterly report.

Here is what the headline should have read to accurately reflect the story ... "State earns $983 million, ConocoPhillips $551 million from CP Alaska production in 2nd Quarter."  That leaves a different impression, doesn't it?  What if it read, "State earns $983 million on no investment, ConocoPhillips $551 million on $100 billion investment from CP Alaska production in 2nd Quarter."  

But sadly, all that the ADN (and, for that matter, the Dispatch) reported in their headlines was CP's share.  That lack of balance is important -- and may explain much about why the general population thinks the oil companies are greedy.

"Understanding Alaska's Budget" May Explain Much More Than It Intends ...

The Alaska "House Special Committee on Fiscal Policy" yesterday released a new website focused on "Understanding Alaska's Budget."  The website may explain much more than the authors intend about how Alaska has worked itself into its coming fiscal crisis -- and why recent legislatures have made the problem worse.

The press release announcing the website provides the first clue.  The release quotes the Chair of the House Special Committee as follows:

“We’re in the cat-bird seat, financially, now, but with throughput this week under 400,000 barrels, and with a volatile oil price, we need to prepare people for the likelihood of lower revenue. That means also preparing to handle the challenges before we reach a crisis – that’s what this is meant for.”

Alaska is not in "the cat-bird seat, financially, now."  Alaska has a temporary cash surplus, the same way that you or I would if we treated as current disposable income the money that we otherwise need to put away for our children's college tuition or our retirement.  Spending it now means that our children -- and us -- will be worse off in the future as our income winds down but our spending needs continue.

As the University of Alaska Anchorage's Institute of Social and Economic Research ("ISER") has made clear in two recent studies, once adjusted for the savings levels that are required to fund tomorrow's state spending requirements once oil winds down, Alaska is not currently in the "cat-bird" or any other type of comfortable seat.  Instead, as I explain more fully in a recent piece (which relies on the ISER studies), Alaska is very much behind the curve and is spending away today at an alarming rate money that otherwise should be put away to handle future needs.

The fact that the "Special Committee on Fiscal Policy" thinks otherwise is not only disappointing -- it is downright alarming.  Thinking you are in the "cat-bird" seats leads to short term decisions that have very bad long term consequences.

The second clue that the website provides about how Alaska has worked itself into this situation is even more telling.  One of the things about the House website that holds promise is that it has a tab headed "Fiscal Gap," which attempts to explain Alaska's coming fiscal crisis and alternatives for dealing with it.

But then, precisely at the critical moment, the website -- and evidently the Committee, like the Legislature since 2006 -- goes soft and, just like the shortstop in the critical series, lets the hard liner go through its legs.  On the "Fiscal Gap" page, the Committee has a header entitled "What can be done" that lists various alternatives for dealing with -- and closing -- the Fiscal Gap.  The last two on the list are mirror images of the same step -- cutting spending (which actually is last on the list), and increasing savings.  Here is what the website says about cutting spending (which, of course, is necessary in order to increase savings):

"Budget cuts will likely be needed to address a fiscal gap, so it will be important to look for ways to cut out waste, trim non-essential services and find other ways to do more with less. However there is a limit to what can be done without gutting essential services that Alaskans rely on, and deep cuts are likely to slow the economy.

At the end of that paragraph there is a hypertext link that seeks to explain why "deeper cuts are likely to slow the economy."  That explanation is where things really spin out of control.  Here is the explanation given at the link (its long, but important; I have emphasized portions that provide the most significant insight):

Why not just cut the budget? 

Alaska’s operating budget has been increasing at about 9% per year for the last decade and is expected to continue on this path. Even with tighter budget control, the budget will need to increase as population increases and to adjust for inflation just to maintain current levels of service. Increases in future obligations due to an aging population are a part of fiscal gap calculations and one reason why Alaska is not alone in facing future budget woes. 

While deep cuts to state services could help the plug the fiscal gap, they would hurt the economy and Alaska families. State government not only provides needed services and infrastructure, it also plays a significant role in the state’s economy, directly employing around 7% of working Alaskans (24,000 people in 2011) and generating even more jobs by providing grants and contracts to the non-profit and private sectors and by being a major purchaser of goods and services from Alaska businesses. Without state funding some of those jobs will disappear. 

Often when people talk about cutting government spending they mean cutting out excess bureaucracy and paring back non-essential services. It will be important to find efficiencies and look for ways to trim waste, but there is a limit to what can be cut without cutting into basic services that many Alaskans rely on. Administration only accounts for 4% of the state operating budget. While there may be efficiencies that can be found, administration cannot be gutted since it includes core services like IT and telecommunications services, accounting and payroll that state agencies need to operate. 

In past years, the state has cut the capital budget when short-term deficits have occurred in years of low oil prices. Cutting the capital budget provides immediate savings but is a short-term fix that has its own negative impacts, such as higher future costs due to deferred maintenance on public buildings. Cuts to the capital budget also impact general contractors, engineers, and people working in the trades throughout Alaska who contract with the state to plan and build infrastructure projects. Maintaining public infrastructure, including roads, bridges, ferries and public health clinics is a core function of government that no one else is going to pay for if the state doesn’t do it. 

Budget cuts impact people differently. Cuts to education impact children and families, while cuts to the capital budget impact the Alaskans in the construction industry, and cuts to health and human services impact people with fewer resources. In one way or another, state spending improves the quality of life for all Alaskan. We are used to receiving high levels of service from our government. In a recent statewide telephone survey, Alaskans from all political parties chose maintaining state services over balancing the budget for nearly all state services.

I will write much, much more about the positions taken in this tab in future pieces, but for now let me briefly make three points.

First, the focus on the role of "government" as a source of jobs ("[w]ithout state funding some of those jobs will disappear") is something that one would ordinarily expect to hear from the far-left wing of the Democrat party, not a committee composed primarily of Alaska Republican House members.  What happened to the usual -- and economically sound -- principle that government should leave the role of job creation -- and more importantly, picking economic winners and losers -- to the private sector, and limit taxes in order to permit the private sector to create those jobs and make those choices?  This rhetoric sounds much more like that which justified the federal government's recent economic stimulus packages than anything normally associated with "fiscal conservatives."

Second, the size of the budget -- which the Committee now appears to argue cannot be cut without "hurt[ing] the economy and Alaska families" -- is a recent phenomenon.  As I explain elsewhere:

Prior to FY 2008 – the first budget of the Palin/Parnell Administrations – state spending levels were relatively moderate. During FY 2004 – 2006, for example, General Fund spending was only (.pdf) $2.3 billion, $2.3 billion and $3.0 billion. From FY 2008 forward, however, state spending has exploded. The comparable numbers for FY 2008 – 2013 are as follows (.pdf): $4.25 billion, $5.0 billion, $4.23 billion, $5.1 billion, $6.72 billion and $7.6 billion. While any one year might be excused as an anomaly, the succession of six such years in a row – and the fact that the numbers are escalating – leads to serious concerns about where the state’s fiscal policy is headed. 

In short, just six years after the fact, General Fund spending for this coming year alone (FY 2013) is budgeted to exceed the total amount spent in the three years from 2004 – 2006.

Certainly it isn't the case that the legislatures prior to 2006 were "hurting the economy and Alaska families."  Instead, what those legislatures were doing was balancing the needs of future Alaskans with those of current Alaskans.  The legislatures since 2006 appear to have abandoned that long-term view and focused increasingly only on pandering to the needs of current Alaskans.  The Legislature -- and the Committee -- should be concerned equally about both the current and future "economy and Alaska families."  Their comments provide a valuable insight into the fact that they aren't.

Third, the last sentence from the website -- "Alaskans from all political parties chose maintaining state services over balancing the budget for nearly all state services" -- is just nonsense.  Of course, current Alaskans choose to get as many government services as possible.  Government services to current Alaskans appear to be a "free good" -- Alaskans don't pay for them in the form of income, sales or even significant property taxes; someone else pays the costs.  As long as they don't have to pay for them, consumers always want "free goods," and the more of them they can get, the better.

Whether Alaskans want those free goods to continue isn't the right question to be asking.  As the ISER studies make clear, the goods in fact aren't "free," but are being paid for by future Alaskans by depleting the savings that they will need to maintain spending once oil winds down.

Thus, the right question to ask is whether Alaskans want more -- and more -- of those goods and services now at the expense of them having access to the same level of goods and services in their retirements, and their children and grandchildren during their lives.  That is the real question raised by the spending levels recent legislatures have approved.

It may be that current Alaskans planning on leaving the state in the next few years to spend their retirement elsewhere, and whose children have left the state and don't plan on returning, will continue to answer "yes."  But are those the people about whom the Legislature should be concerned?  I would suggest not.

If instead of asking current Alaskans whether they want to continue to receive free goods, the Committee asked whether current Alaskans want to do so at the expense of their -- and their children's -- future, my strong guess is that those who intend to remain in Alaska would provide a much different answer than what the Committee has assumed.

The simple fact is that future Alaskans can't afford the level of government services that current Alaskans are receiving.  The failure of the Committee to realize that -- and recognize that deep cuts are required in the level of government services being provided to current Alaskans in order to maintain a moderate level of government services to future Alaskans -- does much to explain how Alaska has worked itself into its current position.

In its press release, the Special Committee congratulates itself on the website being "visually stunning."  I don't disagree; its a bright, shinny new toy.  On the substance, however, the Special Committee has muffed the fly ball.  Instead of helping to explain to Alaskans that there is a need to become serious about retrenching the budget, the Special Committee instead tells them that Alaska is in the "cat-bird" seat currently, and doesn't have to -- indeed, shouldn't -- worry much about cutting the budget going forward.

Frustrating ...

Two news articles last week in the Anchorage Daily News caught my attention, and in combination, crystallize one of my significant frustrations with Alaska oil and fiscal policy.

The first, "State collects $170B in oil revenue over 35 years," reports on a recent study by the University of Alaska Anchorage's Institute for Social and Economic Research ("ISER").  That study, "TAPS at 35:  Accounting for the Oil Revenues," concludes that "Oil-wealth spending—both revenues related to production and earnings from funds created by those revenues — [has] accounted for 90% ($159 billion) of total [Alaska] state spending since 1977. ... The share [of General Fund spending supplied by oil revenues] in 2012 was 92%—the highest it has ever been."

The second article, "Parnell administration seeks to hire oil taxes consultant," reports that "The Department of Revenue is soliciting proposals for a consultant to provide expert economic analysis. The consultant will be asked, among other things, to identify issues with the current oil and gas tax structure that might limit industry investment in the state and to make recommendations for improving the existing system."

Reading both articles together reminds that Alaska's economic present and future is tied inextricably to oil, but at the same time that Alaska also is dependent on Outside consultants for developing its oil policy.  In my view, relying significantly on Outside consultants to set oil policy has been and continues to be a recipe for failure.  The state's continued reliance on that source of advice is seriously frustrating.

In many ways Alaska is unique economically, politically and with respect to many of the factors that affect oil investment and development.  It takes time (measured in years, not weeks or months) to learn the subtleties.  It also takes total immersion in order fully to understand the significant nuances that affect Alaska oil investment and development; occasional trips to the state barely scratch the surface.

In my view, a significant contributor to Alaska's inability to develop a coherent oil policy over the last several years has been the lack of in-state expertise focused on understanding Alaska's place in the world and developing -- and explaining to its citizens -- a successful, long-range plan for continuing to attract oil investment and development based on local knowledge.  Instead, Alaska has attempted to develop its approach to the industry based on a series of periodic recommendations made by a continuum of Outside consultants operating under short term contracts, some of whom have a significant understanding of the industry, but few of whom have developed anything more than a cursory understanding of Alaska.

Occasional -- and often inconsistent -- plans developed by Outsiders unfamiliar with Alaska have resulted in confused and often unrealistic proposals. Even when realistic, the proposals have lacked credibility because they are perceived to favor one side of the debate -- the side that hired the consultant -- or because the author is viewed as a short timer with an insufficient understanding of Alaska, or both.

Moreover, the authors of such recommendations have little incentive to develop more than a short term view. They have been hired by this Administration or that, or this Legislature or that, sometimes with implicit guidance about the recommendations they have been hired to develop and knowing, at the end of their contract, they will be on to the next project in another location and unburdened by living with the results of their proposals.

As a result, there has been little opportunity -- or reason -- for them to invest the time it takes to develop the long range, holistic view of Alaska necessary to develop real and sustainable solutions for the state.

Two years ago I encouraged Senator Lesil McGuire to introduce a bill to address this situation, by setting up a permanent, ongoing commission composed of a broad range of Alaskans designed to continually assess and make recommendations regarding Alaska's oil policy.  Basically, I argued that if "its Alaska's oil," then Alaskans need to develop the expertise sufficient to guide its development.

She responded and the result was proposed Senate Concurrent Resolution No. 4.

That Resolution would have established an “Alaska Oil and Gas Competitiveness Review Task Force,” an ongoing, non-partisan body composed of members of the Legislature, Administration and public, with the power to hire staff and develop and monitor on an ongoing basis a long-term oil & gas policy for the state.  The task force could have retained Outside experts, but their role would have been limited to educating the task force on world oil factors.  The task force itself would have been charged with developing the recommendations.

The result would have been Alaskans developing the expertise and making the recommendations necessary to develop a long term oil & gas policy for Alaska.  As I said at the time, "[i]f adopted — as it should be — the resolution has the potential to become one of the most significant pieces of long-term legislation passed this session."

By the end of the 2011 session, the resolution had evolved into Section 4 of the Draft Committee Substitute for S.B. 85, and in recognition of its intended long term life, the proposed body had been retitled as the "Oil and Gas Competitiveness Review Board."  The purpose and intended operation of the body remained the same as it had in the earlier Resolution.

That is where the story ends, however.  S.B. 85 did not make any further headway during the 2012 session and died, along with other unpassed legislation at the end of the session.  Meanwhile during the 2012 session, the Legislature went on to pass the biggest General Fund budget in Alaska's history and put an even greater strain on developing a coherent oil policy.

As I have written elsewhere, "it appears that Alaska’s most recent generation of political leaders ... is leading Alaska off the fiscal cliff."  Those leaders should look for ways to avoid that result; one of those ways is to develop a mechanism for creating -- and utilizing -- in-state expertise on oil policy.  Continuing to rely on Outside consultants to develop the way forward for Alaska will continue to travel down a dead end road.