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Vol. 20, No. 18 Week of May 03, 2015
Providing coverage of Alaska and northern Canada's oil and gas industry

Call for earnings use

Goldsmith: Budget shortfall can be reduced short-term, eliminated long-term

Eric Lidji

Petroleum News Bakken

A state economist believes earnings from the Alaska Permanent Fund and other public sources could reduce a current budget shortfall and balance the budget in the future.

“Fortunately, there is a strategy that can move us in the direction of fiscal sustainability while sidestepping many of the political roadblocks - such as fear of losing the Permanent Fund dividend or the imposition of new taxes - standing in the way of a fiscal plan,” Scott Goldsmith, an economist with the Institute of Social and Economic Research at the University of Alaska Anchorage, wrote in a recent research paper.

A drop in global oil prices over the past year has crimped state finances. The state is expected to collect some $2.2 billion in revenues in fiscal year 2016 and is projected to spend some $5.5 billion, according to Goldsmith’s calculations. Gov. Bill Walker recently convened a special legislative session aimed at passing a balanced budget.

Current proposals to address the $3.3 billion shortfall involve cuts to the operating budget and cancelled capital projects. Using earnings from the permanent fund could reduce the shortfall by two-thirds, to $1.1 billion down, according to Goldsmith, who described the smaller shortfall as being “still a fiscal challenge, but a much more manageable one.”

The proposal goes hand in hand with another Goldsmith made earlier this year. In his annual “sustainable yield” report, he recommended a $4.5 billion budget cap - adjusted for inflation and population growth - as a sustainable figure for future spending.

Even if lawmakers honor the cap and oil prices recover, the state would deplete its $10 billion constitutional budget reserve within a decade, according to Goldsmith. Relying only on existing earnings from petroleum revenue and other existing sources of revenue would almost certainly require some additional revenue source, such as an income tax.

Adding permanent fund earnings to existing revenue sources and respecting the $4.5 billion spending limit would balance the budget by 2019, according to Goldsmith.

ISER produced the report using a grant from Northrim Bank.

How it works

The art of Goldsmith’s plan would be drawing enough from earnings to ease budget shortfalls while saving enough to reinvest and pay out annual divided to residents.

The plan is a way of managing the “nest egg,” which is the combination of current savings and future revenues from petroleum in the ground at a reasonable rate of return.

The nest egg was estimated to be some $131 billion at the beginning of the year - down from $135 billion when ISER released its most recent “sustainable yield” report, in January - split almost evenly between savings ($66.4 billion) and future earnings ($64.6 billion). At a 7.5 percent return, these revenues would generate $9.825 billion in earnings.

The plan calls for saving $4.585 billion of these earnings to accommodate inflation and population growth, setting aside $1.402 billion for dividends and spending the rest.

To avoid harming the dividend, the plan proposes calculating the amount of earnings available for the general fund after paying the annual dividend. Goldsmith forecasts a $2,000 dividend in 2017, which would fall to $1,800 by 2019 and rise steadily thereafter.

With oil prices, oil production and financial markets always changing, the “sustainable spending” plan is merely a strategy, according to Goldsmith. It would require policymakers to adjust the specifics of spending and saving each year based on various factors, including the ever-declining amount of oil and natural gas still in the ground.

So Goldsmith compared the “sustainable spending” strategy with two other strategies, simple rules using a percent of market value and an expanded permanent fund. The former would draw a fixed percentage of the market value of the entire portfolio of state assets. The latter would do the same for an expanded permanent fund. At 4 percent, the former would yield more than the sustainable plan, in part because savings fail to offset the depleting resource. The latter would yield less because it ignores future earnings.

Even if the state implements his plan, Goldsmith acknowledges the target could prove to be impossible to reach, at which point “the state would need to consider adding new non-petroleum revenues or changing the way the Permanent Fund dividend is calculated.”



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