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Alaska’s fiscal challenge for future State’s fiscal gap presents risk for long term investment but any option to balance the fiscal books will cause pain to someone Alan Bailey Petroleum News
As the Alaska Legislature gears up for another no-doubt lively debate over the state’s oil production tax, blamed by some for a lack of investment in new oil production, another factor that can put the dampers on industry investment in the Last Frontier looms on the horizon, according to Bradford Keithley, partner with law firm Perkins Coie LLP. Projections that the state will run out of funds around 2023, as state expenditure increasingly exceeds projected state revenues, raise the specter of future state tax hikes, thus raising financial risks for companies thinking of investing money in long-term projects, Keithley told the Alaska Support Industry Alliance’s Meet Alaska conference on Jan. 11.
“We’ve got to solve this problem in order to maintain long-term investment in the state,” Keithley said.
Analysis by Goldsmith Keithley based his argument on an analysis of state finances published by Scott Goldsmith, professor emeritus in the Institute of Social and Economic Research, University of Alaska Anchorage. That analysis, as reported in the Jan. 13 issue of Petroleum News, essentially said that current levels of state spending are unsustainable. And, if spending continues on its current trend, the shortfall between spending and projected state revenues, as Alaska’s oil production drops, will eventually force the state to consume the entirety of its budget reserves.
At that point, probably around 2023, the state will be out of money and will face an economic crash.
“If you’re an oil company or a mining company, looking at making long-term investments in the state … and you’re looking at that sort of a gap out there, and knowing how the state has covered its revenue gaps in the past … you are very concerned about making additional investments into this state,” Keithley said.
Keithley commented that Gov. Parnell’s projections of state revenue and expenditure reach a similar conclusion to Goldsmith’s, when using a $90 per barrel average future oil price rather than the perhaps optimistic $115 price that the governor assumes.
And, although people hope that changes to the oil production tax will result in increased future oil production, tax reform will not close the fiscal gap, Keithley said.
The state currently obtains the bulk of its income from various forms of oil revenue.
Sustainable budget But, as Goldsmith pointed out, there is time to solve the fiscal problem by establishing a sustainable budget, in which state annual expenditure is cut by about $1.5 billion, with the budget savings being channeled into a state “retirement fund” that would cover state costs in the out years, after the current budget reserves have dried up, Keithley said. That would limit the state to expenditures of about $5.5 billion, rather than the $7 billion that the governor has proposed in his new budget, he said.
Likening the state’s predicament to the much talked about fiscal gap that the federal government faces, Jonathon King, an economist from consultancy firm Northern Economics, talked to the conference about the challenges that the state faces in balancing its books.
With the taxes on oil companies already high and at less than competitive levels, and with the introduction of any personal taxes in the state incapable of replacing oil revenues, there are only limited options for addressing the problem by bolstering state income, King said.
Expenditure items And, as a focus for assessing where spending cuts might be made, King reviewed the major items of expenditure in the state’s $7.9 million budget for fiscal year 2013.
For every dollar being spent in that budget, 27 cents pays for the operations of state agencies such as the Department of Transportation, the Department of Natural Resources and the Department of Environmental Conservation. Another 25 cents is appropriated for capital projects for which the state provides funding. Then 18 cents goes into what are referred to as “statewide operations,” including the general costs of running the state; the state PERS and TRS pension schemes; and oil and gas tax credits. A 16 cent slice goes into education. “Formula agency operations,” including Medicaid payments, account for 11 cents out of every dollar. And the remaining couple of cents or so pays for the Legislature and the judicial system.
Moving to a $5.5 billion budget would require a budget cut of somewhere between 18 and 28 cents per dollar, King said.
“So where do we start slaughtering the sacred cows?” he asked.
Capital budget The obvious starting point would be the state’s capital budget, where perhaps $800 million to $1.5 billion could be pulled without endangering any matching funds provided by the federal government, King suggested. The 2013 capital budget of $1.9 billion is very much higher than the more sustainable budgets of $500 million to $600 million that the state saw in the past, he said.
In fact, the massive state capital budgets of the past couple of years have led to something of a boom in the construction and manufacturing industries in the state, King said.
Smaller sources of cost cuts could include exploration tax credits, the state pension formulas, state renewable energy programs and the state’s energy efficiency program. There may also be potential for cost cutting in the state’s operating budget.
Painful But no cost cut comes without pain, King cautioned. The renewable energy program, for example, has done great things for Alaska communities, while the energy efficiency program has shifted gas consumption in Southcentral Alaska.
“But we have to ask ourselves ‘have we picked the low-hanging fruit and is the higher-hanging fruit still worth collecting?’” King said.
On the revenue side of the balance sheet, a sales tax would likely be problematic for the state because this type of tax is already levied by a number of boroughs and cities. A state income tax, say at a 6 percent level, might raise $1 billion to $2 billion per year, an amount that could help backfill the funding gap if spending continues at present levels but that would not ultimately replace oil revenues, King said.
In the end, state spending must be addressed.
“There’s no free lunch,” King said. “It’s pay now or crash later.”
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