Brad KeithleyKeithley Consulting, LLCbgkeithley.com

Alaska Fiscal Policy:Dealing with $90 $80 $75 oil

COPAS MONTHLY EDUCATION LUNCHEONANCHORAGE, AK

NOVEMBER 17, 2014

ItsOurFutureAK.com

The good old days

Right now, the state is on a path it cant sustain. Growing spending and falling revenues are creating a widening fiscal gap. 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.

ISER Web Note 14 (2013)

2

The good old days - 2 The implications of the figures are severe:

1. Simply constraining expenditure growth is insufficient

2. Failure to reduce the projected deficits will result in a very hard landing

3. Revival of the standard fiscal policy options [broad based taxes, etc] may not eliminate deficits

-- The Fiscal Year 2015 Budget: Legislative Fiscal Analysts Overview of

the Governors Budget, Legislative Finance Division

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And then this happened

2014 ANS Price

Jan $105Mar $111May $105

FY 2015Budget Breakeven

$117Jul 1 $111Aug 1 $103Sep 1 $ 97Oct 1 $ 91Nov 1 $ 82Nov 13 $ 75

????

The future (2023) is now

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What does it mean

At $85 oil (average for the year)

the revenue equivalent of a production decline to ~300,000 b/d

$6.2 billion spending, $2.9 billion revenue = $3.3 billion (53%) deficit (~$4,500 per Alaska man, woman and child; $18,000 per family of 4)

$9.5 billion remaining in savings, 2.9 years of unrestricted savings remaining at the end of FY 2015 at that deficit level

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How long will it last Uncertain early in the cycle, but last week this: EIA November Short Term Economic Outlook

Brent crude oil prices will average $83/bbl in 2015, $18/bbl lower than forecast in last month's STEO.

IEA November Oil Market Report Our supply and demand forecasts indicate that barring any

new supply disruption, downward price pressures could build further in the first half of 2015 .... it is increasingly clear that we have begun a new chapter in the history of the oil markets.

Capital Economics (London) Forecasting $75 per barrel by the end of 2015, $70 by the end

of 2016 and given the current negative sentiment in the market, it is clearly possible that $70 could be hit much sooner ... we believe that lower oil prices are here to stay."

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What is ahead for Alaska

reducing expenditures institution of a broad-based tax, and use of a portion of the earnings of the Permanent Fund

Business as usual The alternatives

Rate of depletion of remaining unrestricted savings at current spending rates ($90: 2020, $80: 2019, $70: 2018)

$- $1 $2 $3 $4 $5 $6 $7 $8 $9

$10

2016 2017 2018 2019 2020 2021 2022 2023 2024

Billio

n$

Start of Fiscal Year

CASH RESERVE LIFEAT DIFFERENT OIL PRICES

$100$90$80$70

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Reducing expenditures

Operating Budget:Formula: $2.2Non-Formula: $2.4Statewide: $ .7PERS/TRS $ .3*

Total $5.6

Capital budget: $ .6

Total $6.2http://www.legfin.state.ak.us/FisSum/FY15-Budget.pdf

FY 2015 Budget

Remember, at $85, revenues are only in the range of $3 billion

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Where will the focus be

Capital Budget shrinks first (and fast)

Attention turns to the big drivers in the Operating Budget are: K-12 education

Medicaid

University

Personnel count and cost

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Is there another alternativeWhat can the state do to avoid a major fiscal and economic crisis? The answer is to save more and restrict the rate of spending growth. All revenues above the sustainable spending level including Permanent Fund income, except the share that funds the dividend would be channeled into savings.

ISER Web Note 14 (2013)

Over time, earnings from the amounts saved are used to supplement other sources to maintain a sustainable level of overall revenues.

Turns a non-renewable resource (oil) into a renewable resource

(financial assets)

But given past draws and NPV reduction, likely only in the range of $3-4 billion currently

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So, what does that mean State is in for rough very, very rough seas ahead

If oil goes to $90 $80 $70, things become challenging disastrous

New price environment requires huge reductions ($billions) in state spending

Emphasis will need to be on spending prioritization (high grading)

State assistance to local govt and schools will be under severe pressure (shifting the revenue burden)

Some will also advocate other steps Income/sales taxes and use of PF earnings But revenue potential is limited (~$1800 per capita taxes,

$1880 (2014) PFD v. $4500 deficit)

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Some ideas on the way forward Alaska retains a strong resource base and bright tomorrow, but must revamp spending to live within our means

Immediately (Murkowski, 2006) reduce state capital budget to bare minimum

Immediately reduce operating costs by 10%; create a panel with the direction to identify additional reductions of 25% (will need to include formulas)

View this as an opportunity to secure Alaskas fiscal future Transition to sustainable budgets to move Alaska beyond the

boom/bust cycle

In the near term, justifies (slightly) higher spending than cash basis approach; in the long term, treats all generations fairly

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Alaska Fiscal Policy:Dealing with $90 $80 $75 oilThe good old days The good old days - 2 And then this happened What does it mean How long will it last What is ahead for Alaska Reducing expenditures Where will the focus be Is there another alternativeSo, what does that mean Some ideas on the way forward