An explanation of the sustainable budget approach, the FY 2018 sustainable budget number and how to implement this coming session.

1. Finding Alaska’s Future:
FY 2018 Sustainable Budget
Interior Alaska Republicans, Fairbanks
Alaska Republican Assembly, Palmer
October 21, 2016
Brad Keithley (bgkeithley.com)
President, Keithley Consulting, LLC
Founder, Alaskans for Sustainable Budgets

2. Agenda
• What is a “sustainable budget”
• What is the FY 2018 sustainable budget
• How do we implement
Follow along at:
http://www.slideshare.net/bgkeithley
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3. What is a “Sustainable Budget”
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4. What is a “sustainable budget”
In a commodity based
economy, a “sustainable
budget” looks through
the highs and lows of
commodity prices and
charts a consistent,
predictable, long term
spending level that is
sustainable in all
environments.
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5. Key Characteristics
• A sustainable budget
• Depends on saving the “excess” when current revenues
are higher than long term sustainable number, and
• Using resulting savings when current revenues are
lower than the long term sustainable number
• Is forward looking, so:
• Uses projections about certain future developments,
and as a consequence
• The “sustainable number" is subject to change as the
projections change (like most corporate forecasts),
• But changes normally are in a fairly narrow range from
year to year and, if significant, can be moderated further
by using moving averages or graduated transitions
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6. Key Components
• Calculates net present value (NPV) of future revenue
stream from projected future oil (and gas) production
• Not a valuation of “oil in the ground,” more a valuation of
government’s long term earning power
• Uses “other 50%” of PF earnings:
• Gov. Hammond: "I wanted to transform oil wells pumping oil
for a finite period into money wells pumping money for
infinity. … [Once the money wells were pumping,] [e]ach year
one-half of the account’s earnings would be dispersed among
Alaska residents …. The other half of the earnings could be
used for essential government services.”
• Previously “other 50%” largely has been left in earnings
reserve
• Budget level tracks inflation and population growth
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7. Key Projections Required
• Biggest:
• Projected oil (and gas) price, production &
“government take” levels
• Assumes forward spending is restrained to
“sustainable” levels (excess used to replenish
CBR/ER)
• Significant:
• The level of the “other 50%” of PF earnings (FY
2018, $1.3B)
• Projected inflation and population growth rates
• FY 2018 focus: correcting the statutory adjustment
for PF “inflation proofing“ (as PF has evolved,
current provision overdraws for inflation)
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8. Critical Consideration
• Calculation does not include PFD cuts or increased
taxes
• Why? These so-called “new revenue” sources – which
really just transfer money from the private economy
(i.e., PFD cuts or increased taxes) to the gov’t – aren’t
revenue neutral, they subtract from a sustainable
overall economy
• Because of adverse effect on overall economy, they
should be limited (in amount and time) and used only
to fill gaps between sustainable revenue and spending
levels, if any
• E.g., if sustainable level is $4B and spending $4.3B, “new
revenues” should be limited to difference, $300 million
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9. What is the FY 2018
“Sustainable Budget”
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10. Key Projections
• Key oil (and gas) projections
• Oil price: EIA 2016 Annual Report “reference case”
forecast (non-politicized projection)
• Oil Production: FY 2017 Spring RSB forecast, declining
thereafter by 3% (largely discounts effect of potential
new fields)
• Oil Gov’t Take: SB 21 stays in place going forward
• Gas: Assigns 50% probability to #AKLNG startup
• Other key considerations
• 50% of earnings used for PFD, “other 50%” is used to
support gov’t (FY 2018 “other 50%” = $1.3B)
• Going forward inflation averages 2.5%, population
growth .75%
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11. Biggest factor
Crude Oil Spot Prices (Brent, $$nominal) Real
($2015)
Growth
(2015-40)
Case 2014 2015 2020 2025 2030 2035 2040
Low oil price $98.89 $52.32 $41.90 $53.12 $66.45 $88.81 $121.25 1.3%
Reference $98.89 $52.32 $84.59 $112.10 $140.69 $180.68 $229.22 3.9%
High oil price $98.89 $52.32 $166.43 $226.77 $284.43 $344.09 $397.03 6.1%
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Source: US Energy Information Administration, Annual Energy Outlook 2016
(July 2016), https://goo.gl/bAqh55.
… oil price forecast (non-politicized)

12. EIA oil price forecast
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13. FY 2018 Sustainable Budget
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UGF SUSTAINABLE
SPENDING FY 2018 $4.02
Based on current & project revenue and use of financial
asset income. Spending grows with inflation and
population.
inflation 2.50%
population grow 0.75%

14. How do we implement
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15. How do we implement
• With one exception
(correcting the PF
“inflation adjustment”
mechanism),
implementing a
sustainable budget
doesn’t require new
legislation, it simply
requires discipline in
the appropriations
process.
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16. How do we implement
• Steps:
1. Calculating the sustainable budget number at the
beginning of each session, e.g., $4.02 B (FY 2018)
2. Setting – and enforcing -- a cap on overall real (no tricks)
UGF spending to the sustainable budget number.
3. Fund spending using traditional UGF revenues, Gov.
Hammond’s 50/50 approach (after correcting the PF
“inflation adjustment” mechanism), and if necessary
4. As Gov. Hammond envisioned, using the CBR & ERA savings
(the accumulated “other 50%”) as balancing accounts (end
of FY 2017 savings are projected to = $12.75B)
• Additional legislation setting out and requiring the
steps may be appropriate if needed to enforce the
necessary discipline in the process
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17. If spending falls above level …
• In the past, spending above sustainable levels
essentially has been funded by taxing future
Alaskans (“taxing our kids”)
• By reducing the state’s fiscal assets has reduced the
future sustainable level below current spending
• Under a sustainable approach, each generation
pays its own way
• If current generation spends more, above their share of
long-term sustainable revenue, they pay for it
themselves through taxes of some sort
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18. If taxes …
• Taxes (including PFD cuts, which are a form of taxes
targeted at specific type of income) …
• Pull money from the private economy, and
• Because of different multipliers between gov’t and
private spending, have an adverse impact on the overall
economy
• As a result, should be limited only to the difference
between sustainable and spending level
• Any more just leads to more spending …
“… remember the ‘revenue theory of costs’ for most nonprofits
[including government] … holds that these entities spend all the
money they get (allowing for prudent reserves). Savings come
when there is less money to spend.” – Dr. Terrence MacTaggart
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19. Debate should focus on economy
• Alaska already is in a recession, pulling more
money out of the private economy will make it
even worse
• If taxes …
• Choices among types (income, sales, property or PFD
cut) should be based on their relative impact to the
overall economy; they aren’t all the same
• ISER’s March study is a useful guide to relative
impacts
• Interestingly, the study concludes
"The impact of the PFD cut … has the largest adverse impact on
the economy ….“
• The Governor (and Senate) used the worst option, first
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20. Conclusion
• As a commodity based economy, Alaska should be
using a “sustainable budget” approach
• The FY 2018 sustainable budget number is $4.02
billion; Alaska should be driving spending to that
level
• Implementing a “sustainable budget” mostly
requires legislative discipline, not new legislation
• If the state can’t hold spending at the sustainable level,
it should tax the current generation for the difference,
but only the difference
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21. A few fiscal facts …
How much is currently in the ER/CBR/SBR and PF Corpus?
Currently projected balances as of the beginning of FY 2018 (July 1,
2017): $9.2B (ERA), $3.3B (CBR), $300M (SBR), $43B (PF corpus)
(LegFinance, https://goo.gl/u1No6p at 3).
How much have we accrued in unpaid Oil & Gas tax credits?
According to the Administration’s most recent estimate: $1.175B (FY
2018), with another $285M in FY 2019 and continuing at $150-200
thereafter (DOR, https://goo.gl/J05Ia1 at 2).
How much are current revenues?
According to most recent projections: Traditional UGF: $1.25B (FY
2017), $1.35B (FY 2018) (DOR, https://goo.gl/uDwqYk at 8). “Other
50%”: $1.3B (FY 2017), $1.3B (FY 2018) (PFC, https://goo.gl/UiBbKh)
How much revenue would a broad based taxes raise?
According to the Administration’s estimates: Income tax: $200M (6%
of fed liability; DOR, https://goo.gl/evnpVB at 11), Sales tax: $418M
(3%, DOR, https://goo.gl/GZ223E at 6).
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