Legislature(2015 - 2016)HOUSE FINANCE 519
04/13/2016 08:30 AM FINANCE
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HOUSE BILL NO. 311 "An Act requiring the governor's fiscal plan to include certain information." 9:52:22 AM 9:52:50 AM AT EASE 9:56:04 AM RECONVENED 9:56:15 AM REPRESENTATIVE CHARISSE MILLETT, SPONSOR, introduced herself. 9:56:25 AM REPRESENTATIVE CHARISSE MILLETT, SPONSOR, explained that the bill was an additional tool to help the budgeting process by calculating a sustainable amount that the state can reasonably spend on funding government each year. The bill would accentuate a sustainable budget plan and not compete against one. The legislation took into consideration all of the budgetary mechanisms the state already employed to calculate a "sustainable spend." She believed that the bill was a "fiscal planning tool" and was "relevant" to the budget crisis. She shared that she had worked extensively with Dr. Scott Goldsmith, Institute of Social and Economic Research, University of Alaska Anchorage, (ISER) who currently retired. During the process of crafting the bill the amount of $4.5 billion was calculated as the sustainable budget amount. She felt that by determining the state's capacity for spending each year the bill was "generational". She believed the bill complemented any fiscal plan implemented by the legislature. 9:59:32 AM Representative Gattis asked whether the bill would hold the legislature accountable. She noted her frustration with other fiscal plans was that they did not hold the legislature or future legislatures accountable to a spending limit and she would judge the legislation based on accountability. Representative Guttenberg voiced that he had seen similar legislation over the years. He believed that it was very difficult in the end to develop a "one page snapshot" so that everyone could understand and base policy around the information. He thought that the approach was important and beneficial and should happen every year regardless of passage of the bill. Representative Gara appreciated the bill. He spoke to the requirements mandating the governor to issue a report regarding incoming revenue excluding the net present value of oil reserves and wondered why. Representative Millett replied that the answer would be forthcoming through the slide presentation on how ISER set up the calculation. Vice-Chair Saddler voiced that he did not see anything that precluded including future oil reserves and did not find the word sustainable in the legislation. BRAD KEITHLY, PRESIDENT, KEITHLEY CONSULTING, LLC, provided a PowerPoint presentation titled "HB 311: Sustainable Budget Reporting" dated April 13, 2016 (copy on file). He relayed that he would discuss the background, objective, and implementation of the legislation. He moved to slide 3: Background · HB 136 (28thLegislature) · Hearings on HB 136: Apr. 5, 2013 (full Committee) Jan. 9, 2014 (Fiscal Policy Subcommittee) · HB 311 is the same bill In preparation for the 2013 testimony Dr. Goldsmith and I prepared a work draft that improved some provisions. We have included that work draft here as part of this testimony. Mr. Keithley relayed that the bill had originally been introduced as HB 136 during the 28th legislature. The work draft was included in the bill's backup file and could be adopted as a Committee Substitute. He turned to slide 4 which contained a quote from Dr. Scott Goldsmith: Objectives · Requires the Administration to calculate and submit each year as part of the December budget process a long term sustainable budget number "A spending level based on current financial assets and the projected future petroleum revenue stream which, if adopted now, could be maintained consistently long into the future, adjusted for inflation and population growth" Mr. Keithley thought that the bill's objective to annually calculate a long-term sustainable budget number was simple. He noted that the methodology was considered the "Goldsmith approach." He discussed the historical volatility of the price of oil and the resulting revenue ups and downs as well as spending highs and lows. He moved to slide 4 and referred to the table depicting different sources of revenue to the state in various colors. He listed the income sources considered in the Goldsmith model; Constitutional Budget Reserve (CBR), other taxes, current oil sources, incremental oil revenues from new oil, revenues from the AKLNG Project, divert earnings from the Permanent Fund deposit, and Permanent Fund Dividend (PFD) Earnings Reserve funds. He explained that the black line was calculated by the model and depicted a steady budget through periods of time when revenues were higher and lower. He delineated that if the state saved money when revenues were above the line sufficient funding would be available when revenue dipped below the line. The goal of the process was to treat all generations of Alaskans fairly through a reliable spending stream. 10:10:56 AM Mr. Keithley addressed the goal of the bill on slide 5: Objectives · Goal is to provide a number that "looks through" the ups and downs of the commodity cycle and identifies a stable, long term (i.e., "sustainable") budget number · Not a spending cap, although it could be used for that (as I and others have advocated) · Not a fiscal plan, although it could be used for that as well (as I and others have advocated) · But in the form of HB 311 a guide to the spending levels that help ride through the ups and downs of commodity cycles Mr. Keithley communicated that the bill was not a spending cap or a fiscal plan. The bill merely provided information and would "institutionalize" getting a number before the legislature. 10:12:58 AM AT EASE 10:13:07 AM RECONVENED Mr. Keithley presented slide 6: Origin of the model · A response to wide swings in spending levels (and economy) based on revenue levels "How much do we need to save during a high revenue period in order to be prepared to offset the effect during a low revenue period" Mr. Keithley revealed that the plans inception came as a question to Dr. Goldsmith from bankers at Northrim Bank who asked him to develop a methodology to determine what the state would have to save today in order to have income for tomorrow in light of the revenue volatility the state experiences. He noted the chart on the slide developed by the Legislative Finance Division that depicted the high and low revenue periods through the years. He turned to slide 7: Creates focus on long-term outlook If you assume future is always like the present: • At high prices, too optimistic and current spending overshoots the mark • But pessimism is an equal problem - at low prices, too pessimistic and policy makers pull tax/PFD levers that unnecessarily penalize the current economy HB311 creates a tool to help focus fiscal policy on the long-term out look to look through high and low cycles, which is critical in a commodity based economy 10:16:36 AM Mr. Keithley remarked that the following slides were directly from ISER. He highlighted slide 9: RECOGNIZE AND MANAGE OUR PETROLEUM WEALTH (ENDOWMENT) LIKE A DEPLETABLE ASSET 1. How much is it worth?2. How can we invest it for maximum return? 3. How much of it can we spend annually without depleting it? Mr. Keithley moved to slide 10 titled "Petroleum Wealth of the "Owner State." He reported that the chart showed ISER's calculation of the state's wealth (Total: FY 2017 $125 billion) in the bank ($64 billion) and oil in the ground ($61 billion). He explained that oil in the ground was defined as the estimated net present value of future petroleum revenue based on a three year moving average to account for volatility in the price of oil. He addressed slide 11 titled: "How Much Can We Spend Today: GF Maximum Sustainable Yield." He indicated that Mr. Goldsmith's approach considered the state's fiscal assets and the net present value of the oil assets equally and took 5 percent of the total and subtracted 0.8 percent adjusted for inflation and population growth, which kept the revenue level per Alaskan the same in the future which equaled 4.2 percent. He calculated that 4.2 percent of $125 billion was $5.2 billion minus the PFD maintained at the full amount ($1.3 billion) and added in non-petroleum revenue ($.5 billion) and came up with the GF maximum sustainable yield in FY 17 totaling $4.4 billion. He observed that the maximum sustainable yield was the number the state could spend today from revenue and savings without adversely impacting the future. When revenues were high the number adjusted for inflation and population growth should remain the same and the surplus deposited into savings. He detailed that the savings needed to be replenished to repay the withdrawal from savings when revenues were low and to maintain spending through future periods of low revenues. He reiterated that the number was not a spending cap. 10:22:33 AM Mr. Keithley briefly examined slide 12 titled "What Should We Sustain?" which contained a chart that portrayed the results of maintaining a sustainable budget approach. He summarized that overtime more money would be taken out of earnings to supplement low oil reserves but the savings would grow and be available for spending. He highlighted slide 13: "Maximum Sustainable Yield: Implementation." · Manage financial assets for maximum long term return · Proactively participate in management of petroleum in the ground for maximum return · Establish monitoring system to track Nest Egg value, set MSY target, and track progress towards sustainability · Gradually transition to GF Maximum Sustainable Yield level Mr. Keithley pointed out that the third bullet point was the only one on the slide relevant to HB 311. He moved to slide 14: Other perspectives "The State is spending money at an unsustainable rate. If this is not checked, extreme measures such as diverting all Permanent Fund Dividends and and/or instituting state taxes could become necessary to sustain spending on State programs …. The State has an urgent need to develop the practice of creating successive long-term strategic plans with annual budgets based on maximum sustainable yield of the State's primary assets." -Commonwealth North (Feb. 2013) Mr. Keithley informed the committee that The Alaska Chamber had recommended Dr. Goldsmith's approach to the legislature. In addition, Commonwealth North had looked at the approach in detail in February, 2013. He read the two quotes from the slide. He underlined slide 15: HB 311 was a tool to help keep Alaska fiscal policy focused on the long-term… 10:26:08 AM Representative Gattis agreed that the state needed a sustainable budget. She stated there were others who may disagree and planned to "play devil's advocate" through her questions. She wondered why the state would assume $125 billion and then exclude the major saving account from the maximum sustainable yield formula. Mr. Keithley answered that it had been a deficiency in the original bill. He explained that when drafting the bill a long debate ensued between Legislative Legal Services and the sponsor regarding the language in the bill that did not capture Dr. Goldsmith's intention. He related that the work draft for HB 136 (Sustainable Budget) [introduced February 22, 2013] more accurately reflected the approach he described. Representative Gattis read the following: "the changes the bill made to statute seemed to nullify the basis of a maximum sustainable yield principal. Your maximum sustainable yield calculation for FY 2017 was $4.4 billion not including the dividend. She asked where the state would "get the cash" if the approach excluded savings accounts. Mr. Keithley replied that the language deficiency in the current version was incorrect and the methodology did not exclude anything. He recapped that the approach drew from savings when in a low revenue cycle and adds to saving in a high revenue cycle. Representative Gattis asked why the state would be broke in FY 2022 if the maximum sustainable yield plan worked. Mr. Keithley answered that if the plan was used the state would not be broke in FY 22; application would lead the state to be solvent in FY 22. Representative Millett interjected that the bill could be used with any of the fiscal plans that had been proposed. She reiterated that the approach was a tool and was a mechanism for determining a sustainable spend. She declared that the legislation was not a panacea. The bill provided the legislature with a guide. She maintained that the sustainable yield was merely "an indicator of what the state could spend based on assumptions that we use." 10:32:29 AM Representative Wilson asked whether the $4.4 billion number included capital and operating expenses. Mr. Keithley answered in the affirmative. He elaborated that the formula did not care what category the spending was. Representative Wilson asked how the plan reconciled the accounting when general fund spending was moved to "other funds." Mr. Keithley responded that the tool did not delve into the undesignated general fund versus designated general fund monies; it offered a number that represented a "pot of money" available for spending. Co-Chair Neuman remarked on the $800 million in tax credits that the state issued to incentivize production in Cook Inlet. He asked whether the credits were included "in the budget." Mr. Keithley answered that they were included in the $4.4 billion; tax credits were taking money out of the treasury and depleted the state's revenues like all other spending. Co-Chair Neuman discussed the benefits of the oil credits especially in the area of increased throughput. He indicated that when the credits were offered there was more oil in the pipeline and the price of oil was much higher. He wondered whether the state had to spend extra dollars now on tax credits above the $4.4 billion in order to ensure that in the future there was more revenue coming in through increased input in order to maintain the $4.4 billion. He wondered how the plan would "level that out." Mr. Keithley answered that the methodology did "a very good job of that" by projecting future oil production and factored in the tax credits. The model included the calculation of the value of what the tax incentives had produced in the future. However, the model informed that even with the additional future value from the tax credits the spending level should still be maintained at $4.4 billion. He reiterated that the bill did not cap the spending amount at $4.4 billion. Co-Chair Neuman stated that in the last 3 years throughput in the pipeline had increased 5 percent. He asked whether there was a mechanism that averaged out investing now for increased future throughput. He stated there were $800 million in credits that were unexpected and he did not want to "touch" Prudhoe Bay credits in order to maintain the viability of Alaska's oil and gas industry. He reported that the budget was roughly $4.3 billion or $4.4 billion in FY 17, which was close to the sustainable number but the oil and gas credits were currently "dogging" the state's budget. He wondered whether there was a mechanism to average the spending on credits now to maintain the $4.5 billion spend. 10:39:41 AM Mr. Keithley returned to a graph on slide 7 that showed a calculation of a long-term sustainable revenue number. The green on the graph related to new oil created from credits and incentives and depicted an estimate of the resulting volume. He reiterated that even by taking the new oil into account the calculation still brought the number to $4.4 billion. He deduced that spending any more than that amount impaired the dollars available in the future. He suggested that decisions about what to spend the money on was not involved in the calculation. He remarked that the number took into account the consequences of oil and gas tax credits and projected out the future production levels. Co- Chair Neuman noted that several years ago the legislature used $3 billion from the Constitutional Budget Reserve (CBR) to pay down Public Employees' Retirement System (PERS) and Teachers' Retirement System (TRS) resulting in over $1 billion less in actuarial payments. Mr. Keithley responded that it had been a bit different scenario than oil tax credits because the payment was used to lower the operating costs going forward. He stressed that the number that was calculated each year out of the methodology was what the number should be. He related that in any given year if the legislature determined that by spending more it would lower future operating costs; the PERS/TRS payment was an example, the judgement to spend more could be made. He believed that the sustainable number would provoke deep examination to understand the long-term impact in a scenario where spending was above the sustainable number. The bill would provide a long-term perspective. 10:43:30 AM Co-Chair Neuman characterized the oil tax credits as "somewhat out of the budgeting cycle" that were investments for the future and not really part of the state's "day to day" operating expenses. Mr. Keithley agreed, but felt that oil tax credits were different than the PERS and TRS one- time payment. He qualified that the oil and gas tax credits were continuing and the sustainable number was the "baseline" measured against what the legislature should consider spending on credits. Vice-Chair Saddler understood the maximum sustainable yield concept and the "caution" it provided the legislature. He wondered what tool was actually created by the bill. He thought the legislation "did what the governor should do anyway" and was puzzled that the bill language did not address sustainability. Representative Millett reiterated that the language in the current version was inadequate and she recognized the flaw but introduced the legislation in expediency. She shared that she had a fix and formula that explained how the calculation worked and remarked that the bill did a poor job and a new Committee Substitute (CS) would be introduced. She directed an additional remark to Co-Chair Neuman. She agreed that the decisions regarding PERS and TRS were beneficial, carefully weighed, with known fiscal impacts. She offered that the bill did not prohibit any future spending above the sustainable number and it informed the outcome of the spending above the number. She felt that the calculation was "just a number in time and how it would affect" the state's budget and was merely a "mechanism" so that legislatures and the administration would be aware of spending consequences in future years. She thought that a transitional fund for the oil and gas credits could work in concert with the maximum sustainable yield. 10:48:13 AM Co-Chair Thompson noted that the bill would be heard again in committee with a new Committee Substitute. Representative Munoz felt that the calculation was a very important tool. She asked about the intangible aspects of the net operating losses that were difficult to include in a sustainable draw calculation and wondered how they were accounted for. Mr. Keithley replied that the bill represented a big picture tool. He mentioned that future revenue was a prediction of revenue under the current tax regime and the net operating losses factored into the calculation of the net present value of the future oil stream. Co-Chair Thompson OPENED public testimony. Co-Chair Thompson CLOSED public testimony. HB 311 was HEARD and HELD in committee for further consideration. Co-Chair Thompson addressed the following meeting schedule.