1. Understanding Alaska State Finances
Institute of Social and Economic Research
University of Alaska Anchorage
February 20, 2003
We hear a lot about Alaska’s state budget these days– mostly talk about deficits and how the state could balance the budget. But it’s hard to understand the problem, or think about how we might solve it, unless you know more about how the budget works: where the state gets money and how it spends that money. The Institute of Social and Economic Research developed this slide show to help Alaskans understand state finances and the policy choices we face. 

2. Topic 1.1 Where does the money come from?
ISER 9/20/2018
Topic 1.1 Where does the money come from?
1/3 of the state budget is state general purpose funds.
1/3 is federal matching funds.
In fiscal year 2002, the total state budget, including permanent fund dividends and the operations of public corporations, was $7.4 billion dollars. Where does the money come from? The state budget includes funds from many sources. One third of the state budget is unrestricted general purpose funds, shown in blue in the chart. The legislature has broad discretion to appropriate these for any public purpose. The green segment is federal money earmarked for specific program purposes. One fifth is earnings from the Permanent Fund used for inflation proofing the fund and for dividends. And 14 percent of the budget is restricted funds. These are mostly the oil revenues which by law go into the Permanent Fund, and program receipts for designated purposes, such as university tuition, Alaska Marine Highway fares, or the dividend from Alaska Housing Finance Corporation. The annual debate over the state budget primarily concerns how to raise and spend unrestricted general purpose revenues– the blue segment in the chart.
Source: Legislative Finance, Summary of Appropriations FY02/03

3. Topic 1.2 Where do state unrestricted funds come from?
ISER 9/20/2018
Topic 1.2 Where do state unrestricted funds come from?
More than 1/2 were from oil
1/3 came from the Constitutional Budget Reserve
Where do the state’s unrestricted funds come from? In Fiscal Year 2002, more than half of the state’s $2.5 billion dollars in unrestricted general purpose funds were from oil royalties and taxes. 14% were from taxes and fees on other businesses and individuals. And one third came from the Constitutional Budget Reserve, shown in blue on the chart. The Constitutional Budget Reserve is a special fund created by voters in 1990 to hold the proceeds from settlements of oil and gas and mining tax disputes. The CBR is used to cover budget deficits. In Fiscal Year 2002, $738 million dollars were withdrawn from the Constitutional Budget Reserve to finance state government.
Source: Legislative Finance, Summary of Appropriations FY02/03 – includes supplementals

4. Topic 2.1: How does the state spend the money?
ISER 9/20/2018
Topic 2.1: How does the state spend the money?
More than half of all state spending is for general government operations
How does the state spend the money? More than half of all state spending is for general operations of government– the blue wedge of the pie. One fifth of the total goes for capital projects, such as building schools, roads, ports, and airports. Another fifth funds Permanent Fund dividends and inflation proofing the Permanent Fund.
Source: Legislative Finance, Summary of Appropriations FY02/03

5. Topic 2.2: What is in the operating budget?
ISER 9/20/2018
Topic 2.2: What is in the operating budget?
1/3 of the operating budget is for education.
What is in the operating budget? This chart is a break down of the blue wedge from the previous chart. The operating budget, including federal funds, was $4.5 billion dollars in fiscal year One third of the state operating budget– the blue and green segments on this chart-- supports education at all levels, from early childhood through university. A little less than a third is for health and social services, shown in yellow. The last third is for a wide variety of government functions, including public safety, natural resource management, road and airport maintenance, employment security, general administration and debt service.
Total: $4.5 billion (State and Federal Funds)
Source: Legislative Finance

6. Topic 2.3: What are the largest operating programs?
ISER 9/20/2018
Topic 2.3: What are the largest operating programs?
What are the largest programs in the state operating budget? The largest program is Medicaid. These are grants and contracts for medical services for needy people. This is a federally mandated program, and three quarters of the funding is from the federal government. The second largest program overall, and the largest expenditure of state dollars, is foundation support for K through 12 schools. The third largest program is the University of Alaska, all campuses combined. Note that there is a good deal of variation in the funding sources for these programs. Most have a mix of state unrestricted funds shown in blue, federal funds shown in green, and other restricted funds shown in yellow. But some are almost entirely one type of funds. State highway and airport maintenance, the last in this list, is almost entirely state funds. The Marine Highway System, the next one up, is entirely self supported from program receipts. Two above that is a green bar, Teaching and learning support programs; it is almost entirely federal funds.
Source: Legislative Finance and ISER

7. Topic 3: Who gets the money?
ISER 9/20/2018
Topic 3: Who gets the money?
Two thirds of total state spending (all funds) goes directly to Alaska businesses, households and local governments.
Looking at state spending another way, who gets the money? This chart shows data for Fiscal Year the most recent year we have analyzed. The two largest categories of spending were the blue wedge--purchases of goods and services from Alaska businesses, and the green wedge--direct payments to households. State purchases from Alaska businesses is primarily construction work. Payments to households include Permanent Fund dividends, Medicaid, public assistance, and the Longevity Bonus. State employee payroll – the yellow wedge—was less than one fifth of all state spending. The last two categories are Grants to local governments, which include school foundation funding, and the Other category which includes inflation proofing the Permanent Fund, debt service on bonds, and fund transfers to capitalize loan funds.
Source: ISER

8. Topic 4.1: How has state spending changed over time?
ISER 9/20/2018
How has state spending changed over time? As you can see in this chart, total state spending has increased since But if you break that spending down, you can see that the increase has mostly been in federal funds, shown in green, and restricted state funds, shown in blue. The state’s unrestricted general fund spending--shown in red-- has actually declined. Permanent Fund Dividends are shown in yellow.
Source: Legislative Finance

9. Topic 4.2: How has real, per person state spending changed?
ISER 9/20/2018
When we adjust for inflation and population growth, the state’s buying power (excluding PFDs and federal funds) has declined 14% since 1992
Over the years, the actual buying power of each dollar spent is declining. In the last ten years, price levels have increased 23 percent, and the state’s population has grown 11 percent. This graph adjusts state spending for inflation and population growth. The graph includes the state’s own funds, restricted and unrestricted--the red and blue bars in the previous chart--but excludes federal funds and the Permanent Fund. The amount of goods and services the state can buy per person has decreased 14 percent over the last decade.
Source: ISER

10. Topic 5.1: Why is there a budget deficit?
ISER 9/20/2018
80% of unrestricted revenues are from oil
Oil revenues are declining
If state spending has declined, why is there a budget deficit? This graph shows state unrestricted revenues and spending over the last twenty years. The red bars in the background show state general fund spending, from the chart you saw previously in topic 4. The blue and green bars in the foreground show unrestricted state revenues. Where the red bars show above the blue, spending is greater than revenues. This is deficit spending. The state budget has been in deficit for eight of the last ten years.
Note that the green non-oil revenues are small and steady. The oil revenues shown in blue, are large, highly unpredictable, and declining. As you can see, state unrestricted revenues from oil have declined faster than state spending has declined.
Source: Legislative Finance and Alaska Department of Revenue

11. Topic 5.2: Why are oil revenues declining?
ISER 9/20/2018
Topic 5.2: Why are oil revenues declining?
500,000
1,000,000
1,500,000
2,000,000
2,500,000
1969
1974
1979
1984
1989
1994
1999
2004
2009
2014
2019
Year
Barrels per Day
NPRA
Other NS
Northstar
Colville R
Badami
Duck Island
GPMcIntyre
Milne Pt
KRU.IPA+Sat
PBU.IPA+Sat
Cook Inlet
Oil Production
Why are oil revenues declining? As you can see from this graph, total oil production peaked in 1988, declined until 1999, and then leveled off. Production from the giant Prudhoe Bay oil field is now less than half of the level it was in 1988, and is still declining. The new oil fields coming on line are neither as large nor as profitable as Prudhoe Bay. The state severance tax formula reduces the tax rate on these smaller, more marginal fields. The state receives less than half as much per barrel of oil from new fields compared with Prudhoe Bay.
Prudhoe Bay
Kuparuk
Source: Alaska Department of Natural Resources

12. Topic 6.1: How does the state cover the deficit?
ISER 9/20/2018
Topic 6.1: How does the state cover the deficit?
The budget deficit has been covered by funds withdrawn from the Constitutional Budget Reserve Fund.
The CBR has $2 billion.
How does the state cover the budget deficit? The Alaska Constitution requires a balanced state budget. The state has been covering the deficit with annual withdrawls from the Constitutional Budget Reserve Fund. This is a one-time savings account funded from legal settlements with the oil companies. Few new large deposits are expected. The current balance in the CBR is 2 billion dollars.
Source: Alaska Department of Revenue

13. Topic 6.2: When will the CBR run out of money?
ISER 9/20/2018
Topic 6.2: When will the CBR run out of money?
When will the CBR run out of money? The state budget deficit is projected to be $500 to $600 million dollars this year, Fiscal Year Assuming flat state spending, and that the current high price of oil will gradually fall to the market price for future oil, the state budget deficit is projected to grow over the next few years to about a billion dollars. The Alaska Department of Revenue expects that the state could run out of money in the Constitutional Budget Reserve sometime late in 2005 or early 2006.
This projection depends on oil prices which are hard to predict. If oil prices average 20 percent higher than the forecast, the deficit will be about $300 million less, and the state could have another 6 to 12 months before it runs out of money. But if prices are lower than the forecast, the state could run out of money sooner.
Source: Alaska Department of Revenue Fall 2002 Revenue Sources

14. Topic 7: What can we do about the deficit?
ISER 9/20/2018
Topic 7: What can we do about the deficit?
Budget cuts
Economic development
Business or excise taxes or user fees
Permanent Fund earnings
Sales or income taxes
What can we do about the deficit? The four major solutions that are commonly discussed are:
Budget cuts;
Economic development;
Miscellaneous taxes on industry, excise taxes and user fees
Using Permanent Fund earnings; and
Sales or income taxes.
These will each be addressed in turn.
To frame the discussion that follows, we use an estimate of $900 million for the deficit. This is roughly the projected average for the decade, if state spending remains constant. Our purpose here is not to fix on the precise numbers, because the numbers change so frequently. Our purpose is to understand the concepts, which remain the same whatever the numbers turn out to be.

15. Topic 8.1: What would happen if we just cut the budget?
ISER 9/20/2018
Topic 8.1: What would happen if we just cut the budget?
The $900 million deficit is 1/3 of the state General Fund budget
Small cuts will not close the gap
Large cuts would eliminate essential services and entitlements
What would happen if we just cut the budget? Yes, the legislature can find more budget cuts. But small cuts will not close the fiscal gap. Cuts large enough to close the fiscal gap would eliminate essential services and entitlements. How can the legislature cut $900 million dollars out of the $2.5 billion dollar state general fund budget? That is more than one third of the budget. That represents:
The entire kindergarten through university education budget; or
All health, social services, and public protection programs combined.
Source: ISER

16. Topic 8.2: How would cuts affect the state’s economy?
ISER 9/20/2018
Topic 8.2: How would cuts affect the state’s economy?
On average, every $1 million in state budget cuts will cost:
$900 thousand in federal funds;
10 state and local government jobs
8 private sector jobs.
Budget cuts also affect the state’s economy. When we cut state spending we also lose all the federal matching funds. On average, the federal government contributes $1 for every $2 in state funds for operating programs. For capital projects, the match averages 7 federal dollars for every state dollar spent.
State spending means jobs and income for Alaskans. Scott Goldsmith at ISER estimates that every million dollars in state spending, on average, generates ten public sector jobs, eight private sector jobs, and $800 thousand dollars in personal income for Alaskans.
Source: ISER

17. Topic 9.1: Will economic development solve the problem?
ISER 9/20/2018
Topic 9.1: Will economic development solve the problem?
Other than oil, Alaska resource industries are small and marginal
Will economic development solve the fiscal problem? Under the current tax structure, no. We can develop our natural resources and expand our state’s industries and employment, but it won’t solve the $900 million dollar fiscal gap.
Compared to oil, revenues from our other industries are quite small. In fiscal year 2001, fishing, timber, minerals, and all other industries combined generated $114 million dollars in state revenues. Even if we could double revenues from these industries, it would fill less than one sixth of the current deficit.
Alaska resource industries are also hard pressed economically. Alaska is a high cost producer, and the salmon, timber and mining industries are all suffering from low prices on world markets. We cannot expect to raise significant revenues from these industries in current market conditions. In fact, these industries do not even pay for themselves. The state pays more to manage our fisheries, lands, wildlife, minerals, and timber than we receive.

18. Topic 9.2: How much does a new job cost government?
ISER 9/20/2018
New jobs cost state and local governments more than they generate in tax revenues.
Economic development also increases government costs. Development brings jobs and population growth to Alaska. The jobs support families, and families need roads, schools and other public services. Except for oil, industries in this state do not pay enough in taxes to pay for the public services their employees require.
For example, a new job in Anchorage where the costs of public services are relatively low, costs the state and local governments an average of $6,300 per year in public services. This includes state operating expenditures for education and transportation and all local government functions. A new job in Anchorage brings in only $5,200 per year in property taxes, business taxes and fees. So the net cost to government grows by $1,100 for each new job created in Anchorage. The cost to government per job is even greater for development in the remote areas of Alaska where public infrastructure is lacking.
Other states solve this problem with broad based income or sales taxes that bring in additional revenues as population and income grow.

19. Topic 9.3: What about raising oil revenues ?
ISER 9/20/2018
A ten percent increase in production by 2010 might raise $100 million in revenues
New discoveries take years to produce
The state receives less than half as much production tax per barrel of new oil as from Prudhoe Bay
Major new taxes would discourage investment in new fields
Our best prospect for new resource revenues is oil and gas. But we cannot expect to fill the gap with oil and gas alone. The most optimistic production scenario in the Fall 2002 Revenue Sources Book would increase oil production ten percent by the end of the decade. This could increase oil revenues as much as $100 million dollars. In the longer term there could be more production from newly discovered fields, but these would take more time to develop. And as we discussed in topic 6, new fields pay less in severance taxes than Prudhoe Bay, so the revenues per barrel would be less.
Could we raise oil taxes? Yes, but not enough to fill the gap. Few of the proposals floated in recent years reliably raise more than about $100 million dollars per year. Major new oil taxes might be counterproductive, discouraging investment in new fields. One proposal worth exploring is making the current severance tax more progressive. This might encourage investment by lowering taxes when oil prices are low, yet increase the average taxes paid over the long run.

20. Topic 10: Can we raise user fees and excise taxes?
ISER 9/20/2018
Topic 10: Can we raise user fees and excise taxes?
Increasing excise taxes and user fees would raise less than $100 million.
(in millions)
Raise gas taxes to match Rhode Island
$63.0
Levy cruise ship passenger fees of $25
$17.5
Increase user fees five percent
$16.0
Total new revenues
$96.5
Can we raise revenues through user fees and excise taxes? Yes, but the new revenues are comparatively small. We already increased our alcohol taxes last year to the highest rates in the nation. Tobacco taxes are also among the highest in the states. If we raise our gas taxes to 29 cents per gallon--the highest in the nation, levy cruise ship fees of $25 dollars per passenger, and increase fees for all state services, licenses and permits by five percent, we raise less than $100 million dollars in new revenues.
Source: Revenue Sources Spring 2002, with ISER calculations

21. Topic 11.1: What about using earnings from the Permanent Fund?
ISER 9/20/2018
What about using earnings from the Permanent Fund? The Permanent Fund has two parts: the Principal and the Earnings Reserve. This chart shows money flows to and from both parts of the fund. Any of the four cash flows shown in orange could be used to fund state government without touching the principal of the Permanent Fund. First, oil royalties over and above the constitutionally required minimum could be deposited to the General Fund instead of to the Permanent Fund principal. Second, retained earnings--the earnings left over after dividends and inflation-proofing are paid-- could be spent instead of re-invested. Third, the share of earnings going to dividends could be reduced to increase the share available for state government. And fourth, the share of earnings going to inflation-proofing could be reduced to increase the share available for state government.
There is a pending proposal from the Alaska Permanent Fund Corporation to re-structure the fund as a permanent endowment. Under this simpler, more conventional structure, five percent of the average market value of the fund would be available each year to pay dividends and fund state government. This structure would protect the value of the principal, stabilize dividends, and provide predictable new revenues for government.

22. Topic 11.2: What will happen to my dividend if we use PF earnings?
ISER 9/20/2018
Topic 11.2: What will happen to my dividend if we use PF earnings?
There are not enough earnings to inflation proof the principal, fill the fiscal gap AND pay dividends.
What will happen to Permanent Fund Dividends if we use Permanent Fund earnings to fill the budget gap? Dividends will be lower in the next few years anyway due to the dramatic downturn in the stock market in But we expect them to go up again when the market improves. If earnings on the Permanent Fund resume an average annual rate of 8%, we can expect on average about $300 million dollars per year in “surplus earnings” that could be used to fund state government without directly affecting dividends or inflation proofing. The projected dividend under this scenario using only $300 million in earnings is shown in blue on the graph. But if the law was changed to use earnings first to fund the whole deficit and pay dividends last, dividends would go to zero in a few years and inflation proofing would be reduced. This is shown in red.
Source: Alaska Department of Revenue and ISER

23. Topic 12.1: How much would I have to pay with a sales or income tax?
ISER 9/20/2018
Topic 12.1: How much would I have to pay with a sales or income tax?
Half of Alaskans would pay less in taxes under an income tax than under a sales tax.
What about sales or income taxes? How much each taxpayer would have to pay under different tax policies depends on many things: the details of the tax plan, the particulars of each taxpayer’s income or consumption and other circumstances. To illustrate the general principle, this graph compares a typical sales tax and income tax, each raising about $300 million in state revenues. The sales tax, shown in red, covers goods and services, but excludes rent, utilities, prescription drugs and education expenses. The income tax, shown in blue, is a flat percent of federal taxable income.
The graph shows tax liability, measured in dollars, as a function of income. You can see that people in the lower half of the income distribution pay more under a sales tax than under an income tax, while people in the higher income groups pay more under an income tax. Most high income tax payers itemize deductions on their federal income tax, however, and can pass a share of their state income tax liability onto the federal government. This would reduce the impact of an income tax on the highest income groups. The graph does not show this offset.
[Source: Matt Gardner, Institute on Taxation and Economic Policy, October 5, 2002]
Source: Institute on Taxation and Economic Policy

24. Topic 12.2: What share of my income would I pay?
ISER 9/20/2018
Topic 12.2: What share of my income would I pay?
Lower income people pay a higher percentage of their income in sales taxes.
Economists usually measure tax incidence not in dollars, but as a percentage of total income. Measured this way, the difference between a sales tax and an income tax is more dramatic. Sales taxes, shown in red, constitute a declining percentage of income as household income rises, while income taxes, shown in blue, constitute a rising percentage of total income. Alaskans in the lower half of the income spectrum pay a far higher percentage of their income under a sales tax than under an income tax. This is because lower income Alaskans must spend a far higher proportion of their income on taxed items used in daily living, while higher income groups use more of their income for non-taxed purposes such as savings, education, or travel.
[Source: Matt Gardner, Institute on Taxation and Economic Policy, October 5, 2002]
Source: Institute on Taxation and Economic Policy

25. Topic 13: How much would non-residents and the federal government pay?
ISER 9/20/2018
Topic 13: How much would non-residents and the federal government pay?
Alaskans who itemize can deduct state income taxes from their federal tax return.
How much would non-residents and the federal government pay under a sales or income tax? This chart compares the total amount of taxes collected from a sales or income tax. The blue sections show the taxes paid by Alaska residents. The yellow sections show the taxes collected from non-residents. And the blue and white hatched section is the portion of state income taxes that Alaskans would deduct from their federal income taxes. For a general sales tax, about 10% of tax revenues would be collected from non-residents visiting Alaska. For an income tax, about 7% would come from non-residents working in the state. But income taxes are also deductible from taxable income for people who itemize deductions on their federal tax return. Overall, about 17 percent of state income tax collections would ultimately be paid by the federal government. The total amount of taxes paid by Alaska residents is less for an income tax than for a sales tax.
A statewide sales tax would also negatively affect the 98 Alaska municipalities that already levy local sales taxes to fund local government.
Source: Institute on Taxation and Economic Policy

26. Topic 14: How would each alternative affect the state’s economy?
ISER 9/20/2018
How would each alternative affect the state’s economy? Any policy that takes money out of spending in Alaska hurts the Alaska economy. This graph shows estimates of job loss associated with major fiscal policy alternatives. Large budget cuts cost the most jobs because we lose federal spending as well as state spending. An income tax has less impact than a sales tax because it takes less money from Alaskan households. Using “surplus” Permanent Fund earnings would have little impact because it takes money out of out-of state investments and puts it into current spending– essentially new money for the Alaska economy. But any use of Permanent Fund earnings that reduces dividends would have a large impact on the state economy because it takes money out of household spending dollar for dollar. The policy with the least impact on in-state spending is to use a combination of “surplus” Permanent Fund earnings and income taxes.
But spending is not the only way that fiscal policy affects the state’s economy. The incentive effects of taxes and transfers may also affect investment and job growth.
Source: ISER

27. Topic 15: How would you fill the fiscal gap?
ISER 9/20/2018
Topic 15: How would you fill the fiscal gap?
Budget cuts
________
Economic development and taxes on industry
User fees and excise taxes
Permanent Fund earnings
Sales taxes
Income taxes
Total
$900 million
In summary, there is no single solution to the state’s fiscal problems. It will take a combination of policies to resolve them. How would you fill the fiscal gap?

28. Topic 17: Where can I go for more information?
ISER 9/20/2018
Topic 17: Where can I go for more information?
For comprehensive information, explanation and analysis, look for ISER’s forthcoming Citizen’s Guide to the Budget Web site
For current budget numbers see the Legislative Finance Web site:
For revenue projections and analysis see Revenue Sources at: us/SourcesBook/SOURCES.htm