Legislature(2003 - 2004)
05/07/2003 01:40 PM JUD
* first hearing in first committee of referral
= bill was previously heard/scheduled
= bill was previously heard/scheduled
HJR 26 - CONST. AM: PF APPROPS/INFLATION-PROOFING [Contains brief mention of SJR 19 and HJR 3.] Number 0048 CHAIR McGUIRE announced that the first order of business would be HOUSE JOINT RESOLUTION NO. 26, Proposing amendments to the Constitution of the State of Alaska relating to and limiting appropriations from and inflation-proofing the Alaska permanent fund by establishing a percent of market value spending limit. [Before the committee was CSHJR 26(W&M).] Number 0075 ROBERT D. STORER, Executive Director, Alaska Permanent Fund Corporation (APFC), Department of Revenue (DOR), explained that after years of study, the proposed constitutional amendment - HJR 26 - has been requested by the Alaska Permanent Fund Corporation Board of Trustees ("the Board") to ensure that inflation-proofing is in the Alaska State Constitution so that all generations are treated equally. He indicated that inflation-proofing the Alaska permanent fund ("the fund") has been a key issue for the Board since its inception over 20 years ago. He went on to say: The way we propose to address inflation-proofing is by limiting the amount that can be appropriated in any given year to no more than 5 percent of the moving average of the fund. We call that "[percent] of market value" or "POMV." And what we are proposing is [that] that limit be based on the five-year moving average of the fund. MR. STORER indicated that he next wished to speak to five key differences between [POMV] and the status quo, and that these differences have been outlined in a document provided in members' packets. He said: The [percent] of market value, as I noted earlier, offers constitutional inflation-proofing protection for the entire fund. The status quo on inflation- proofing is by statute; it comes after the [permanent fund dividend (PFD)] and it inflation-proofs the principal only. To date, the legislature has always had the ability and has chosen to inflation-proof the fund, but that's not necessarily the case in the future. We're not predicting it; we just think memorializing it in the [Alaska State] Constitution is a very important issue. The second item is ..., as I noted earlier, it's a spending limit: no more than 5 percent of the five- year moving average of the fund. By ... limiting the availability of only taking the real income - or the income in excess of inflation - the residual stays with the fund, and that's how you inflation-proof: you're not taking all of the income, only the real income - or the income in excess of inflation. As it stands today, the status quo, the entire earnings reserve may be appropriated. Number 0321 And I can give you examples where, over the last four years, up to 25 percent of the fund was represented by the earnings reserve, so one could take - appropriate - 25 percent of the fund in the heavy days of the bull market. Or there's been a couple [of] times this year in the, hopefully, ... late stages of a bear market where nothing was available. So think about that volatility: you can appropriate 25 percent or zero, depending on what happens. That's how it now stands. Markets are always volatile. You talk about during volatile markets - and I've been doing this for a long time and I haven't seen it yet where there wasn't a volatile market - it's a magnitude issue, and we've been in ... very volatile markets. The POMV approach, or what we're suggesting, actually creates greater stability than the current methodology. We have had times where the dividend alone has been in excess of 5 percent or, over the next few years, it'll be 3 percent or potentially zero. As I noted yesterday, there's still a 10-percent chance that there could be no dividend [from] the permanent fund this year. So you get greater stability and greater predictability by doing this methodology. MR. STORER continued: Item four. ... When the permanent fund was created 26- 27 years ago, it was a world of bonds only, and bonds are very stable; you buy them for income producing, you get the interest payment every year. And so basing your methodology, as we do now, on realized income or the realized cash flow of the fund probably made a lot of sense. But that was a different world. The fund currently is [composed] of about 50 percent in the equity markets; ... you buy more volatility on a year-to-year [basis], but you earn a higher rate of return by accepting that volatility. And so ... the current methodology did make sense 26 years ago, but we think less so right now. Number 0510 We've spoken a lot about why 5 percent; we've stated that we believe the limit, if you will, of 5 percent is on the high end of doable. It doesn't mean that one has to appropriate all the 5 percent in any given year, but we want to limit [it] up to 5 percent. But we've looked at 76 years of data; we know that our asset allocation and our statutes will allow us to achieve, we believe, a 5 percent real rate of return over time. We're very comfortable in making that statement. So, it's consistent with our asset allocation and the long-term philosophy of a permanent fund. That stability really goes to predictability. And there is greater stability in the payout methodology of using the moving average of a fund versus the current one. Year to year you don't know - we don't know - how much would be available until ... the end of the day [on] June 30th. But if you accept our methodology as appropriate, you will have less volatility in the payout and you will know with precision what is available in any given year. That, Madame Chair, is very briefly why we think moving to the constitutional amendment, memorializing the spending limit, is appropriate. Number 0616 BOB BARTHOLOMEW, Chief Operating Officer, Alaska Permanent Fund Corporation (APFC), Department of Revenue (DOR), turned attention to CSHJR 26(W&M), and noted that the House Special Committee on Ways and Means, along with Legislative Legal and Research Services, outside counsel to the APFC, and [a representative from] the attorney general's office, spent 4-5 hours working on the technical aspects of the bill's language. Therefore, the resulting language in CSHJR 26(W&M) was what all parties involved felt was the best way to move forward. He offered: In the title, it's really just trying to make a statement of ... why we're amending the [Alaska State] Constitution and that [we] basically want to limit the appropriations, on a fiscal-year basis, that can come out of the permanent fund. And the reason we're limiting the appropriations is to assure the real value of the fund grows over time and that all we're spending is the value in excess of inflation on a year-to-year basis so you protect it. On page 1, line 10, is the first amendment to the [Alaska State] constitution. And what that's doing is just referring to a new [subsection] (b) that we're going to add to the constitution .... [On] Line 11, we're deleting the word "principal" from the constitution. And that's been something that's been a longstanding -- that people have understood that the permanent fund, the principal, could not be spent and the income could. The reason the trustees ... propose removing that, and that came after quite a lot of debate at the board meetings, is that the word "principal" -- we believe you can protect the fund, as explained on page 2, by the spending limit. And the benefit of removing the word "principal" is basically a policy decision of balancing the benefit of assuring that each year, there's going to be a distribution, versus the risk that in the short term you might dip into the fund a little bit if you have ... down years of income. So it's a balancing, and they believed it's in the best interest of the permanent fund, and the investment strategy, if we know, on a year-to-year basis, how much is going to come out of the fund and that it's limited and predictable. Then that helps their investments; they know what to have invested, they know when they're going to have to raise money ... for the dividend or for general government. So that's a significant issue that's had a lot of debate. Number 0803 MR. BARTHOLOMEW continued: And then on lines 13 and 14, we're deleting the language from the [Alaska State] Constitution that says all income from the permanent fund will go to the general fund except [as] provided by law. And the legislature, since 1982, has taken advantage of the "provided by law", and they've directed that all earnings would go to the earnings reserve in the permanent fund. By deleting the two sentences, what in effect happens is, all income stays in the permanent fund, subject to the 5 percent appropriation. So ... it's no longer necessary to direct the income. On page 2 of the resolution, starting on line 2, is a fairly long sentence that does two things. It states how we intend to protect the permanent fund - ... the goal is to protect the real value over time - and that it's going to be limited to a ... 5-percent annual appropriation of the five-year average. But lines 5 and 6 are a little hard to read at first go because it talks about [that] we're going to use the market values on June 30th for the first five of the six fiscal years preceding the year that you want to spend the money. And ... that language is in there ... so that when the legislature [comes] into session in January -- so an example this year: you've come into town, you're working on the [fiscal year (FY)] 04 budget; by looking back an extra year, it allows you to know [in] January exactly what's available from the permanent fund based on the spending limit. So you'll know, as soon as [you] start working on the budget, how much is available for either dividends or government purposes, and you don't have to ask for estimates, you don't have to ask for projections. So, ... what we'd be doing is: the FY 04 spending limit would have been based on [the] year ended June 30, 2002. And that's the main intent; [it] was so you knew exactly what's available. It doesn't have to be appropriated, but there's certainty to the amount. MR. BARTHOLOMEW concluded: And then the last addition is a temporary item, and that's Section 3. And that's a transitional item which won't become a permanent part of the [Alaska State] Constitution. It just [ensures] that at the date the voters pass this, ... all the earnings of the permanent fund stay in the permanent fund - there's no debate about whether it's general fund money or other funds - it's part of the permanent fund, to be protected. And then Section 4 states that this would have to go to a general election so that all the voters in Alaska could weigh in on this change. And that would happen in November 2004, and if that was successful, then it'd be approximately early January 2005 that the change would take effect. Number 1018 LAURIE CHURCHILL stated that she is opposed to HJR 26. She went on to say: The PFD's appropriations should not be limited. I believe the current funding formula should be left alone. Alaska is experiencing a decline in North Slope oil production; we're currently at 50 percent of what the North Slope used to produce in the 1980s. This decline in oil production means less money is being placed into the permanent fund dividend. I'm very concerned that the Twenty-Third [Alaska State Legislature] has introduced 596 bills and resolutions, and out of these 596 resolutions and bills, ... 17 pieces of PFD legislation have been introduced. And in my personal opinion, only two of these bills are in favor of the citizens of Alaska, and I believe that SJR 19 and HJR 3 are the only ones that favor the citizens of Alaska. And I'm just asking that you please vote no on this ... HJR 26. CHAIR McGUIRE, after determining that no one else wished to testify, closed public testimony on HJR 26. REPRESENTATIVE GARA said he had a question about the mechanics of "this proposal." He elaborated: Under POMV, we'll end up taking 5 percent of the value of the permanent fund every year - I hope that a large part of that will go to a dividend .... But how does this work? The concept is that we're going to keep the value of the permanent fund up with inflation; in addition, we're going to stick a certain percentage of our oil royalties into the permanent fund so it can grow and stay ahead of inflation. I understand that part. But tell me how the 5 percent payout will keep us up with inflation in, for example, a very high-inflation year and a high-earnings year .... And then how it will do the same thing in a very low-earnings year ... and low inflation. So there are four factors that you'll face in the real world. Some years there will be high inflation; some years there will be low inflation; some years there will be great stock market and real estate asset returns; some years there will be terrible stock market and real estate asset returns - maybe negative ones. Can you tell me what happens ... in relation to keeping the value of the fund up with inflation under those four different circumstances? Number 1199 MR. STORER remarked that in any given year, as well as in "short periods," that's a very real issue. He elaborated: If we looked over the last three years, we did not keep up with inflation in terms of the value of the fund. However, we did continue to inflation-proof the principal of the fund because of the discipline that's been invoked during the good years. In short periods of time - and I going to define short as three, even five years - you may not achieve the 5-percent real rate of return. Or you will, if you were to look at 1998, ... challenge why 5 percent; I don't remember exactly, but my guess is we probably earned 10- to 12- percent real rate of return over the three to five years prior to that. It's the discipline in the longer-term time horizon, through the good and the bad times, [that] is what really matters. A lot of people focus on the bear- market side of the equation and what happens in the down years. I think one of the [important aspects] of this is not getting caught up in what I will call the mania of a bull market and think you can overspend. It really is important to create that discipline in the good and bad times. And that will ensure the maintaining [of] the purchasing power ... over time, for all generations. I give an example of least one friend of mine who runs an endowment fund in a major university, and they got caught up in the bull market, and the university started a large capital project well in excess of what I'll call, sort of theoretically, the 5 percent; now they're not able to sustain those kinds of returns, but they have commitments, based on the heavy bull market, that they must continue to make and overpay. This creates the discipline in the good and bad years that allows you to achieve the goal. But in short periods of time, anything you suggested can happen where we could earn well in excess of 5 percent or well below that 5-percent real rate of return. If you think about it, ... [in] any given year there's so much volatility that one could not predict that ... kind of precision in even [a] one- to three-year time horizon. Number 1325 REPRESENTATIVE GARA said that that explanation deals with what happens when the stock market does well and what happens when it does poorly, but added that he'd like a more detailed explanation regarding what would happen in years with high inflation and in years with low inflation. He elaborated: Let's assume we have an 8-percent return in the stock market and on our real estate holdings in a particular year. What happens ... to the value of the permanent fund if, let's say, inflation is 13 percent that year, and then what happens if inflation is 2 percent that year? (Indisc. - coughing) assume an average stock market and real estate asset return, but wildly varying inflation amounts for the year. MR. STORER replied: You're going to run into problems in the short term. Could I use a real-life example, if I may? Let's go back to the late '70s, where inflation was quite high and continued higher. ... So, you wrap that emotion into it and, in fact, during probably the five-year period prior to that, you did have barely positive returns on bonds and I think some - absent '73-'74 - ... positive returns on equities, but you were not keeping up with inflation. So we would not have kept up for probably about a four- or five-year period, and you'd say this isn't working. What happened around '82 is, ... we were still in a high-interest-rate environment, and you keep fighting a war that you've won. In that case, inflation was descending and stayed low for what is now 15 years. We were just looking ... at our early returns, and in the early '80s, there was one year where the permanent fund only ... basically owned [a] bond portfolio and we returned 25 percent. And I don't remember, but my guess is inflation was below 6 percent. And so, if you looked even in that five-year period, if ... our asset allocation existed in that rising, horrible, high-inflationary environment, [we would have not achieved] the goal. If [we'd] maintained that discipline, though, as we came out of that environment, and at least for 15 years and probably longer [when the] inflation war was won, then I think we've achieved an excess of a 6- percent real rate of return ever since then. So, in short periods, the answer - and I'm defining a short period in that case of five years - we would not have achieved inflation-proofing. If you stayed the course and had that discipline, you would have been successful. Number 1463 MR. STORER, in response to a question, replied that according to two studies, about 70 percent of endowments and foundations use some sort of payout methodology that is formula driven based on a percentage of market value. Most use a three-year time horizon, but many use a five-year time horizon; the longer the moving average, the greater the stability from year to year - ultimately the payout is the same. He offered that the proposal before the committee, the 5-percent limit, is not inconsistent with the aforementioned studies. More important, however, is that it would be consistent with the fund's asset allocation and objectives. REPRESENTATIVE SAMUELS, on the issue of 5 percent, said, "Actually it will be less, as the average goes; that's what I'm reading from the numbers." MR. STORER replied: That is correct. What happens is, you look at the payout two ways. It's 5 percent of a five-year moving average, and in a perfect world the fund is growing every year, so that 5 percent is a series of five smaller and larger. Usually they take the snap shot, then, based on the year-end value of the end point. And if you looked at that 5-percent payout, and just assumed you earned "8 nominal, 5 real," it equates to more of a 4.6-4.7 payout versus the ending value of that time period. MR. BARTHOLOMEW noted that included in member's packets is a schedule that shows, "going forward, if the permanent fund achieved its median 8-percent return, what's the true effective rate of taking 5 percent of a five-year average," adding that it's really 4.6 percent or 4.7 percent. REPRESENTATIVE SAMUELS asked whether any other of the 30 percent of the funds referred to in the aforementioned studies "operate the way that we do," wherein it is not known what "you're going to have in the earnings." MR. STORER said he could not say whether any of those funds are based on realized income, but surmised that some do shorter time horizons and are, he opined, suffering from the bigger problems brought about by living day to day. Number 1632 REPRESENTATIVE GRUENBERG remarked that HJR 26 is a very thoughtful piece of legislation and contains many dimensions. He relayed that many have said to him that HJR 26 is a good piece of legislation because it adopts an endowment principal. However, he added, all of the endowments of which he is aware, for example, university-type endowments, are different from the permanent fund in one key respect: those other endowments generally only endow operating expenditures, rather than both operating expenditures and capital expenditures. REPRESENTATIVE GRUENBERG referred to the four different variables mentioned earlier: high inflation, low inflation, good stock market, and bad stock market. He said: I would like to focus on the high-inflation model, and the fact that "this" is endowing capital expenditures as well as operating expenditures. I could foresee a circumstance [of] high inflation where a legislature might say, "We foresee a period of high inflation coming up; therefore, what we want to do is buy our capital expenditures now, while we can do so relatively cheaply, because a road will cost a lot more next year and more even than that the year after, so what we're going to do is put our money into assets that will float with the inflationary rate." And because you have a "governor" or a cap on the amount that can be appropriated in this bill, it has a weakness because it won't let the legislature deal with high inflationary rates by investing in a capital budget now. How do you answer that problem? MR. STORER replied: The one thing that we've always said is, our perspective is inflation-proofing and ensuring that all generations are treated equally; ... the trustees believe it is not within their providence [to say] ... how the money is spent or appropriated, and so we've stayed away from that issue. ... There is a board of trustees; we have a charge of -- fiduciary responsibility is an important [term] .... REPRESENTATIVE GRUENBERG pointed out, however, that the issue of how the legislature is to work with the proposed changes, should they be adopted, is something that does need to be discussed now. "We have to recognize and deal with that factual possibility," he added. Number 1865 MR. BARTHOLOMEW surmised that Representative Gruenberg's example is that of a future legislature believing that it is in the state's best interest to spend more, in the short term, on capital expenditures, because of high inflation. Mr. Bartholomew offered: The legislature does have numerous tools; [for example] issuing debt. So you would cap the distribution from the permanent fund, but ... it could fund debt. If you wanted to issue debt to take advantage of needing a large amount of money, you would have a stream of money from the permanent fund that you could commit to debt retirement. So that's just an angle of where you could ... issue debt and say, for the next five years, "I want to use 'X' amount of the 5 percent to retire that debt." So that's just an example of where, at least knowing you have a steady stream, ... we're not going to have any problems issuing debt. And I'm not saying you directly link them, but that's just an option. REPRESENTATIVE OGG, after remarking that language in the [Alaska State] Constitution should be clear and not ambiguous, indicated that he has concerns about the language used in proposed subsection (b), which, he surmised, defines how "things" come out of the permanent fund. He posited that the first clause of subsection (b) is really just intent language and therefore not mandatory. He asked that someone explain to him why this intent language ought to be included in the constitution. MR. BARTHOLOMEW remarked that the discussion in the House Special Committee on Ways and Means centered on that very issue. He relayed that some people favored simplifying subsection (b) to say that appropriations will be limited to 5 percent of the five-year average "with the look-back provision." Others, however, felt that because HJR 26 is proposing to remove the word "principal", it would be helpful if the language in subsection (b) contained an explanatory preface, particularly since the proposed changes would be going before the voters [if the bill passes]. Number 2057 REPRESENTATIVE OGG argued, however, that although the first clause in subsection (b) refers to protecting the fund from the effects of inflation, it does not mention protecting the fund from the effects of deflation. In addition, he noted, it uses the terms "real value" and "over the long term", and although these may be terms of art in the accounting and investment fields, he is not aware that they currently have any legal meaning; therefore, he would like to know how these terms would be defined, for example, during an argument before the supreme court. MR. BARTHOLOMEW indicated that there was discussion in the House Special Committee on Ways and Means regarding the aforementioned language's potential to create an open field for legal challenges. He mentioned, though, that there is other legislation going through the process that outlines the implementation of this resolution's provisions, and that the Senate has discussed using that implementing language as a vehicle for statutorily defining the aforementioned terms and statutorily outlining further the criteria by which the legislature determines whether to take the full 5 percent. He mentioned, additionally, regarding a definition of "long term", that the U.S. Department of the Treasury considers ten-year notes to be long-term securities. REPRESENTATIVE OGG mentioned that this only indicates to him that the terms he has concern with do not already have their own legal definition that scholars or constitutional attorneys could point to and say that they know what those terms mean. He observed that even if this legislature does like the idea of going along with what the Treasury currently considers to be long term, that decision won't be binding on future legislatures that might decide they like some other definition better. He remarked that he is not comfortable with approaching [language destined for] the constitution in this manner. MR. BARTHOLOMEW argued that the "financial and economic definitions" for the aforementioned terms would be sufficient. With regard to the term "real value", he explained that this means maintaining purchasing power even through the effects of inflation. He relayed that to the APFC, "long term" means 10 years. He pointed to existing constitutional language, which says, "unless otherwise provided by law", as proof that it is usual to not try to define everything in the constitution. Number 2298 REPRESENTATIVE OGG asked what impact HJR 26 would have today if it had been in effect 3 years ago. MR. STORER offered his belief that "we'd be about the same place." He elaborated: We went through a bull market where we were earning extraordinarily high real rates of return through about March of about 2000, and then we started earning negative real rates of return because of the stock market. So, the answer [to] what is long term, ... that is a term of art; I think it's sort of ten years or longer [as] a decent benchmark .... I'd be surprised if we didn't earn a 5-percent real rate of return, looking back over the last 10 years. MR. BARTHOLOMEW added that the APFC can show that over the last 10 years, it has earned in excess of a 5-percent real [rate of return]. And because the state, for the last three or five years, has not spent more than 5 percent of the fund's market value and because the fund has earned more than 5 percent, both the state and the fund would be in the exact same financial position they are in today. He noted that under the current funding formulas, the legislature could have spent more than 5 percent during those years, but didn't. REPRESENTATIVE OGG remarked, however: My question was trying to focus, not on so much the 5- percent part of spending it, but was on the words "real value" and "long term" and how they would apply in that particular situation. And "real value" -- because you're running through a period of (indisc.) great growth, the fund itself increases in value to like $29 billion. Is that a "real value" any more? And then it drops [to $23 billion]. ... Where does "real value" fit in there at that point in time? TAPE 03-52, SIDE B Number 2386 MR. STORER said that he is comfortable saying that the APFC achieved "that goal, that objective, during that period." The value of the fund was just slightly less than $29 [billion] in [the first part of] 2000, and the subsequent drop in value occurred in three ways: payouts of over $2 billion in dividends; subtractions from the earnings reserve to be put into the principal; and the market drop. He added, "Over the last -- from that period, the first fiscal year (indisc.) a negative 3.25; second fiscal year, negative 2.25; and I'm delighted to say we're slightly positive this fiscal year to date as of last night." Therefore, he remarked, the drop in the fund's value was not all due to the market; in fact, he added, "we were able to inflation-proof and meet the dividend distribution during that three-year period as well." MR. BARTHOLOMEW added: When it reached $29 billion, and the NASDAQ marked had just finished a year of returning 80 percent, there was a lot of [questions] of was that real. And people that bought it at that time have learned it wasn't. And so, the principal, what was protected against inflation, back then, was $21 billion. So we had $8 billion above principal, and I think the market has told us it wasn't all real. The $21 billion, luckily, is still real. ... If the market corrected another year, the value of the fund would go below that, and so "real" is trying to maintain that principal ... - the purchasing power of that principal. So, as we move forward, that's what's real to us. And we're going to have up years again, and the fund's going to grow, but it may grow faster than the sustainable markets, and we're going to come back down or ... vice versa - it could go down and then up. REPRESENTATIVE OGG remarked that the foregoing explanation just begs more questions. That's the problem with "real value", he said, because according to his interpretation of that explanation, "real value" appears to be tied to the NASDAQ and whatever its value is. Or is it the "real value" with respect to the value of Alaska's economy or the cost of real estate? The purchasing power with regard to real estate in Alaska has not decreased from $29 billion down to $23 billion, he observed. He reiterated that he has concerns with how the terms "real value" and "long term" will be interpreted. Why confuse people with language like that? MR. STORER mentioned that he tends to define "real value", in terms of purchasing power, by using a Consumer Price Index (CPI) as the criteria regarding inflation. Number 2231 CHAIR McGUIRE indicated that she could see Representative Ogg's point regarding the ambiguity of the aforementioned terms. However, although such terms might typically be seen in the intent section of "regular" bills, retaining the first clause of the proposed subsection (b) will clarify for the voters the intent of the proposed changes to the constitution. REPRESENTATIVE GARA said: My big fear is that we're going to do something to jeopardize the permanent fund, and I know that POMV is a careful attempt to not do that. But it still worries me. If there's one great decision we've ever made in this state, I believe it's the creation of the permanent fund. But I worry about some of these 10- year horizons where, to an economist, 10 years is a short amount of time, [but] to legislators, to school children, 10 years is an incredibly meaningful part of their life. And so I'm worried that if we take 5 percent of the value of the permanent fund out every year, and we have one of these 15-year difficult periods for the stock market, though that's looked at as a blip on the screen by economists, that's a whole generation of school children here. And I'm wondering whether it is wise to spend upwards of 5 percent of the value of the permanent fund when we might have a 15-year period of economic downturns. REPRESENTATIVE GARA concluded: So, I guess the first question is, can you tell me ... how long have economic downturns - and I'm talking about economic downturns which mean stock market downturns or level periods - how long have some of these periods lasted in the past? What kind of periods are we facing where we might see declines in the value of the permanent fund plus 5 percent withdrawals from the value of the permanent fund? In order for me know to how much we might possibly damage the permanent fund, under a proposal like this, I guess I'd like to know what those timeframes have been historically. Number 2105 MR. STORER replied: There are more up markets than down markets, ... and I'm talking about the stock market here, which is really the driver of higher rates of return. ... And so ... in my mind, that 5 percent is a limit; one does not have to take 5 percent, ... but it creates a discipline on the upside. ... Depending on how you want to define the Depression, ... there were four significant downturns. The Depression had a several-year downturn. And then the stock market went up 50 percent, and then it had a few more years of downturn, and then the stock market went up with few down years after that. After that, prior to what we're experiencing right now, the worst years were in 1973 and 1974, and nobody wanted to own stock in 1975. And ... one could say that was the beginning of this long run that we've just experienced. Now we have - now, which has gone on for ... almost exactly three years - this bear market. ... I found there were 14 observations where there was a negative year followed by a positive year. The average rate of return, when it turned positive, was up 28 percent; that was with a high of 50 percent, and that was in the middle of the Depression, to a low of up 4 percent - and I forget when that was - I think it might have been in the mid-'70s. And so, ... typically, if you accept that data, and I do, ... when you come out of the bear market, the stock market will go up rather dramatically because of the depressed prices in the stock market. Number 2001 MR. STORER continued: I'm not prepared to suggest that will happen in this time, because we went to such a high bubble preceding this - or high valuation - that we're more back into normal valuation; so I'm not about to suggest that this market will turn around and we'll achieve a 28 percent or anything like that. So, ... [there were] four real periods of prolonged bear markets. Two periods ... - you could break it down - were in the Depression, when we were in a deflationary period. One was ... in the middle of the oil crisis and commodity shortages and inflation and sort of in that "guns and butter" era ... at the end of the Vietnam war. And then the one we're going through right now, which was preceded by an extraordinary bull market. But most of the time, the stock markets have gone up. REPRESENTATIVE GARA sought to clarify his question: There have been periods of time where the stock market hits a peak. It goes down and it doesn't reach that peak again for five years, ten years, I think even sometimes longer than that. Those are the long periods of drought that I'm wondering about. What have been the longest periods of time where ... [the] stock market has hit its peak and then not reached that peak again - the longest period between those. Because that's the period I'm worried about, is we hit a high moment for the permanent fund, we're the legislators for the next 15 years, [but] we're spending 5 percent of the value of the permanent fund in a long period where we never get back to the peak of the stock market. MR. STORER replied: The two periods that were prolonged, I can't remember the years, but one was during the Depression, where I guess it was 1929 was a peak and I ... think it was 10 or 15 years or maybe longer that we came back up to that era in terms of valuation of the stock market. The other, if I remember correctly, in the late '60s - either '66 or '68 - the "Dow" hit 1,000, [and] it may have taken 10 years for the Dow to hit 1,000 again. I'm offering extremes, but those extremes did happen. Number 1899 That is also, keep in mind, why we diversify our portfolios. The permanent fund is only about half invested in equities. Our bond portfolios and our real estate portfolios have been achieving double- digit returns during this last three years since ... That's why you don't want to get caught up in the mania, and the permanent fund did not, in terms of thinking you're supposed to put all your money in the stock market, and we've benefited from that in the bear market. While our returns have been negative, they've been considerably less than our peer group out there; we've been achieving very high comparative returns. So ... you want to diversify ... in a manner that helps you achieve you're goals, both in your long-term objectives and your risk. That's a risk; we look at that modeling every day. REPRESENTATIVE GARA brought attention to Amendment 1, a handwritten amendment which, with original punctuation, read: At p.2 line 6 after "year." c) the Permanent fund Dividend shall equal at least the greater of: 1) the Dividend paid in 2003 or 2004, adjusted for inflation, or; 2) 50% of the amount stated in section (b) of this section, which ever is greater. The Legislature may issue a Dividend greater than these amounts in any year. d) Concetual [sic] - Sevability [sic] of section (c) if it results in a ruling, that causes the Permanent funds earnings to be taxable by the U.S. Internal Revenue Service. REPRESENTATIVE GARA, before offering Amendment 1, pointed out that the line that contains "or; 2) 50%" should instead contain "or; 2) a per recipient share of 50%", and that subsection (d) contains two misspelled words that should read "conceptual" and "severability". Number 1784 REPRESENTATIVE GARA made a motion to adopt Amendment 1 [text provided previously]. Number 1782 CHAIR McGUIRE objected. REPRESENTATIVE GARA offered that Amendment 1 would constitutionalize the dividend. He said: My worry is that if we adopt this constitutional amendment, it might be seen by some as a first step towards getting rid of the dividend itself. And so if we're going to authorize the legislature to spend any of the permanent fund, I think this is the time to make sure that we enshrine the dividend in the [Alaska State] Constitution as well. So, this amendment enshrines the dividend in the constitution so the legislature can't get rid of the dividend program. It also sets a minimum amount to be paid for the dividend. So this vote will happen in November of 2004 if this resolution passes; I don't want the dividend to go down lower [than] the most recent dividend before the vote comes along. So the proposal is that the dividend shall never be any lower than the greater of the 2003 or 2004 dividend; the dividend shall never be lower than a per recipient share of half of the money that we take out of the permanent fund. And just so members of the committee know, I spoke to [Mr.] Bartholomew; if projections work out well, it seems like by 2004 the dividend might be about $900, [and] it seems this year, if we have a dividend, it might be about $1100. If we pass this amendment, and we split the use of this 5 percent fifty-fifty between state government and the dividend, at fifty-fifty, in 2004, that would be something close to a $900 dividend. ... So in that year, for example, under this proposal, the dividend would be higher; it would be no lower than the prior year's dividend. But the concept is that we should enshrine the dividend, we should make sure that it doesn't keep going down, and we should also give the legislature the flexibility to issue a larger dividend beyond that. But I want to set minimums. I'm just worried that we're going to start losing the dividend. The dividend, I think, does a very good job of sharing the wealth among Alaskans; there are very few programs anywhere where people of all walks of life share in wealth. And I think it's become something that our economy relies upon; I think I've seen [numbers] that show the drastic affects upon this economy if we were to take the dividend out of the economy. That's not to mention the obvious uses that many people use for the dividend, which is ... payment of prescription drugs, [and] payment for food and shelter and clothing. So, that's the idea. Number 1653 REPRESENTATIVE GARA continued: There's a subsection (d), which addresses a legal issue; there is some argument back and forth that if we constitutionalize the dividend, that somehow the IRS [Internal Revenue Service] might start taxing permanent fund earnings. I don't believe that that would happen, I've looked at the arguments myself, I'm not a scholar on the issue though, and so what subsection (d) would do, and this is a conceptual part of this amendment, ... [is] include a severability clause that said if constitutionalizing the dividend caused the IRS to start taxing the permanent fund, then we would not go that route because we wouldn't want the permanent fund to be taxed. So that would make this [subsection] severable. And there have been previous versions of a POMV amendment that have included a severability clause. So that's just conceptual for now, but when the amendment passes, then we'll draft the amendment's language, as we'll need to do. REPRESENTATIVE SAMUELS said that he agrees with Representative Gara regarding the importance of the dividend on the economy, but does not agree that HJR 26 gives the legislature any more authorization to appropriate money from the earnings of the fund than it already has. "We can do that right now," he added. He indicated a reluctance to vary from the framework that the Board has proposed. He opined that Amendment 1 would muddy the water, would be divisive, and would do the people of Alaska a disservice. Number 1444 A roll call vote was taken. Representative Gara voted in favor of Amendment 1. Representatives Ogg, Samuels, Gruenberg, Anderson, and McGuire voted against it. Therefore, Amendment 1 failed by a vote of 1-5. Number 1431 REPRESENTATIVE GRUENBERG made a motion to adopt Amendment 2, to delete from page 2, lines 2-3, "To protect the permanent fund from the effects of inflation and thereby assure that the real value of the permanent fund will be preserved over the long term,"; and on page 2, line 4, capitalize the "a" in "appropriations". Thus subsection (b) would begin with "(b) Appropriations". He noted that the House Special Committee on Ways and Means had a lot of discussion regarding this language. Number 1412 REPRESENTATIVE SAMUELS objected for the purpose of discussion. REPRESENTATIVE GRUENBERG said that although he originally liked the language he is proposing to delete, he has since changed his mind and would now prefer to have it removed. He elaborated: One reason is that there may be other reasons why appropriations should not exceed 5 percent. The protection of the ... permanent fund ... from the effects of inflation may only be one reason. I'm going to give you another reason that's just as valid, and that is because the limitation on appropriations is a spending limit, and that in itself is another very good reason for having this here. So that's my first reason for wanting to delete it. ... The second reason is because we had a lot of debate in [House Special Committee on Ways and Means] on whether this is mandatory language or merely descriptive, and it caused a lot of legal discussion, and I think the less legal discussion we have, and ambiguity in a constitutional provision, the better. And the third reason, independent reason, is because there are very few constitutional provisions that have descriptive language in them. And they asked this question of me ..., "Is there any other place in the constitution with descriptive language?" And the only place I could think of was our "right to bear arms" amendment, where originally it said the well regulated [Militia] being necessary, et cetera, et cetera, and that caused a lot of problems with that amendment, and we had to amend it to assure a private right. So it really caused ... litigation in another state and caused us to have to amend the constitution. And it's just much cleaner not to have that language in. And so for those three reasons, I would move to delete .... CHAIR McGUIRE said that she tended to agree for those same reasons, as well as for the reasons brought forth by Representative Ogg. She mentioned that the only reason for keeping it in would be to assist the voters in interpreting the remainder of subsection (b) Number 1259 REPRESENTATIVE GRUENBERG noted that the language he is proposing to delete could be inserted in the voter pamphlet, which the courts typically look to as part of legislative history. MR. BARTHOLOMEW, after noting that the Board would be comfortable with either keeping the aforementioned language or deleting it, suggested that the title of HJR 26 should not be changed, even though it, too, contains some of the same language, since the proposed constitutional amendment will be placed, word for word, in the voter pamphlet. REPRESENTATIVE GRUENBERG said he had no objection to keeping the title the same. CHAIR McGUIRE, for the benefit of Representative Holm, who had just joined the meeting, detailed the changes being proposed by Amendment 2. REPRESENTATIVE SAMUELS [withdrew] his objection to Amendment 2. Number 1123 REPRESENTATIVE GARA stated that he objected to Amendment 2. REPRESENTATIVE GARA, regarding failed Amendment 1, mentioned to Representative Holm that "nobody would let me constitutionalize the dividend." REPRESENTATIVE HOLM indicated that had he been present, he, too, would have voted against Amendment 1. REPRESENTATIVE GARA, speaking to his objection to Amendment 2, said: I understand the argument of the folks who want this out of the constitutional language. I like it. I think courts will often look at legislative intent [and] they'll look at constitutional intent. I think it's fine to have intent language in a statute or in the constitution as long as it doesn't mess up the wording of the statute or constitution. The mechanics of this provision will be that 5 percent of the value of the permanent fund can be spent. It's clear. ... So I don't see that the intent, the statement that we want to protect the permanent fund from inflation, harms this at all. ... I can't envision a circumstance where it would interfere with the operation of this constitutional amendment, and I think it is nice for the public to have an explanatory statement in the constitution. I think we do that with our "free speech" clause; I think we do that with a number of other constitutional provisions where we have extra language that the courts use for intent purposes. But at a minimum this, I think, helps the public also understand that they have the right to have the permanent fund, over the long term, protected from inflation. So, that's my objection. CHAIR McGUIRE said that this was a tough issue for her because she agrees with both sides of the argument. She remarked that she wants HJR 26 to succeed, both "in its intent" and with the electorate. REPRESENTATIVE HOLM noted that he could see both sides of the argument, but indicated that he agrees with the point that over time, the constitution could become quite cumbersome because of the addition of intent language. He also suggested the possibility that the current intent language may no longer apply in the future. The committee took an at-ease from 3:04 p.m. to 3:05 p.m. Number 0891 REPRESENTATIVE OGG asked whether the language currently in subsection (b) would prohibit funds from being appropriated for reasons other than the protection of the permanent fund from the effects of inflation. MR. BARTHOLOMEW replied: It's my understanding that there's no prohibition to taking money out of the permanent fund up to the level of 5 percent. So, the constitutional amendment would say, up to 5 percent, it's the power of appropriation that removes it and there's no stipulation [as] to why you would take it out or whether you could or couldn't. It's up to 5 [percent]. It would prohibit you, for any reason, above -- you could not go above that 5 [percent]. That's a hard and fast limit. REPRESENTATIVE OGG pointed out, however, that the first clause of subsection (b) seemingly specifies "To protect" as the particular purpose for which funds may be appropriated. He asked whether money could be taken out of the permanent fund without [subsection] (b). MR. BARTHOLOMEW explained that since Section 1 of HJR 26 removes the word "principal" from the constitution, lacking subsection (b), no money could be removed from the permanent fund because the constitution would then say that the permanent fund could only be used for income-producing [investments]. Thus the permanent fund would grow forever. REPRESENTATIVE SAMUELS suggested, then, that by not deleting the first clause of subsection (b), the legislature could appropriate money beyond the 5-percent limit if the goal of protecting the permanent fund from the effects of inflation is reached. REPRESENTATIVE GRUENBERG added that although he was not sure, that might actually be the case. He suggested that the legislature really doesn't want to cause litigation over this issue. CHAIR McGUIRE agreed. Number 0635 A roll call vote was taken. Representatives Holm, Samuels, Gruenberg, Ogg, and McGuire voted in favor of Amendment 2. Representative Gara voted against it. Therefore, Amendment 2 was adopted by a vote of 5-1. Number 0574 REPRESENTATIVE SAMUELS moved to report CSHJR 26(W&M), as amended, out of committee with individual recommendations and the accompanying fiscal notes. There being no objection, CSHJR 26(JUD) was reported from the House Judiciary Standing Committee.