SENATE FINANCE COMMITTEE January 20, 2017 9:03 a.m. 9:03:00 AM CALL TO ORDER Co-Chair MacKinnon called the Senate Finance Committee meeting to order at 9:03 a.m. MEMBERS PRESENT Senator Lyman Hoffman, Co-Chair Senator Anna MacKinnon, Co-Chair Senator Click Bishop, Vice-Chair Senator Mike Dunleavy Senator Peter Micciche Senator Donny Olson Senator Natasha von Imhof MEMBERS ABSENT None ALSO PRESENT David Teal, Director, Legislative Finance Division. SUMMARY PRESENTATION: OVERVIEW OF THE GOVERNOR'S FY 18 BUDGET REQUEST 9:03:32 AM Senator Dunleavy made note of the recent United States Presidential inauguration. Co-Chair MacKinnon noted that the day was the first Friday of the session in which the legislature honored Alaska Natives by wearing the regionally distinct kuspuk [from the Yup'ik 'qaspeq']. She discussed the history of "kuspuk Friday." She felt privileged to wear a kuspuk. ^PRESENTATION: OVERVIEW OF THE GOVERNOR'S FY 18 BUDGET REQUEST 9:05:19 AM DAVID TEAL, DIRECTOR, LEGISLATIVE FINANCE DIVISION, stated that he would present the Legislative Finance Division's (LFD) perspective on the governor's FY 18 budget request. He thought it was possible to do so with just a fiscal summary, but he had additional information to add perspective and information. He discussed the presentation "Overview of the Governor's FY 18 Budget Request," (copy on file). Mr. Teal turned to slide 2, "Figure 1: Total Agency Operating Budgets, Statewide Items and Capital Budget Compared to Revenue." The slide showed a bar graph that depicted a history of spending compared to revenue. He qualified that the LFD fiscal summary did not differ significantly from that of the governor. The summaries did not match precisely, but that differences were more a matter of where numbers were placed. He noted that there was a new legal opinion pertaining to Rural Education Attendance Areas that contributed to a recent change in the summary. Mr. Teal prefaced further discussion by pointing out that revenue was represented by the solid line on the graph, and the bars represented expenditures. He pointed out that the expenditures trended upward from FY 07 to FY 14, and then fell rapidly through FY 17 and FY 18. He remarked that FY 18 spending was indistinguishably similar to FY 17. 9:07:39 AM AT EASE 9:09:57 AM RECONVENED Co-Chair MacKinnon discussed the materials provided by LFD. Mr. Teal continued discussing slide 2, noting that there were some key points to consider, including that FY 18 was the sixth consecutive year of deficits. He suggested that the deficits were not insignificant, but rather were fiscal gaps known about in advance that could be termed long-term "structural" deficits. He acknowledged that that state continued to struggle with deficits despite the massive spending reductions reflected on the chart. He pointed out that the chart showed a $4.4 billion reduction in spending from peak spending in FY 14 to FY 17. 9:12:05 AM Mr. Teal moved to slide 4, "Figure 2: Total Operating and Capital Budgets," to address Senator Micciche's question about total spending. He discussed the drop in the price of oil, and thought it was understandable that Alaskans would have confidence that oil prices would recover. He thought people may conclude that government spending had risen even though revenue had been decreasing for the past 5 or 6 years. He noted that Figure 2 showed what had happened, with blue bars representing Unrestricted General Funds (UGF) and with other funds stacked on top. He noted that the bars were consistently at about $6 billion. He drew attention to the big jump in FY 15, which reflected the $3 billion deposit from the Constitutional Budget Reserve (CBR) to retirement funds. He summarized that other than the jump, the state had not continued to spend in total. Co-Chair MacKinnon asked if Designated General Funds (DGF) included receipts of the University for tuition. Mr. Teal answered in the affirmative. Co-Chair MacKinnon considered that some might think the state should cut DGF; when in fact the funds were sometimes revenue being generated from other sources to support activities that might be discreet from agency operations. Mr. Teal considered that the topic was complex, as there were some designated funds that were unrestricted. He used the example of the Alcohol Fund, which was a general fund, and was money deposited and designated for certain purposes. He explained that cutting such a fund was equivalent to cutting UGF. Mr. Teal elaborated that there were other examples (such as park receipts in the Department of Natural Resources) which simply covered the department's cost of doing business. Similarly, the University used tuition. He was not sure how students would respond to the legislature taking tuition funds to use for ferry operations, for example. He stated that designated funds were typically designated for a reason, and often because of legislative intention to use the money in a specific way. 9:15:56 AM AT EASE 9:17:38 AM RECONVENED Co-Chair MacKinnon asked Mr. Teal to provide the committee a chart that broke designated funds into categories. She understood that University receipts were a large portion of designated funds, and wanted more detail. Mr. Teal agreed to provide the information. Senator Micciche requested a detailed document of what receipt authority was directly connected to corresponding expenditures. He thought the committee would be spending more time on looking at DGF than it typically had. Co-Chair MacKinnon discussed the Revenue Sources Book for 2018, and thought the administration had done a good job pointing out changes to the book, and had dedicated Chapter 1 to discuss DGF. Mr. Teal commented that the previous interim LFD had made note of designated funds that had been used for non- designated purposes. He furthered that the occurrences were now flagged within the budget. He continued that the graph was not something he normally would have included, but he thought it was a valid inquiry into what the state was spending. He thought it was important to get on the record. 9:20:22 AM Mr. Teal turned to slide 5, "Figure 3: FY07-FY18 Total Budgeted Positions," which displayed a bar graph. He specified that there was a peak of about 25,000 positions. He qualified that the figure represented 25,000 budgeted positions rather than paychecks, and the data would differ than that the Office of Management and Budget (OMB) provided. He continued that the number of positions was down to 22,000 positions in the current year, which signified a reduction of approximately 2,400 positions or 10 percent from the peak. Mr. Teal turned back to slide 2, noting that at the same time the expenditures declined by $4.4 billion, revenue had declined by $5.1 billion. He reflected that during times of high oil prices, a budget of $5 billion would have typically produced a surplus of about $3 billion. Currently the price of oil was accompanied by a deficit of $2.7 billion. Mr. Teal did not believe that "crisis" was an inaccurate way to describe the state's current fiscal situation. He recounted that the state had built massive reserves during the times when revenue was very high, and had been spending the reserves quickly because of the large deficits. He thought it was useful to look at the state's reserve balances. Mr. Teal turned to slide 7, "Figure 4: End-of-Year Reserve Balances, FY07-FY18." The graph showed at one time the between the CBR and the Statutory Budget Reserve Fund (SBR), the state had over $16 billion in reserves. In FY 18 the reserves were down to approximately $2 billion, which would be insufficient to get the state through FY 19, while sticking to existing revenue sources and using the CBR to plug the deficits that occurred. 9:22:53 AM Senator Dunleavy asked if Mr. Teal's projected scenario included reductions. Mr. Teal answered in the negative. Mr. Teal turned back to slide 2, noting that spending included spending from the Earnings Reserve Account (ERA), which included both dividends and inflation-proofing. He recalled that the spending discussions in the recent presentation by the OMB had excluded dividends. He thought it was important to be consistent in comparing spending over different years. Mr. Teal informed that LFD had included dividends as GF expenditures, because it was what the governor's budget had done. He continued that to make it comparable to past years, LFD had included dividends and inflation-proofing in the expenditure bars for past years. He noted that the revenue line was adjusted upward by the same amounts, and in FY 17 and FY 18, the dashed line on the graph indicated the addition of Percent of Market Value (POMV) payouts. Mr. Teal discussed POMV payouts, explaining that the percentage pertained to the market value of the Permanent Fund specifically. He relayed that the governor's proposal was to pay out a percentage (as drafted it was 5.25 percent) of the five-year prior balance of the Permanent Fund. He specified that in FY 18, the total payout was approximately $2.5 billion, after net dividends of about $700 million there would be an increase in revenue of $1.8 billion. Mr. Teal thought the most important issue in the governor's budget was that the POMV payout was included as GF revenue, and appropriations from the ERA were classified as UGF. He thought in order to understand the meaning of the proposal, one had to understand how spending from the ERA had been treated in the past. Mr. Teal turned to slide 7, "Figure 5: Past Treatment of Appropriations from the Permanent Fund Earnings Reserve Account." He explained that the data was taken from FY 16, but was the same as all prior fiscal summaries for many years. He drew attention to line 55, which reported $941 million in spending of DGF. On the line beneath, it indicated that there was approximately $1.4 billion in spending on the Permanent Fund. He emphasized that the $941 million of DGF did not include the $1.4 billion, and that signified that the ERA expenditures (dividends and inflation-proofing) had been off budget. The items had been excluded from expenditures and excluded from revenue, and were not rolled in to any totals. 9:26:34 AM Mr. Teal tuned back to Figure 1 on slide 2, observing that the combined $2.5 billion POMV payout and $700 million in dividends created a $1.8 billion difference shown between the solid and dotted line. He remarked that the governor's budget along with the proposed Permanent Fund Protection Act (PFPA) meant that revenues covered about 84 percent of revenue instead of approximately 30 percent of revenue, and filled a tremendous amount of the deficit. He noted that FY 17 looked the same as FY 18, as the governor had also requested a POMV payout from the Permanent Fund earnings. Mr. Teal had many questions about the POMV payout. He stated there was nothing illegal about requesting a supplemental appropriation. He noted that despite the fact that the PFPA did not pass the previous session, the governor had taken steps to implement it anyway. The first step was vetoing dividends back to the level that would have been funded in the governor's proposal. The second step was in submitting the FY 18 operating budget, in which the governor asked for the payout that would have occurred in FY 17 had his proposal passed via legislation. Mr. Teal referred to a question by Senator Dunleavy and mentioned the legislature's supermajority vote to access the CBR for FY 17. Normally the state would expect to take about $3 billion from the CBR. With a $2.5 billion payout from the ERA in FY 17 to the General Fund, the FY 17 deficit was close to $500 million rather than $3 billion. He stated that the CBR balance was essentially $2.5 billion higher than it would have been otherwise. He expressed that the state didn't really need to take money from the ERA and put it in the General Fund in FY 17; it would have been just as effective to take money from the ERA and deposit it directly into the CBR. Senator Micciche suggested that the funds would have been just as easy to deposit in the CBR, but not quite as easy to extract. Mr. Teal agreed, and reminded that the ERA could be used with a simple majority vote, while the CBR required a supermajority three-quarters vote. Vice-Chair Bishop asked about the 84 percent differential increase in the budget. He asked if there was $75 million in gas tax increase included in the amount. Mr. Teal answered in the affirmative, and clarified that revenue had covered 84 percent of expenditures. Without the POMV payout, revenue would cover approximately one-third of expenditures. He affirmed that the gas tax was built in to the governor's budget; and would add $35 million in the current year, and an additional $35 the following year. 9:30:57 AM Senator Dunleavy mentioned OMB Director Pat Pitney, and thought that there appeared to be (on paper) a shift in philosophy. The previous year there had been discussions about moving money in to the Permanent Fund to endow it; while the proposed budget appeared to be moving money out in to the CBR. Mr. Teal reiterated that he was able to report what the administration had done, and what the effect was; but he could not comment on motivation. He posited that the ERA's off-budget status had been a reporting problem since the inception of the Permanent Fund. The courts had clearly stated that the ERA was available for appropriation for any purpose, any time. He thought the statement would normally cause the state to classify the ERA as UGF. He thought it would be problematic that even in deficit years that the $8 billion to $10 billion that was in the ERA balance would show as revenue in FY 18. Mr. Teal thought it would be very distorting to present budget documents each year that showed massive surplus. He related that the reporting decision had been set as a precedent before he was employed at LFD. The decision was in response to trying to report what was available to spend without causing the state to spend more than it actually had. He did not think having the Permanent Fund earnings and the balance omitted from GF revenue was the best method of accounting. He continued that as soon as the funds were reclassified from DGF to UGF, there were huge implications. He thought the committee might want to discuss the implications with OMB Director Pitney. 9:34:16 AM Mr. Teal thought a change to accounting practices should have been made long ago; but there had not been a pressing issue when the CBR balance was high, when there were surpluses, and when the ERA account was only used for dividends and inflation proofing. By statute, the ERA was designated as such, and was used for nothing else. He thought that under the governor's budget it was unavoidable to make the reclassification, because the ERA was now UGF because there was no inflation-proofing, and the dividends came from GF rather from the ERA. Neither of the designated uses for the ERA were in effect; and the only use of the ERA was to put it into the UGF. In the governor's presentation of the budget, there was essentially no choice but to call the earnings reserve UGF. Mr. Teal looked at slide 9, "State of Alaska Fiscal Summary - FY17 and FY18 (Part 1)," and discussed four categories of funds: UGF, DGF, Other State Funds, and Federal Funds. He noted that the fund types were in decreasing order of flexibility. The state could spend UGF for anything, while conversely federal funds generally had a very specific purpose. He explained that the fiscal summary also included four categories of expenditures: Agency Operations, Statewide Items, the Capital Budget, and the Permanent Fund. He thought the most significant number was the $121.5 change in funding Agency Operations from FY 17 to FY 18. 9:37:08 AM Mr. Teal showed slide 10, "Figure 6: Partial View of the Fiscal Summary." He commented that the state budget from the previous session (after vetoes) had been $3.9 billion. The governor built from the previous budget using the incremental model, and there was a $63 million reduction to start FY 18. There were some temporary increments. He mentioned maintenance increments that were related to obtaining a supermajority vote the previous year. He noted that generally salary increments were contractual agreements, but for FY 18 most of the $15.8 million in salary increases was comprised of health insurance increases. The health insurance increases were not contractual, but not funding them would be the equivalent of taking an unallocated reduction and would hit all agencies with staff equally. Mr. Teal continued discussing slide 10, noting that the governor's proposed budget started with a $30 million reduction from FY 17. He observed that the governor had added another $38 million in decrements, offset by $31 million in increments. There had also been fund changes, which were the largest of the actions represented on the data table. Mr. Teal discussed DGF, and referenced a committee discussion as to how the funds might be the same as GF and in some cases, UGF. He thought Department of Fish and Game funds were a good example. The legislature raised hunting and fishing license fees. There was additional federal money flowing in to the Fish and Game Fund, which was classified as "Other" funds. The reason the fees were raised was so that the Fish and Game Fund could be used to fund more activities, and as a result UGF spending was reduced. Some of the fund change was due to the change in fees, but most (roughly $70 million) was due to the motor fuel tax. The governor's budget request was approximately $3.7 billion and was a $121 million decrease from the FY 17 budget for agency operations. 9:40:39 AM Senator Dunleavy recounted that during a special session the previous year, the legislature was asked to appropriate $50 million for an insurance issue. He asked if the funding was reflected in the current budget proposal. Mr. Teal recalled that a $55 increment was in the budget for a fund to subsidize health premiums for people with high health risk. He explained that there was an ongoing deposit, and the law stipulated that $55 million of insurance premiums were deposited into the fund on an annual basis. The money in the fund could be used to pay claims. In the current year's budget, there was a switch from appropriations (by fiscal year) to the need for the premiums (by calendar year). Senator Dunleavy asked if that the expense was considered part of an ongoing effort. Mr. Teal answered in the affirmative. Co-Chair MacKinnon conveyed that there would be more discussion on the matter, as they committee had specifically communicated it would not fund the amount repeatedly. Mr. Teal added that the members should be aware that pupil transportation was not fully funded, and could not be seen on slide 10 or on the fiscal summary. Pupil transportation was funded at the same level as it was funded in FY 17, and in FY 17 there was a $6.35 million veto of transportation funds. Mr. Teal showed slide 11, "Figure 7: Partial View of the Fiscal Summary." He stated that debt service related to school funding, and the governor had vetoed school debt reimbursement. In the FY 18 budget, school debt reimbursement was restored, and debt service was up. Community assistance was zero in the FY 17 management plan, and was funded in other ways. He noted that there was no funding of any kind for community assistance in the FY 18 budget. Senator Dunleavy asked if Mr. Teal saw any funding reflected for trails money from receipts from snow machine purchases. He recalled there had been a veto the previous year. Mr. Teal stated that the funds were restored in the capital budget. Mr. Teal continued discussing Figure 7, recalling that the governor had vetoed oil and gas tax credits down to the statutory minimum the previous year. In the current year, the tax credits were increased by $44 million. He discussed funding for other statewide items. He recalled that the previous year about $90 million in higher education funds were used to pay a portion of state assistance to retirement. The expectation had been that state assistance would fall by $90 million, but it had only fallen by about $30 million. 9:45:46 AM Mr. Teal showed slide 12, "Figure 8: Partial View of the Fiscal Summary." He noted that the capital budget grew from $96 million the previous year to $115 million in the FY 18 proposed budget. He continued that the increase was not a surprise; it was known the previous year that there were some fund sources used that would not be available the next year. The budget was the minimum required to match federal money. He pointed out total spending of $4.3 billion, and a deficit of $2.7 billion. Mr. Teal showed slide 13, "Figure 9: Accounting for the Reclassification of the Permanent Fund Earnings Reserve Account from Designated General Funds to Unrestricted General Funds," where it was possible to see the base scenario and the governor's request while discussing the Permanent Fund. He pointed out that the base was defined; and was revenue excluding the POMV payout and additional royalties under the PFPA. He explained that the PFPA repealed the statutory 25 percent on new oil fields that was deposited to the Permanent Fund (roughly $55 million annually). Mr. Teal continued discussing slide 13, explaining that the governor's proposed spending, with dividends classified as DGF, led to a $2.7 billion deficit. He looked at the governor's request; which reflected an additional $2.5 billion payout from the ERA, the extra money that flowed to the General Fund rather than to the Permanent Fund, and the same level of expenditures. To this amount was added the expenditures for dividends, the Capital Income Fund (another fund loaded from the ERA), and some other expenditures. There was a resultant deficit of less than $1 billion. 9:48:21 AM Mr. Teal turned to slide 14, "Figure 10 Potential Spending Increases," and thought the committee might want to look at what the governor's proposed budget did not contain. He thought the slide listed items that the committee might want to address as it went through the budget process. He addressed the proposed motor fuel tax, which if not adopted would increase GF spending by $70 million. Mr. Teal continued discussing Figure 10 on slide 14. He indicated that community assistance was not funded. He recalled that the committee had previously mentioned the possibility of funding community assistance with a supplemental budget. He thought the committee was well aware that a supplemental appropriation did not really address the problem, because the funds would not be there when the communities were developing budgets. Communities would receive $30 million distributed in FY 18, but if the legislature did not put $30 million back in the distribution, in FY 19 the distribution would fall to $20 million. Mr. Teal continued discussing potential spending increases as listed on slide 14. He stated that if the legislature were to replace the monies to the Higher Education Fund (used for retirement assistance with UGF), it would cost $58 million. There was no money in the budget for deferred maintenance or education projects of any kind at the K-12 or university level. If it was desired to pay more than the minimum $74 million for oil tax credits, there would be additional expenditures to consider. He summarized that there was a total of $150 million to $250 million that the legislature could be forced to address and thus bring the deficit up to slightly over $1 billion. Senator Dunleavy asked if Mr. Teal considered the governor's proposed budget to be a fully funded and balanced budget, with expenditures matching existing revenues and/or projected revenues. Mr. Teal answered in the negative, and thought it was not a balanced budget on a cash-flow basis. There was a deficit of $1 billion, filled in the governor's budget with a draw from the CBR accessed by a required supermajority vote. He thought in that sense one could say it was a balanced budget. Senator Micciche indicated he would meet with Mr. Teal later, and commented on the two spending increase items on slide 14 listed as "other." Co-Chair MacKinnon discussed the agenda for the following week. ADJOURNMENT 9:52:27 AM The meeting was adjourned at 9:52 a.m.