Legislature(1999 - 2000)
05/22/1999 07:20 PM House FIN
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* first hearing in first committee of referral
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+ teleconferenced
= bill was previously heard/scheduled
HOUSE FINANCE COMMITTEE
SPECIAL SESSION
May 22, 1999
7:20 P.M.
TAPE HFC SS 99 - 1, Side 1.
TAPE HFC SS 99 - 1, Side 2.
TAPE HFC SS 99 - 2, Side 1.
CALL TO ORDER
Co-Chair Mulder called the House Finance Committee meeting
to order at 7:20 P.M.
PRESENT
Co-Chair Mulder Representative Foster
Co-Chair Therriault Representative Grussendorf
Representative Austerman Representative Kohring
Representative Bunde Representative G. Davis
Representative J. Davies Representative Williams
Representative Moses was not present for the meeting.
ALSO PRESENT
Phillip Okeson, Budget Analyst, Division of Legislative
Finance; Gail Fenumiai, Election Program Specialist,
Division of Elections; David Teal, Director, Division of
Legislative Finance; Representative John Harris; House Speak
Brain Porter.
SUMMARY
HB 1001 An Act authorizing an advisory vote on a long-term
financial plan for the state; and providing for an
effective date.
HB 1001 was heard and HELD in Committee for
further consideration.
HOUSE BILL NO. 1001
An Act authorizing an advisory vote on a long-term
financial plan for the state; and providing for an
effective date.
Co-Chair Mulder explained that the purpose of the meeting
was to discuss the proposed HB 1001. He informed members
that he had invited Phil Okeson, Legislative Finance
Division, to address the proposed legislation and to provide
a comparison of the legislation provided by the Senate
Finance Committee.
Representative Bunde asked what will happen if no plan is
adopted.
PHIL OKESON, BUDGET ANALYST, DIVISION OF LEGISLATIVE
FINANCE, commented that if no plan is implemented soon,
Alaska will run out of all savings accounts. It has been
projected that if the State continues at its current rate,
we will run out of our Capital Budget Reserve (CBR) in the
year 2002-2003, then the State will begin to eat up the
earnings reserve which will last until about 2007-2008, at
which point, then the dividend will be impacted.
Mr. Okeson advised that the dividend is calculated on
realized income. Around 2007-2008, when the earnings
reserve is gone, the only pot of money available would be
the unrealized gains. As those unrealized gains are
realized in the stock market, the dividend would be forced
higher. A problem begins at about 2010-2011, when the State
begins to run out of unrealized gains, and at that point,
there will be no more savings. It is true that Alaska will
still have its Permanent Fund corpus because that is
constitutionally protected. There is no way to access the
corpus because of the constitutional protection. People
then will have a choice whether to fund government or
continue dividends with massive cuts to government and/or
new taxes. He proposed that a combination of the two would
be essential.
Mr. Okeson emphasized that a "do nothing" model will create
tremendous problems for the State. Representative Bunde
inquired if the dividend would "go away" even with cuts and
with any newly imposed taxes. Mr. Okeson replied that it
will inevitably go away. Even with cuts and taxes, Alaska
will still need money from the Permanent Fund. He suggested
that it could work if there was a combination of cuts and
new revenues in the amount of $500-$600 million dollars.
However, even then, there will be a $1 billion dollar
deficit, which could require $400 million dollars of
Permanent Fund money.
Mr. Okeson proposed how the State responsibly could tap the
Permanent Fund in order that it will not be "eaten up".
Co-Chair Therriault questioned how can the State could
preserve the value of the Permanent Fund for the next
generation.
Representative G. Davis questioned how secure the State was
in earning expectations from the Permanent Fund. Mr. Okeson
replied that the Permanent Fund has identified current
dividends calculations based on the earnings. Earnings tend
to be very volatile. We have not experienced that type
volatility in the last 20 years because we have had some of
the best "bull markets" ever in the history of the world.
If the market was flat and did not grow at all, the earnings
from those years would be zero. With five years of no
earnings, the dividend would then decrease to zero.
Mr. Okeson continued, an additional concern would be when
there is no longer enough remaining in the earnings reserve,
and then a down market occurs. There might not be enough
money remaining in the accounts to actually pay a dividend.
These are two fundamental concerns in using the current
calculation. Some new plans use a technique which bases the
calculation on a percentage of market value assets.
Representative G. Davis agreed that this would be a better
technique to use to protect the dividend.
Mr. Okeson provided an overview of a graph display to the
Committee members. The first graph illustrates the dividend
line relationship to spending for education and essential
services. The line below that shows general government
expenditures. [Copy on File - File copy is not colored].
Mr. Okeson explained that a policy call made was to create a
graph which allow dividends be the highest amount feasible
so that the model could continue to work. In the House
version, the dividends started at $1540 for a two-year
distribution and then switched to a percent of market value.
That approach would inflation proof the entire corpus
principle of the Permanent Fund and take 5.88% of market
value assets, splitting the payout at 50/50. One half would
go to dividends and the remaining would go to government.
If that occurred, the dividend would decrease to $1351 this
year and would then slowly grow with the market until it
climbed to $1800 dollars.
Mr. Okeson acknowledged that in reality, the dividend would
float up and down with the market. A couple aspects worked
into the plan would help minimize the up and down motion of
the market. The plan provides for a five year rolling
average. Moving to market value assets will remove a lot of
the previous volatility.
Mr. Okeson advised that inflation proofed money would
originate from earnings on the Permanent Fund. A policy
call was made to inflation proof the corpus of the Permanent
Fund. The proposed model attempts to undertake that action.
Inflation proofing comes first in the proposed plan.
Mr. Okeson pointed out that because of the plan's continued
restraint on the growth of government, the savings could
actually inflation proof all the accounts. The model
guarantees that the corpus of the Permanent Fund is
inflation proofed.
Mr. Okeson spoke to the "intergenerational line" on the
graph, which indicates that even though the corpus is
inflation proofed, the State continues to completely
inflation proof the entire fund. In twenty years, the
amount in that account will be about $51 billion dollars.
The purchasing power that we have today would be the same
purchasing power available in 2020 as long as there
continues to be $51 billion dollars.
Representative Bunde inquired if a chart had been
constructed which illustrates the State assuming no action
and how that would affect the dividends. Mr. Okeson did not
have that information available at this time, although,
believed that the line would drop very quickly.
Mr. Okeson pointed out that the original House plan
contained a $5-$6 million dollar cushion. A policy call was
made to the proposed plan and moved that money to provide
for a higher dividend. Representative Bunde clarified that
by having a dividend of $1540, the State could loose up to
$9 billion dollars in the next 20 years. Mr. Okeson
emphasized that there is no such thing as a "free lunch",
and that with higher dividends, the State pays more money.
Representative Williams questioned the amount of risk the
proposed plan presents. Mr. Okeson replied that it does
assume a little higher risk. There are Legislative tools
which could help such as implementing a sales or income tax.
He reiterated that there will be a significant cushion by
using the percentage of market value and that the price of
oil could be problematic.
Representative Williams asked if it was possible to compare
the House Majority Plan to the proposed plan. Mr. Okeson
replied that the original House plan has had a "Mother of
all Models" (MOMA) model run on it and that it would take a
few days to provide that comparison. Co-Chair Therriault
advised that this is a "modified" House plan with a dividend
set at $1540 dollars. Mr. Okeson explained that the
Permanent Fund Corporation created the MOMA model, an
analysis which addresses whether a plan will hold up during
market fluctuations. It is a complex model and takes into
account how variables react with each other. The plan
attempts to provide possibilities in a worse case scenario.
The original House model held up very well under the MOMA
run.
Mr. Okeson spoke to graph #2, the Alaska Savings Accounts.
Under this plan, the State begins with the Constitutional
Budget Reserve, which is transferred in 2001 into the Alaska
Income Account or the Earnings Reserve. Additionally, the
graph shows the earnings reserve growing nicely. One of the
things currently being envisioned is to provide more
protection into savings accounts. There is a competing
issue which goes back to the volatility issue. In bad
markets, the State would begin to eat down into any savings.
Mr. Okeson noted that the State does not need the high
cushion. The Permanent Fund Corporation estimated that a
1/3 - 2/3 cushion would be substantial. One concept
envisioned with the proposed legislation would be to take an
amount that could be transferred into the corpus of the
fund.
Co-Chair Therriault advised that there is talk of creating a
statutory mechanism which would automatically make deposits
into the corpus. Mr. Okeson pointed out that the
Legislature traditionally has done a good job of that. He
pointed out that 2/3 of the amount in the account came from
voluntary deposits made by the Legislature.
Mr. Okeson provided a comparison between the Senate version
of the bill and the House version. The Senate version
begins with $1700 dollars for the dividend, decreasing to
$1348. We are spending more on the dividend by lowering the
intergenerational line and adding $50 million dollars new
revenues in the year 2010. The House version does not
contain those changes, which he noted was a policy call.
Representative Bunde asked the most common type of new
revenue that a legislature would propose. Mr. Okeson
responded that the most common revenue resource would be
taxes. Committee members agreed that version would be more
risky. Representative Williams asked if there was a way to
determine the amount of risk involved. Mr. Okeson replied
that the MOMA model could provide that information.
Representative G. Davis noted that in all the plans,
revenues are fixed on the price of oil as well as the
production amount.
Mr. Okeson added that these assumptions are reasonable but
not guaranteed. Co-Chair Therriault asked the level of cuts
that have been figured into the first year calculations.
Mr. Okeson explained that the cuts in both plans would call
for a $30 million dollar deduction in FY2000. There would
be a one time cut to debt service in the amount of $35
million dollars. There would also be a sustainable cut to
$30 million dollars in FY2001. He pointed out that after
that, there would be no more cuts, and that there would be
no growth allowed except in education K-12.
He continued, in FY2003, certain essential services such as
public safety, transportation maintenance and the University
would begin to grow at a rate of 1.45%. The rest of the
budget would be held flat.
Representative Bunde commented that holding it "flat" would
be a cut to the cost of State government and asked what that
percentage would be. Mr. Okeson replied that it would vary
from year to year depending upon the inflation run.
Whatever the inflation rate that year would leave a "real"
cut incurred. That number would also be affected by
population growth. Representative Bunde suggested that the
State does have other options if necessary such as the
implementation of user fees, etc.
Representative Williams asked the risk factors indicated in
the intergenerational line. Mr. Okeson responded that it is
important to remember that with models not much volatility
is assumed, but instead, a flat rate of return. Market
volatility provides some risk and the higher the payout
rate, the more it will vary. The Permanent Fund is a long-
term asset. It needs to be thought of in terms of 50 years.
The highs and the lows can be ridden out if we stay true to
the payout rate. In the current system, the State must
worry about market volatility because it is based on the
market value of assets. He emphasized that it is essential
to think of this as a long-term investment.
(Tape Change HFC SS99 - 1, Side 2).
In response to Representative Bunde, Mr. Okeson explained
the potential loss difference between the proposed Senate
and the House plan over a 15-20 year period. He projected
that loss would be between $600 million and $1 billion
dollars.
Representative G. Davis asked if the State would be within a
tolerable level of risk with the $1540 dollar dividend. Mr.
Okeson replied that there are two types of risks and that
the risk of not having a payment to government would be
relatively low. The risk of accidentally dropping the level
below that line would be reasonable. He projected that if
the State goes above the medium case, it would be doing
okay, and if the State chooses above the medium, it would
guarantee that our grandchildren will continue to receive
the dividend while eating into the purchasing power of our
assets.
Mr. Okeson reiterated that a higher dividend now will steal
from future generations. If the State continues down its
current path, the dividend has the potential of decreasing
to zero.
Representative Williams requested a comparison between the
proposal and an endowment. Mr. Okeson explained that it is
clear that the Permanent Fund was set up as some sort of
endowment. The Permanent Fund was established as an
endowment based on earnings as opposed to the percent of
market value of assets. That is not done often and 70-80%
of endowments in the world are based on percent of market
value. He explained that there are good reasons for doing
it that way. When that account was first established, the
idea was that it would always be 100% bond money. Then
those calculations make more sense. Realized income is very
safe in a bond fund. A bond fund would not keep up with
inflation because it would not be earning as high as an
equity investment. Even though, it was called inflation
proofing, what it really is, is a mechanism for extra
savings. This all makes sense, although, when the
investment assets were switched from strictly bonds to real
estate and equities, the problems began. The mechanisms of
management did not change at that time. He emphasized that
current management tools need a "tune up".
Representative Bunde pointed out that had the Permanent Fund
continued to be invested only in bonds, the dividend would
be approximately 1/3 of its current value. He added that
the Legislature basically created a mutual fund for the
people of Alaska. He inquired the twenty-year average of
Permanent Fund dividends. Mr. Okeson replied that it was
around $985 dollars. Representative Bunde pointed out that
if any the proposed plans went into effect, the proposed
dividends would average over $1000 dollars.
Co-Chair Therriault asked about the drop from the first
year's dividend to the $300 dollar dividend available the
second year. Representative Bunde explained that the first
dividend was determined upon the Zobel Case, and that it was
not allowed to be distributed by longevity in this State.
Representative Austerman substantiated that the first
dividend program was "thrown out" and because, at that time,
there was so much money coming into the State, the $1000
dollar program began. He requested Mr. Okeson to highlight
what would happen with the money not distributed through the
Permanent Fund.
Mr. Okeson explained that the money used to fund these plans
would be used to fund government services without having to
impose a broad-base tax. The plan would put a priority on
education, University, public safety and transportation
maintenance. He stressed that big taxes and big cuts would
not provide the base that the State requires.
Representative Foster commented on inflation proofing. He
suggested that the real purchasing powers of the original
Permanent Fund have not caught up with current time. He
pointed out that the State spends four times more on the
operating budget than currently projected. He believed that
indicated that everything is inflation proofed. Mr. Okeson
responded that the first Permanent Fund dividend was an
anomaly as a one time expected disbursement. He suggested
that the following year, disbursement of $300 dollar was
more realistic and more sustainable.
Co-Chair Therriault pointed out that the original $1000
dollar dividend had been paid out of the general fund
because at that time, the Permanent Fund was not large
enough to support that dividend. Representative Foster
emphasized that the spending power of the Permanent Fund is
large. Mr. Okeson explained that the proposed plan would
maintain inflation proofing.
Representative Austerman pointed out that the majority of
the e-mail and POM's he had received stated that the
Permanent Fund Dividend not be touched. He asked if Mr.
Okeson could guestimate when that plan would crash. Co-
Chair Therriault suggested that would be the "do nothing"
approach. Mr. Okeson noted he could provide a graph
tomorrow which would show what a "do nothing" plan would
"look like".
Representative Bunde asked if an analogy to the current
Permanent Fund to the national social security system would
be appropriate. Mr. Okeson again referenced the graph of
the "do nothing" chart included in member's packets.
Co-Chair Therriault advised that the Senate Finance
Committee had a bill before the Committee that was identical
to the one proposed in the House Finance Committee. He did
not know the changes that had transpired with the bill.
Representative Austerman asked if the House would wait until
a bill had been released from the Senate. Co-Chair
Therriault noted that he did not know if a decision had been
made regarding that concern. Co-Chair Mulder added that the
intent was to begin preparation on a draft House bill to be
incorporated into HB 1001.
Co-Chair Mulder inquired the soonest date that the Division
of Elections could put a ballot question out.
GAIL FENUMIAI, ELECTION PROGRAM SPECIALIST, DIVISION OF
ELECTIONS, OFFICE OF THE LT. GOVERNOR, responded that
September 14th would have worked had the legislation passed
by May 18th. The Division needs a minimum of 120 days from
the date that the bill is passed and signed to conduct an
in-person election. Much of that deals with the 60-day pre-
clearance process required by the Department of Justice.
Co-Chair Therriault asked if it was essential to get a
clearance by the Department of Justice on an advisory note
election. Ms. Fenumiai stated it was required because it
would be a Special Election.
Representative Bunde asked if it would be possible to have a
"mail in" ballot election. Ms. Fenumiai replied that it
would take less time to do a by-mail election which would
involve no recruitment. A by-mail election could be
undertaken in about 60-75 days.
Representative G. Davis asked if a fiscal note comparison
had been submitted for the by-mail election. Ms. Fenumiai
replied that there was. The fiscal note for the in-person
election would be $939 thousand dollars; a by-mail election
fiscal note would be in the amount of $620 thousand dollars.
Included in those costs is $100 thousand dollars to be used
to produce an information pamphlet.
Representative Williams stressed that this issue is the
biggest concern happening in the State. He urged that a
MOMA model be run as soon as possible. Representative G.
Davis voiced concern with the risk involved with that
possibility. Representative Williams commented that the
Senate plan does not agree with the plan being considered by
the House.
Representative Austerman commented that he personally did
not believe that the Senate intended to pass a plan back to
the House. He noted that he had drafted a committee
substitute which incorporates SB 231 and HB 1001.
(Tape Change HFC SS99 - 2, Side 1).
Co-Chair Therriault had requested Mr. Okeson to check the
graph indicating sizeable cuts and how that would interact
with the intergenerational line.
Mr. Okeson spoke to the graph illustrating the concern
mentioned by Co-Chair Therriault. The graph indicates a cut
of $500 million dollars next year. He acknowledged that was
a very large cut. The dividend would not change that much
in the initial years but would extend out for longer. It
would amount to $1700 dollars this year and then would rise
up and shrink. He projected problems right away with use of
the unrealized gains, thus, using up all the savings. The
"eating up" of the savings accounts would not keep pace with
inflation and that would be "stealing" purchasing power from
our children. Co-Chair Mulder suggested that it is an
aberration to assume that the dividend will not crash
because the scenario contains a faulty assumption that the
Board will sell off unrealized gains in order that Alaskans
can access through the dividend the money they presume is
theirs. He projected that there would be a sharp drop and
that the Legislature would be faced with a gaping loosing
budget.
Mr. Okeson agreed. He suggested that the cuts might give
the State six more years of inflated dividends. He noted
the graph of the House plan underlined with the "do nothing"
approach. He believed that it is the correct action to ask
Alaskans to take a relatively small reduction to their
Permanent Fund so that they could guarantee that they would
continue funding into the future.
HB 1001 was HELD in Committee for further consideration.
ADJOURNMENT
The meeting adjourned at 9:05 P.M.
H.F.C. Special Session 10 5/22/99
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