This week we publish Part 1 of our initial look at Governor Mike Dunleavy’s (R – Alaska) new proposed FY 24 Budget and 10-year Plan. The purpose of the look is to provide an overview of our reactions to both.
Part 1, this week’s column, focuses on proposed and projected spending and deficit levels. Next week, in Part 2, we will focus on proposed and projected revenues and, because of their importance to revenues, oil production levels. In both Parts we discuss how the Dunleavy administration addresses each of the components in both its FY24 proposal and 10-year plan.
Unlike some, we give equal importance to both the administration’s proposed budget for the next fiscal year as well as the related 10-year plan. To us, the 10-year plans are as, if not more important than the more detailed budget for the coming year.
The purpose of the 10-year plan is to chart the rocks, shoals and icebergs ahead on the state’s current fiscal course and to identify and suggest course corrections that minimize the difficulties of that journey. As in any navigation, making small course corrections now can avoid the need to make big course corrections later.
Our comments will hi-lite a couple of ways in which we think the Dunleavy administration’s FY24 10-year plan downplays the upcoming rocks, shoals and icebergs, leaving Alaskans with an unduly obscured vision of the challenges the state faces ahead.
FY24. Last July, shortly after Dunleavy issued a few line time vetoes and signed the remainder of the FY23 budget, we put together an updated 10-year plan reflecting what we considered the longer term effects of the budget passed by the Legislature and subsequently enacted with the governor’s signature.
Excluding the inevitable supplemental and an amortized share of the Constitutional Budget Reserve (CBR) payback obligation, we estimated FY24 unrestricted general fund (UGF) spending at $4.74 billion. Dunleavy’s proposed FY24 budget covering the same items is $4.79 billion.
The closeness (1%), however, masks a couple of important differences. Reflecting the then-current inflation rate, we projected FY24 spending on Agency Operations at $4.32 billion, 2.9% above FY23 levels. Limiting inflation to 1.5% (more on that later) and making some cuts from FY23 levels, the amount for Agency Operations included in the governor’s proposed budget is $4.15 billion, $170 million below our July estimate and even $50 million (1%) below FY23 levels.
Despite the lower level for Agency Operations, Dunleavy’s proposed budget nevertheless ends up higher than our projection because of higher proposed levels for statewide and capital spending.
We estimated statewide at $270 million, 55% below FY23 levels largely due to the then-projected completion during FY23 of the reimbursable oil & gas tax credit program. Due to lower than anticipated FY23 oil & gas prices – and thus, lower FY23 reimbursements – the governor’s proposed FY24 statewide spending is $359 million, effectively (and understandably) shifting $71 million in one-time reimbursable oil & gas tax credits from FY23 to FY 24. The remaining difference ($18 million) is largely explained by a relatively small increase in retirement spending.
Capital spending, on the other hand, is surprisingly – and persistently – higher than our previous estimate. As we explained in our July update, after the oil-price fueled eruption in capital spending in the FY23 budget, we relied on the administration’s FY23 10-year plan and the Department of Revenue’s (DOR) most recent fiscal model to estimate $155 million annually for ongoing, “return to earth” capital spending.
The Dunleavy administration’s proposed FY24 capital budget, however, is materially higher, at $274 million. The administration explains the difference as the amount required for the “State match [of federal funding] and several targeted State‐funded projects.”
The effect of the higher than anticipated level is largely to offset the claimed savings made in Agency Operations. The overall budget isn’t any lower – indeed, as we explained above it’s a bit higher – than our July forecast. The governor merely proposes shifting the spending from one category – or group of beneficiaries – to another.
10-Year Plan. The spending levels in the governor’s 10-year plan are largely those included in the FY24 proposed budget, escalated and adjusted for various factors. They are significantly lower than the projection we made in July.
The factor with the largest impact – and the one with which we have the most concern – is the administration’s decision to escalate Agency Operations at a compound rate of only 1.5% per year over the 10-year period. With inflation currently estimated by the market to average 2.13% over the same period, the use of the lower number significantly understates both the level of spending and resulting deficits (i.e., need for additional revenues) which, based on current programs, reasonably should be expected over the period.
In the narrative to its 10-year plan, the Dunleavy administration explains their decision to use the lower number this way:
One method for projecting future expenditure changes in non‐formula State spending is to use a projection of a common inflation metric, like the Consumer Price Index (CPI), which is a measure of the cost of goods purchased by the normal consumer published by the federal Bureau of Labor Statistics. An analysis of historical trends, however, does not indicate a strong correlation between CPI and State government spending. Expenditure trends are aligned with the availability of revenues and the policies of incumbent administrations. History has shown that as excess revenues become available, whether through policy changes or natural volatility, programs are expanded or added and deposits to savings are made. When revenues fall, administrations and legislatures make the challenging, but necessary, policy decisions to prudently curtail State spending and carefully withdraw from savings.
While inflation rates can provide a guide to aspects of the budget sensitive to prices, such as commodities or bargained salaries, they do not provide any accounting for the policy decisions that have a far greater impact on the overall State budget. A blind application of inflation implies that future legislatures and administrations, when managing to the projected revenue, would not take prudent actions in managing expenditures.
Absent other policy intervention to address the issue, status‐quo revenue projections and the unprecedented degree of revenue volatility, do not provide the ability for significant expansion of government services outside those that can be accommodated through savings However, in anticipation of solutions to this persistent issue, OMB has applied a 1.5 percent escalation rate to future years for any expenditure category that does not have an officially available schedule of out‐year costs. This assumption provides room in forecasted expenditures for policy interventions by future administrations or legislatures but avoids over stating projected expenditures over those that can be naturally accommodated in projected revenues.
We disagree with that approach largely because it undercuts one of the fundamental reasons for having a 10-year plan.
As we said earlier in this column, the purpose of the 10-year plan is to chart the rocks, shoals and icebergs ahead on the state’s current fiscal course and to identify and suggest course corrections that minimize the difficulties of that journey. As in any navigation, making small course corrections now – such as not starting new programs that add to the burden, or reducing the ongoing scope of others – can avoid the need to make big course corrections later.
The administration’s response essentially is that it’s not trying to chart such a course. While it recognizes that there are rocks, shoals and icebergs ahead – and indeed, even points out several of them – it leaves the navigation of them to “policy interventions by future administrations or legislatures.”
In other words, “yes we know there are big challenges ahead, but rather than make some small mid-course corrections now that would enable future generations to avoid them, we will just keep on our current course and let them face the major consequences when they hit them.”
A corporate CEO would be fired for taking such an approach.
Another difference is the inclusion in our estimate – but complete absence in the administration’s – of projected annual supplementals. The need for some level of annual supplementals – additional spending to respond to unanticipated developments occurring after the preparation of the initial budget – is a fundamental fact of fiscal life. The failure to include any amount to account for that fact in both the projected budget and 10-year plan, as the Dunleavy administration does here, clearly understates reasonably projected spending levels.
Finally, while the administration’s proposed FY24 budget and 10-year plan projects some small deposits into the Constitutional Budget Reserve (CBR) in some years, it projects significant withdrawals in others, with the net effect that, even with the addition of the significant “New Revenues” projected in the 10-year plan, the CBR balance in the final year of the plan (FY33) is lower than at the start (FY23).
As we have explained in previous columns, we believe such an approach leaves future generations significantly worse off than how the current generation has treated itself. In our view, to achieve intergenerational equity this generation should be making regular, amortized deposits to the CBR sufficient to enable future generations to enjoy the same fiscal benefits from savings that this generation has used to make its own life easier.
The administration’s proposed course leaves future generations worse off.
Deficits (or surpluses) are the difference between revenues and spending. While we have not yet discussed revenues in detail, the administration’s proposed FY24 budget and 10-year plan includes a reasonable projection of traditional revenues based on current futures prices and projected production levels, plus, as contemplated by current law, the portion of the percent of market value (POMV) draw from the Permanent Fund remaining after distribution of the Permanent Fund Dividend (PFD).
The Dunleavy administration acknowledges in a somewhat backhanded way that, on its current course, the state is facing significant deficits ahead.
In its 10-year plan the administration includes a line item for “New Revenue Target.” By adding it before the “Deposit/Draw” line below it – which is the amount of the budget deficit/surplus required to be covered from or deposited to savings – the administration somewhat obscures the full amount of the deficit resulting from its proposed budget and 10-year plan.
But that is exactly what the “New Revenue” line represents, the amount of the projected current and future deficits facing the state in FY24 and the 10-years beyond based on its current course.
Those amounts alone are somewhat staggering. Beginning at $300 million (6.3% of spending) in FY24, the level quickly triples to $900 million by FY27 (18.4% of spending) and remains at that level through the remainder of the 10-year plan.
But even those amounts understate what the state likely is facing. Adjusting the 10-year plan for currently anticipated inflation alone, the level of annual deficits rises to roughly $1.4 billion (roughly 25% of spending) by FY32. Adding factors for supplemental spending and CBR amortization pushes it to nearly $2.5 billion, more than a third of spending, by the same point.
The state was able to cushion those sorts of deficits throughout the 2010’s by drawing down its relatively huge savings levels. With the state’s savings accounts now at minimal levels, however, the state isn’t able to put off Judgement Day any longer – it is facing significant decisions about the road ahead in the very near future.
Next week we will discuss how it should prepare to address those through revenue policy.
Brad Keithley is the Managing Director of Alaskans for Sustainable Budgets, a project focused on developing and advocating for economically robust and durable state fiscal policies. You can follow the work of the project on its website, at @AK4SB on Twitter, on its Facebook page or by subscribing to its weekly podcast on Substack.