Alaska’s legislature is back in session and facing questions about how it will tackle a massive operational budget imbalance, the resolution of which is key to protecting the state’s credit quality and economy.

Alaska’s House of Representatives and Senate gaveled back into session Jan. 16, only a few weeks after the end of a fourth 2017 special legislative session, during which the lawmakers did not agree to take up Gov. Bill Walker’s proposed wage tax that the administration said would have taken a roughly $300 million bite out of a more than $2.5 billion operational budget deficit.

Lawmakers are now tasked with passing a fiscal 2019 budget, and analysts say a failure to take meaningful steps towards budget reform could result in downgrades that would drive up the state’s borrowing costs.

Alaska Gov. Bill Walker
Alaska Gov. Bill Walker urged lawmakers to help get Alaska's fiscal house in order in his January his State of the State address. David Lienemann/Office of the Governor

The state has already felt the impact of its inability to enact a reform package that could convince analysts the state is on a path to fiscal normalcy.

Rated triple-A by the three largest rating agencies as recently as 2015, the state was downgraded by all three as oil prices fell and revenues pouring into the treasury from the state’s robust energy industry dwindled and failed to keep pace with expenses. Now Alaska is rated AA by both Fitch Ratings and S&P Global Ratings and Aa3 by Moody’s Investors Service, and the risk of falling further remains real despite a rebound in energy prices.

“Primarily, what we’re looking for is some kind of sustainable budget reform,” said S&P analyst Tim Little.

Lawmakers did make some progress last year, making expenditure cuts, reducing oil and gas producer tax credits, and rolling back some expenditures in a collection of moves that chipped away at the budget imbalance but did little to alter the larger calculus. Though it will likely burn through its constitutional budget reserve in the next year, Alaska is still flush with cash in other accounts and rating analysts have generally been quick to point that out even when announcing downgrades.

“They have a huge reserve,” said David Hitchcock, another S&P analyst. “They can draw it down for a long time.”

S&P has Alaska on a negative outlook, meaning that the agency believes there is a roughly one-in-three chance of taking additional downgrade action.

The recent news hasn’t all been bad for Alaska, as Moody’s moved the state’s outlook to stable from negative in December, citing an improved energy market and strong performance from the state’s investments. Moody’s concluded that, because Alaska has some $13 billion in unrestricted dollars available in its $60 billion Permanent Fund, and Permanent Fund investment earnings have been strong, the state has the ability to sustainably fund itself.

“If one thinks of Alaska's usable reserves as the sum of the constitutional budget reserve, the statutory budget reserve, and the Permanent Fund's earnings account, reserves are higher now than they were in 2011,” Moody’s said when it altered the state’s outlook. “Permanent Fund earnings are outpacing draws on the other reserves.”

S&P also noted the strength of the Permanent Fund earnings, but noted that draws on investment earnings are volatile and dependent on the will of the legislature and governor.

Draws on the Permanent Fund are exactly the route Walker wants to go, and the state House passed his plan last year, though the Senate did not. Giving his State of the State speech to kick off the legislative season, the governor, who is an independent, called on both the Republican-controlled Senate and the Democrat-controlled House to pass a budget within the first 90 days of the session and to do what is necessary to put Alaska back on a stable footing. After an upbeat opening trumpeting investments in oil and gas infrastructure among other things, Walker made his pitch.

“Even with all the good news, there's still one thing standing in the way of truly controlling our destiny, and that is our inability to get our own fiscal house in order,” he told lawmakers. “Credit rating agencies, investors, employers and the real estate markets are all waiting for a long-term sustainable fiscal solution. Without one, Alaska's economy will remain in jeopardy.”

Walker pointed out that the state has spent $14 billion of savings over the past three years covering government operations, money that could have been invested in infrastructure that Alaska municipalities want.

“Let's put $14 billion in perspective,” Walker said. “Last year, our municipalities identified their top three wish list infrastructure projects. For a combined total of $2.5 billion dollars, three major infrastructure projects could have been built in many communities throughout Alaska. Think of the jobs, the economic boom, the needed improvements across the state that could have been secured for $2.5 billion. Instead, we have spent $14 billion in savings with little to show for it.”

Walker has introduced a package he calls the Alaska Economic Recovery Plan, which includes some measures he has asked for in the past. It would impose a payroll tax of 1.5% of wages, or for self-employed individuals, 1.5% of the net earnings from their business, estimating it to produce $320 million of revenues annually. It would sunset after three years and money would be invested in capital projects.

A final phase of his plan would is a new Oil and Gas Tax Credit Certificates bond financing program. Under this program, the state would sell bonds to buy back accrued oil and gas company tax credits at a “modest” discount. The Walker administration said the debt financing cost over the lifetime of the debt will be offset by the discount taken by oil companies who are eager to receive their cash now, rather than on the schedule set by statutory formula.

Walker’s proposed fiscal year 2019 budget is $4.7 billion, down from fiscal year 2018’s $4.8 billion, and he is pushing lawmakers to pass legislation to tap the Permanent Fund and to support the taxes necessary to fund his capital investments and bonding programs. Last year both Republicans and Democrats were hesitant to impose taxes, with Democrats painting the effort as a tax on workers to support oil companies, and Republicans preferring to rely on investment earnings.

The regular legislative session will end in mid-May, but Walker has the power to call additional special sessions as he deems necessary.

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