LOS ANGELES – Holders of most Alaska bonds will still be paid in the event of a government shutdown, the state’s debt manager said, as the state faces the prospect of more downgrades without progress, soon, on a budget that is closer to balance.

Only the status of about $255 million in appropriation-backed debt is not crystal clear, though the state's general obligation and revenue bonds can be paid without a budget in place.

Alaska debt manager Deven Mitchell spoke to The Bond Buyer about the impending budget crisis hours after S&P Global Ratings placed the state on a negative CreditWatch. Unanimously triple-A rated just two years ago, Alaska was hit by persistently low energy prices and slumping local oil production that led to an unsustainable $3 billion annual structural budget deficit.

The state government, which levies neither an income tax nor a sales tax, is almost entirely dependent on the oil industry for tax revenue.

Now rated Aa2 with a negative outlook by Moody’s Investors Service and AA-plus by S&P and Fitch Ratings, Alaska faces the prospect of what the state’s top legal officer has called a “constitutional crisis.”

S&P moved Alaska onto CreditWatch Tuesday because it is becoming increasingly possible that the legislature, even if it does pass a budget before the deadline to prevent a July 1 government shutdown, might still be unable to close its giant budget gap. The state legislature failed to adopt a budget during its regular session or its first special session, and is now working in a second special session that Gov. Bill Walker called June 16 to come up with an operating budget before the end of the fiscal year.

"The CreditWatch action reflects our view that the state could remain structurally imbalanced for fiscal 2018 based on the impasse for budget negotiations regarding adopting fiscal reforms," the rating agency said. “If Alaska uses a significant amount of its reserves again and remains structurally imbalanced, we would likely lower the rating, but should it adopt a balanced budget with fiscal reforms that does not significantly rely on reserves, we may remove the state's ratings from CreditWatch without downward rating action."

Walker expressed disappointment with S&P’s decision in a statement released shortly afterward, and used the opportunity to prod lawmakers into action. The governor also warned that further downgrades could cost the state money and impair its ability to finance important infrastructure.

“The agency’s analysts note that we are continuing to drain our savings at an alarming rate, and have not yet enacted a fiscal plan,” Walker said. “It is critical that we pass an operating budget for next year, and adopt a fiscal plan that does not continue our over-reliance on savings. I remain hopeful that we will be able to pull together and pass a budget and complete fiscal plan to secure Alaska’s future, and demonstrate that we take our finances and budget issues seriously. Alaskans are depending on us.”

The debate largely over the budget gap is partially resolved, with both Republicans who control the Senate and the Democratic-led majority caucus in the House of Representatives agreeing to Walker’s basic concept of using Alaska’s Permanent Fund to help right the fiscal ship.

The Permanent Fund is a roughly $60 billion pool of mainly oil industry-derived investment cash that has historically been used only for investing and paying Alaskans an annual dividend. But lawmakers can’t decide whether to simply slash the dividend payments to Alaskans or to couple that move with an income tax.

Progressives see a dividend reduction as essentially a regressive tax penalizing lower income residents disproportionately to the wealthy, and would prefer to see a broad-based tax that takes income brackets into account. Opponents of the broad-based tax don’t agree that additional taxes make sense on top of a dividend reduction.

Mitchell said that in his opinion, the fact that lawmakers have come around to the idea of utilizing the Permanent Fund should show S&P that further credit action is unwarranted at this time.

“That shift in itself provides a strong argument in my view that we should be taken off CreditWatch,” he said.

Mitchell said that Alaska does not have any debt service due until Aug. 1, so there wouldn’t be an immediate concern on that front even in the event of a “failed budget.” Even if there is no budget for some time, said Mitchell, conversations with the state’s lawyers have led him to believe that nearly all payouts would still be able to go ahead.

“We have opinions that general obligation bond service can be paid without an appropriation,” Mitchell said. “Revenue bond debt can be paid without an appropriation.”

Mitchell said that the state has a much smaller amount of subject-to-appropriation debt that the Treasury hasn’t gotten the legal go-ahead to pay in the event of a shutdown, but Mitchell said he and most other state officials remain optimistic that it won’t come to that.

According to an annual report on state debt, as of June 30, 2016, the state had $255.6 million of such appropriation debt, which include certificates of participation and capital leases, and debt issued through the Alaska Housing Finance Corp. for an office building and parking garage, and through the Matanuska-Susitna Borough for the Goose Creek Correctional Center.

“There’s going to be pretty overwhelming pressure from the private sector,” Mitchell said, pointing out that government spending is necessary for the livelihoods of many Alaskans. Commercial fishing, for example, is one of the state’s largest industries and requires government oversight.

“If there’s not funding for fisheries management, there are no fisheries,” Mitchell said.

He added that Treasury is considered an essential service, so if the government does shut down there will still be personnel at work to make sure that any necessary payments are made.

Both the House majority coalition and the Senate majority have continued to call for a compromise to pass an operating budget in time to prevent a shutdown. S&P’s action, in the meantime, may serve as a reminder that simply having a budget may not be enough to secure Alaska’s fiscal health going forward. House Speaker Bryce Edgmon, D-Dillingham, called for meaningful reform in the wake of the CreditWatch announcement.

“We must do more than just pass the FY18 budget this year,” Edgmon said.

“We need new and more diversified revenues for Alaska,” he said. “If we continue to kick the can down the road, not only will our credit ratings and borrowing costs suffer, so will our broader economy and Alaska jobs. The time to act is now.”

Subscribe Now

Independent and authoritative analysis and perspective for the bond buying industry.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.