The Fuse

Alaska: The Other Suffering PetroState

by R. Kress | September 25, 2015

Although Alaskan residents are reaping benefits from the state being a major oil producer, the government’s coffers are hurting as a result of an extended period of low prices.

Although Alaskan residents are reaping benefits from the state being a major oil producer, the government’s coffers are hurting as a result of an extended period of low prices. This past week, some 600,000 residents of the 49th state learned that they’d be receiving the largest payout ever of the Alaska Permanent Fund—each receiving a check for $2,072. But with the state budget mired in a $3.5 billion dollar deficit thanks in large part to plummeting oil prices, this week’s dividend payout belies the depth of Alaska’s financial woes.

Like almost every oil-producing country around the world, Alaska is now facing a virtually unprecedented deficit challenge. How will Alaska survive this downturn? How can Alaska continue to dole out checks from its oil-derived permanent fund every year to its citizens despite the ongoing economic hardship?

The Alaska Permanent Fund (PFD) was first established in 1976 to set aside at least a quarter of the state’s royalties and lease payments from minerals and oil to be invested for the state. Those investments are currently worth more than $51.4 billion, and the fund has distributed some $23.3 billion to state residents since 1982. An Alaskan receiving the payout every year since the fund’s inception would have cashed in on a total of $37,000 by now. While the annual payout is subject to federal income tax, Alaska has no state income tax—furthering the state’s reliance on oil revenue to pay its bills.

Low oil prices aside, falling production levels are also hurting the state. The PFD’s establishment coincided with a boom time for Alaska oil, but the state is now seeing a steady production decline (see below).

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2015 a crucial year for the fund

This year holds particular significance for the PFD: For the first time, the payout exceeded the year’s earnings from oil. This is possible because the fund is derived on the five-year average earnings of the fund’s investments. According to Dr. Douglas Reynolds, Professor of Oil and Energy Economics at the University of Alaska Fairbanks, very little of the fund is actually derived directly from oil revenue: “[Oil earnings are] fairly small compared to the earnings off the stock market,” Reynolds told The Fuse. “If the stock market goes up or down, that’s a big deal. If the oil prices go up and down, that hardly makes a difference to the permanent fund.”

With the high budget deficit, why won’t the government dip into the PFD to rescue itself? Such a move would be very unpopular with the state’s residents.

“Every year, the legislature has to approve [the PFD]. They can at any time take that money out and keep it for the state government,” Reynolds said. “But if they did that, they’d be voted out of state office.”

Lawmakers are urging Alaskans to consider the budget imbalance as they celebrate their payouts—perhaps laying the early groundwork for a future change in the PFD.

Lawmakers are urging Alaskans to consider the budget imbalance as they celebrate their payouts—perhaps laying the early groundwork for a future change in the PFD. This year, Governor Bill Walker employed seventh grader Shania Sommer to announce this year’s PFD payout, sending a message to Alaskans that the permanent fund may not be all that permanent after all.

“This is the largest permanent fund dividend payout in Alaska history,” Governor Walker said. “We are paying out more in PFD checks than we are for the education of young Alaskans like Shania—at a time when we are struggling with a $3.5 billion deficit. Alaskans need to know this is unsustainable. I’m confident Alaskans will pull together to find a solution, as we always do when times are tough.”

Economist Reynolds believes that if oil prices continue to imperil the Alaskan budget, the government may impose a state income tax and even a change the PFD. When comparing Alaska to oil-rich nations around the world now facing crises and unrest due to plummeting prices, the future appears even bleaker for the state given that its economy lacks diversity. Even Saudi Arabia is feeling the pinch, forced to pay its bills with some $10 billion every month by cashing in foreign exchange holdings and even resorting to borrowing for the first time in eight years.

The future of Alaska’s economy looks bleak

With a state economy that is heavily invested in and reliant upon oil revenue and production, does Alaska’s future face a chilling effect with low oil prices?

“The biggest comparison with any other oil country is the fact that we’re all Americans here in Alaska,” Reynolds points out. “When you lose your job, you’re not stuck in Alaska, you can move to the lower 48 and find another job. We also have federal government spending here including federal agencies and army bases and other programs—and when the oil money goes down, those agencies don’t change.”

While Alaska has the safety net that some oil-producing countries lack, Reynolds acknowledges that Alaska faces a unique challenge.

“Frankly, a lot of other industries wouldn’t work here in Alaska,” Reynolds said.

For example, he pointed to the fast-growing high tech industry that is spurring development, population and job creation in many other areas around the country, but most high tech workers would not want to live in Alaska and move their families to the harsh climate. As a result, companies would have to pay their workers more to move there and thus incur higher costs—making the Last Frontier impractical for most start-ups.

“We’re never going to be competitive in a lot of industries,” Reynolds said. “The only thing we’re competitive in is oil and other minerals like coal and gold.”

While the permanent fund remains insulated from the current oil market slump, Alaska is not so lucky. The state faces an isolated future.

While the permanent fund remains insulated from the current oil market slump, Alaska is not so lucky. Although federal holdings in the state will remain—army bases and other investments—no matter what the future holds for fossil fuels, the state faces an isolated future.

“It would be like Alaska 100 years ago. You’d have some mining going on, smaller towns and cities and tourism. Maybe a few people would stay,” Reynolds says, adding that if other industries could be introduced to Alaska, there might be hope of maintaining the population. But given the challenges to doing business there, that hope might be impossible. “I suspect a lot of people would leave.”

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