If we don't fix our billion-dollar budget deficit soon, all the other problems we have won't really matter much. We won't even be close to having the money to fix them.
The last time our Legislature made a billion-dollar budget-cut was during the legislative session of 1985, when preparing our budget for fiscal year 1986. The impact on our economy caused thousands of Alaskans to lose their jobs, their homes, and declare bankruptcy.
Alaska's economy remained flat until 1989 when, ironically, the cleanup of the Exxon Valdez disaster pumped a billion dollars back into our economy.
The choices Alaska's voters make in our next election will very likely determine whether or not our economy collapses again. However, there is a path we can follow to avoid it.
To start, we need legislators who understand the economics of oil, and who are NOT following the oil industry around with a tin cup, quietly promising to put oil interests above Alaska's, in exchange for enough money to get re-elected.
The economics of oil aren't like the economics of other minerals. When miners can mine and deliver any other mineral for $6 a ton to buyers paying $7, they do it.
Alaska's oil producers produce and deliver oil for $6 per barrel to buyers paying $26. The difference is called a "windfall profit." This artificially high profit is a direct result of OPEC's production controls. This profit is created by government and, in nearly every place but Alaska; it is kept by government. We've been giving most of ours to BP, ARCO, Phillips and Exxon for over 20 years.
Our legislature has proposed balancing our budget with a combination of slashed services, reduced dividends and taxes on you. If our legislature does this, they will in effect, extract a billion dollars from our economy just as they did in the mid 1980s. Doing so will certainly cause our economy to collapse again!
We need to secure funds from revenues that are improperly leaving Alaska, not from funds that are already here.
According to the "International Petroleum Fiscal System Database" published by PennWell, a worldwide-recognized authority on oil, the worldwide average government retention of oil production profits is 79%.
THE WORLDWIDE AVERAGE
ALASKA?S TAX PLUS THE FEDERAL TAX ON OIL PROFITS
THE 22% DIFFERENCE $$$$$ 1.5 BILLION AND A BALANCED BUDGET
Most oil exporting countries go to great lengths to keep their tax policies secret. However, a great deal of information about OPEC member Nigeria's oil-tax policy can be found at
"Doing Business in Nigeria." When you reach the page, do a word search, and find "Petroleum profits tax is payable at the tax rate of 85% for all companies."
Nigeria's tax policies are nothing new or unusual, Exxon, Chevron, Texaco and BP all pay them. A complete list of oil companies paying taxes to Nigeria can be found at
Nigeria's tax is typical of "OPEC's Terms of Oil Taxation," established by Saudi Arabia in 1974. OPEC members Venezuela, Saudi Arabia, Iran, Kuwait, Qatar, Ecuador, United Arab Emirates, Indonesia, Algeria, Iraq and Libya all have similar tax rates.
Non-OPEC countries also tax similarly. According to the "International Petroleum Fiscal System Database" Phillips, in 1998, paid $250 million for drilling rights in Kazakhstan and promised Kazakhstan about 83% of the profits from their anticipated discoveries.
Alaska's oil companies have littered our airwaves with ads designed to convince Alaskans that the world average division of profits won?t work in Alaska because of higher development costs. But it does work in Alaska. Proof can be found in three oil leases. Two are on Duck Island and one is near the Ivan River.
From an oil company perspective, these leases are the leases that got away. Leased in 1979 and in 1981, by the Hammond administration, these leases were let in a way very similar to the "cost plus" method oil savvy countries throughout the world use to let their leases. They have since been developed in a manner somewhat in line with the "cost plus" method Phillips, entered into with Kazakhstan.
Phillips and Kazakhstan estimated the cost to develop the field and agreed on a guaranteed fixed rate of return on the investment necessary to develop the field.
In the beginning, Kazakhstan's benefits come primarily from employment opportunities. Once the drilling and construction is over, the lions-share of the cash flow from the producing field is used to repay Phillips for its original investment, plus provide Phillips with the rate of return promised, which is what induced Phillips to make the investment.
After Phillips has recovered its investment, the equipment the oil flows through is paid for. After the cost of salaries, maintenance and transportation are also paid for, the remaining profits are shared in accordance with pre-agreed profit sharing agreement.
According to the International Petroleum Fiscal System Database, the worldwide average profit sharing agreement is 21% to the oil company and 79% to the host government.
Because the oil companies wont give us the facts, we Alaskan's have to rely on some reasonably accurate "ballpark math" to figure out where we would be if we acted a bit more like the rest of the world.
- Producing $1.5 Million barrels per day, paying about $6 per barrel to get it to the West Coast, and selling it for an average of $26 per barrel equals a profit of about $900 million per month. The Feds take 24% and Alaska takes 33%, leaving the oil companies about $387 Million per month, after all salaries maintenance, taxes and other expenses have been paid.
- Payments of $387 million per month are sufficient to amortize the Alaskan oil company's original $12 Billion dollar investment in Prudhoe and the pipeline, plus a 30% rate return, in five years
If you accept that 30% is fair rate of return on oil company investments, Alaska's oil has been flowing through paid for equipment since about November of 1982, which is where our 22% tax increase should have begun.
The bid results from Alaska's two Duck Island leases, and Alaska's Ivan River lease, came in right in line with OPEC terms and they are in production today. BP operates one that pays Alaska 79.59% of its net profits plus Alaska keeps 20% of the oil as royalty oil. Exxon operates one that pays 48.87% of its net profits plus a 20% royalty. In both cases, they also pay federal taxes. Union Oil operates one that pays state and federal taxes and Alaska keeps 62.2% of the oil as royalty oil.
These fields would not be in production if they weren't profitable.
Jay Hammond was by far the most aggressive governor we ever had, when it came to demanding oil companies pay what our oil is really worth. His administration pushed legislation authorizing the Department of Natural Resources to let leases in a similar manner to the way other oil savvy countries let leases. I was in the Legislature at the time and we were swamped with Alaskan oil interests telling us not to approve the bill and threatening to abandon Alaska if we did.
But they didn't leave. When the legislature passed legislation authorizing the Governor to let leases, like those described above, they stuck around and bought the leases. Although still allowed by statute, no governor has used this method of leasing since Hammond.
The moral of the story is; the next time you hear an oil lobbyist threatening to take his company and leave if he doesn't get more, think of Enron and remember: that's his job. He'll say whatever it takes to sweeten his bottom line. He's gonna say it until he's got his hand on your PFD. If you're dumb enough to let go, he's gonna take it too.
Our royalty rate on our big enchilada, Prudhoe Bay, is only 12.5%, which until 1997, was Alaska's minimum allowable rate. In 1997 our Republican controlled, bought and paid for, legislature lowered our minimum allowable royalty rate in the Cook Inlet from 12.5% to 5%.
Corrupt leaders in our government are giving away our resources in exchange for enough money to get re-elected.
Royalty rates are fixed by contract, however governments all over the world have the right to tax and most of them have constitutions that prohibit them from bargaining their taxing authority away. The notion that a bargain was struck and we can't change it has two big holes in it.
- The oil companies have changed the bargain every chance they've had, if it was in their favor.
- The majority of the countries around the world, whether they were OPEC or not, used their taxing authority to "change the bargain" when the OPEC counties succeeded in building a windfall profit into the world's oil market.
Wising up to who's looking out for Alaska and what Alaska?s resources are worth, BEFORE THE OIL RUNS OUT, can save us from near-term economic collapse. However it will not solve the long-term problems. A long-term solution requires two more things.
- A constitutional amendment to bulletproof the Permanent Fund from raids like the one attempted in 1999.
- We need to refine and retail our royalty oil as a finished product, instead of selling crude as we do now.
If we do these things, BEFORE THE OIL RUNS OUT, we can grow our Permanent Fund large enough to earn the money necessary to fund government and pay dividends, after the oil runs out.
In 1999, Alaska's oil industry paid for the campaign, seeking voter approval to raid the Permanent Fund. They lost. Now they're leaning on their paid-for legislators to ignore the 83% NO VOTE and balance our budget by raiding the fund.
If they succeed, it will enable them to relieve what little pressure there is, to extract our fair share of profits from our oil. If they succeed, we will never grow our Permanent Fund to the size necessary to perpetually fund government from its earnings after the oil is gone.
NEED FOR A CONSTITUTIONAL AMENDMENT; Alaska's constitution prohibits the spending of the Permanent Fund?s principal, but allows the legislature to spend any part of the Permanent Fund defined as profit. Common sense tells you that profit equals the increase in value over the previous year, but that's not how our Legislators and Governor conspired to define profit when they attempted to the raid the Fund.
They had decided that, if the Fund had purchased a share of stock for $2, in 1980, and that stock was now worth $200, they could sell it and consider all but original $2 purchase price to be spendable profit.
Rather than manage the Fund in the manner best suited to assure its long-term growth and stability, they planned to round up all the stocks with large equities and sell them. They planned to sell our best stocks, while they held the losers because selling losers would offset the "profits" of the high equity stocks and cut into what they could spend. If we are not vigilant, oil interests will persuade our legislators, to use Enron-style accounting tricks to convert our Permanent Fund's principal to profits until it's about half its current size.
In a very few years, our legislators will have drained our Permanent Fund while our oil companies relieve us of our last drop of oil. We Alaskans will look a lot like the impoverished coal miners in the Appalachian Rural South, shortly after the bottom fell out of the coal markets.
If that occurs, it's likely that we would raid what little of the Fund is left, and the dreams we once held for the future of Alaska would be gone forever.
If we want to secure our Permanent Fund for the next 100 years, we need to pass a constitutional amendment that accomplishes two things.
- Currently our constitution mandates that not less than 25% per cent of all mineral lease rentals, royalties, royalty sale proceeds, federal mineral revenue sharing payments and bonuses received by the State are placed in the Permanent Fund. We need to change that to 100% of all resource revenues received by the State of Alaska are to be placed in the Permanent Fund.
- Then we need to change the definition of what can be spent, from a vaguely defined percent of profits, to a fixed and sustainable percentage of the total Fund. (About 6%) That is the way institutions like Harvard, Yale and the Smithsonian have sustained the Funds that support them for many of years.
Unfortunately, our Fund is only about half as big as it needs to be to fund government from 6%.
Fortunately, Alaska?s Fund has one thing going for it that institutions like Harvard, Yale and the Smithsonian don't. In addition to the income it receives from its investments in stocks, bonds, office buildings and shopping centers, Alaska?s Fund receives ongoing injections of additional cash from the sale of resources.
A fixed percentage of the previous fiscal year's additional cash injections could be added to the 6% without threatening the continued growth of the fund.
Had such a system been in place last year AND had our oil taxing policies been in-line with the rest of the world's, the ongoing cash injections from the sale of resources for FY 2001 would have been about $4.1 Billion.
Had such a system been in place last year, 6% of the Fund plus 43% of the additional injections would balance our budget without slashed services, reduced dividends or new taxes on you.
Using the same formula at our current rate would require about 73% of the resource cash injections. Although 73% could balance our budget today, without the increased tax on oil, the Permanent Fund will never grow to the approximately $60 billion that will be required if it is to fund government and pay dividends at the current level after Prudhoe Bay runs dry.
Tying the portion of resource revenues to the previous fiscal year would end the practice of guessing what oil revenues might be next year and basing a budget on that guess, only to see the price of oil fall and wind up with huge deficit of committed funds we do not have.
Because the size of the dividend has always been tied to a vague definition of profits that the above formula would replace, a new formula for determining the size of the dividend would be required.
By indexing the dividend to the amount of resource revenues deposited in the fund, every Alaskan would see the connection between prudent management of Alaska's resources and his or her pocketbook. Doing so would also bring a screeching halt to politicians giving our resources to their friends at bargain basement prices.
It would take $1.27 billion to pay every Alaskan resident a $2,000 dividend. Using the formula above and the current oil tax rate, it would require a dedication of 52% of Alaska?s resource revenues to dividends. If we raise our oil tax to match the world average, it would only require 31%.
Gubernatorial candidate Jim Campbell suggested a somewhat similar constitutional amendment when he was running against Knowles, in 1994. It might have happened then but, unfortunate for Alaska, candidate Tony Knowles twisted what Campbell had said into something he had not said.
Knowles accused Campbell of planning to take your dividend away and raid the fund. Campbell suggested nothing of the sort. What he suggested was that we adopt a plan for funding government, commonly known as the Cremo Plan, which uses a similar formula to create a steady and predictable stream of government funding, by filtering all of Alaska's revenues through the Permanent Fund.
Had Campbell's proposal been adopted, it would have gone a long ways to smooth our boom-bust economy and we probably wouldn't be in the predicament we're in today.
However, not enough people understood Campbell?s proposal and the accusation stuck. It probably cost Campbell the election and consequently, fixing Alaska?s budget problems has become Alaska's nightmare and most candidates won't touch the issue. The Cremo plan can be found at http://www.alaskafund.com/
THE NEED TO INVEST IN OURSELVES: We've all heard state officials and economists urging Alaskans to sell "Value Enhanced" products. So why do we sell our royalty oil as crude?
Williams is now selling its Alaska service stations, its refinery and its 3% interest in the Alyeska Pipeline. The Permanent Fund invests in office buildings and shopping centers. Why not pipelines, refineries and service stations?
Williams sells motor oil, made from Alaska crude, for $2.19, per quart. That calculates to $368 for a 42-gallon barrel of motor oil.
Which do you think would balance our budget faster, $26 dollar per barrel oil or $368 dollar per barrel oil?
For twenty-five years, the owners of Alyeska Pipeline have frustrated Alaska?s effort to determine how much, our state has been overcharged for shipping our royalty oil. The estimates run well into the $billions. For the meager price of a 3% interest in the pipeline, we could become one of the owners and end this cat and mouse game forever. The benefits to Alaska could be enormous!
For the same reasons, the Permanent Fund should be buying up stock in BP, Phillips and Exxon, sufficient to secure a seat on the Board. We could focus their interests on Alaskan interests and put an end to the shell games they play with us.
We Alaskans need to look closely at our own interests and stop worrying about the oil companies. Oil companies are going to tell us to believe whatever they believe is in their best interest for us to believe. We can only guess at what drives oil companies and we are usually wrong.
Most Alaskans would have thought BP would have been 100% behind us when we were trying to open ANWR, but they were not. Was it because, if ANWR produced a million barrels per day, their largest stockholder, Kuwait, would have had to share in an OPEC-mandated million barrel per day reduction in production to keep the price of oil up? Maybe so maybe not. We will never know.
Will our oil producers leave? I doubt it, but we will never know if we don't call their bluff.
And what if they do leave? If the oil companies shut down Prudhoe Bay, they would soon be forfeiting all of their interests in their leases back to the state, to include the production facilities built on them. We would then take over the abandoned fields and hire oilfield service companies to produce our oil for us. Instead of receiving a 12% royalty, we would be producing 100%.
Want to help solve Fiscal Gap problem? Contribute to the candidates who are NOT taking money from oil and join me in taking on the goliaths that have been robbing us blind for 25 years.
Ray Metcalfe Chairman of the Republican Moderate Party
PO Box 233809
Anchorage AK 99523