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How a Drop in Oil Prices Caused a Multi-Billion Dollar Budget Deficit in Alaska

Alaska's revenue is heavily impacted by oil price, something that must be taken into consideration when creating the state budget.

In a matter of two years the world saw crude oil prices plummet from a high of $106 a barrel in June of 2014 to a low of $33 a barrel in February, 2016. While consumers celebrated the lower price at the pump, state legislators in Alaska witnessed the biggest drop in tax revenue in its state’s history.

Oil & Gas Production Tax

Alaska levies an annual 35% tax on in-state oil and gas production. The tax is based on the net value of oil and gas, which is the value at the point of production multiplied by the taxable volume, less all lease expenditures allowed under Alaska state law. Since the tax is based on the net value of oil and gas, the amount of revenue collected from this tax each year is dependent upon the going market price of oil.

This tax was a huge windfall for Alaska when oil prices were consistently over $100 a barrel. In 2008 alone, Alaska collected over $8 billion in revenue – over 90% coming directly from the tax on oil and gas production.

In fact, Alaska collects such an abundance in revenue from oil and gas production that is pays out dividends from its permanent fund to residents of the state each year – the dividend in 2008 exceeded $2,000 per full-year resident. Considering there is no state income tax or state sales tax, residents of Alaska actually collected tax from the state government just for living within their borders.

Relationship Between Oil Prices and Revenue

Since the majority of tax collected comes from oil and gas production, Alaska’s tax revenue fluctuates directly with oil prices. The chart below shows the price of crude oil from the early 1980’s to 2018. Notice the spike in oil prices in 2008 and the subsequent drops in 2009 and 2014.

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The chart below is the total tax collected by the state of Alaska each year from the early 90’s to 2016. Notice how the spikes in oil prices above correlate directly to the revenue collected each year.

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But what about 2012 to 2014? Oil prices were still relatively high and bounced back from the lows of the Great Recession. Wouldn’t you expect revenue to bounce back from pre-recession levels? Well, prices from 2010 to 2012 did stabilize and revenue increased significantly in that period, however, the price of oil isn’t the only thing that impacts revenue.

The Second Great Recession

In 2012 Alaska experienced a second Great Recession while the rest of the country was experiencing modest economic growth. The graph below shows real total gross domestic product from the late 90’s to 2016 – the areas shaded in gray highlights the periods of economic recession in the US economy. Alaska was virtually unaffected by the Great Recession and continued to grow at a rapid pace into 2012.

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However, decreased investment in oil production and uncertainty may have led to the recession in 2013 and beyond – the drop in oil prices in 2014 only made the situation worse.

2018 Alaska Budget Deficit and Beyond

The budget deficit for the State of Alaska is expected to exceed $2.8 billion in 2018. The deficit cannot be attributed to overspending or mismanagement of taxpayer dollars. On the contrary, the State of Alaska maintains a reserve account of over $66 billion from oil and gas revenue collected as of January 2018.

Furthermore, the proposed budget for 2018 is $4.7 billion compared to the $4.2 billion budget proposed in 2007. Putting that into perspective, the increased spending equates to a 1% increase each year – well below the average national inflation rate.

The main cause of the budget shortfall is the dramatic drop in revenue from oil and gas production. The State of Alaska’s oil revenues fell more than 90 percent from Fiscal Year 2012 to Fiscal Year 2016, according to the University of Alaska Anchorage’s Institute of Social and Economic Research (ISER). The price of oil would have to average well over $100 per barrel during 2018 to balance the Fiscal Year 2018 budget without tapping into the reserve account.

With the current levels of production and oil prices Alaska might have to rethink their tax policy. Currently, the state has no income tax or state sales tax, and Alaskans pay the lowest broad-based state taxes in the country, according to ISER. If the current budget deficit persist, Alaska will exhaust its permanent fund by 2025.

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