Inflation and a plan for the Permanent Fund that's too good to be true

If something sounds too good to be true, it usually is.

That's what we have with the plan Wasilla Sen. Mike Dunleavy is pushing for the Alaska Permanent Fund. It is based on the writings, speeches and comments of the multi-talented commentator Brad Keithley, a consultant and former oil industry lawyer.

Keithley calls it the "Gov. Jay Hammond plan," but he is being too modest. The former governor has not reached from beyond the grave to endorse this approach. Quoting from a book published posthumously does not make this the Gov. Jay Hammond plan any more than quoting the pope equates to a Vatican blessing. To be accurate, this is the Keithley/Dunleavy plan.

They propose that we use half of the earnings of the Permanent Fund for dividends — continuing the current practice — while directing the other half to help fund government services.

Coupled with Dunleavy's vision of a yet-to-be identified $1 billion in budget cuts, this combo is supposed to get us to the end of the rainbow with no change in the dividend, no state income tax, no state sales tax, no broad-based taxes.

"No new taxes are required," Dunleavy said.

This is the painless message that some people want to hear.

But listen to this: It would lead to a decline in the value of the Permanent Fund, as we would lose billions by not compensating for the erosive effects of inflation.

Avoiding a minimal tax burden now by transferring a burden to future Alaskans is not the legacy we should prepare for the generations to follow.

I give Keithley and Dunleavy credit for recognizing that the fund, which has supplanted oil to become the largest source of state revenue, ought to play a role in balancing the state budget.

Whatever we do ought to be based on thorough analysis, not back-of-the-envelope figuring in which billions are treated as casually as loose change under the living room couch.

Before we accept any easy answer about allocating future fund earnings, let's make sure we are looking at the right numbers.

That applies to the so-called 50/50 idea as well as the plans put forward by Gov. Bill Walker and senators who split with Dunleavy on this last year.

The benchmark question for Alaskans is what portion of the earnings of the fund can be safely taken out each year so that the account does not lose value over the long term.

Set that level too high and the fund will lose value. We may soon have a serious argument over whether a total withdrawal rate of 5.25 percent can be sustained or if it should be closer to 4.50 percent.  That may not sound like an enormous difference but it is.

To keep the permanent part of the fund intact, we have to account for inflation and reinvest money to make up for it. Spending 100 percent of the realized earnings under the Dunleavy/Keithley painless plan does not do that.

The fund today has an estimated market value of $55.9 billion. The overall value is the most important number, not the size of the earnings reserve, a subaccount holding billions in past earnings.

The Alaska Permanent Fund Corp. performed an analysis at Dunleavy's request about how the 50/50 plan could impact the earnings reserve of the fund over the next decade.

It showed that based upon its best guess about expected returns and inflation, the reserve would go from $10.4 billion in 2017 to $11.8 billion in 2027 under Dunleavy's plan.

The senator did not include the most important statistic, which is the estimated future size of the total fund.

I asked the corporation to add that projection to get an idea of what the total fund would contain in 2027 under Dunleavy's plan. The corporation put the 2027 value at $64.5 billion.

But the fund would have to have about $70 billion a decade from now just to keep pace with inflation, estimated at 2.25 percent.

Put another way, the fund would lose more than $5 billion in value by 2027 under the Dunleavy plan. Avoid taxes now and pay the price later.

Applying the same investment and inflation assumptions, the corporation projects that if we maintain the status quo and use earnings only for paying dividends and inflation proofing, the value of the fund would reach $86 billion in 2027.

Here is the chart from the corporation, showing the Dunleavy plan and the status quo.

I believe we ought to use some Permanent Fund earnings to help pay for government, which would make the status quo an unlikely high-side estimate. But there's a middle ground that can be reached through compromise.

Our great challenge is to balance present desires with the needs of the future.

The state has the financial tools necessary to keep the fund permanent and retain our status as a place with one of the lowest tax rates in the country.

No one can be sure about future earnings and the inflation rate. Because of this inherent uncertainty, we must be careful not to fool ourselves about the Permanent Fund projections.

To keep the current and future levels of foolery to a minimum, we need a defensible and realistic plan for the earnings, even if it means telling people what they don't want to hear.

Columnist Dermot Cole can be reached at dermot@alaskadispatch.com. 

The views expressed here are the writer's and are not necessarily endorsed by Alaska Dispatch News, which welcomes a broad range of viewpoints. To submit a piece for consideration, email commentary@alaskadispatch.com. Send submissions shorter than 200 words to letters@alaskadispatch.com or click here to submit via any web browser.