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Meaningful Reform


Once again, oil taxes and special session.  They’re fetched up hard aground in the Capitol because the Parnell Administration advocates a $2 billion a year oil tax cut to ACES and the Senate Bipartisan Majority suggests something more modest and targeted.   Fundamentally, it’s a disagreement about tax rates, rather than revenue structure.  It’s about money, not method.   That’s too bad, because meaningful reform means moving to a more stable and less politicized revenue system, one that is contract-based, not tax-based.

There is consensus that the state should encourage production and secure a fair market price for our oil.  A contract-based system does better at achieving these goals because experts, not politicians, make business decisions, and because it is more predictable, more certain and more stable.

Politicians don’t magically become oil experts when they’re elected.  The corollary is that oil companies have a primary responsibility to their shareholders, not to Alaskans.  A well-designed oil revenue system accommodates these realities.  It takes the politics and the politicians out of micro-management, much as we remove them from making investment decisions for the Permanent Fund.  At the same time, a well-designed system protects Alaska’s interests in a highly technical and competitive marketplace. 

Currently, the State generates oil revenue from property tax, corporate income tax, royalty (negotiable, but usually the state’s one-eighth share of production), and severance (the selling price for oil “severed” from the state).  The ACES debate is a debate about severance.   An underlying problem with ACES is that it is a complex net profits tax – akin to an income tax.  Normally, people sell things through contract, which defines the terms of the exchange.  Yet Alaska attempts to wrest severance value for oil using a tax instead of a contract – the tool that’s being used isn’t the best tool for getting a fair price for selling our oil. 

In Alaska, the state owns the oil resource that provides 90% of the state’s revenue and fuels the state’s major industry.  Consequently, oil tax decisions have far-reaching budget and economic implications.  These decisions should be rationally derived, but politics operate under different rules of logic than economics.  In part, it’s because the two realms respond to different currencies – the one trying to accumulate profit, the other votes.  As a result, the political arena is poorly suited to optimizing the tradeoff between incentives, production and revenue. 

It has to do with ability, and corruptibility.  Alaska’s political system is particularly susceptible to corruption and has to constantly guard against any repetition of what happened in 2006.  Even under the best of times, the political process is characterized by backroom deals, arm-twisting and political tradeoffs.  That situation is aggravated because elected officials possess widely varying levels of understanding, interest and focus when it comes time to making decisions about oil revenue.

Under a contract-based system, the legislature and governor define general terms and conditions of oil contracts, and institute responsible oversight with appropriate checks and balances.  The actual management and negotiation of terms and conditions is entrusted to professionals who are bound by fiduciary duties and codes of conduct.  Professionals, more than politicians, have greater ability and likelihood to find the sweet spot of a development deal, while securing performance commitments from the leaseholders.  In addition, a contract-based system differs from a tax because it isn’t one-size fits all, and is flexible and nimble enough to reflect project specific considerations – from heavy oil to natural gas, from the North Slope to Cook Inlet.

Contracts also have constitutional protection – making them more stable than taxes.  Contracts are widely used around the world.  We’ve even tried them here, in the Stranded Gas Act for example.  Besides, as the Permanent Fund demonstrates, Alaskans have proven we can establish a professional, as opposed to a political, resource management system.

We can keep going round and round about oil taxes, or we can materially change the debate.  Our state’s greatest achievements follow a simple recipe -- think big, act boldly, adopt the spirit of innovation, and move Alaska forward.  It’s a recipe we should embrace now.

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