Alaska Department of Revenue Commonwealth North Fiscal Policy Study - - PowerPoint PPT Presentation

Alaska Department

• f Revenue

Commonwealth North Fiscal Policy Study Group 2014 Anchorage, Alaska – December 18, 2014

John Tichotsky, Ph.D. (Cantab.), Chief Economist & Audit Master Alaska Department of Revenue

Who forecasts Alaska Revenue?

Economic Research Group…with commercial analysts

Economic Research Group and Commercial Analysts are also within the structure of the Tax Division proper….

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A New Tax Division Director, Ken Alper, with strong skills in oil and gas. The Economic Research Group also reports to… Deputy Commissioner, Jerry Burnett, with long- term experience and technical skills in finance and revenue, also oversees Economic Research Group and Commercial Analysts. DOR has a new Commissioner, Randall Hoffbeck, as former oil property assessor for DOR understands the role Economic Research Group does and can play…

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Alaska Revenue

Revenue Categories for Alaska

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Revenue Categories for Alaska

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FY 2014 Total State Revenue, by restriction and type

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Total State Revenue History and Forecast

Alaska Revenue Forecasting

Why do we forecast revenue at DOR?

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Forecasting methods from the past…. The Delphi Method

converging toward a “correct” answer

Oracles were thought to be portals through which the gods spoke directly to people. Usually the oracle was in a “frenzy.” An “intuitive” or “qualitative” approach.

Thanks to Percy Jackson, my children know what I do at work.

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Divining the future has many specialties…

Seers (μάντεις) manteis practice haruspicy or extispicy

The ancient science of interpreting signs sent by the gods through bird signs, animal entrails, and other various methods. More of an empirical approach than the Oracles…

Forecasters in my early life

What if you really could model the future? Is knowing the future enough? How do you make knowledge of the future useful?

What we want is a Rational Basis for Forecasting

• Fundamentally Scientific Approach
• Economic analysis based on physical realities
• Empirical lessons of the past
• Recognizing the role of change. What relationship does

the future and past have?

• Includes abstract analogues
• Question is well framed, maybe re-framed

from “conventional wisdom”

• Right mix of the qualitative and quantitative

economics for policy

• Economic analysis being policy relevant

What do we mean by scientific?

• “Clearly, scientific education ought to mean the

implanting of a rational, skeptical, experimental habit of

• mind. It ought to mean acquiring a method — a method

that can be used on any problem that one meets — and not simply piling up a lot of facts. … George Orwell – What is Science? Tribune, 26 October 1945

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What Makes a Good Forecast?

• Revenue forecasts should represent our best estimate of what revenue will be, not what we want it

to be.

• All forecasts should be based on the best available information and should fit with past results.
• Our methodology is heavy on statistical models, but the results should make sense logically.

Otherwise you have a broken model!

• We have the most confidence in short-term forecasts. Uncertainty increases with time.
• We need to be able to respond when “fat tail” events occur.

Forecasting methodology should be transparent

• While our data may be confidential, we always publish
• ur forecasting methodology and explain any changes.
• This is important to earn trust in the forecast from

decision-makers and the public.

• It is also important for credit rating agencies.

Forecasts must be objective and justifiable

What Makes a Good Forecast, continued…

• “Correct forecasts are not proof that the forecast

method is correct”

• “Trends can change”
• “Garbage in /garbage out”
• “Forecasts are always wrong,” but probability

and ranges can be right

• Developing a consistent and USEFUL approach,

that may not always yield exact answers….

• Goldilocks forecast: Neither complexity nor

simplicity is the goal

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What do We Forecast at DOR

• We directly forecast Petroleum Revenue
• the largest component, accounting for 88% of state

unrestricted revenue in FY 2014

• “Petroleum Revenue” includes severance taxes, royalties, corporate

income tax, and all other revenue from oil companies

• We directly forecast Nonpetroleum Revenue
• We use someone else’s forecast for Investment Revenue
• We take the Federal Revenue that is authorized for

spending

• It is typically 20%-30% more than actually gets spent.
• DOR compiles all different revenue streams and compiles

them in the annual Revenue Sources Book

Mostly Petroleum and Nonpetroleum Revenue

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Oil Revenue Forecasting REVENUE = (Net value * Tax Rate) – Credits Net value = (Price*Production)-Costs

• 1. Price
• 2. Production
• 3. Costs
• 1. Capital expenditures
• 2. Operating expenditures
• 3. Transportation cost

Three Factors for Production Tax Revenue Forecast

Alaska North Slope Crude West Coast Price

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$60 $70 $80 $90 $100 $110 $120 $130

95% Lower Bound: $ 87.48 High: $116.52 Low: $66.65 95% Upper Bound: $124.22 =95% confidence level Average Price: $104.24 Saudi Arabia annouces it will not defend $100 oil prices. Coupled with weak demand and robust supplies oil prices collapse. Russia seizes Crimea from the Ukraine. Syria uses chemical weapons in its civil Threat of regional warfare in Middleast in response to use

• f Syrian chemical weapon

usage. Weak demand outlook and ample supplies of crude in storage. Russia invades Ukraine in support

• f rebels.

Historical ANS WC Annual Average and Official Forecast

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ANS Oil Production Forecast

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Total Revenue Forecast – FY 2015 & 2016

Source: Department of Revenue - Revenue Sources Book Fall 2014 *Except Federal and Investment

($ millions) Actual Fall 2014 Forecast Revenue Type FY 2014 FY 2015 FY 2016 Unrestricted General Fund Oil Revenue 4,755.3 2,019.2 1,636.1 Non-Oil Revenue* 508.5 502.3 528.2 Investment Revenue 130.2 30.0 32.4 Total Unrestricted Revenue 5,394.0 2,551.5 2,196.7 Designated General Fund Non-Oil Revenue* 289.6 323.1 322.1 Investment Revenue 66.3 20.4 35.8 Subtotal 355.9 343.5 357.9 Other Restricted Revenue Oil Revenue (Restricted royalties, CBRF settlements, etc) 927.6 512.9 465.6 Non-Oil Revenue (Taxes, licenses, fines, etc)* 183.9 229.2 230.4 Investment Revenue (Permanent Fund, CBRF, etc) 7,861.4 3,322.2 3,549.8 Subtotal 8,972.9 4,064.3 4,245.8 Federal Revenue Oil Revenue 6.8 5.0 5.0 Federal Receipts 2,511.9 3,126.4 3,126.4 Subtotal 2,518.7 3,131.4 3,131.4 Total State Revenue 17,241.5 10,090.7 9,931.8

How should a decision maker use a forecast? What are Forward Looking Statements?

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We are tapping into Decision Science / Decision Analysis

• Use by petroleum companies
• Investment decisions
• Including how price forecasting is typically done
• Potential benefits to the state
• Decision Analysis methods
• better price, production, cost and revenue

models

What is needed for effective decision support?



2009 National Academies report highlights six principles for effective decision support

1. Begin with user’s needs 2. Give priority to processes over products 3. Link information producers and users 4. Build connections across disciplines and organizations 5. Seek institutional stability 6. Design for learning

Report available on : http://www.nap.edu/catalog.php?record_id=12626

Goal of a decision support program should be “to provide knowledge that people need to make better decisions and to do so in ways that enable and empower decision makers to use it appropriately.”

The information & decision link

Technical Information Decision Analysis Strategic/ Policy Decisions

To support: Policy-makers, decision- makers, clients Produced by: technical experts (e.g. economists, accountants, scientists, engineers)

Decision Analysis: What is it?

• Approach and set of tools for structuring and analyzing

complex decision problems and dealing with uncertainty

http://www.decisioneducation.org/about-DEF/better- decisions

Process for making logical, reproducible, and defensible decisions in the face of:

― Technical complexity ― Uncertainty ― Multiple, competing

• bjectives

A multi-disciplinary field drawing from statistics, economics, operations research, management science, psychology…

Methods

• Distinguishing

characteristic of DA

• Probabilistic methods
• Requires solid grounding in probability theory
• Requires sound processes for probability elicitation
• Modeling
• Monte Carlo simulation
• Decision Trees

“Decision analysis will not solve problems, nor is it intended to do so. Its purpose is to produce insight and promote creativity to help decision-makers make better decisions.” - Ralph Keeney

Monte Carlo Simulation – 1940s technology

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• Developed by

Stanislaw Ulam & John Van Neumann for the Manhattan Project.

• Codeword named

after Monte Carlo Hotel where Ulam’s uncle borrowed money to gamble.

2000 = a single deterministic set of numbers…

1978 = probabilistic forecast 1995 = shift from probabilistic Monte Carlo method to scenario with low, medium, high.

FY 2016 General Fund Unrestricted Revenue, with Price Sensitivity

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FY 2015-2017 General Fund Unrestricted Revenue, with Price Sensitivity

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FY 2015 FY 2016 FY 2017

ANS $/barrel

(1)

GF Unrestricted Revenue ANS $/barrel GF Unrestricted Revenue ANS $/barrel GF Unrestricted Revenue $50 $1,880 $50 $1,810 $50 $1,820 $60 $2,140 $60 $2,030 $60 $2,000 $70 $2,380 $66.03 $2,197 $70 $2,300 $76.31 $2,551 $70 $2,300 $80 $2,630 $80 $2,660 $80 $2,580 $90 $3,430 $90 $3,140 $90 $3,340 $93.18 $3,657 $100 $4,070 $100 $4,220 $100 $4,300 $110 $5,030 $110 $5,110 $110 $5,190 $120 $5,890 $120 $6,010 $120 $6,090 $130 $6,850 $130 $6,910 $130 $6,980 $140 $7,730 $140 $7,810 $140 $7,850 $150 $8,510 $150 $8,710 $150 $8,710

At forecasted production of 509.5 thousand bbls/day At forecasted production of 524.1 thousand bbls/day At forecasted production of 534.1 thousand bbls/day

Please find our contact information below:

John Tichotsky

Chief Economist Department of Revenue John.Tichotsky@alaska.gov (907) 269-8902

dor.alaska.gov

THANK YOU