Monday, 04 March 2019 18:33

Proposed withdrawals from Land Grant Permanent Fund don't add up

Commentary on proposed legislation that would take more money out of New Mexico's Land Grant Permanent Fund, by NMBC follower David C. Williams, Ph. D.

In considering the wisdom of the proposed increased withdrawal rates from the Permanent Fund, it would be wise to remember that increasing the withdrawal rate from 5% to 6% will reduce the rate of growth (or increase the rate of decline) of the Fund, with the effect on the magnitude of the Fund being cumulative as time passes.  The time will therefore come (which I call the "cross-over time") when a withdrawal of 6% will yield no more than would have a withdrawal of 5% if the rate had been left at that value; after the cross-over time, the fund with a continuing 6% withdrawal would still be yielding less than it would have with a 5% withdrawal if the rate had been left at that value.  If we neglect for the moment the effect of continuing inflows to the Fund from various royalties, a little math shows that the cross-over time is about 18 years (18.23 years, in my simplified model).  After that, the 6% withdrawal rate would be yielding less than would have been yielded by leaving the rate at 5%.

The above result does not depend upon the rate of growth (or loss) of permanent fund investments; however, it does depend upon the neglect of additional inflows to the fund from oil and gas royalties during the time of interest.  Additional inflows would delay the cross-over time because recent inflows still contribute to the current 6% withdrawal, but would not have suffered the effects of the 6% withdrawal in earlier years.

Neglect of continuing inflows to the Fund is, of course, not realistic.  On February 6, the Albuquerque Journal published results provided by the State Investment Council (SIC) which did include assumed additional inflows to the Fund from oil and gas royalties.  In their analysis, the cross-over point occurred by 2048, or in about 29 years.

Their result is dependent upon the amount of inflows to the Fund assumed for future years; these assumptions were not specified in the article.  However, the SIC results implied a Fund growth by a factor of 4.24 over the period 2020 - 2055 assuming 6% withdrawals, while the natural  investment growth assumed (6.8%) less the 6% withdrawals would only yield growth by a factor of about 1.32 over this period.  Hence the assumed inflows must have been large; I estimated the assumed inflows to be in the range $860 million - $1.6 billion per year over the period 2020 - 2055.  While recent royalties have indeed been high, I feel this is overly optimistic in the long run, in view of the notoriously volatile nature of oil and gas revenues and, perhaps more importantly, the mounting pressure to reduce and eventually eliminate fossil fuel usage to combat climate change -- a pressure that is, ironically, spearheaded by the very "progressives" who are demanding the increased withdrawal rate from the Permanent Fund.  For example, our District 1 Congressional Representative, Deb Haaland, supports totally eliminating fossil fuel usage by 2035.  While this is unrealistic, it does suggest assuming large royalty inflows in years as late as 2050-2055 may also be unrealistic.

I conclude, therefore, that the cross-over point would be more than 18 years but likely less than the 29 years in the SIC  analysis.  I realize that 29 years, or even 18 years, is probably eternity in the planning horizon of most politicians.  However, since the Permanent Fund was intended to provide funding "in perpetuity" after our fossil fuels are exhausted (or lose their value by being replaced by other energy sources), it hardly seems justified to ignore what happens on time scales longer than even 29 years.  It is also interesting to note that Senator John Arthur Smith, Chair of the Senate Finance Committee, has been in the NM Senate since 1989, or thirty years.  If the withdrawal rate had been increased to 6% when he first entered office, the yield now (with a continuing 6% withdrawal) would be smaller than what it would have been with a 5% withdrawal rate, if left at 5% throughout his time in office.

Another interesting observation: the purpose of the increase to 6% is to allow increased funding for Pre-K education, mostly children 3 or 4 years old.  By the time these children grow up and have children of their own moving up through our public education system, the cross-over time will pass and hence their children will receive less support from the Fund for their education (all their education, not just Pre-K) than they would have if the distribution rate had been left at 5%.  In effect, they receive whatever benefits increased Pre-K spending yields at the expense of their own children's education down the road -- assuming, of course, that they choose to remain in New Mexico when the time comes for them to raise a family..

Finally, from the vantage point of my age of 83, I can personally testify that a period of 18 to 29 years is not "in perpetuity".

(Note: my calculations include some simplifying approximations, but their effects are not large enough to significantly alter the conclusions I have made here.)

By: David C. Williams, Ph. D., Albuquerque, NM