As Oil Prices Plunge, Texas Eyes Are on Hegar

In January of 1983, just one month after Billy Hamilton stepped into his position as Texas’ chief revenue estimator, the state was wading in a flood of red ink that no one had seen coming. Plummeting oil prices had pushed state tax collections $100 million below the previous January, sending bureaucrats literally scurrying across the revenue-processing floor in search of forgotten mailbags of cash.

“It was like you were going to lose your job every day,” recalled Hamilton, now the chief financial officer for the Texas A&M University system.

Comptroller Bob Bullock, Hamilton’s boss at the time, thought someone must know what was going on – if not the newly hired economics wonk. So the two flew to Exxon’s headquarters to ask the company’s chief economist where oil prices were headed in the next three years. 

“The guy walked over, closed the door, and says, 'Bob, we have no idea. It’s just in free fall,’” said Hamilton, recalling his moment of vindication. “If I could have kissed him on his bald head, I would have kissed him right there.”

Fast-forward 32 years and Texas state leaders are again about to step into the oil-tinged unknown. As the price of crude oil plummets, prominent analysts are openly discussing the possibility of a Texas recession, and how badly the next legislative session will be scrambled remains an open question.

The monumental task of predicting that future falls to Glenn Hegar, the incoming comptroller. Less than two weeks after Hegar replaces Susan Combs as the state's chief financial officer, he will release his first revenue estimate – a forecast of how much cash will flow into state coffers in the biennium that begins the following September.

That pivotal number will tell lawmakers how big of a pie they will squabble over in the coming session.  

Due to a complicated mixture of geopolitics and supply and demand, the per-barrel price of West Texas Intermediate oil – the U.S. benchmark – has fallen below $60, a roughly 50 percent drop since June. Several major oil companies have already sliced their budgets, and in October, the Texas Railroad Commission issued fewer drilling permits than in September, a trend that likely continued into November and December. That means growth in oil production will likely slow in the coming months.

How hard that will wallop the Texas economy is unclear, but the outlook is far less rosy than it was just months ago.

“The question is what will the comptroller do,” said Bill Hammond, president of the Texas Association of Business. "Oil is only 14 percent of our economy currently, but obviously that’s a lot of it.” 

Over the last 40 years, comptrollers have periodically seen their estimates miss the mark by billions of dollars. A recent study by the comptroller’s office found that the most inaccurate forecasts coincided with large swings in oil and gas tax collections. In 2011, amid the early days of the current drilling boom, Combs' estimate was low by $11.3 billion, prompting lawmakers to make deep cuts in the next budget.

Hegar recently met with a team of former revenue estimators — Hamilton included — seeking guidance on forecasting state revenue, particularly from the volatile oil market. “There was lots of wisdom exchanged, as well as some pretty funny and insightful anecdotes,” said Liz White, his political director.

Texas, no doubt, has learned plenty since the 1980s, when drilling rigs were laid down, oilfield workers laid off, banks shuttered and state spending slashed, economists agree. The state diversified its economy, and state officials stashed away money to cushion the blow of future financial troubles.

Still, today’s ongoing crude oil nosedive – and the increasingly gloomy forecasts that have followed – cast a pall over the next legislative session, as lawmakers look to invest in the state’s needs while avoiding concerns that they are not properly preparing for a potential bust.

“There’s definitely impact [on the economy], and it’s definitely worrisome,” Hamilton said.

Texas’ new lawmakers had no reason to worry last May when they delivered their post-primary victory speeches. Texas’ “miracle” economy – driven partly by a petroleum sector that now pumps 40 percent of the nation’s oil – was only growing, fueling a budget surplus.

Incoming Gov. Greg Abbott has charted an ambitious agenda for his first legislative session, including improving the state’s education system, boosting transportation funding by $4 billion a year and providing substantive tax relief.

“We’re all going to pay a price if these kids don’t get off to a good start,” the Republican says in a web ad touting his policy goals released by his campaign Thursday. “And we simply have to build more and better roads in Texas.”

But the oil market’s volatility may temper those plans.

“Not knowing where the bottom is or the top is, or what tomorrow holds, it’s kind of tough to figure out,” said Christopher Guith, vice president for policy at the U.S. Chamber of Commerce’s Energy Institute.

A dip in oil prices has unleashed some benefits across Texas’ economy. Manufacturers, motorists and others, for instance, are enjoying cheaper fuel. And those savings should spill into other parts of the economy. Asked about falling oil prices at a Houston event on Wednesday, Abbot spoke of those positives.

“At the same time, you see increased revenues in other areas," Abbott said, according to KVUE-TV, after acknowledging state revenue will probably drop in the coming months. "You see increased sales tax revenues because people have more money in their pocket, because they're spending less on gasoline and they can go buy more at the store. You also see an increase in manufacturing like what we see here in the Houston area.” 

Some analysts suggest those benefits will be too small to ward off a Texas recession.   

“While we expect the country, overall, will be a new beneficiary from falling oil prices,” Michael Feroli, J.P. Morgan's chief U.S. economist, said Thursday in a note to investors. "Two states look like they will bear the brunt of the pain: North Dakota and Texas.”

Standard & Poor’s Ratings Services was less gloomy, but hardly upbeat this month. Its report said Texas “continues to be a strong driver of growth” in a region that includes Arkansas, Oklahoma and Louisiana, but a continued drop in oil prices could derail growth and constrain state budgets drawn up with more optimistic assumptions. 

Still, most experts predict a fate far better than what the 1980s brought, when oil and gas revenue made up about 20 percent of the state’s budget.

The state expects oil and gas production taxes to make up 4.5 percent of its total revenue during the current 2014-15 biennium and 9.6 percent of its total tax collections, according to a Legislative Budget Board report. And much of that cash is staying outside the budgeting process, flowing instead to the Economic Stabilization Fund, more often called the Rainy Day Fund, which lawmakers created after the last oil bust.

While oil and gas are a pivotal part of the Texas economy, other states stand to be hit harder by the drop in crude prices. As this month's Standard & Poor's report noted, oil and mineral-related revenue make up less than 5 percent of the Texas and North Dakota budgets, but 31 percent of the Wyoming budget and a whopping 87 percent of the Alaska budget.

"By these measures, Alaska is particularly vulnerable," the report reads. 

While energy analysts debate when and where the market will settle, all eyes in Austin will be on Hegar next month, as he delivers his forecast of how much Abbott and the Legislature have to work with. His forecast could assume oil prices will recover in the coming years, even if no one knows for sure, Hammond said. Or it could be more pessimistic.

“Nobody expects you to be right about oil and gas prices,” Hamilton said about what he calls a “miserable job.”

“They just expect you to be less wrong in the right direction.” 

Disclosure: The Texas A&M University System and the Texas Association of Business are corporate sponsors of The Texas Tribune. A complete list of Tribune donors and sponsors can be viewed here.