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Budgeting Based on Reality

In May of 2008 Edward Glaeser, a professor of economics at Harvard University, wrote an op-ed for The Boston Globe in which he advocated some simple rules that would make budgeting in government more effective. The thrust of his article was that results of government programs should be measured to judge their effectiveness; that budgets should be cut from year to year rather than maintained (or increased) automatically unless the results are clearly positive; and that new spending proposals should be evaluated not on whether they seem worthwhile on their face but on whether they are more worthwhile than other uses of the resources they would consume.

I felt that he had missed something in his analysis. I submitted this as a letter to the Globe to point out what it was; it was not published.

Given his interest in government budgeting I also tracked down professor Glaeser’s e-mail address at Harvard and sent him a short note with a description of (and a link to) my attempt at determining to what extent the way people perceived government spending priorities matched the reality of government spending. Although it did not lead to an actual dialog professor Glaeser was polite enough to thank me for bringing it to his attention.

2 May 2008

I would add one more step to Edward Glaeser’s list of things that the Commonwealth of Massachusetts — or any government — could and should do to bring clarity to their budgeting process: budget for average rather than peak revenues.

Notwithstanding Mr. Glaeser’s admonition to target decreasing expenditures as the normative process, with increases specifically justified by demonstrated results, prioritizing and making tradeoffs is infinitely more difficult when the government has made promises in flush times that it is hard-pressed to keep in lean times. And yet that seems to be the default mode of operation: commit windfalls when the economy is strong to long-term and popular causes, like entitlements and salaries and program expansions, that are politically difficult to rescind when the windfall evaporates.

If revenues were estimated and allocated based on the mean over some suitable period — say a typical business cycle — then decisions about priorities could be made in a relatively stable fiscal environment without the periodic panics that characterize the present budgeting process. Revenue spikes during an up-cycle could be used to build a rainy-day fund to cover revenue troughs during the next down-cycle (or to repay debts incurred during the last one). Unexpected surpluses could support short-term projects like capital improvements. And managing such revenue cycles as deviations from an average rather than as isolated events would enforce a fiscal viewpoint that differentiated between long-term obligations and short-term opportunities, making it simpler both to identify priorities and to measure results.

Any budgeting process, no matter how rational, functions poorly in the face of extreme revenue instability. Fix that and the rest becomes much easier.

(C) Copyright 2008, Augustus P. Lowell

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