Public Budgeting and Financial Management
What is a budget?
- A budget is a statement of allocation of (scarce) resources to achieve an
organization's objectives for a specific time period.
- A budget is the
financial plan for how an organization will receive and spend money for a set
time period (the fiscal period).
- According to Aaron Wildavsky, a preeminent expert, a budget is:
- a prediction of expenses;
- the "link between financial resources and human behavior in order to accomplish policy objectives";
- a representation in monetary terms of governmental activity
- a record of the outcomes of the struggle over political preferences; and
"attempts to allocate scarce financial resources through political processes
in order to realize disparate visions of the good life."
According to the
of Management and Budget:
"The budget system of the United States Government provides
the means for the President and Congress to decide how much money to spend,
what to spend it on, and how to raise the money they have decided to spend.
Through the budget system, they determine the allocation of resources among
the agencies of the Federal Government. The budget system focuses primarily on
dollars, but it also allocates other resources, such as Federal employment."
Why is a Budget required?
- Accountability: Public is not taxed any more than that required for appropriate
- Prioritization: Identify those public functions to which scarce resources
should be allocated
What are the major components of a Public Budget?
- Revenues: Funds that are raised through various means.
- Expenditure: Funds used for spending on specific programs or capital
What are the revenue sources for a government?
The revenue sources
differ depending on the level of government (i.e. federal, state, and local).
Although the federal government collects most amount of tax, states and local
governments have a wider menu of choices with respect to taxing:
- Federal government:
- Federal taxes
- Individual and Corporate taxes
- Capital gains tax
- Excise (i.e. manufacturing) taxes
- Social security tax (Federal Insurance Contributions Act, FICA tax).
- Inheritance and estate taxes
- Borrowings (e.g. treasury bonds)
- User charges
- State governments
- Intergovernmental transfers
- State taxes
- Individual and Corporate taxes
- Sales taxes
- Fuel taxes
- Inheritance and estate taxes
- Special taxes on specific products/ services (e.g. tobacco, alcohol,
- Licenses (business; occupation; hunting and fishing; motor
vehicles; motor vehicle operators; public utilities)
- Borrowings (e.g. state bonds)
- Local governments (city/ county)
- Intergovernmental transfers
- Local taxes
- Property taxes (ad valorem)
- Sales tax
- Special Assessments (for special districts like school districts; mosquito
districts; water management districts; business improvement districts; etc.)
- User fees/ charges
- Borrowings (e.g. local bonds)
What are the major classes of public expenditure?
- Public Program budgets: These are costs due to specific public policy
programs. Examples include welfare programs (e.g. entitlements); medical
programs; environmental programs; housing programs; education programs.
- Capital budgets: These are costs due to specific capital projects.
Examples include infrastructure (highway, sewage, water, utilities, etc.)
costs; building costs.
- Debt servicing: Repayment of borrowings
- Administration: Personnel and other general costs
What are the major differences between the Federal government and other
governments (i.e. state and local) in terms of budgeting?
- Federal government is in charge of the mint; hence, it can legally print
money (i.e. currency). Federal government directly monitors circulation of
currency through the Federal Reserve. State and local governments cannot
- Federal government monitors/ regulates the economy through interest
rates, to control inflation and to boost economy during stagnation. State
governments do not control the interest rates.
- Since the Federal government can monitor the economy, it could indulge
in deficit spending for achieving broader economic goals. In times of
economic recession, the federal government could increase spending (despite
lower revenue sources) in order to boost the economy (such as large capital
projects started after the Depression to increase employment). In times of
economic surplus, the federal government could reduce spending to keep the
surplus (at least theoretically). (This is a rather crude statement of
Keynesian economics). Unfortunately, however, the federal government deficit
has ballooned over the years, despite a short period of economic surplus
created by the internet economic boom. State and local governments cannot
indulge in large scale deficit spending.
- Federal government is in charge of national defense; state governments
have a much much smaller role. Much of federal government budget is
allocated to defense, much of which could be secretive.
What are the different approaches to preparing a budget? [The time periods
shown in parentheses are when the Federal government broadly subscribed to such
- Lumpsum budget (Until about World War I): In lumpsum budgets, agency
funds were fixed as an overall amount with little political control on how
to spend it. In modern times, public agencies hardly use such lumpsum
budgets. Small scale contracts could be based on lumpsums, where detailing
each of the items could be time consuming and more costly.
- Line-item budget (1920 to 1940s): Also called traditional budgeting, the
Line item budget is in contrast to lumpsum budget in giving control over
each spending item. The budget outlines the items on which money will be
spent, but may not necessarily provide information on what exactly
will be done. Each line item is given the same weight or importance even
though some are more complex. Generally a line item budget has categories
such as personnel, equipment, maintenance, etc. Revenue sources are linked
to each item of expenditure, providing a greater degree of relationship
between revenue source and expenditure.
- Performance budget (1940-60): Performance budget classifies expenditures
by administrative units, by functions, and by items. It includes
outputs as well as inputs to government activity. Administrative skills are
emphasized; activities are given preference over item purchases; management
responsibility is centralized. It involves: (i) formulation and adoption of
a plan of activities and programs for a time period; (ii) funding, i.e.
relating program costs and performance to resources; and (iii) execution,
i.e. achievement of the plan within the time frame.
- Program budget: Although somewhat similar to performance budget, the
program budget is different in considering the purpose (i.e. the program) as
a unit, rather considering the separate administrative units. Thus, program
budgets may overlap certain administrative units.
- PPBS (Planning Programming Budgeting System) (1960-71): PPBS involves
four stages of budget making: (i) planning, where program goals are defined;
(ii) programming, where different alternatives of achieving the goals are
identified; (iii) evaluation, where the costs and benefits of the various
alternatives are evaluated; (iv) implementation, where the best alternatives
are adopted for implementation.
- Zero base budgeting (1976): This was introduced as a rational budget
innovation by President Carter in 1976, along with the concept of "Sunset"
provisions (where a program or an agency expires after a certain time unless
specifically renewed). The concept of ZBB is that existing programs and
activities should not automatically be funded, but rather should have to
justify their continuation as part of the annual budget cycle. Each program
or project is thus vulnerable to zero funding.
- Supply side economics (1980s): Not exactly a budgeting practice, but
this was Reagan's formula for federal government. The approach argues for a
reduced government role in the economy--less regulation, lower taxes. More
regulation is considered unhealthy since it limits corporate
entrepreneurship; high taxation is considered unhealthy since it removes
money from further investment in the private sector. If corporations are
taxed less, they will have more money for employment and reducing prices,
thus benefiting even the poor (the "trickle down economy"). Budget deficits,
however, increased sharply during Reagan years.
- New Performance Budgeting (1990s): This is a results oriented (or
objectives oriented) budgeting under the Government Performance and Results
Act of 1993. The effort is to link resource allocation with managerial
performance. According to GPRA, agencies are required to formulate five year
strategic plans, along with annual performance plans.
- Balanced Budget (1997-2002): In a balanced budget, income
equals or exceeds spending. Deficits from one fiscal year cannot be carried
over to the next. Most states require balanced budgets, but the
federal government does not (as you may have noticed from difference between
Federal and State/ Local governments). 32 states have constitutional
requirements on balancing the budget; 11 more have statutory provisions. In
practice, much of the balancing the budget at state level is applied to
general funds (where much of the taxes are pooled in) and expenditure in
Most of the above budget approaches are managerial in their nature, in the
sense that there is a rational decision making process involved. Yet, budgets
also have a political angle, where the decisions are ratified based on political
power play and narrow interests of one's constituency. For example, "pork
barrel" projects tend to be based on one's political ability to get such
projects to his or her constituency.