Transcript The Role of Government in the American Economy

CHAPTER
17
The Government Budgeting
Process
PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy
Randall Holcombe
Government Budgeting
Process

Role of budgeting process
 Allocate
resources to most highly valued uses
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The Federal Budgeting Process
Budgetary Reform in the 20th Century
 Budget and Accounting Act of 1921

 Directly
involved president
 Established Bureau of the Budget
 Created General Accounting Office

In 1970 - Bureau of the Budget
reorganized and named Office of
Management and Budget (OMB)
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The President’s Budget
OMB responsible for developing
president’s budget
 OMB solicits requests from federal
agencies for funding

 Sum
of agencies requests will be
unacceptably large
 Requests can be viewed as menu of choices
for those determining budget

Political and economic document
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The Congressional Budget

Congressional Budget Office (CBO)

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
assists Congress in evaluating president’s budget
submits report to congressional budget committees
Budget resolutions presented to both houses of
Congress
House Ways and Means Committee and Senate
Finance Committee hold hearings on specific
appropriations
Further budget resolutions
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The Congressional Budget
Congress does not always follow schedule
 Budget resolution late or not passed in
some years

 Results
in continuing resolution rather than
final budget
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Incrementalism
Theory of budget determination
 Suggests budgets of government agencies
will be incrementally larger than the
previous year

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Effects of Special Interests
Special interests important element in
budgetary process
 Political pressure works toward expansion
of existing programs

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Incrementalism and Efficiency
Incrementalism logical within special
interest theory framework
 Also logical because of complexity of
government spending
 Incrementalism as a rational economic
policy

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Politics and Federal Budget

Changes in politics of budgetary process
caused by
 Changes
in composition of federal spending
toward social services
 Increasing deficits
 A drift away from incrementalism as
president and Congress attempt to change
budget in more radical ways
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Entitlements
Provide funds to individuals meeting
eligibility requirements
 Once in effect, level of expenditures
depends on external conditions
 No fixed budget - expenditures relatively
hard to control
 Add to uncertainty of budgetary process
 Difficult to eliminate

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Off-Budget Expenditures

Government-owned corporations with
budgets separate from government’s
budget
 U.S.
Postal Service
 Amtrak
Increased dramatically beginning in
1950’s
 Activities sometimes placed off-budget to
reduce scrutiny

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Program Budgets Versus Line
Item Budgets

Program budget - groups expenditures by
program goals
 Enumerates

Line item budget - groups expenditures
by types of items purchase
 Enumerates

objectives sought
items purchased
Program budgets best evaluate
effectiveness of government expenditures
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Planning-ProgrammingBudgeting System (PPBS)
Government expenditures grouped by
objective
 Facilitates undertaking of cost-benefit
analyses of programs
 Define objectives, consider alternatives,
undertake cost-benefit analyses
 Most useful when considering whether a
new program should be implemented

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Cost-Benefit Analysis
Intended to compare costs/benefits of a
program
 Requires costs/benefits be estimated and
weighed
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Steps of Cost-Benefit Analysis
Enumerate the options
 Enumerate the costs and benefits

 Avoid
double counting
 Concentrate on primary effects

Convert costs/benefits to dollar terms
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Cost-Benefit Analysis as
Decision-Making Tool
Results of cost-benefit study can be used
as guideline as to whether program
should be initiated
 Favorable benefit-to-cost ratio may not
imply that program should be undertaken
 Unfavorable benefit-to-cost ratio may not
imply that program should not be
undertaken

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Cost-Benefit Analysis and
Public Interest

Cost-benefit analysis is utilitarian
 Dollar
costs weighed against dollar benefits
Cost-benefit analysis should be used as a
guide to final decision
 Determination of public interest is
normative

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Discount Rate
Affects cost-benefit analysis
 Rate of interest at which future
costs/benefits discounted to compute
present value
 Selecting appropriate rate important
when benefits extend into the future

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Present Value Measurement of
Costs and Benefits

Present value of benefit to be received one
year from now:
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Present value of benefit to be received two
years from now:
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
PV = B1/(1+r)
PV = B1/(1+r) + B2/[(1+r)(1+r)]
General Formula:
 Bt 
PV   
t 
t 0  1  r  
T
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Choosing the Right Discount
Rate
Effects estimate of present value of
project
 More important the longer the time
horizon
 Options of choosing discount rate:

 Apply
rate on government bonds of same
maturity as project
 Use private market interest rate

Should be a risk-free rate
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Choosing the Right Discount
Rate

Problems when choosing discount rates
 Inflation
 Discount
rate should account for opportunity
costs of forgone tax revenues to the
government
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Average and Marginal Benefits
Optimal project produces highest net
benefits
 Ratio of benefits to costs – ratio of
average benefits to average costs
 Optimal output equates marginal costs
with marginal benefits
 Limitations of cost-benefit analysis

 Difficult
to measure costs/benefits
 Does not provide sufficient information
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Taxing and Spending
Differences between how political
decisions on spending and revenue
generation are made
 Spending more susceptible to special
interest activity than taxes

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