Government Accounting 101 - Budgeting

Governments throughout the United States are struggling to maintain balanced budgets in the face of revenue declines brought about by the recent recession. Unlike the federal government, which can finance deficit spending through borrowing, or simply by printing more money, most state and local governments are required to maintain budgets where expected revenue is at least as much as expected spending.

Like most businesses, a government budget begins with the creation of revenue and expenditure forecasts. Contractual raises for employees, cost savings from expiring programs, and expected other program cost increases are calculated. Tax and fee revenues are forecast. The two processes then diverge in a subtle but significant manner.

Businesses usually use the prior year’s results as the baseline from where the budget debate begins. Changes from the prior year are carefully scrutinized. This is especially true when expected expenses are growing more rapidly than expected revenues, thus reducing profitability. When that’s the case, most businesses look for ways to hold the line on expenses, even driving expense reductions if necessary. Spending cuts, for private sector businesses, represent real reductions from the prior year spending levels.

Governments, on the other hand, use forecasted spending for the upcoming year as their budgeting baseline. This sometimes leads to rather interesting claims by politicians. For instance, in 2009 the city of San Jose wrestled with an $80+ million budget gap. During discussions about closing the gap, councilmembers claimed that “it was hard” because they had “already cut over $500 million since 2000.” That sounds wonderful to me. Keep up the good work!

But wait a minute! If a business made that claim, you would expect that its spending in 2009 would be $500 million dollars lower than in 2000. Not so in the wacky world of government accounting. San Jose actually increased spending 50% between 1999-2000 and 2008-2009, even while making $500 million in “cuts” over that period of time. In raw numbers, San Jose’s spending grew from just over $600 million in 1999-2000 to nearly $900 million in 2008-2009. It’s a similar story for the state; California increased spending from about $66 billion to a shade over $90 billion in 2008-2009 (which was, admittedly, a reduction from its 2006-2007 peak of nearly $103 billion!). And I’m sure most of us recall the circuses that were the state budget battles of the past few years.

This is the magic of government accounting in action. Year after year, politicians bemoan the cuts they are forced to make. They speechify, create bipartisan committees, and threaten cuts to essential services. Mostly, I think, they attempt to dodge responsibility and avoid making the hard decisions. With term limits, the perpetrators can escape before it’s time to pay the piper. And the person who looks responsible, who just happens to be there when the final straw breaks the camel’s back, probably isn’t even the one responsible for the mess.

The bottom line is this: government budgeting may claim to be about accountability, but it’s actually about making politicians look good.