Finish the finance economic short essay with quailty work.
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Ch7.2.pptxBudgeting Rules
44 States require the governor to submit a balanced budget and 41 states require that the legislature pass a balanced budget.
The requirement that the budget be initially balanced is usually combined with a requirement that expenditures be reduced if a deficit arises.
Budgeting Rules
43 states constitutionally or statutorily prevent a budget deficit from being carried over into the next fiscal year or biennium.
These state must offset an actual budget deficit before the next fiscal period.
Because states might borrow money to make up the deficit, constitutional debt limitations exist in many states.
Budgeting Rules
States may be able to build up large operating deficits despite these restrictions.
Accelerate tax collections
Defer payments
Use accounting practices to “paper over” the deficit
Borrow funds from other state governments that have a surplus or reduce payments to employee pension funds
Budgeting Rules
These practices simply move the deficit problem into the future: “Kick the can down the road.”
Unless the problem is ultimately dealt with, the state or local government may have a fiscal crisis; Detroit declared bankruptcy.
Capital market constraints may be more effective than budget restrictions.
Dealing with a Deficit
If a state is not allowed to carry a deficit forward, the governor is usually given the responsibility for making adjustments to the budget.
36 states give the governor sole responsibility for reducing expenditures within limits.
Other states require the governor to work with the legislature to determine the expenditure reductions.
Stabilization Funds
One way to deal with unanticipated deficits is to maintain a budget stabilization fund (49 states) that can be used to supplement state revenue if needed.
Revenue is added to the fund in surplus years and taken out in deficit years.
Good budget practices specify a contingency fund equal to 5% of general expenditures.
Stabilization Funds
How successful a stabilization fund is at protecting the state from unanticipated economic difficulties depends on the size of the fund relative to the size of the economic difficulty.
Budget Flexibility
The budget is divided into different funds representing expenditures for various purposes.
There may be specific revenue sources earmarked for specific expenditures or funds.
Revenue sources not earmarked go into the general fund.
Budget Flexibility
The general fund is the fund from witch expenditures can be made on any service.
State general funds represent about 40% of total state government expenditures.
However, general fund-special purpose revenues may be restricted to be used for expenditures that have no separate state budget account.
Budget Flexibility
Earmarking is a way of codifying how state revenues are to be spent.
Earmarking reduces the flexibility of state officials to change the nature of the budget.
Examples include:
Motor fuel tax allocated to a transportation fund.
State aid payments to local governments are usually specified in statute and connected to specific revenue sources.
Lottery revenue may be used for education.
Earmarking
Earmarking can have economic advantages.
Earmarking revenues for a specific purpose can be used to establish a benefit tax system and provide some revenue certainty to assist in long run planning.
There may be political advantages as well.
Earmarking
Earmarking can also have costs.
A potential problem caused by earmarking is a reduction in budget flexibility.
Earmarking can make it politically difficult to alter a budget.
Earmarking
The nature of the earmarking problem can be illustrated with an example:
Suppose that the efficient level of spending is $6,000 per person.
The residents’ preferences for unrestricted spending is shown in the table.
| E1 | E2 | E3 | E4 |
| $3,000 | $1,500 | $1,000 | $500 |
Earmarking
If an $800 revenue source is specifically earmarked for E3, it will not have any effect on the level of spending or efficiency.
The state can add $200 from the general fund to bring spending up to $1,000.
Spending in the other three categories remains the same.
Earmarking
If the earmarked source of funds provides $1,200 to E3, a problem is created.
The state must either over-spend on E3 or spend the desired amount and place the remainder into a special fund to be used for E3 in the future.
The state has only $4,800 left for the remaining there categories; one or more will have less than the desired level of spending.
Spending levels will not be efficient.
Earmarking
Suppose the state had been underfunding E3 and overfunding E4.
Earmarking can make spending levels more efficient.
An earmarked revenue source of $800 for E3 will guarantee that at least $800 will be spent on E3.
If expenditures on E4 re reduced then society is better off.
If expenditures on E1 or E2 are reduced, then residents may not be better off.
Earmarking
Research evidence shows that earmarking has had little effect on either the level or mix of state spending.
The exception is earmarking for highways.
Tax and Expenditure Limits
Most state governments face some type of legal restrictions on taxes, spending, or both.
Local governments have tax and spending limits imposed by the states.
Citizen initiatives have limited both taxes and spending by state and local governments.
Tax and Expenditure Limits
Types of limits:
Maximum property tax rate
Limit on tax revenue (aka; a levy limit)
Maximum level of allowed expenditures
Supermajority vote required to rate state tax revenues
Tax and Expenditure Limits
Additional considerations:
State limits usually do not apply to all state expenditures or revenues
Limits may apply only to proposed expenditures or revenues
Provisions for exceeding the limits exist
Tax and Expenditure Limits
The intent of these types of limits can be:
To reduce the level of government taxes and spending
To impose more political control over changes in taxes and spending
To alter the mix of government revenue sources
To alter the relative fiscal roles of state compared to local governments
Tax and Expenditure Limits
One explanation for why residents adopt limits is a perception that the political system is imperfect so that government is not providing the magnitude of taxes and spending that the public desires.
Monopoly bureaucrat model
Majority voting may not result in an efficient level of expenditure
Tax and Expenditure Limits
Can an expenditure limit lead to a more efficient level of expenditures?
Suppose the preference of the median voter results in an expenditure level that is higher than the efficient level.
An expenditure limit can be used to reduce expenditures to the efficient level.
But, this will only be true if the welfare gains from low expenditures outweigh the welfare losses of low expenditures.
Tax and Expenditure Limits
Figure 7.5
Tax and Expenditure Limits
Voter misperceptions may lead to a push for limits:
Free lunch perception
Head-in-sand perception
Optimist perception
Tax and Expenditure Limits
Research has not provided clear and unambiguous results from the effects of tax and expenditure limits.
It is not always clear what the objective of the limit is.
Limits may have unintended effects on other areas of state and local finance.
Different statistical methods used by different models don’t yield the same result.
