Asymmetric information and excess budget: the influence of performance-based budgeting on budgetary slack in US states

ABSTRACT

This paper examines whether the legislative adoption of performance-based budgeting (PBB) limits budgetary slack. Based on the model of slack-maximizing bureaucracy, we predict that the enactment of PBB laws is likely to shore up the legislature’s ability to control budgetary slack. By providing more information about the production costs of public services to the legislature as budget sponsors, the legislative adoption of PBB can mitigate the information asymmetry between bureaucrats and the legislature, which leads to more effective control of budgetary slack by budget sponsors. In US states, we document that the budgetary slack is reduced after a state legislature legally mandates the use of performance information in the budgetary deliberation. This finding suggests that the legislative adoption of PBB facilitates the budget sponsors’ use of prior-period budgetary slack information to reduce current-period slack, consistent with the notion of PBB as analytic tools for budget sponsors.

KEYWORDS:

• Performance-based budgeting
• new public management
• budgetary slack
• slack-maximization
• difference-in-differences

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1. The budgetary slack can be generated through either an underestimation of revenues or an overestimation of expenditure (Dunk & Nouri, 1998). Since we are particularly interested in the role of performance information in disciplining the bureaucratic behavior of budget over-requesting, this paper will focus on the overestimation of expenditure as a source of slack generation and use budgetary slack and excess budget interchangeably.

2. Although Grizzle and Klay (1994) pointed out the difficulties in using various econometric forecasting methods, Mikesell and Ross (2014) comment that it becomes a lesser concern because of the developments in analytical technology and the lower costs of data management.

3. During this study’s sample period from 2004 to 2015, Maryland, New Jersey, and Pennsylvania have newly enacted PBB laws.

4. Since 1933, The Book of States has been published annually by the Council of State Governments compiling governance-related information encompassing the legislative, executive, and judicial branches of state government. The electronic versions of each year’s Book of States from 1982 onward are available at https://www.csg.org/work/publications/.

5. Higher φ leads to higher k, which indicates more substantial slack adjustment by the legislature. As an illustration, let’s assume that the current-period observed budgetary slack (Slack_t) is 1,000, prior-period observed slack (Slack_t-1) is 750, and the maximum budgetary slack under the bureaucrats’ information monopoly (Slack*_t) is 1,100. Without the legislative adoption of the PBB system (i.e. φ = 0), k is calculated to be 0.1351 per Equation (2)(2) $Slac{k}_{i.t}-Slac{k}_{i,t-1}=k\left(Slac{k}_{i,t}^{\ast }-Slac{k}_{i,t-1}\right)+{\epsilon }_{i,t}$(2) . Ignoring state and year fixed effects, however, k becomes 0.1695 when φ is 0.5, suggesting that the incremental slack adjustment is about 3.4% of maximum budgetary slack.

6. Although distributed lagged models are more commonly used to estimate the dynamic effect of policy reforms, the specification is not suitable for our study because there is no variation in the treatment (PBB) across time once PBB laws are adopted in a given state. In our sample, no state once adopted PBB laws repeals them subsequently.

Additional information

Notes on contributors

Sung-Jin Park

Sung-Jin Park is an Assistant Professor of Accounting in the School of Business and Economics at Indiana University South Bend. His research interests include executive compensation and cost management, auditor competition and audit quality, accounting for income taxes, and public budgeting and finance. He is a Certified Public Accountant and a member of the American Accounting Association.

Sungkyu Jang

Sungkyu Jang is an Assistant Professor of Public Administration in the Department of Political Science at Indiana University South Bend. His research interests are tax collection, performance budgeting, budgetary slack and financial slack, and accounting for governmental and nonprofit entities. He has been published in the American Review of Public Administration and Journal of Public and Nonprofit Affairs.