Training Modules

BUDGET ANALYST
TRAINING PROGRAM
National Association of State Budget Officers

Contents
ACKNOWLEDGMENTS ___________________________________________________________________VI
INTRODUCTION ________________________________________________________________________ 1
OVERVIEW OF STATE BUDGETING ________________________________________________________ 2

General Context _____________________________________________________________________________________ 2
The Budget Process ___________________________________________________________________________________ 2
Types of Budget and Their Applications __________________________________________________________________ 2
Revenue and Expenditure Projections ____________________________________________________________________ 3
Budgeting in Times of Fiscal Strain ______________________________________________________________________ 3
The Legislative Process________________________________________________________________________________ 3
Fiscal Note Analysis __________________________________________________________________________________ 4
Function and Role of The Executive _____________________________________________________________________ 4
Executive and Legislative Budget Staffs __________________________________________________________________ 4
Relationship with Legislative Staff, Legislators, Agencies ____________________________________________________ 5
The Players and the Role of Politics______________________________________________________________________ 5
Dealing with The Media_______________________________________________________________________________ 5
Ethics in State Budgeting ______________________________________________________________________________ 6
MODULE 1: FUNDAMENTALS OF BUDGETING _____________________________________________ 8
OVERVIEW ___________________________________________________________________________________________ 8
Budget Process ______________________________________________________________________________________ 9
Budgeting History ___________________________________________________________________________________ 11
Line-Item Budgeting _________________________________________________________________________________ 12
Program Budgeting __________________________________________________________________________________ 14
Zero-Based Budgeting ________________________________________________________________________________ 16
Performance Budgeting ______________________________________________________________________________ 18
Common Terminology _______________________________________________________________________________ 20
COMPETENCY TEST ___________________________________________________________________________________ 23
MODULE 2: OPERATING BUDGETS_______________________________________________________ 24
OVERVIEW __________________________________________________________________________________________ 24
Budget Process and Timetable _________________________________________________________________________ 25
Monitoring Financial and Economic Trends ______________________________________________________________ 26
Developing and Analyzing Spending Plans_______________________________________________________________ 27
Monitoring and Evaluating Results______________________________________________________________________ 28
Setting and Reporting on Performance Measures__________________________________________________________ 29
COMPETENCY TEST ___________________________________________________________________________________ 30
MODULE 3: FUNDING STATE SERVICES___________________________________________________ 31
OVERVIEW __________________________________________________________________________________________ 31
State Revenue Sources _______________________________________________________________________________ 32
Evolution of State Revenue Sources and Trends ___________________________________________________________ 34
Federal Funding ____________________________________________________________________________________ 35
Debt Financing _____________________________________________________________________________________ 37
Lotteries/Gaming____________________________________________________________________________________ 38
Contents
Fees for Service ____________________________________________________________________________________ 40
State Tax Reform and Tax Policy Concerns ______________________________________________________________ 41
COMPETENCY TEST ___________________________________________________________________________________ 42
MODULE 4: ECONOMICS AND THE STATE BUDGET________________________________________ 43
OVERVIEW __________________________________________________________________________________________ 43
Economic Forecasts _________________________________________________________________________________ 44
Economic Development Strategies _____________________________________________________________________ 46
Economic Conversion ________________________________________________________________________________ 47
Economic Trends, Economic Indicators and Impacts on State Budgets _________________________________________ 48
Demographics______________________________________________________________________________________ 49
Global Competition__________________________________________________________________________________ 50
Economic Impact of Federal Tax Policy _________________________________________________________________ 51
COMPETENCY TEST ___________________________________________________________________________________ 53
MODULE 5: REVENUE AND EXPENDITURE ANALYSIS AND FORECASTING ____________________ 54
OVERVIEW __________________________________________________________________________________________ 54
What Needs to be Forecast?___________________________________________________________________________ 55
Alternative Forecasting Techniques_____________________________________________________________________ 56
Assessing Revenue/Expenditure Estimating Capacity _______________________________________________________ 58
Preparing and Updating Revenue and Expenditure Estimates ________________________________________________ 59
Political Considerations ______________________________________________________________________________ 60
Analyzing the Revenue Mix and Options ________________________________________________________________ 62
Revising Revenue Rates and Bases _____________________________________________________________________ 64
Developing Reference Documents for Revenues and Expenditures ___________________________________________ 65
COMPETENCY TEST ___________________________________________________________________________________ 66
MODULE 6: ANALYTICAL METHODS FOR BUDGET ANALYSIS _______________________________ 67
OVERVIEW __________________________________________________________________________________________ 67
Ongoing Agency Review _____________________________________________________________________________ 68
Policy Analysis: Assessing Claims About Needs and Problems_______________________________________________ 69
Assessing the Political Implications of Budget Actions______________________________________________________ 71
Analyzing Program and Service Delivery Alternatives _____________________________________________________ 72
Making Comparisons to Other States ___________________________________________________________________ 74
Analyzing Historical Spending Patterns _________________________________________________________________ 75
Examining Proposals for New Spending _________________________________________________________________ 77
Using Unit-Cost Analysis as a Tool _____________________________________________________________________ 79
Costing Out Personnel Services________________________________________________________________________ 80
Costing Out Nonpersonnel Services ____________________________________________________________________ 81
Sizing Up the Implications of Capital Proposals on Operating Budgets ________________________________________ 82
Assessing Expenditure Forecasts _______________________________________________________________________ 83
Finding Financing Alternatives ________________________________________________________________________ 84
Analyzing Costs and Benefits __________________________________________________________________________ 85
Analyzing Organization Structure and Staffing ___________________________________________________________ 86
Determining the Fiscal Impacts of Legislation ____________________________________________________________ 88
COMPETENCY TEST ___________________________________________________________________________________ 89
MODULE 7: DECISION MAKING IN THE BUDGET PROCESS __________________________________ 92
NASBO Training Curriculum ii

Contents
OVERVIEW __________________________________________________________________________________________ 92
Theoretical Models of Budgeting _______________________________________________________________________ 93
Timing and the Budget Process ________________________________________________________________________ 97
Major Decision Points________________________________________________________________________________ 98
The Tradeoffs_______________________________________________________________________________________ 99
The Base Budget ___________________________________________________________________________________ 100
Revenue and Expenditure Forecasts ___________________________________________________________________ 101
Agency Budget Submissions __________________________________________________________________________ 103
Budget Strategy____________________________________________________________________________________ 105
Applicability of Strategic Decision Making in the Budget Process ___________________________________________ 107
The Change in State Budget Offices ___________________________________________________________________ 109
Establishing a Comfort Zone__________________________________________________________________________ 110
The Role of Procedures and Guidelines_________________________________________________________________ 111
The Need for Training and Networks___________________________________________________________________ 112
COMPETENCY TEST __________________________________________________________________________________ 113
MODULE 8: CAPITAL BUDGETS _________________________________________________________ 114
OVERVIEW _________________________________________________________________________________________ 114

Capital Budget Definitions ___________________________________________________________________________ 115
Assessing the Universe of Needs ______________________________________________________________________ 116
Identifying and Rating Projects _______________________________________________________________________ 117
Capital Projects and Politics__________________________________________________________________________ 118
Performing Financial Analysis of Capital Projects ________________________________________________________ 119
Identifying Funding Sources__________________________________________________________________________ 120
Analyzing Financing Options_________________________________________________________________________ 121
Scheduling, Approving, and Implementing ______________________________________________________________ 123
COMPETENCY TEST __________________________________________________________________________________ 125
MODULE 9: DEBT FINANCING__________________________________________________________ 126
OVERVIEW _________________________________________________________________________________________ 126

Policies for Managing Debt __________________________________________________________________________ 127
Debt Financing Instruments __________________________________________________________________________ 128
Indebtedness and Credit Rating Issues__________________________________________________________________ 130
Rating Agencies ___________________________________________________________________________________ 132
Understanding Bond Pricing __________________________________________________________________________ 134
Structuring Bond Issues______________________________________________________________________________ 135
Refinancing or Reorganizing Existing Debt______________________________________________________________ 136
Common Terminology ______________________________________________________________________________ 137
COMPETENCY TEST __________________________________________________________________________________ 144
MODULE 10: THE FEDERAL BUDGET ____________________________________________________ 146
OVERVIEW _________________________________________________________________________________________ 146

Basic Terms and Concepts ___________________________________________________________________________ 147
Bill Enactment Process ______________________________________________________________________________ 149
Highlights of the Federal Budget Process _______________________________________________________________ 150
Budget Timetable __________________________________________________________________________________ 154
New State Perspectives: Trends in Federalism __________________________________________________________ 156
Problems with the Current Federal System ______________________________________________________________ 157
COMPETENCY TEST __________________________________________________________________________________ 158
NASBO Training Curriculum iii

Contents
MODULE 11: COMMUNICATING FISCAL ISSUES __________________________________________ 159
OVERVIEW _________________________________________________________________________________________ 159

Importance of Communication to Achieving Budget Results ________________________________________________ 160
Audience-Specific Approaches to Communication________________________________________________________ 161
Selecting the Appropriate Communication Vehicle _______________________________________________________ 162
Communicating Politically Sensitive Information_________________________________________________________ 163
Presenting Financial, Operating, and Policy Information __________________________________________________ 164
Preparing Budget Documents_________________________________________________________________________ 166
Using Graphics ____________________________________________________________________________________ 167
Editing Your Own Work _____________________________________________________________________________ 168
COMPETENCY TEST __________________________________________________________________________________ 169
MODULE 12: ETHICS AND STANDARDS OF PROFESSIONAL CONDUCT______________________ 170
OVERVIEW _________________________________________________________________________________________ 170

Ethics in State Budgeting ____________________________________________________________________________ 171
NASBO Standards of Professional Conduct______________________________________________________________ 173
Additional Insights__________________________________________________________________________________ 175
COMPETENCY TEST __________________________________________________________________________________ 176
MODULE 13: INTERPERSONAL SKILLS FOR BUDGET ANALYSTS ____________________________ 178
OVERVIEW _________________________________________________________________________________________ 178

Relationships With Other Players in the Budget Process ___________________________________________________ 179
Conducting Meetings _______________________________________________________________________________ 181
Interviewing Techniques_____________________________________________________________________________ 182
Briefing High-level Officials _________________________________________________________________________ 183
The Art of Persuasion _______________________________________________________________________________ 184
Negotiating Skills __________________________________________________________________________________ 185
Delivering Bad News _______________________________________________________________________________ 186
COMPETENCY TEST __________________________________________________________________________________ 187
APPENDIX ______________________________________________________________________________ 191
NASBO Training Curriculum iv

NASBO Training Curriculum v
Acknowledgments
This training curriculum was authored by members of the National Asso-

ciation of State Budget Officers and reflects a substantial commitment of
time and effort on the part of analysts and directors in budget offices
across the country. Bob Bittenbender of Pennsylvania served as Commit-
tee Chair, Mary Dingrando served as the NASBO staff member for the pro-
ject, and John Carvalho developed the layout.
With the concurrence of the Executive Committee, NASBO President Glo-

ria Timmer of Kansas made the training initiative a priority project during
her tenure in 1996-1997. NASBO would like to express appreciation to
the following NASBO members and their respective budget offices who
contributed to the development of the NASBO Training Curriculum:
Bob Bittenbender, Pennsylvania

Peter Burns, Arizona
Mike Stormes, Arkansas
Stan Stancell, California
George Delaney, Colorado
Bob Bradley, Florida
Bill Hintze, Kentucky
Ray Wright, Maryland
Judy Johnson, Minnesota
Mark Ward, Missouri
Gerry Oligmueller, Nebraska
Richard Jones, New Mexico
Eric Kuntz, New York
Robert Powell, North Carolina
Sheila Peterson, North Dakota
Connie Hardin, Tennessee
Lynne Koga, Utah
Bob Lauterburg, Virginia
Karen Washabau, Virginia
NASBO Training Curriculum vi

NASBO Training Curriculum vii
Introduction and User Guide
Budget analysis is a demanding yet rewarding endeavor. To be successful,

the analyst must possess strong technical, analytical, interpersonal, and
communication skills. In addition, the analyst must have a good political
sense and a strong code of personal ethics. While the profession de-
mands much of its practitioners, it also rewards them with significant op-
portunities to shape public policy and contribute to the public good. This
training curriculum was developed by members of the National Associa-
tion of State Budget Officers as a legacy to those who follow in this impor-
tant public pursuit.
Purpose The curriculum was designed to provide both an overview and an in-
depth examination of the key concepts and processes of state budgeting
in the United States today. Although it was designed with the beginning
budget analyst in mind, the curriculum will also likely be useful for more
experienced analysts interested in broadening their base of knowledge
and skills. Parts of the curriculum can also be helpful to orient newly
elected officials and appointees.
Structure of the This training program consists of an overview of state budgeting and thir-
Program teen modules on a range of topics and concepts relevant to budget ana-
lysts. Each module includes an explanation of concepts, supplemental
resources including publications and Internet resources, and a NASBO
contact who is available to provide assistance on each topic. A compe-
tency test is included at the back of each module. The answers to the tests
are contained in the Appendix. This training program can also be ac-
cessed via the Internet on the NASBO website at www.nasbo.org.
How to Use This This training program can be used in a number of ways. First, it can be
Program used as a self-study guide. Reading each module, going to the supple-
mental resources for additional information, talking with a NASBO con-
tacts, and taking the competency tests will help the analyst develop his or
her budget knowledge.
Second, the program can serve as a guide for state budget agencies as
they develop their own internal training programs. Each budget agency
can supplement the information in the modules with information unique
to its state and its working environment.
And third, the program can serve as a guide for external trainers that may
be contracted by NASBO or state budget agencies to develop training
programs.
NASBO Training Curriculum 1

Overview of State Budgeting
General Context
In the United States today, government plays a major role in the economy.
Together, state and local governments spend slightly less than the $1.9
trillion that the federal government spends each year, and government is
nearly always a state’s single largest employer. Because of its size, the role
of government itself has become a central issue in the budget process.
The budget process can be viewed from a number of perspectives. Suc-

cess in the budget process often has more to do with the destination than
with the starting point. Governors and legislators often prefer to win than
fight the good fight. The role and responsibilities of the budget office and
the budget analyst in that struggle vary widely throughout the United
States. But in all cases, personal integrity is a precondition to employ-
ment, the roles are physically and mentally demanding, and the intrinsic
rewards exceed nearly all other avenues of public service.
The Budget Process

The budget process is the premier arena in which public priorities are ar-
ticulated and debated, and ultimately where important choices are made
by elected officials. The budget process is also a balancing act in which
the “separate but equal” branches of government struggle with one an-
other based upon the checks and balances established in the United
States and individual state constitutions. The budget process has devel-
oped over time into a number of substantial parts: operating budgets,
capital budgets, debt management practices, tax expenditure budgets,
forecasting processes for both revenues and expenditures, and inflation
adjustments. To the uninitiated, the budget can easily be mistaken for an
expenditure plan. But as government has grown, so has the awareness
that budgeting involves both expenditures and tax policies.
Types of Budgets and Their Applications

Each state must budget for current operating costs and for capital expendi-
tures. In addition, the state must operate with a fiscally sound program of
debt management. The operating budget for a state agency consists of
current expenditures required to satisfy a particular mission and/or man-
dated purpose. The capital budget is separate from the current operating
budget and provides for the state’s major long-term capital investment.

Funding for capital projects may span two or more years. Managing the
state’s debt is an integral part of a balanced budget. Decisions to acquire,
construct, and equip facilities may increase the state’s obligation for debt
service, and analysts must be aware of how bonding levels are set and
how authority to issue bonds is acquired.
Revenue and Expenditure Projections

Revenue projections forecast the amount of revenues that a government
will have available to support operating costs and capital expenditures
over a given period of time. Expenditure projections quantify the net fi-
nancial resources required to meet specific needs for a specific period.
Both revenue and expenditure projections may be limited to an individual
receipt, program, or department, or may project total state receipts and
expenditures. Additionally, these projections can be short or long term in
nature.
Budgeting in Times of Fiscal Strain

If unlimited resources were available, a state’s budget could be built to
accommodate the public service needs of every resident of the state. But
in reality, there will never be unlimited funds and in many budget years
the resources will be much less than the perceived needs. Generally, if
resources are not sufficient to address the many varied needs of the pub-
lic, two simple options to cope emerge: increase resources or decrease
demand. Historically, a middle course has been taken that is a combina-
tion of enhancing resources and controlling demand. For the analyst dur-
ing times of fiscal strain, the budget debate moves from the marginal
changes against the past year’s budget to a more in-depth examination of
programs within the base to determine whether continuation is still war-
ranted. The key to an analyst’s contribution is the early recognition of
whether the economic situation is permanent (structural) or short-term (cy-
clical) because these circumstances will dictate the nature of the budget
proposal.
The Legislative Process

State governments follow a variety of practices in appropriating state
funds. For the great majority of states, the legal authority for formulation of
the proposed budget rests with the governor. In most states, there is a
special budget review agency in the legislative branch that reviews the

proposed budget and prepares the agenda for the legislature. During leg-
islative hearings, the executive branch officials that were responsible for
preparing the proposed budget and its document typically defend the
proposals. Expenditures are authorized in the annual or biennial appro-
priation act(s) that is adopted by the legislature and signed by the gover-
nor.
Fiscal Note Analysis

During legislative sessions, state agencies are required to prepare fiscal
notes for many bills being considered. In some states, executive and/or
legislative budget staff also prepare fiscal notes for bills with financial im-
plications. Fiscal notes must assess the full financial impact of proposed
legislation, including probable impact on state and local revenues, ex-
penditures, staffing levels, and types of service. The fiscal note analysis
usually includes: the impact in dollars, the statutes affected, an estimate of
the increase or decrease in revenues and/or expenditures, and any long-
range fiscal or program implications.
Function and Role of the Executive

Budget Office
The state’s budget is the definitive policy statement of the decision makers
in government. The role and function of a budget office is to develop and
define the budget process, present a financial plan which recognizes pro-
gram priorities within fiscally responsible parameters, and consider and
acknowledge all outside forces which may have an impact on the final
product and decisions related to it. The process will clearly define the
competing priorities for state resources. The budget office staff is respon-
sible for assisting decision makers in ranking these priorities.
Executive and Legislative Budget Staffs

The executive and legislative budget offices provide technical analysis
and assistance in the development, enactment, and implementation of the
state’s budget. The executive budget office is the governor’s professional
staff with respect to the budget. Typically, the legislative budget staff per-
form similar services for the legislature. Whether or not the two staff agree
on the political aspects of the budget, it is in the interest of both branches
and their respective budget staffs to bring some order and consistency to
the process. Analysts can cooperate in addressing individual agency or

program issues, within the parameters of their respective budget guide-

lines or policies.
Relationship with Legislative Staff, Legislators,

Agencies
The development of the budget and decision making process requires the
involvement of many parties working in a cooperative way to build con-
sensus, while recognizing and not compromising their respective roles.
The executive budget analyst must be capable of playing different roles at
different times with different groups, while maintaining integrity and
credibility. The same data that convinced the executive analyst must also
be provided to legislators and the legislative staff, with all the arguments
and supporting information. Timely, accurate, and complete information
from the agencies is critical to the success of an analyst. Knowing the
people, programs, and processes as well as or better than the agency’s
managers gives the analyst an edge in the process.
The Players and the Role of Politics

The process of budgeting requires the collaboration and interaction of a
variety of entities and individuals. Key players in the formulation and
execution of a budget include: state agencies, the governor, the executive
and legislative budget offices, elected officials, special interest groups, and
the media. Each of these groups has an impact on the final outcome of a
state’s budget. The role of elected officials is to set the broad policies un-
der which government operates. Budget analysts act as intermediaries
between agencies and elected officials. Special interest groups organize
based on specific areas of concern and lobby the legislature and other
elected officials to secure funding for their concerns. The summaries pro-
vided by the media, the self-appointed “watchdog” for the budget proc-
ess, are interpretations of the process and may affect all the participants, as
well as the environment in which the process takes place. The budget is
the final product of the political interaction among all of these players and
reflects the priorities that emerge after consideration of all the interests ex-
pressed by various entities.
Dealing with the Media

It is obviously in the governor’s best interest to make every effort to com-
municate the issues accurately for the news media. Cultivating a positive
municate the issues accurately for the news media. Cultivating a positive
relationship with the news media is an ongoing process and a worthwhile
one. The staff of the state budget office will sometimes organize press
conferences and be questioned by the media. In some state offices, only
the director or a designee is authorized to speak to the media, while in
other cases, the analyst will be expected to deal directly with the press.
Ethics in State Budgeting

In any professional environment, there are generally accepted standards
of conduct. High ethical standards are an important component in public
service. Earning and maintaining the public trust is a “critical success fac-
tor” in governance that is determined in large part by the performance of
elected, appointed and civil service officials. Ethics or standards of con-
duct are usually defined in relation to personal behavior (for example,
honesty) or in relation to the conduct of one’s official duties (for example,
full disclosure). Ethical dilemmas are not created equally, some are simply
more important than others. In nearly all cases, there are consequences to
any action that is taken. Rather than trying to avoid those consequences,
experience has demonstrated that it is better to manage the consequences
of an action in which you believe, than the converse. In an effort to pro-
vide a starting point for considering ethics in the workplace, NASBO has
developed its own “Standards of Professional Conduct” (see Module 12).

Module 1: Fundamentals of Budgeting
Overview The budget process is the most fundamental endeavor government under-
takes. Policies and priorities cannot be implemented, services cannot be
provided, and programs cannot be operated without funding. Public
budget documents describe what governments do by listing how govern-
ments spend money. The budget process provides an arena in which
public priorities on programs and spending can be articulated, debated,
and ultimately decided upon by a state’s elected officials. The balancing
of executive and legislative priorities makes for lively debate, victories and
defeats; ultimatums and compromises; and finally, an approved budget
that all parties live by. The budget process takes many twists and turns
throughout the journey and even hits a few dead ends; but the process
has a clearly defined beginning and ending every year. While the budget
process can be both challenging and rewarding, it can be equally frustrat-
ing and discouraging. The process does work and it ultimately ends with
a final product.
Analysts employed by both the executive and legislative budget offices

play important roles in the budget process. They are responsible for the
analysis: fact finding, development of alternatives, and finally, the positive
or negative recommendation. Budget analysts must understand many
methods from incremental budgeting to zero-based budgeting, from line-
item budgeting to program budgeting, and from performance budgeting to
formula budgeting. All of these methods require different information, dif-
ferent processes, and different methods of analysis on the part of the
budget analysts.
BUDGET PROCESS ____________________________ 9

BUDGETING HISTORY________________________ 11
LINE-ITEM BUDGETING ______________________ 12
PROGRAM BUDGETING ______________________ 14
ZERO-BASED BUDGETING____________________ 16
PERFORMANCE BUDGETING__________________ 18
COMMON TERMINOLOGY ____________________ 20

Fundamentals of Budgeting
Concepts
Budget Process
In technical terms, the budget process has developed over time into a
number of substantial parts: operating budgets, capital budgets, debt
management practices, tax expenditure budgets, forecasting processes for
both revenues and expenditures, and inflation adjustments. To the unini-
tiated, the budget can easily be mistaken for an expenditure plan. But as
government influence and spending have grown, so has the awareness
that the budget is both an expenditure plan and a combination of tax
policies. Together they are blended in the budget process to produce a
diverse range of impacts that affect both short and long-run public inter-
ests and account for the redistribution of resources between geographical
regions, classes of taxpayers, and generations.
Initial Stage: Guid- There are distinct stages to developing a state budget. The first stage usu-
ance to Agencies ally begins in the executive branch with gubernatorial directives or guide-
lines to the cabinet and state agencies. These may include the governor’s
policy priorities and growth parameters. In response, agencies analyze
their own goals and objectives and budget needs in accordance with the
directives. They take into account constituent requests and projections for
increases in both caseloads and inflation. This stage often lasts for a num-
ber of months.
Agency Budget Re - The second stage of the process is consideration of agency budget re-
quests quests. The governor’s budget office evaluates and challenges the agency
requests, with these questions in mind:
• Did the agency conform with the guidelines?
• Are requests technically correct? In other words, do the numbers add

up?
• Has the agency clearly demonstrated the need?
Budget Preparation The third phase is the most intensive. Two key activities occur simultane-
ously: 1) the budget office begins to compile the executive budget docu-
ment; and 2) the governor decides the level of funding to recommend for
each agency.
During this phase, the budget office presents each agency’s request to the
governor and the budget office’s recommendation for future funding ad-
justments. The governor is also apprised of unusual trends that have
emerged such as declining caseloads or high turnover in certain person-

Concepts
nel due to low salaries. The governor is given an overview of all requests
which includes percent changes proposed by each agency or department
and whether or not the policy directives are being met. When final
budget decisions are made, they are published in the budget document.
Release of the Budget The fourth stage is the public release of the governor’s executive budget.
Its emphasis is on communicating the governor’s priorities. The objective
during this stage is to ensure that the budget is understood by the media,
the public and the legislature. Ideally, at this point it becomes the starting
point for legislative consideration.
Final Stage: Legisl a- The final stage is the period of legislative consideration and negotiation.
tive Consideration This phase is often the most public and involves the greatest number of
and persons and interests. During this phase, the legislature reshapes the
Ne gotiation budget to reflect legislative priorities. In most states, the governor has the
authority to veto line-items in the budget act. Unless the veto is over-
ridden by the legislature, the budget as amended by the governor be-
comes law. The budget is now the spending plan for the state against
which actual revenue collections and expenditures are measured.

Concepts
Budgeting History
In the early 1900s, the budget process for the federal and state govern-
ments was relatively simple and straight-forward. It was often handled by
very few individuals in an informal manner. The first state executive
budget act was adopted by Ohio in 1913. The federal government did
not have a formal budget process until 1921 with the passage of the Fed-
eral Budget and Accounting Act of 1921.
Need for Professional Few states developed an annual appropriation bill which consolidated all
Budget Staff agency requests until the 1950s. With the passage of time, tighter re-
sources and increased demands for funding have contributed to the need
for critical analysis of agency budget requests. Along with these demands,
the complexity of government and greater public interest have created
offices staffed with budget professionals who have the knowledge and
analytical abilities to provide choices for decision makers. In short, the
budget and its role in government have evolved, and so have the types of
people and processes the budget encompasses.
Evolution of the Initially, budgets were documents with minimal line-items and no per-
Budget Process formance requirements and served primarily as annual accounting docu-
ments. The budget process has evolved into a planning process where
three and five-year projections are expected and where performance is
measured annually. The budget document and its development process
comprise a plan of action expressed in financial terms.
Changes in Budget Just as the budget has evolved from an accounting document to a finan-
De velopment cial plan, the processes followed during its development also have
changed. States have moved from line-item budgeting to program budget-
ing where functions are financed in lump sum with performance expecta-
tions attached. States have also moved from a sole emphasis of keeping
spending within the appropriations to asking what people and agencies
actually accomplished with the funding they received. Previously, base
budgets had been taken for granted and were simply increased based
upon need. However, states are now engaging in zero-based and other
methods of budgeting.
Budget Formats The key goals of budgets are reflected in the budget format and its relative
emphasis on expenditure control, management improvement, and policy
and planning. The major budget formats are the line-item budget, per-
formance budget, and program budget.

Concepts
Line-Item Budgeting
A line-item budget is prepared along departmental or programmatic lines
and focuses on what is to be purchased with funds. A line-item budget
generally provides a separate line-item appropriation for each major cate-
gory of expenditure in an agency or organization. Typically, these ex-
penditure categories include personnel services costs, operating costs,
and in some cases, travel, capital outlay, or equipment. This approach to
budgeting is used in capital budgeting where each approved project has
an individual line-item appropriation. Line-item budgeting is the most
widely accepted and best understood technique. Although line-item
budgeting is popular, it is not always the most appropriate form for an
agency. The line-item approach does not necessarily reflect programs or
services nor does it reflect performance. It is a reflection of costs to oper-
ate an agency and is as much an accounting document as it is a budget.
Controlled Unlike other forms of budgeting where objectives or performance meas-

Expenditures ures are critical, line-item budgeting maintains accountability by control-
ling expenditures. The accountability is placed on the inputs (resources)
and not on the outputs or results. Agencies typically do not have the
flexibility to manage financial resources through reallocations or transfers
between programs. This can work against an agency’s ability to excel in
performance. Because this budgeting process is easily understood and
does not require the comprehensive effort of developing goals, objectives,
program descriptions, and performance measures, it is accepted by many
agencies and legislative appropriation committees. The accounting and
reporting systems necessary to monitor line-item budgets are not overly
complex or costly, and this also leads to its general acceptability.
Incremental Line-item budgeting also lends itself to another budgeting style called in-
Budgeting cremental budgeting. Although incremental budgeting applies to all
budget techniques, except for zero-based budgeting, it is most readily
adaptable to line-item budgets. Incremental budgeting assumes the base
budget as the starting point, and the decision-making is focused on the
requested incremental increases or decreases. Line-item budgeting pro-
vides the categories of expenditure to which the incremental changes can
be added. Decisions to increase or decrease funding are made by simply
adding to or subtracting from the existing line-items. Incremental changes
can be applied to program or performance budgeting. However, in-
creases in those budget styles are more often linked to program goals, ob-
jectives, or performance levels, which may or may not be the case in line-
item budgeting.

Concepts
Outputs Not Line-item budgeting does provide for accountability and is a user-friendly
Reflected style of making appropriations. It does not, however, reflect the output of
a program or service and does not demand the improvement of govern-
mental services. It does not directly challenge agency management and
does not encourage an agency to evolve or review where it has been and
where it should go. Line-item budgeting does account for the agency’s
expenditures, but a budget can be so much more than this process re-
quires.

Concepts
Program Budgeting
Program budgeting is a process which became fashionable in the 1960s
when Robert McNamara, President Kennedy’s Secretary of Defense,
brought the idea from the Ford Motor Company to the Department of De-
fense. Throughout the 1960s and 1970s the program budget concept
took hold in all levels of government. A program budget focuses on re-
sults of discrete programs: did a program achieve the expected results?
Defining Programs The concept itself is quite simple to understand. A governmental unit first
and Outcomes defines its functions or programs. Once programs are defined, the organi-
zation must apply three factors to the program: the goal, the objectives,
and the strategies or performance measures to be used to determine
whether the objective or goal is met. The major benefit of this process is
that it forces an agency or department to focus on what it does and why,
as opposed to how it does it. The emphasis is on program performance
and ultimate outcomes, as opposed to inputs and processes. The process
of program budgeting enables citizens served by the agency to under-
stand in service and functional terms what the agency does and how its
performance can be measured.
Setting Goals and Agencies can use program budgeting to clearly articulate their current
Objectives levels of performance and plan for improvement. Setting objectives en-
ables agency staff to understand their role in the agency’s performance
and the standards for measuring their individual performance. The task of
establishing goals and objectives is not easy; management must debate
the services they provide and evaluate what they do and for whom. For
some agencies this is not too difficult; for others it is open to considerable
interpretation. Once this task is completed, the agency must establish
clear and measurable objectives by which their performance can be
measured. The performance measures themselves are an outgrowth of
the process of setting objectives.
Data Systems There must be assurance that data systems are in place to record and re-
port information on performance measures. Establishing performance
measures without having a data system available will undermine the en-
tire program budget.
Flexibility in Program budgeting calls for a more flexible budget appropriation. The
Managing Resources concept of measuring performance as opposed to accounting for inputs
consumed implies more flexibility in managing resources. Program budg-
eting calls for “lump sum” appropriations as opposed to line-item appro-

Concepts
priations. This is, in many cases, difficult for agencies when promoting
program budgeting to the legislature. Legislators often worry about the
lack of accountability in a “lump sum” appropriation. For example, the
manager may spend more money on travel than the legislature would pre-
fer. However, the agency should be held accountable for meeting its
goals and objectives rather than for how the money was spent in individ-
ual categories of expenditure. This is a leap of faith many legislators are
not willing to take.
Outputs and Program budgeting focuses on outputs versus inputs. Because of this fo-
Accountability cus, program budgets have the most potential for allowing policy makers
to review the policy implications of spending decisions. Program budget-
ing requires management effort in developing programs with goals, objec-
tives, and reportable performance measures. It requires accountability for
services rendered and for performance which can be documented. It also
clearly defines to the decision makers and the general public what an
agency does, what it plans to accomplish, and ultimately, how it performs.

Concepts
Zero-Based Budgeting
Zero-based budgeting (ZBB) is a particular kind of program budget. It is a
process designed to analyze the very essence of an agency, program, di-
vision, or department to determine its worth and value to the government
and its citizens. It is a process which, in its purest form, assumes the
agency and program do not exist and builds its programs, operations, and
budget from zero to its optimum level. ZBB gained prominence in the
late 1970s and early 1980s.
Characteristics The key characteristics of zero-based budgeting are:

of ZBB
• It begins at zero resources.
• It forces the ranking of organizational purposes and programs.
• It requires a clear focus on the priorities of and alternatives to the en-
tity’s operations.
Ranking ZBB takes many different forms in addition to the one its title implies. In
Priorities some applications, a base amount (50 percent or some other amount) is
established as the starting point, and agencies build their budgets from
there up to 100 percent of current resources or more if allowed. ZBB may
be used simply as a priority ranking process, breaking budgets down to
their essential elements and forcing a prioritization of those elements by
the agencies. The forms vary but the concepts of ranking and justifying
are constant.
Limited ZBB does have limited applicability. While it may be useful for analyzing
Applicability priorities, in some cases it cannot be used to reach a conclusion. Doing
ZBB on a Corrections system, for example, may result in a better under-
standing of programs and priorities, but it will not result in closing prisons
which are legal mandates. This is not the case in non-mandated govern-
ment programs, however.
Prioritization ZBB is a very time-consuming process for the agency and the budget ana-
Process lyst assigned to the agency. Breaking functions down to their essential
elements and then prioritizing them requires a considerable investment of
time. This process must consider state statutes, federal requirements, court
orders and decisions, and even constitutional references.
Ranking During the prioritization process, program managers must argue the merits
Programs of their efforts and rank them against the efforts of other programs in their
departments. No program manager wants to find his or her program at the

Concepts
bottom of the priority list. This process is of greatest value to the agency
management and the state budget decision makers in detailing the func-
tions, alternatives, and priority placed on the operation of the agency.
Technical ZBB also presents technical challenges to the agency or governmental

Challenges entity involved. There is a critical need for information systems to do the
necessary research and also to record and report on decisions. An ac-
counting system is essential which can record and report expenditures at
the levels needed for ZBB. The process requires a major planning effort
and a commitment of time and resources on the part of the agency. It
places a considerable burden on management who must also continue
“business as usual” while they are rethinking every program. To effec-
tively use a ZBB document, the central budget office analyst must be in-
volved as the agency develops its ZBB request.
Political Challenges ZBB has the potential for generating competition and conflict among and
within state agencies. This is one reason for its limited use. A modified
version of it, called “target budgeting” (which puts five or 10 percent of
departments’ budgets at risk for reallocation) is used more frequently to-
day.

Concepts
Performance Budgeting
A performance budget lists what each administrative unit is trying to ac-
complish, how much it is planning to do, and with what resources. It re-
ports on how well it did with the resources it had last year. The perform-
ance budgeting process allows for citizen input, requires planning, places
resources in the priority service areas, and provides for budget account-
ability on the end result of the process. All of these features make per-
formance budgeting very attractive to agencies, elected officials, and the
citizens being served. The popularity of this trend in budgeting has been
created by such efforts as the Oregon Benchmarking program and the ef-
forts underway in the State of Texas.
Emphasis on The emphasis of performance budgeting is on getting the most service for
Outputs the dollar. In this regard, it has a lot in common with program budgeting.
However, the emphasis in performance budgeting is clearly on the out-
puts and outcomes and not necessarily the development of mission state-
ments, program descriptions, goals, and objectives that are important in
program budgeting. Performance budgeting sets a budget to a desired
level of service to be provided and clearly articulates how much is to be
accomplished and at what cost. It is a system that establishes accountabil-
ity on the part of the agency to produce and report that level of produc-
tion as part of the performance budget.
Substantial Performance budgeting does require a substantial planning and surveying

Planning Effort effort to determine the performance standards for an agency and the level
of service desired. Often this effort can be a statewide attempt, as was the
case in Oregon, to determine what the citizens really want from their gov-
ernment and how much they are willing to pay for those services. Once
this effort is completed, the results can be translated into the program
level. Do the citizens want to increase the standard test scores for their
school children in reading and math? Are they willing to pay for it? Do
the citizens want the ability to renew their driver’s license in less than
thirty minutes? Are they willing to pay for that level of service? And, is the
education service level more important than the driver’s license service
level? These determinations can then be used by agencies in developing
their service levels and in turn, the budget decision makers will consider
that information in developing the budget allocations.
Discretion Performance budgeting does, however, remove some of the discretion

which currently exists in the budget decision process. There is limited lati-
tude to vary from the performance agreement established. For instance, if

Concepts
citizens say they want quicker service in renewing their driver’s licenses
and if the agreed-upon solution to providing this service requires more
staff and funding, the agency is compelled to make the request and the
governor and legislature are, in effect, duty-bound to approve it. Similarly,
if citizens say they do not want a certain governmental service, it should
be abolished. This does not mean that all the duty-bound decisions are
made accordingly, but it does mean it is harder to explain why the budget
decisions did not follow the “will of the people.”
Challenges The major challenges to budget offices in a performance budgeting sys-

tem are: 1) determining the true measure of performance for state opera-
tions, 2) establishing systems to monitor and accurately report on their per-
formance, and 3) training staff and instilling the concept that they are ac-
countable for their performance and that of the agency. Challenges of
performance measure analysis include: 1) the difficulty in measuring the
success of prevention programs, and 2) having enough historical informa-
tion for long-term measures. Performance budgeting is a new way of look-
ing at what government is doing and why, and how well it is doing. Some
government operations can adapt quickly to such a change while others,
that have not been service- or performance-oriented, may find perform-
ance budgeting difficult to implement.

Concepts
Common Terminology
The following is a list of definitions for commonly used budget terms.
Activity An activity is a process or operation undertaken by an organization spe-

cifically designed to meet a program's objective. The process or opera-
tion is very clearly defined with a specified time frame and measurable
outcome. Activities are used to meet objectives which are used to meet
program goals.
Allotment Part of an appropriation that may be expended or encumbered during a

given period.
Base The base is the component of a budget request or recommendation which

reflects previous fiscal year appropriations. It may include inflation for an
agency’s ongoing programs.
Budget A budget is a plan for the expenditure of funds to support an agency, pro-
gram, or project.
Capital Budget The capital budget is the budget associated with acquisition or construc-
tion of major capital items, including land, buildings and structures, and
equipment. Funds for these projects are usually appropriated from sur-
pluses, earmarked revenues, or from bond sales.
Contingency Fund A fund set apart to provide for unforeseen expenditures or for anticipated
purposes of uncertain amounts.
Current Services Current services is a budget recommendation or request that encompasses

the base budget plus allowances for addressing demand such as caseload
growth or phased-in statutory responsibilities.
Earmarked Earmarked revenues are the designation of certain sources of revenue for
Revenues support of specific programs or agencies by statutory or constitutional
provision.
Expansion/Program Expansion or program change is the component of a budget request or

Change recommendation which includes programs or purposes not previously
funded by the Legislature (for example, new programs, additional posi-
tions, or expansion of existing programs beyond the scope for which they
were initially authorized).
FY Refers to the state fiscal year. The number following FY is the year the fis-
cal year ends.
Concepts
cal year ends.
General Fund General fund refers to revenues accruing to the state from taxes, fees, in-
terest earnings, and other sources which can be used for the general op-
eration of state government. General fund revenues are not specifically
required in statute or in the constitution to support particular programs or
agencies.
Incremental Incremental budgeting requires that only additions or deletions to current

Budgeting budgeted expenditures be explained and justified. Funding decisions are
made on the margin, based on the justification for the increased costs of
operating agencies or programs. This process can be used in conjunction
with either line-item budgeting and/or program budgeting.
Input An input is the resource put into the program. Examples are dollars,
number of employees, and equipment.
Item Veto Veto power that allows the governor to reject particular items in a piece of
legislation such as a sentence, paragraph, or part of a sentence (syntax).
Line -item Line-item budgeting refers to objects or lines of expenditure (for example,
Budgeting personnel, supplies, contractual services, capital outlay) that are the focus
of development, analysis, authorization and control of the budget.
Line Item Veto A provision that allows a governor to veto components of the legislative
budget on a line-by-line basis.
Nonrecurring/One - Nonrecurring appropriation is an appropriation made for one-time items

time or projects. Examples include capital or major equipment purchases,
Appr opriation special studies, and information technology upgrades.
Ongoing This type of appropriation is made for ongoing programs for which future
Appropriation appropriations will have to be made.
Operating Budget The operating budget is the budget established for operation of a state
agency or program, typically based on legislative appropriation.
Outcome Outcome measures are tools or indicators to assess the actual impact of an
Measures agency’s actions. An outcome measure is a means for qualified compari-
son between the actual result and the intended result. An example is re-
ducing the rate of infant mortality by a certain percent.
Output An output is the good or service produced by an agency. An example is

the number of personnel trained by a vocational education organization

Concepts
but without qualitative or cost inferences.
Performance Performance budgeting is similar to program budgeting. Performance

Budgeting budgets are constructed by program but focus on program goals and ob-
jectives; measured by short-term outputs, projected longer term outcomes,
and cost/benefits analysis. Appropriations are not only linked with pro-
grams, but also with expected results specified by these performance crite-
ria.
Program A program is a separately identifiable and managerially discrete function

within an organization designed to meet a statutory requirement or a de-
fined citizen need.
Program Program budgeting refers to budgets that are formulated and appropria-
Budgeting tions that are made on the basis of expected results of services to be car-
ried out by programs. The focus on outcomes is usually over multiple
years.
Structural Deficit Structural deficits occur when growth in spending needed to maintain
current services and growth in revenues from current taxes and other
revenue sources are inconsistent.
Supplemental Supplemental appropriation is an appropriation made to an agency or

Appr opriation program during the current operating fiscal year to cover unforeseen
events, projected over expenditures, or to replace revenue shortfalls.
Zero-Based Zero based budgeting subjects all programs, activities and expenditures to
Budgeting justification (in contrast to incremental budgeting). Funding requests, rec-
ommendations and allocations for existing and new programs are usually
ranked in priority order on the basis of alternative service levels, which are
lower, equal to and higher than current levels. This process can be used
in conjunction with either line-item budgeting and/or program budgeting.

Competency Test
Competency Test
Q1: When did the federal government first adopt a formal budget proc-
ess?
Q2: Describe the evolution of the budget process from its beginning as
an accounting document to today’s techniques.
Q3: What limits agency creativity in solving problems or service delivery
issues in a line-item budgeting process?
Q4: Why is line-item budgeting so prevalent throughout state govern-
ments' appropriations processes?
Q5: Name the three primary factors an agency’s program budget presen-
tation must include.
Q6: What constitutes the primary resistance to program budgeting by leg-
islative appropriating committees?
Q7: What is the primary purpose of developing a zero-based budget for
any department, division, or agency?
Q8: Describe the challenges zero-based budgeting presents to agency
managers.
Q9: Explain the role statewide and/or departmental planning plays in the
development of a performance budgeting system.
Q10: What are the key advantages to a department in using a perform-
ance budgeting process to obtain annual appropriations?

Module 2: Operating Budgets
Overview The operating budget is that portion of the budget which addresses pro-
gram activities and services authorized by the state’s legislature and gov-
ernor. The construction and renovation of buildings and the purchase of
major equipment is not included in the operating budget, but is instead
addressed in the capital budget.
Operating budget items typically include personnel services (salaries,

wages, and fringe benefits), contracted services, rent, travel, utilities,
equipment, supplies, and other operating expenses. The number of full-
time positions associated with the operating budget may also be included
as a standard component of agency operating budgets. Funding for oper-
ating budgets is usually from annual or biennial legislative appropriation.
Actual expenditures are reported in the state’s annual financial statements.
Monitoring the results of programs in the operating budget, as well as fi-

nancial and economic trends, is essential for making appropriate deci-
sions regarding programs in the operating budget. This information can
also be used to determine if there is a need for implementing certain ex-
penditure controls to keep the budget in balance.
BUDGET PROCESS AND TIMETABLE __________ 25

MONITORING FINANCIAL AND
ECONOMIC TRENDS ______________________ 26
DEVELOPING AND ANALYZING
SPENDING PLANS ______________________ 27
MONITORING AND EVALUATING RESULTS____ 28
SETTING AND REPORTING ON
PERFORMANCE MEASURES ______________ 29

Operating Budgets
Concepts
Budget Process and Timetable

The development of state budgets usually involves numerous participants
and various procedures. To ensure efficiency in the budget process,
budgeting is usually conducted on a cycle. Although different states may
label the phases of the cycle differently, typical phases of this cycle in-
clude preparation and submission, approval, execution, and audit or
evaluation.
Budget preparation actually begins with the planning process. During

planning, program goals and strategies are developed to accomplish the
directives of the state legislature and the governor. Through integration of
planning and budgeting, the cost of activities and programs is established
and funded within the amounts determined to be available through reve-
nue forecasting.
Financial Plan The operating budget represents the financial plan for that part of the
budget which supports program activities and services. It is developed
during budget preparation, reviewed by the executive and legislative
branches, and finally approved and put into place with legislative action
and the governor’s signature. Budget certification (the conversion of legis-
lative action to a beginning base budget) begins the phase of the budget
cycle identified as budget execution. It is during this phase that the oper-
ating budget undergoes a series of revisions to accommodate changing
needs and conditions.

Operating Budgets
Concepts
Monitoring Financial and Economic Trends

Planning, budget preparation and budget execution all involve monitor-
ing financial and economic trends. Budget preparation relies on forecast-
ing to determine revenue availability for supporting continuation (or base
budget) as well as expansion budget needs. Since forecasting may be
done far in advance of the actual review and implementation of a budget,
revision during the legislative review process should be expected. Further
monitoring and adjustment of the budget will be necessary after the
budget has been approved and put into place.
Monitoring and Analysts will use information on financial and economic trends to make
Adjustments informed recommendations on requests for budget revisions. Shortfalls in
revenue collection may impact how the budget is administered. Policy
makers and budget officials, responsible for ensuring a balanced budget,
will use this information to set into motion cost-controlling measures.
These measures may include adjusting the flow or distribution of funds
approved by the legislature for a given program or implementing position
freezes or controls on other areas of spending such as equipment or
travel.

Operating Budgets
Concepts
Developing and Analyzing Spending Plans

Spending plans are the result of integrating the planning process with
budget preparation. Program planning sets out the needs of a program
and describes the activities that will meet that need. Budget requirements
for those activities are then determined and incorporated into the con-
tinuation (or base budget) or expansion budget preparation process as
appropriate. Spending plans must be adaptable to changing economic
and political environments, and therefore, must be continuously moni-
tored and analyzed for revision.
Balanced Budget Forty-three states require their governor to submit a balanced budget. The
Require ments legislature must pass a balanced budget in all but eleven states and the
governor must sign a balanced budget in thirty-one states.
Spending Limits Many states either by constitution or statute have limits on the amount of
expenditures that can be made and/or the revenues which can be col-
lected. Before the operating budget is developed, the spending cap must
be calculated.
One -Time vs. Ongo- As the budget is developed, it is important to calculate how much of the
ing Expenditures revenue estimate is attributable to continuing or ongoing sources and how
much is attributable to one-time sources. One-time monies should not be
budgeted for ongoing expenditures. Otherwise, in the next budget cycle,
ongoing programs may have to be cut or revenue may have to be di-
verted from other sources.

Operating Budgets
Concepts
Monitoring and Evaluating Results

Monitoring and evaluation separate the “bean counters” from the budget
analysts. Analysts draw from program data, expenditure reports, and per-
sonal analysis to form conclusions about the relative effectiveness of pro-
gram activities and strategies in accomplishing program goals and objec-
tives. Through monitoring and evaluation, analysts can provide feedback
to decision makers on the success or failure of the spending plan. Future
funding decisions are often made on the basis of this feedback.
Monitoring and Monitoring is the ongoing collection and examination of program and
Evaluation expenditure data to determine if activities and strategies are being carried
out in accordance with plans. Evaluation utilizes data from the monitor-
ing effort, coupled with more rigorous quantitative and qualitative meth-
odologies such as surveys, client interviews, statistical analyses and use of
control groups, to determine whether program strategies and activities re-
sulted in the desired effect. Monitoring and evaluation are the best ways
of determining whether program activities and strategies are successful
and are responsible for producing desired outcomes.
Periodic Once it is passed by the legislature, the budget becomes the standard by
Monitoring which revenues and expenditures are measured. Processes for comparing
actual revenues and expenditures to the budget vary across the states.
Accounting reports are usually produced monthly to show the compari-
son. Agency budget and/or accounting personnel and program managers
are responsible for monitoring the spending and the patterns that develop.
Projections for the remainder of the fiscal year are taken into account as
well. Changes to the budget, such as an increase in federal funds, may be
allowed if the budget office concurs. Most states increase the level of
monitoring as the fiscal year end approaches so as not to overspend
budgeted amounts.
Rainy Day Funds Despite a state’s highly technical and sophisticated revenue forecasting
methods, it is difficult to predict exactly what the economy will do and
what taxpayer behavior will be. To allow for a cushion, some states ap-
propriate less than 100 percent of the revenues estimated. Many states
maintain a rainy day fund or budget stabilization fund for unforeseen cir-
cumstances.

Operating Budgets
Concepts
Setting and Reporting on Performance Measures

Formulating good performance measures can help establish a sound basis
for monitoring and evaluation. Performance measures can also help de-
cision makers see what the funds expended by an agency or program
have actually accomplished and how much progress has been made to-
ward specific performance objectives that have been articulated.
States are moving away from measures that focus on inputs or simple out-
puts, and are focusing more and more on outcome measures. For exam-
ple, input measures for a job training program might measure number of
dollars appropriated or number of instructors hired. Output measures
would record the number of classes held or number of students who have
graduated. Outcome measures, which really start to reveal if the program
is successful, might address the number of students finding employment
after training or employer ratings of satisfaction with the quality of program
graduates that have been hired.
When a performance measurement system is initiated, the first round of

measures developed may need to be refined with experience. This flexi-
bility should be available. Reporting on performance measures will likely
be a learning process for the reporter as well as the audience for the re-
port. Feedback from report users should play back into refinement of the
measures. Hence, setting (or refining) performance measures serves as
both the beginning and ending of the planning/budget cycle.

Operating Budgets
Competency Test
Competency Test
Q1: The operating budget represents the financial plan for what part of
the state budget?
Q2: List the types of items you would expect to see in a typical operating
budget.
Q3: In how many states is the governor required to sign a balanced

budget?
Q4: Funding supporting operating budgets usually comes from what

source?
Q5: Why should one-time revenue sources not be budgeted for on-going
expenditures?
Q6: Why is it important for a budget analyst to be aware of financial and

economic trends?
Q7: Why do some states have rainy day funds?
Q8: Explain the differences between input, output, and outcome per-
formance measures. Which type of measure generally yields the
most meaningful information?

Module 3: Funding State Services
Overview Public budgets link decisions about how much, and for what, govern-
ments spend available resources. Most state governments in the United
States are required to maintain, or at least propose, a budget that balances
spending and resources for a fiscal period. Some states allow external
borrowing to achieve budgetary balance, although it is typically permitted
only for capital budgets. A revenue estimate for an operating budget es-
tablishes a significant constraint on the development of that budget. Lim-
ited by estimated available revenues, the dynamics of establishing budg-
etary balance may involve making decisions on proposing increases or
decreases in revenues, whether through taxes, fees or borrowing. The
choices made in those decisions usually have consequences well beyond
the budget year for governments and their citizens. While these conse-
quences may not always be fully understood, they should be analyzed as
a part of the decision-making process.
STATE REVENUE SOURCES ___________________ 32

EVOLUTION OF STATE REVENUE SOURCES
AND TRENDS ____________________________ 34
FEDERAL FUNDING __________________________ 35
DEBT FINANCING ___________________________ 37
LOTTERIES/GAMING _________________________ 38
FEES FOR SERVICE __________________________ 40
STATE TAX REFORM AND TAX POLICY
CONCERNS ______________________________ 41

Funding State Services
Concepts
State Revenue Sources

Budgets are more than a compilation of planned levels of expenditures.
The sources and amounts of resources estimated to be available during
the budget period are a vital component of a budget. A requirement in
most states for a balanced budget makes revenue estimates a primary de-
terminant for the size of a budget. Consequently, a capability to estimate
revenues available for expenditure is critical to good budget develop-
ment.
Estimating Revenue estimation depends on the character of revenue sources and the
Revenue ease of their estimation. Revenue sources such as personal income and
general sales taxes are heavily influenced by current and projected eco-
nomic conditions. Other revenue sources such as license fees, tobacco
taxes, and alcoholic beverage taxes have more stable short-term bases but
are subject to long-term changes. Other elements that must be considered
in the development of revenue estimates include tax payment mecha-
nisms and timing of collections. Any given tax payment may represent a
tax liability from several different time periods and may also be net of
credits and debits (for example, refunds). Corporate income tax pay-
ments, in particular, often exhibit these kinds of characteristics.
Tax Sources A general separation of revenue sources and taxing authority has evolved
among the different levels of government - federal, state, and local. A
separation of tax sources is beneficial in that it helps avoid taxation con-
flicts and offers administrative convenience. The separation of revenue
sources has not occurred by design, although the kinds of taxes state gov-
ernments can levy are constrained by the Constitution of the United
States. States are prohibited by the U.S. Constitution from levying duties
on imports or exports, from setting tax policy that discriminates against
non-residents, and from impeding interstate commerce with onerous tax
structures.
Revenues and The federal government relies primarily on individual and corporate in-
Levels of come taxes. Local governments rely heavily on real and personal prop-
Government erty taxes. State tax revenues can be placed into six categories in general
order of their importance: 1) general sales, 2) selective sales [excise, gross
receipts, motor fuels, utility, tobacco, insurance, alcohol, pari-mutuel,
amusement, etc.], 3) individual income, 4) corporate income, 5) licenses,
and 6) miscellaneous [severance, property, death and gift, documentary
and stock transfer, etc.]. Non-tax revenues include: 1) interest, 2) fines and
penalties, 3) fees, 4) charges for service [tuition, hospital copayments, etc.],

Concepts
5) enterprise profits, and 6) intergovernmental transfers and grants. This

latter category is important in that the separation of revenue sources be-
tween the levels of government is moderated by the amount of intergov-
ernmental grants provided to subordinate levels of government.

Concepts
Evolution of State Revenue Sources and Trends

Revenue States, in the early years, relied upon the general property tax as their ma-
Diversification jor revenue source. Gradually, states diversified their revenue sources be-
yond the property tax. Early in the twentieth century states accelerated
the diversification of revenue sources by raising the importance of general
sales taxes and motor fuels taxes. More recently, that diversification has
led state governments into taxation of income. In 1995, almost 50 per-
cent of total state tax revenues were provided by sales and gross receipts
taxes, 31 percent came from individual income taxes, and 7.3 percent
from corporate net income taxes. Property taxes contributed only 2.4
percent of state tax revenue.
Earmarked Taxes In today’s general climate of a reluctance to increase general tax levies,
there is an inclination to establish some link, real or imaginary, between a
revenue source and a disbursement. Linking a revenue source to a service
or program is known as “earmarking.” The most common forms of tax
earmarking may be the funding of highway costs from motor fuels taxes
and the funding of unemployment compensation payments from em-
ployer and employee payroll taxes. Many budget professionals are criti-
cal of revenue earmarking – it removes resources from the review and pol-
icy direction of the budget process, including legislative oversight; it may
reduce accountability for effective use of public resources; and it can re-
quire more complex administration than general revenues. The linking of
a revenue source to a specific purpose may be done without any connec-
tion between the amount of revenues produced and the amount needed
for the program. There may not even be a programmatic connection be-
tween the source and the use. Despite these shortcomings, there can be
an effective rationale to earmarking revenues, especially when a strong
link can be made between the benefits received by programs funded by
taxes or charges levied on the recipients. In fact, many states consider
motor fuel taxes to be user fees.

Concepts
Federal Funding
Federal funds represent an important revenue source for states and sup-
port a wide range of programs ranging from social services to transporta-
tion projects. Federal assistance is provided to state governments in the
form of grants, entitlements, administration funds, and tax expenditures.
Types of Grants Grants are a lump sum federal “payment” for a specified purpose. Grants
are usually appropriated yearly by Congress and have authorizing legisla-
tion describing a program distribution formula, program goals, and pro-
gram requirements. Generally, the amount of funds appropriated by
Congress provides a cap on the amount of federal funding available for
each grant program. For states there are usually three types of grants:
1. A categorical grant that can be used only for a specific program as
specified in the authorizing federal legislation.
2. A block grant that can be used for a variety of activities within a broad
functional area.
3. A specific project grant that is allocated to a state, usually through a
special earmarking in an appropriation bill by a member of Congress
or through a direct contract with a federal agency.
Entitlements Entitlements are federal assistance to states included in the provisions of

the law authorizing the program. The level of federal funding available is
determined by the number of clients or other entities that meet the eligibil-
ity criteria for the program. Generally, the state is committed to providing
services for those who are eligible as defined by both the federal govern-
ment and the state. The state will be reimbursed by the federal govern-
ment at a particular match rate for all who are eligible. Federal funds for
entitlements are not capped by federal appropriation amounts.
Administration Administration funds are derived from the authorizing legislation and al-
low the state to spend up to a certain percentage or specified amount of
the program’s funding for administering a program.
Tax Expenditures Tax expenditures are indirect assistance provided through tax laws. The
ability for states and municipalities to issue federally tax exempt bonds is
an example. The tax exemptions provided for investors allow bonds to be
sold at a lower interest rate thus reducing financing costs for state govern-
ments.
Requirements and Federal requirements and conditions accompany virtually all federal
funds. Generally, categorical grant programs are among the most restric-
Concepts
Conditions funds. Generally, categorical grant programs are among the most restric-
tive while block grants are intended to allow states flexibility to determine
specific program criteria. Under the 1996 Personal Responsibility and
Work Opportunity Reconciliation Act (federal welfare reform bill), gover-
nors were generally supportive of the effort to make the program a block
grant. Even though this could eventually lead to less federal funding in
future years compared to when the program was an entitlement, the trade-
off was a fixed amount of funding for several years in exchange for in-
creased programmatic flexibility. Some types of federal funding require
states to be directly responsible to the federal government for the imple-
mentation of Congressional policy decisions. This can take the form of
participating in a federal program and following program guidelines such
as submitting program plans and follow-up audits under the Single Audit
Act. In some cases, federal requirements generate costs at the state level
as a result of mandates that Congress has enacted without providing fund-
ing. The Americans with Disabilities Act (ADA) is an example of a federal
mandate without funding.
Fiscal Years Vary Preparing budgets for states is complicated by the federal fiscal year. The
federal government operates on a fiscal year from October 1st to Septem-
ber 30th. Many states have a different fiscal year, often July 1 to June 30.
This timing requires states to anticipate federal funding levels far in ad-
vance of the actual availability of federal funds. To address this concern,
some federal programs, including most programs in the Departments of
Education and Labor, are forward-funded. That is, funds appropriated on
October 1 will be available the following July 1, allowing states to know
the level of federal support when the state budget is prepared.

Concepts
Debt Financing
Governmental spending includes resources directly or indirectly con-
sumed over a short period of time, such as for salaries and commodities,
and resources that will be consumed over an extended period of time,
such as for the construction of a school building or a museum. Purchase
of these long-lived assets represents an investment of public funds that
should provide utility long beyond the period in which the funds were
expended. A policy of paying for expenditure items completely from cur-
rent resources is called a “pay-as-you-go” policy.
An alternative to pay-as-you-go financing is one where ordinary expenses

are paid from current revenues while capital expenses, which provide
benefits over a multi-year term, are financed with debt and paid for over a
period longer than their construction or acquisition. Such an alternative
can be described as a “pay-as-you-use” policy. Debt financing, although
more expensive, is often justified because the acquired capital asset will
benefit the government and/or its citizens immediately. Borrowing to
spread the cost of capital investment over its useful life also can provide
for a more equitable allocation of costs to the citizens receiving the benefit
over the extended period of time.
D e bt Policies Pledging future resources to bondholders places the government at

greater financial risk than it would be otherwise. A commitment to pay
bondholders their principal and interest when due represents competition
for budget resources. A decision to borrow funds long-term carries con-
sequences that should be fully recognized and analyzed for affordability
and risks over the term of the debt. Such an analysis must also address the
purposes for which borrowing is undertaken.
Relying on debt financing for operating expenditures, such as education

and training, is an invitation for trouble. This practice can lead to over-
borrowing and destabilization of fiscal conditions as the costs of carrying
the debt and repaying the amount borrowed rise in each fiscal year. Care
must be exercised in making decisions to borrow. Establishing and fol-
lowing reasonable debt policies may prevent borrowing that could lead to
an out-of-control budget. A comprehensive discussion of debt policies
and practices is found in Module 9.

Concepts
Lotteries/Gaming
During the past generation there has been a dramatic expansion of legal-
ized gaming as a means to supplement state revenues. Gaming that bene-
fits states takes many forms: lotteries, horse and dog racing, casinos – on
land and water, and jai alai. Beginning with New Hampshire in 1964, 37
states and the District of Columbia have instituted lotteries. As recently as
1988, only two states allowed casino gambling. Today, 23 states and a
number of Native American reservations allow casino gambling.
Legalized gambling has become very big business. Total wagers reached
nearly half a trillion dollars in 1994. This significant revenue source is
used extensively by state governments to support public programs. Re-
cent estimates are that state governments take about one-third of the
amount wagered to finance public sector activities.
Unique Characteris- What distinguishes lotteries and gambling from other state tax revenue
tics sources is that taxes are imposed, while participation in gaming is purely
voluntary. The voluntary nature of gaming makes it a revenue source that
is easy to rationalize in an anti-government and anti-tax environment. Lot-
teries and gaming are further distinguished from other types of state reve-
nues such as fees in that there is no connection between the source of the
gaming proceeds and the disbursement. Lotteries are used to support
education, senior citizen programs, parks, and a wide variety of other ac-
tivities.
Marketing The nature of gaming is entirely different from that of other more tradi-
Strategies tional tax sources. Gaming must be run as a business in order to sustain
and increase gaming revenues. Extensive marketing efforts must be main-
tained to attract and retain player participation. Products or games must
be changed periodically so play does not decline as states’ gaming ven-
ues mature. Variety and game enhancements are essential to maintain
revenue generating potential. States continue to investigate and imple-
ment new gaming strategies such as video lotteries, keno machines, and
riverboat gambling. Concerns about criminal influence, compulsive gam-
bling, and age limitations must be addressed before alternative gaming
strategies can be undertaken by a state.
Volatile Reliance on gaming revenues to support public programs can be risky if

Revenue Source safeguards are not imposed. Gaming revenue must be considered a vola-
tile revenue source that can be influenced not only by economic condi-
tions but also by consumer choice. Declining participation due to the

Concepts
maturation of gaming venues, competition from other legal or illegal gam-

ing opportunities, poor game design, or an unsuccessful marketing cam-
paign can lead to sharp unanticipated revenue declines. Reliance on
gaming revenues will continue to grow as an alternative to traditional tax
sources. Costs of public services supported by gaming revenues must be
carefully balanced against the ability of a state or locality to maintain or
increase gaming receipts.

Concepts
Fees for Service

States charge various fees to offset the costs associated with certain activi-
ties and services of state government. Fees are defined as monetary
charges that are made for licenses, permits, certifications, privileges,
goods, or services. Privileges include the granting of access to or use of
state facilities, or enforcing actions or behaviors that are otherwise re-
stricted by law or regulation. Services include a wide range of benefits
such as advisory services to local governments, social services to indi-
viduals, medical treatment, and institutionalization.
User Fees User fees have the advantage of allowing those who pay to select only the
services they want. No one has to pay if they do not want the service or
believe the cost is too high. Many groups support user fees because they
seem to be fair and voluntary. If someone does not want a service, they
do not have to pay for it, and if they use less, they pay less. One of the
disadvantages is that fees often have little to do with ability to pay.
Fee Level and Fee levels should be set at rates that reflect the governmental cost of fee-
Cost of Activity related activities and lead users to bear the cost of services provided.
How much of the cost should be borne by users depends on who benefits
from the service provided. In cases where fees benefit a specific group of
individuals or business enterprises, the state should recoup the cost of
conducting fee-related activities from that group. Such costs should not
be borne by the general taxpayer. In other cases, where fees support
regulatory activities which generally benefit all citizens, most or all of the
fee-related costs should be supported by the taxpayer. Sometimes fees
serve as an economic rationing mechanism or serve to minimize capri-
cious use. With certain fees, revenue generated may be more than the
cost of conducting the fee-related activities. Examples are fees received in
exchange for licenses, permits, certifications, privileges, goods, or services
in competition with private enterprise or to the economic benefit of pri-
vate enterprise.

Concepts
State Tax Reform and Tax Policy Concerns

The primary function of taxes, fees, and other charges is to produce reve-
nues for governments. However, fiscal actions are not economically neu-
tral. Due to their capacity to alter economic behavior of individuals and
businesses, taxes have considerable effects beyond their revenue raising
purposes. Therefore, taxation can be employed as a major instrument of
social and economic policy.
Principles of An area of great debate in public finance is the discussion of what princi-
Taxation ples of “justice” should be employed in taxation decisions. Classical eco-
nomics provides three principles of taxation: 1) equity - that taxpayers in
similar situations should be treated similarly, 2) ability-to-pay - that wealthy
taxpayers should pay proportionately more than the poor, and 3) benefit –
that taxpayers pay amounts in relation to the benefits received.
Modern In addition to these principles from classical economics, there are modern
Doctrines doctrines that influence tax policy decisions. Among these doctrines are:
1) social equalization - to achieve a redistribution of income and wealth
from the rich to the poor, 2) group discrimination - the favoring of one
group against another, such as farmers, oil well owners or homeowners, 3)
regulation – controlling consumption or distribution of products deemed
undesirable or harmful, and 4) promotion of economic growth - stimulat-
ing investment or the exploitation of natural economic advantages.
Tax Alternatives Adhering to any of these principles or doctrines will produce conflicts
with the others. Whenever reform to an existing tax system is imple-
mented or a new tax levied, there will be gainers and losers in either an
absolute or relative sense. Consequently, when public officials need to
raise taxes they confront a myriad of conflicting interests. The usual po-
litical objective is to structure tax changes to minimize opposition and
maximize support. Achieving this objective requires an analysis of the
options from both an economic and a political perspective. Tax alterna-
tives should also be evaluated for ease and cost of collection, certainty,
simplicity, convenience, stability, responsiveness, cost of administration,
and ease of estimation.

Competency Test
Competency Test
Q1: How does your state’s reliance on various forms of taxes differ from
the national average? Can you think of the reasons why they are
similar or significantly different?
Q2: Examine your state’s major earmarked revenues and evaluate why or
why not their earmarking is an effective budgeting tool.
Q3: Are total appropriation amounts for federal entitlement programs

capped in authorizing legislation?
Q4: What are the advantages and disadvantages of using revenue de-
rived from gaming to support public sector programs?
Q5: Name some of the factors that distinguish gaming from other more
traditional types of revenue sources, such as taxes and user fees.
Q6: What can be the consequences of not having a debt financing policy
or having one that is imprecise in its definition of capital and operat-
ing expenses and the use of debt financing for each?
Q7: What should be the guiding policy for establishing or revising fees for
services?

Module 4: Economics and the State
Budget
Overview A state’s public revenues and expenditures are tied inextricably to private
economic activity. Budgets can be affected by declining economies ei-
ther through decreases in revenues or increases in program expenditures
triggered by increased unemployment and poverty. State budget analysts
need exposure to the principles of economic analysis in order to evaluate
policy proposals and to estimate future revenues, program caseloads, and
other budget variables based on economic conditions.
ECONOMIC FORECASTS______________________ 44
ECONOMIC DEVELOPMENT STRATEGIES ______46
ECONOMIC CONVERSION __________________47
ECONOMIC TRENDS, ECONOMIC INDICATORS,
AND IMPACTS ON STATE BUDGETS _______48
DEMOGRAPHICS __________________________49
GLOBAL COMPETITION ____________________56
ECONOMIC IMPACT OF FEDERAL TAX POLICY 51

Economics and the State Budget
Concepts
Economic Forecasts
Revenue and State budget offices rely on economic forecasts for two main purposes: 1)
Caseload Estimates to guide the preparation of state revenue estimates, and 2) to estimate
caseloads for health, welfare, employment, and corrections departments.
Ideally, a single economic research function is the sole source of eco-
nomic forecasts, trends, indicators, and impacts on state budgets for all
government departments, the governor, and the legislature. Frequently,
however, there are duplicate functions and economic data in a variety of
locations, leading sometimes to conflicting and competitive estimation
and economic tracking results. Some states have instituted a formal
commission or committee to pass final judgment or reach consensus on
the economic forecast. Other states informally seek advice and approval
of independent business and academic economists. In any case, it is de-
sirable to remove the economic forecast from political influence if at all
possible. Commissions, committees, and outside advisors can de-
politicize the economic forecast while at the same time improving the ac-
curacy of the forecast.
Key Economic State level economic data are generally derived from national data. The
Variables key economic variables that drive revenue forecasts are nonfarm payroll
employment and personal income. These are based in large measure on
a quarterly payroll tax report known as the ES-202, prepared by state em-
ployment agencies in each of the fifty states. Access to this report is essen-
tial to have any chance of an accurate forecast.
Forecasting The most widespread method of estimating key variables of a state’s

Models economy is to begin with a forecast of the nation’s economy and then to
scale this to the state. Few states maintain their own national forecast
models. Most either simulate one of the several commercial models or
simply accept the “most likely” forecast from one of these firms. Others
use a consensus forecast such as Eggert’s Blue Chip Survey.
Econometrics Once a national forecast is accepted, the scaling to the state begins by re-
fining known linkages between national economic activity and that of the
state. Generally, these relationships are tested through econometric
analysis. For example, a state may have a significant industrial sector pro-
ducing lumber for the construction industry. An equation estimating this
state’s employment in lumber production would have a variety of ex-
planatory variables, such as national construction activity, tax rates, inter-
est rates, or other similar values. Each major industry’s employment
would be estimated in similar ways, using national and state economic

Concepts
variables to explain employment. Employment estimates and other na-

tional variables would become explanatory variables for equations that
estimate profits, personal income, unemployment, and other variables.
Local inflation forecasts are similarly derived from the national inflation
forecast.
Forecasting and Once the estimates of state economic variables are completed and agreed
Policy Decisions to by participating economists, they are made available to revenue,
health, welfare, employment, and other departments to use as a basis for
their revenue forecasting and budget planning activities. Economic fore-
casts generally become the driving force behind many of the major policy
decisions of the governor’s administration and the legislature.

Concepts
Economic Development Strategies

State budget officers are often required to analyze economic development
options that call for the government to interact with the private sector to
increase the amount of economic activity. The most common policy op-
tions are tax reduction and expenditure increase.
Tax Reduction Tax reduction proposals aim to reduce the burden of taxes for selected
groups of businesses or households as an inducement to locate or in-
crease capacity in a state. These proposals are usually supported by ar-
guments that tax reduction will allow the state to compete with surround-
ing states or foreign countries. The economic argument is straightforward:
when the cost of doing business falls in a state, more business is con-
ducted there -- all other things being equal.
Expenditure On the expenditure side, the principle options are: 1) to spend tax dollars
Increase on goods or services needed by the target industry, thereby reducing the
industry’s cost-of-doing-business in the state (sometimes called subsidies,
and 2) to provide a credit against taxes owed by the industry. In a bal-
anced budget environment, expenditures by state governments on goods
and services are viewed by most economists as being an inefficient eco-
nomic strategy for economic development. The argument is that taxes
need to be raised by amounts sufficient to fund expenditures. This would
have the effect of reducing the expansive effects of government demand.
The exception to this may be found when providing funding for infrastruc-
ture (roads, schools, ports, etc.). If financing infrastructure increases the
profitability of doing business in a state and/or decreases the costs of living
in a state, the losses from taxes for infrastructure financing are offset. Tax
expenditure has much the same economic effect as tax reduction, except
additional administrative costs are incurred by private firms, households,
and tax processing operations in state government.
Incentives The breadth of tax reduction or expenditure (who or what the policy ap-
plies to) may be as important as its dollar magnitude. When governments
reduce taxes for selected industries, the incentive is for profit-maximizing
firms and investors to shift resources from other industries, regions, or
countries. An economic development strategy that provides special tax
treatment for a certain industry may create the impression of expanding
the industry while in reality, the resources are simply shifting from other
industries in the state.

Concepts
Economic Conversion
The term “economic conversion” can be applied to any structural change to
a state’s economy; for example, a conversion from a heavy manufacturing
to a service economy. Recently the term has been applied almost exclu-
sively to the transformation of closed military facilities to private economic
activity. Since the late 1980s, many military bases have been closed and
many more are scheduled to close. The idea of conversion activity as a
substitute for economic activity that would otherwise have occurred exposes
conversion proposals to the same standards of cost-benefit analysis as other
economic development strategies.
Primary Effects The impact of the sudden reduction of federal spending in a region has two
primary effects: 1) loss of consumer spending, and 2) increased demands
upon social welfare programs. The loss of spending comes from laid-off
military base employees, both uniformed and civilian. Local merchants ex-
perience losses of sales, and state and local governments’ tax receipts are
reduced (particularly property tax losses due to declining real estate prices).
The increased demand for social welfare benefits may have a great impact
on areas that have bases with large civilian staffs. The staff, who tend to be
well-paid in relation to other workers in the local marketplace, may possess
skills in low demand locally after the base closes.
Implicit Subsidy The premise of economic conversion is to exploit the physical plant left be-
hind by the base closure and the skills of the laid-off staff to encourage the
growth of new businesses. By offering land or buildings at less-than-market
cost, an implicit subsidy is created to encourage new business activity.
Some states also may subsidize labor by means of direct subsidies including
job retraining programs or tax expenditures.
Opportunity Cost While there are claims of successful economic conversion, each must be
considered in terms of two factors: opportunity cost and substitution of con-
version-type activity for activity that otherwise would have happened. All
tax expenditure programs cost money that could have been used for other
programs or could have been returned to tax payers. The economic con-
cept of opportunity cost calls for an evaluation of the value of the resources
applied to their next best use. The opportunity cost of lost revenues from
providing base facilities at less-than-market rental rates, tax expenditures
from explicit or implicit subsidies of labor, as well as the expected reduction
in social welfare costs, should be considered in a cost-benefit analysis of
conversion programs.

Concepts
Economic Trends, Economic Indicators, and

Impacts on State Budgets
Economic Once forecasts are accepted and a budget is adopted, it is essential to
Conditions track both the economic variables and revenues against actual results.
The task of tracking economic statistics is complicated at the state level by
revisions, which can be large and can even involve a change of direction
(reported increases can suddenly be revised to become decreases). In
addition, revenue forecasting and analysis staff need to be kept abreast of
changing economic conditions at the national, state, and local levels to
ensure that they can prepare realistic estimates of future revenue and to
understand economic reasons for differences between revenue forecasts
and actual revenue collections. Health and welfare departments need the
same information for analysis of caseload fluctuations. They also need
cost-of-living indices for legislated adjustments to monthly welfare sti-
pends.
Economic Typical economic indicators tracked by analysts include national, state,

Variables and local data. National data include the levels and rates of change for
gross domestic product, employment, unemployment, income, inflation,
consumer price indices, construction, exports, imports, deficits, interest
rates, and investment. State data include the levels and rates of change of
employment, inflation, consumer price indices (where available), building
permits, retail sales (where available), and a variety of state-specific meas-
ures of industry employment. Industry output is not measured frequently
on the state level. Rather, employment and personal income are key in-
dicators of economic activity in specific industries because these are
available on a monthly or quarterly basis. (As noted previously, the qual-
ity of the employment and income data can be substantially improved by
timely use of the ES-202 reports.)

Concepts
Demographics
Demographic analysis is an important factor in budget preparation.
Demographics is the study of the level, composition, and changes to
measures of population. State demographic research can be centralized
in one department or distributed across departments. Some states prepare
their own population estimates, but most accept those made by the fed-
eral Bureau of the Census.
Population and Population estimates are the basis for the amount of certain federal funds
Funding Formulas transferred to states for support of various programs. These estimates are
also used for the subsequent re-distribution of funds (federal and state) to
local governments, primarily for highways, health and welfare expendi-
tures, and education.
Other Estimates Beyond overall state population estimates, demographic research can in-
clude estimates of city and county populations, average daily attendance
in public schools, inter-regional and international migration, and other
components of population levels and change. While some of these esti-
mates are provided as a service to academic and industry researchers,
most of the sub-state estimates are driven by tax redistribution programs.

Concepts
Global Competition
States compete not only with each other but with other countries for new
economic activity. For some states today, international trade is at least as
important to the gross state product as interstate trade. It is important to
note that trade data are among the weakest economic data commonly
used.
Export Data International exports are measured in two ways: by port activity and by
point of manufacture. Port activity data measure the dollar volume of ex-
ports (and imports) that flow through a port. Point of manufacture data
attempt to connect exports from any port with the state where it was
manufactured. A simple example of the difference is that port activity data
from North Dakota to Canada show large numbers of avocados being ex-
ported. Barring greenhouses in North Dakota, these avocados were
grown in California. The point of manufacture export data show the state
of origin more clearly. Note that services exports (including computer
software development, consulting, etc.) are not tracked at all on a state
basis.
Policy Decisions Global competition can affect a state’s economy and policy decisions in a
variety of ways. Plant location arguments for economic development
policies may be based as frequently upon global as interstate compari-
sons. Policy questions may be raised concerning the efficacy of opening
export-facilitation offices in foreign countries. These offices made state
administrators responsible for budgets for expenditures made in foreign
currencies and subject to foreign inflation rates -- a complex environment
for those unfamiliar with it.

Concepts
Economic Impact of Federal Tax Policy

States can be affected by changes in federal tax law in three primary ways:
marginal tax rate changes, administrative rules changes, and tax expendi-
ture changes. In each case, federal changes can be considered preemp-
tive in the sense that federal tax policies, rules, and programs seldom take
into account the impact on state policies, rules, and programs.
Marginal Rates, When federal marginal rates change, state tax revenues will be driven up
Administrative or down by economic activity encouraged or discouraged by changing
Conformity, and Tax tax rates -- if the state makes no corresponding adjustment to its rates.
Expenditure Rules When federal tax administrative rules (like record keeping, reporting, or
timing) change, significant pressure will be put on states to conform their
rules to federal rules to hold down administrative costs for individuals and
companies. For federal tax expenditure rules, the issue of conformity is
most pressing. If the state and federal governments have different tax cred-
its or subsidy arrangements (different in terms of structure, not percentages
or levels), states will usually find that companies will conform to federal
law and frustrate attempts by states to conduct entirely independent incen-
tive programs.
Corporate The major federal tax on businesses is the corporate profits tax. Overall,
Profits Tax the federal government marginal profits tax rate is 35 percent for large
corporations, while for states, marginal rates are between zero and less
than 10 percent. Clearly, changes in federal business profits taxes will be
much more important to business decision makers than proportionate
changes to state taxes.
Personal Federal marginal personal income tax rates peak at 39.6 percent, while
Income Tax states range between zero and less than 10 percent. The extent that state
personal income taxes are deducted from household incomes subject to
federal tax further reduces the ability of state tax policy to affect household
behavior. Thus, if tax policy affects economic behavior, it is federal tax
policy for households or businesses. If sufficiently large, differences be-
tween state tax rates could affect the location of economic activity.
Capital Gains Another issue of major significance is the capital gains tax. Over the last
Tax twenty years, the rate at which capital gains have been exposed to taxes
has been the most volatile federal tax rule. In the early 1980s, the rate
was halved and a substantial amount of previously-accumulated capital
gains was exposed to taxation. This rush was later accelerated in the
1980s as discussions progressed toward increasing the exposure rate of

Concepts
capital gains to taxes and ended with implementation of the higher expo-
sure rate. State governments that did not conform their exposure rates for
capital gains to federal rates experienced significant growth in state per-
sonal income tax revenues when federal tax rates fell. This revenue
growth for states accelerated towards the end of the “window of opportu-
nity” for households. In the largest states, this “revenue windfall” ap-
proached $1 billion per year. As the window closed, these states experi-
enced revenue shortfalls of similar magnitude. This episode of capital
gains taxation is one of the clearest examples of the impact of federal tax
law on individual and corporate behavior. The 1997 federal balanced
budget agreement calls for a further reduction in the tax on capital gains --
an action that will be felt in state coffers around the country.

Competency Test
Competency Test
Q1: Why are economic forecasts made for a state?
Q2: What is the general method of approach to developing economic

forecasts?
Q3: Why are economic trends and indicators maintained for a state?
Q4: What economic variables are generally tracked?
Q5: What is demographics?
Q6: How do demographics affect a state’s budget?
Q7: Does the private sector react more to federal or state tax policies?
Why?
Q8: What can be expected if states do not change their policies when
federal rates change?
Q9: What are the major types and purposes of economic development
policies?
Q10: What is meant by the breadth of a policy proposal? How can this
affect the efficacy of a proposal?
Q11: How does global competition affect a state’s economy and budget?
Q12: What problems exist for analyzing global competition proposals?
Q13: What does economic conversion mean?
Q14: What does opportunity cost mean? How does this enter into the
analysis of an economic conversion proposal?

Module 5: Revenue and Expenditure
Analysis and Forecasting
Overview Revenue and expenditure forecasts are integral components of a state’s

fiscal planning process. There are numerous methods of generating fore-
casts, and these vary in conceptual sophistication and resource require-
ments. There are also different times and reasons to do forecasts, such as
during budget development periods or as adjustments to unexpected
events. Because they are fundamental building blocks of the budget,
revenue and expenditure forecasts are often highly political. Their impor-
tance in politically-charged decisions heightens the need for clear com-
munication on how the forecasts are generated, why errors occur, how
forecasts are to be interpreted, and potential risks to current projections.
Not all revenues or expenditures need to be forecast. Forecasting efforts
should be focused on large, discretionary areas of the budget or activities
that have multi-year planning horizons.
WHAT NEEDS TO BE FORECAST? ______________________ 55

ALTERNATIVE FORECASTING TECHNIQUES ___________ 56
ASSESSING REVENUE/EXPENDITURE
ESTIMATING CAPACITY ___________________________ 58
PREPARING AND UPDATING REVENUE AND
EXPENDITURE ESTIMATES _________________________ 59
POLITICAL CONSIDERATIONS _________________________ 60
ANALYZING THE REVENUE MIX AND OPTIONS ________ 62
REVISING REVENUE RATES AND BASES ________________ 64
DEVELOPING REFERENCE DOCUMENTS FOR
REVENUES AND EXPENDITURES___________________ 65

Revenue and Expenditure Analysis and Forecasting
Concepts
What Needs to be Forecast?

When formulating a budget, making an educated guess about future eco-
nomic conditions is certainly desirable. However, knowing future condi-
tions is not equally important for all state revenues and expenditures. For
example, self-regulating or self-funding areas of the budget will generally
have a lesser need for forecasting. Such activities are funded by user fees,
are self-supporting, and require less discretion in the budgetary process
with regard to allocation of funds.
Budget and Revenue Most state budgets and state revenue structures have literally hundreds of
Structures small items that make a forecast by a central group impractical. Instead,
forecasts for these items have to be done by agency personnel for execu-
tive or legislative budget staff. On the other hand, large components of
state budget and revenue structures, such as general fund revenues and
expenditures, represent large pools of revenues and spending. Distribu-
tion of these funds requires discrete decisions by the governor and legisla-
ture. An estimate of revenues available and/or expenditure demands is
essential before funding decisions are made. These large discretionary
areas are the most important to forecast. For the general fund, revenues
and primary expenditure drivers should be projected. In addition to large,
discretionary components of the budget, programs that require multi-year
planning beyond the budget horizon should be forecast. For example,
capital outlay programs, such as transportation or public education, often
require a long-term perspective to aid decision making in the short-term.

Concepts
Alternative Forecasting Techniques

Several types of forecasting techniques are commonly used, including
econometric analysis, time series analysis, and mathematical and ad hoc
methods. The technique used depends on data availability and/or the
stability of the basic structural relationships underlying the variable to be
forecast.
Econometric Econometric analysis uses statistical methods to estimate the relationship

Analysis between the predicted variable and known explanatory variables. If fore-
casts of the explanatory variables are available or can be generated, then
the primary variable of concern can be forecast. Econometric analysis
offers the greatest possibility for explaining a forecast using clear linkages
to intuitively appealing basic driving variables. However, proper applica-
tion of econometric analysis requires more sophisticated training and
data. Current mainframe and PC-based software packages make econo-
metric analysis relatively easy to execute.
Time Series Time series analysis also uses statistical techniques, but makes projections
Analysis based on historical patterns in the variable being forecast, without much
reference to fundamental driving variables. Compared to econometric
analysis, time series methods need less data, usually only one data series
(for example, the one you want to predict), and are theoretically simpler.
Explanations of a forecast will boil down to extensions of past trends, with
no clear linkages to basic driving variables. There are a number of easy-
to-use mainframe and PC-based software packages for time series analysis.
Mathematical Mathematical methods do not use statistical theory or techniques, but use
Methods relatively simple mathematical calculations, such as moving averages, to
discern trends and patterns for predictive purposes. These methods re-
quire relatively little data, no training in statistics, and fairly basic mathe-
matical skills. Any spreadsheet software can be used to develop a fore-
cast.
Ad Hoc Methods Ad hoc methods refer to any approaches other than the above. Ad hoc
methods are usually required when there are not enough data or historical
stability for more sophisticated techniques. If the fundamental economic,
social, and institutional relationships underlying or driving a particular
variable are shifting, more sophisticated techniques often prove inade-
quate.
Choosing the Variables with long histories and stable relationships with respect to eco-
Technique nomic, demographic, or policy drivers are very conducive to economet-
Concepts
Technique ric, time series, and mathematical techniques. Tax and non-tax (for ex-
ample, fees) revenue sources often, but not always, fit in this category. As
a variable’s history (and data availability) shortens or as basic structural
relationships become less stable, econometric and time series analyses
become less useful compared to mathematical and ad hoc techniques.
Intergovernmental revenues, personal service and entitlement expendi-
tures, and debt service expenditures/revenues tend to fall into this cate-
gory, though not always. These variables typically are subject to signifi-
cant administrative or program changes in response to politically driven
shifts in spending priorities, by either the state or federal governments.
General The following are a few general considerations about forecasting:

Considerations
• A variety of forecasting methods are available to the budget analyst.
These techniques can usually be used to predict both revenues and
expenditures.
• Always remember that forecasts are only educated guesses that carry
with them varying degrees of uncertainty. The imprecision of the es-
timates should always be communicated to decision makers.
• Even with the most sophisticated methods, subjective judgements on

the part of the analyst are usually necessary in developing a projec-
tion. Forecasting is as much an art as it is a science.

Concepts
Assessing Revenue/Expenditure Estimating

Capacity
Not surprisingly, forecasting capacity depends on the human and techno-
logical resources available, either directly or indirectly. In terms of human
resources, good general analytical skills are a minimum requirement.
Forecasters should be adept at developing, understanding, and commu-
nicating abstract concepts; have good basic math skills; and have enough
creativity and flexibility to apply lessons from experience and formal train-
ing. An understanding of economic theory and the application of
econometric and time series statistical methods are powerful tools and can
be learned through formal training. However, some of the most important
aspects of forecasting, the subjective elements, can only be learned with
experience.
Computer A forecasting effort can be based in a personal computer environment, a

Resources mainframe computer, or some combination of the two. Generally, more
skilled forecasters can utilize a wider range of software packages and may
need more powerful hardware on which to operate.
In-House vs. Third The ability to acquire and maintain relevant data is a second crucial
Party Forecasting physical resource determining forecasting capacity. Funds should be
available on a recurring basis for purchasing needed economic and
demographic data. There also needs to be a commitment from state
agencies to consistently collect and maintain important data series (for ex-
ample, tax receipts information). While the assumption is that reve-
nue/expenditure forecasting will be done “in-house” by employees of the
state, it may be appropriate in some cases to purchase forecasting services
from third parties. For example, many states purchase projections of the
U.S. economy from research companies that specialize in such activities.

Concepts
Preparing and Updating Revenue and

Expenditure Estimates
The essential purpose of revenue and expenditure forecasts is to facilitate
planning. Consequently, one obvious time to prepare or update a fore-
cast is when preparing a budget. Even if previous forecasts are on target at
the time, it is often worthwhile to reexamine the outlook. This may entail
estimating revenues and/or expenditures under current law assumptions,
then doing separate forecasts related to any proposed law changes ac-
companying the budget.
Monitoring for Accu- Budget development is the primary reason for updating a forecast, and the
racy primary determinant of the timing of forecast revisions. However, once a
forecast has been developed, it is very important to monitor it monthly for
accuracy. If actual experience begins to deviate substantially from projec-
tions, then it may be prudent to revise the estimates and possibly adjust
the budget or other plans accordingly.

Concepts
Political Considerations
Revenue and expenditure forecasts that are used for budget development
and other planning purposes are politically sensitive. At stake are gov-
ernmental spending decisions that will affect the interests of a broad array
of constituencies.
Errors in Estimates Forecasts are never one hundred percent accurate, so the forecaster must
be able to explain to decision makers any errors in the estimates. If deci-
sions based on erroneous forecasts must be changed, the reasons for do-
ing so must be clear.
Forecasting Current Forecasting several years of expenditures at current service levels can be
Se rvices Levels useful even though current service levels will probably be changed in
each budget cycle. Such a forecast provides a good reference point for
present budget decisions. However, if such a forecast is done, great care
must be taken to ensure that the estimates are not misinterpreted as rec-
ommendations that current spending be continued at certain levels.
Interpreting a Fore - Interpretation problems can arise when current services expenditure fore-
cast casts are combined with current law revenue projections. While such
outlooks can be useful as a point of reference for predicting possible struc-
tural imbalances in a budget, predicted structural surpluses or deficits can
be easily interpreted as a prediction of what will actually happen. Misin-
terpretations such as this can happen if decision makers lose sight of the
fact that annual budgets do not operate on “automatic pilot” and are usu-
ally forced into balance.
Dynamic Modeling With respect to estimates of the impacts of law changes, it is not uncom-
mon for policy makers to have preconceptions about how the numbers
should look. It is also not uncommon for the estimates to be different from
those preconceptions once a careful, objective analysis is done. This
situation has given rise in recent years to the use of “dynamic modeling,”
which attempts to more fully account for economic and other feedback
arising from specific policy changes. In doing so, the ultimate impacts of a
policy change are less extreme than might otherwise be estimated. In
theory, dynamic modeling is a more complete approach to forecasting. In
practice, it is far more complex and expensive to do and often does not
drastically change the ultimate outcome of the estimate. These considera-
tions make it very important to explicitly state the estimate assumptions
and methods.

Concepts
Long Term Trends Real world trends often change and take off in undesirable directions.
and Potential Cycles Most notably, national and state economies experience business cycles
that are potentially very disruptive to state revenue and spending flows.
Sight of this fact is often lost in the immediacy of political decision making.
For this reason it is useful to produce forecasts that show both the long-
term trend and the potential cycles of revenues and expenditures. A cycle
forecast, communication of forecast risks, and continual monitoring of
current revenue and expenditure patterns are crucial to alerting decision
makers that an economic turning point is near and that preparations
should be made for adjusting spending or revenue policy.

Concepts
Analyzing the Revenue Mix and Options

Revenue decisions include: 1) technical estimates of how much income
will be available in a future period, and 2) policy decisions about the level
and type of taxation. Political concerns are always an important element
in determining the shape of a state’s revenue structure. However, there
are also non-political aspects of taxes and fees that are often important to
decision makers. The following criteria should be part of considerations
pertaining to revenue structures and tax policy.
Tax Incidence First, tax incidence refers to who ultimately bears the burden of a particu-
lar tax. Many times the party that bears the burden is not the party that
remits the revenues to the state. For example, taxes that are paid by busi-
nesses are passed on to either the consumer or the stockholder/owner, so
the incidence of some business taxes may not be entirely on businesses.
Common tax incidence concerns are whether or not a tax falls dispropor-
tionately on a particular income group or whether a tax is born by resi-
dents or non-residents of a state.
Equity A second tax policy criterion is equity. Are taxpayers with similar eco-
nomic circumstances treated equally by the tax laws? Will tax breaks be
granted, and if so, to whom, and for what purpose? Equity considerations
may relate to interstate or intrastate economic competitive positions.
Stability Stability of the revenue source is a third criterion. A stable revenue source
is easier to forecast and facilitates planning of governmental operations.
Stable sources include individual income and general sales taxes. Less
stable are corporate taxes which are subject to wide fluctuations.
Revenue Yield Fourth, revenue yield is almost always significant. Does a revenue source
or structure yield a large amount of revenue at a low rate of assessment?
Another way of saying this is, does the revenue source have a broad base?
If so, it may be a good major component of a state’s revenue structure.
Sufficiency Fifth, the sufficiency of a revenue source or structure refers to the ability to
keep pace with changing expenditure demands for either the overall
budget or particular program areas. This can be especially important in
rapidly growing states. If a state’s revenue structure is insufficient to meet
critical expenditure demands, there is constant pressure to change the tax
structure.
Simplicity Finally, but not least, is simplicity. A simple, uncomplicated tax is easy for
taxpayers to understand and comply with and for the government to ad-
minister. Simplicity also lowers the private and public sector costs of hav-
Concepts
ing a tax “on the books.”
Comparisons Across Analyzing a state’s revenue mix and options can be aided by assessing
States what is “normal” or average among other states. Such comparisons can
be made in terms of tax rates for specific taxes. Additionally, revenues per
capita or per $1000 of income for specific sources or for all revenues
combined can be compared. These kinds of comparisons, for example,
can give some idea as to a state’s relative economic competitive position,
but only to the extent that taxes are important to the location of economic
activity.

Concepts
Revising Revenue Rates and Bases

There is sometimes a desire to revise revenue bases and rates. This may
be in response to political considerations, to improve the revenue struc-
ture in terms of the policy criteria discussed above, or a combination of
the two. A worthwhile exercise is to periodically evaluate whether or not
current taxes and fees are meeting certain policy criteria. If not, changes
can be proposed.
Estimating When revising revenue rates and bases, special estimating problems can
Problems arise. In particular, useful data are often sparse or non-existent. This is
especially true in the case of tax base changes. Scarcity of data in turn
requires simplistic, assumption-laden (i.e., subjective) estimation tech-
niques. Consequently, the revenue estimates can be very unreliable. Fur-
ther, these issues can be very sensitive politically, increasing the impor-
tance of a clear statement of assumptions and methods.
Criteria for an Opti- The National Association of State Budget Officers (NASBO), in conjunc-
mal Revenue Fore - tion with the Federation of Tax Administrators, has identified the following
casting Process criteria for a good revenue forecasting process: 1) governors should un-
derstand and participate directly in forecast development, 2) the forecast-
ing process should utilize the expertise of academic and business econo-
mists in developing the state forecast, 3) governors should produce a
monthly report on revenue collections and an annual report on the vari-
ance between estimates and collections, 4) experts should maintain flexi-
bility to respond to economic changes by revising the revenue estimates,
and 5) governors should share revenue-related information with the pub-
lic throughout the fiscal year.

Concepts
Developing Reference Documents for Revenues

and Expenditures
Reference documents relating to the revenue structure and expenditure
patterns can be very useful to analysts and decision makers for under-
standing the current situation and considering possible changes. There
are several ideal elements of such documents.
Elements of Refe r- First, a descriptive and quantitative historical perspective should be in-
ence Documents cluded. For major revenue sources or for major expenditure catego-
ries/programs, this means several years of actual collections/expenditures
compared with forecasts and a description of significant changes in tax
rate/base or program structure. Second, a thorough description of the cur-
rent base and rate of major revenue sources and the current elements of
major spending programs is needed. Third, a forward-looking perspective
will augment the history. Forecasts of the major revenue sources and ex-
penditure categories should be provided. Fourth, a “menu” of estimates
of the impact of potential structural changes rounds out the list of ideal
elements. A set of manuals or reports to complement the above would
contain history and forecasts of the main social, economic, and demo-
graphic variables that drive revenues and expenditures.

Competency Test
Competency Test
Q1: Why is it important for a budget analyst to monitor forecasts of gen-
eral fund revenues?
Q2: Which budget expenditures should be forecast, and why?
Q3: What are the primary forecasting techniques and when should each
be used?
Q4: What are some important analytical skills necessary to do revenue

or expenditure estimating?
Q5: What physical resources are required to do revenue or expenditure

estimating?
Q6: When should revenue and expenditure estimates be updated?
Q7: How can the analyst prepare decision makers for unexpected devia-
tions from forecasts?
Q8: Why is it important to be able to clearly explain the assumptions or

origins of estimates of the impacts of law changes?
Q9: What are the primary criteria for judging a state’s revenue mix and
options?
Q10: What are some ideal elements of reference documents relating to a

state’s revenue and expenditure patterns?
Q11: What are the nationally-recognized criteria of a good revenue fore-

casting process?

Module 6: Analytical Methods for
Budget Analysis
Overview Budget analysts must be prepared to assess a range of issues using a vari-
ety of methods. Although there is no standard bag of tricks that promises
to address every analytical challenge faced by the analyst, experience
over the years and across the states points to some approaches and meth-
ods that have repeatedly proven useful. This module presents sixteen
analytic approaches used by budget analysts in a typical state budget of-
fice.
ONGOING AGENCY REVIEW____________________________ 68

POLICY ANALYSIS: ASSESSING CLAIMS ABOUT
NEEDS AND PROBLEMS ____________________________ 69
ASSESSING THE POLITI CAL IMPLICATIONS OF
BUDGET ACTIONS _________________________________ 71
ANALYZING PROGRAM AND SERVICE DELIVERY
ALTERNATIVES ____________________________________ 72
MAKING COMPARISONS TO OTHER STATES _________ 74
ANALYZING HISTORICAL SPENDING PATTERNS ______ 75
EXAMINING PROPOSALS FOR NEW SPENDING_________ 77
USING UNIT-COST ANAL YSIS AS A TOOL _____________ 79
COSTING OUT PERSONNEL SERVICES _________________ 80
COSTING OUT NONPERSONNEL SERVICES ____________ 81
SIZING UP THE IMPLICATIONS OF CAPITAL
PROPOSALS ON OPERATI NG BUDGETS ____________ 82
ASSESSING EXPENDITURE FORECASTS ________________ 83
FINDING FINANCING ALTERNATIVES _________________ 84
ANALYZING COSTS AND BENEFITS ____________________ 85
ANALYZING ORGANIZATI ON STRUCTURE
AND STAFFING ____________________________________ 86
DETERMINING THE FISCAL IMPACTS
OF LEGISLATION __________________________________ 88

Analytical Methods for Budget Analysis
Concepts
Ongoing Agency Review

One of the budget analyst’s most valuable resources is basic knowledge
about assigned agencies, the programs they administer, and the services
they provide. In addition to being useful for budget analysis, this knowl-
edge is also important for 1) responding to questions from the governor’s
office, other state agencies, legislators, and the public, 2) assisting and
educating key executive branch actors during the transition from one gu-
bernatorial administration to the next, and 3) providing relevant informa-
tion when government reorganization and restructuring issues arise. Ana-
lysts should therefore monitor their agencies on a regular basis.
Institutional A budget analyst who prepares or reviews budget proposals and legisla-
Knowledge tion needs substantial knowledge of the agency’s history, mission, opera-
tion, and statutory responsibilities. Knowledge of agency history is com-
monly gained through review of available documents, such as audit re-
ports, program evaluation studies, and newspapers and interviews with
knowledgeable individuals. These individuals may work for the agency
or be external to the agency, such as legislative budget analysts or exter-
nal auditors. The statutory responsibilities of an agency are ascertained
through review and analysis of the state constitution, the state code of
laws, acts of the state legislature, review of court decisions, and review of
state attorney general opinions.
Agency Periodic assessment of agency mandates is a basic and ongoing responsi-

Mandates bility of a good budget analyst. The assessment would involve critically
examining the implications of state and federal court decisions, laws, rul-
ings, and regulations. This analysis is very important during development
of the governor’s budget. In analyzing mandates, analysts need to ques-
tion whether agencies are interpreting mandates correctly; if alternate in-
terpretations are allowable and desirable; if mandates are in conflict with
current state policies; the extent of the conflict (policy and fiscal); changes
needed to comply; and the implications of not following the mandate.
Information Important sources of information on federal government policies and

Sources mandates and on court decisions include national associations such as
the National Center for State Courts, National Governors’ Association, Na-
tional Association of State Budget Officers, Council of State Governments,
National Conference of State Legislatures, as well as publications such as
Governors’ Bulletin, State Budget and Tax News, and State Policy Re-
ports.

Concepts
Policy Analysis: Assessing Claims About Needs

and Problems
Budget analysts often need the results of a policy analysis for decision
making during the budget process. Policy analysis can be viewed as a
process of systematically questioning what the government should do, if
anything, in response to a specific issue, need, or problem.
Policy Analysis Steps Policy analysis usually requires information collected through interviews,
surveys, review of records, and other research methods. After data is
gathered, quantitative and qualitative analysis is conducted and results are
presented to decision makers. Good policy analysis usually consists of
the following steps:
1. Define the problem. What is the issue? Why is it a problem? Who is
affected? How are they affected? To what extent is it a problem?
Needs should be examined in terms of whether they are supported by
normative, comparative data, or whether they are simply expressed
needs.
2. Determine the current policy. What are the statutory requirements,
constitutional provisions, regulations, executive orders, court orders,
federal mandates, policies, procedures, and other requirements related
to the problem? What is currently being done? What resources are al-
located? What are the results of programs and services that address the
problem?
3. Research the issue. What do the people affected by the problem
want? What is the current thinking of experts, based on normative or
comparative data? To what extent are other states, public and private
entities, and nonprofit organizations successfully dealing with the
problem.
4. Develop alternatives or options. The range of alternatives usually in-
cludes maintaining the status quo and letting the private sector resolve
the problem.
5. Assess each alternative. What are the advantages and disadvantages?
What are the costs and benefits to both the public and private sectors?
Who supports and who opposes each alternative? How high a priority
is this for the governor, legislators, and taxpayers? How would it be
implemented? What resources are needed to implement each alterna-
tive?

Concepts
Alternatives for This analytic approach is appropriate for analyzing controversial issues
Consi deration and initiatives because it provides information important to decision mak-
ers about an array of alternatives for consideration. Because it requires
considerable time and resources, budget analysts do not often conduct
full-scale policy analysis. More often, they summarize an analysis pre-
pared by an outside source, and provide an outline of the findings and
conclusions for decision makers.

Concepts
Assessing the Political Implications of

Budget Actions
Maintaining attention to political implications of budget and legislation
proposals is an on-going responsibility of the budget analyst. When deci-
sion makers act on a recommendation, they also want to know the range
of responses that can be expected as a result of their action.
To accurately assess the political implications of budget actions, budget

proposals must be carefully studied to determine if the action is related to
an existing political issue or situation and what the direct or indirect effects
might be. These effects could include partisan conflict, legisla-
ture/administration conflict, intergovernmental conflict, and personality
issues.
Political Maintaining awareness of political issues and personalities and being sen-
Environment sitive to what effect the agency proposal or other issue being analyzed will
have on the political environment is critical. Toward this end, analysts
must stay well informed about the political environment surrounding their
areas of responsibility. This involves analyst attention to legislative action
and comments, reading extensively (for example, newspapers, related
trade publications, and local government and interest group newsletters)
and talking regularly with agency and legislative staff about programs and
issues. Line agency staff usually have the most direct knowledge of the
political background and implications of budgetary and legislation pro-
posals.
Keeping Information Understanding political implications is important, but an analyst should

in Pe rspective not let the political environment affect the conclusion of the analysis.
While it is appropriate to mention in the analysis that a preferred policy
will negatively impact, for example, the district of the Speaker of the
House, it is not appropriate for this fact to dictate the outcome of the
analysis.

Concepts
Analyzing Program and Service Delivery

Alternatives
Analyzing program and service delivery alternatives involves actively in-
vestigating and evaluating options for providing and financing public
goods and services. This analysis provides policy and decision makers
with data needed to determine if more effective or efficient means can be
employed to provide services to customers, assuming that program goals
and objectives are not in dispute.
Assessing the This type of analysis is similar to policy analysis in that alternatives are
Alternatives identified and the pros, cons, and other related considerations for each
alternative are assessed. An assessment of alternatives should address the
following questions:
• Is this activity in accord with the mission of this agency?

• Is this a mandated program?
• Is this the appropriate agency to engage in this activity?
• Is this function available from other governmental or nongovernmental
entities?
• Are there policies established by law, regulation, or the constitution
which govern how this program or service is to be delivered?
• What resources are required (staff, equipment, regional offices, auto-
mated systems, etc.) and do they already exist in the agency?
• Do other entities carry out similar functions and already have the re-
quired resources in place?
• Who are the customers?
• Could automation be introduced to improve efficiency or effective-
ness?
• How do other states address the need for this service?
Understanding the This approach can be used when analyzing current or proposed operat-
Programs ing or capital programs, especially when program expansion, privatiza-
tion, elimination, or transfer of a program to another entity is being con-
sidered. Analyzing program and service delivery alternatives is particu-
larly necessary when initiatives are advanced which would change the
nature, scope, cost, or customer base of the program. For a budget ana-

Concepts
lyst to be successful in program analysis, a comprehensive understanding

of how programs and services work is crucial. Toward this end, a budget
analyst should devote a significant amount of time to ongoing agency re-
view -- visiting programs and talking to clients and program directors.

Concepts
Making Comparisons to Other States

This type of analysis can answer questions about a state’s policies, pro-
grams, organization, and financing in relation to national norms or to
other states and groups of states.
Basic Principles Making comparisons with other states is a relatively easy process. The fol-
lowing are some basic principles to follow:
1. Know the resources available (as well as the reliability of the data) in
the areas of population, economics, government finance, natural re-
sources, education, health, public safety, transportation, and social ser-
vices. Keep in mind that unique state mandates, organizational structures
and staffing levels, state/local assignment of responsibility, extent of priva-
tization, and other factors can significantly affect the data you collect and
its relevance to your analysis.
2. Determine the parameters or the basis for selecting other states or

groups of states for making the comparison.
3. Make valid conclusions about the significance of time series and com-
parative data considering any anomalies or data reporting issues which
could affect the comparison.
Information Principal sources of comparative information include:

Sources
• US Bureau of the Census’ Census of Governments, Government Fi-
nance Series
• State Policy Reports and State Budget and Finance
• State Fact Finder (State Policy Research Inc.)
• Council of State Governments
• National Association of State Budget Officers
• Direct requests to other states for comparative information.
Gaining Comparative analysis is a technique that is appropriate for confirming as-

Perspective sertions that a policy issue is substantial or that the state overfunds or un-
derfunds a particular area. It can quickly and economically bring an issue
into perspective in the absence of more in-depth policy, program, or fi-
nancial analysis. Important executive and legislative decisions are often
made based on this type of analysis.

Concepts
Analyzing Historical Spending Patterns

Understanding and analyzing historical spending patterns of state agen-
cies and programs is one of the basic functions performed by budget ana-
lysts. Knowledge about the agency’s spending patterns will help an ana-
lyst assess whether programs are being operated efficiently and effectively
and also strengthen an analyst’s understanding of the entities or clients
receiving funds or services from the agency.
Relating Funds and The analysis of historical spending patterns focuses on the relationship
Services between expenditures and the agency’s mission, services, and customers.
These relationships are identified through supporting documentation and
narrative that describe how programs are operated and services are deliv-
ered. Such information should clearly identify the customer base and the
expected outcomes or results of the services. The information should
connect the relationship between the funds spent and the services pro-
vided. The basic question is: what does it take in the way of funds and
personnel to ensure an agency meets the needs of its customers?
Questions to In reviewing historical spending patterns, a series of questions should be

Consider routinely considered. This approach is appropriate for any analysis that
involves the allocation of funds for a specific program or service. Portions
of this type of analysis may also be applied to the review of new programs.
• Is spending in line with the amounts budgeted for a particular activity

or function?
• Are there discrepancies that recur from one year to the next?
• How has spending changed over time? Are these changes attributable
to known events?
• Do the activities represented in the expenditures fit within the mission
of the agency?
• Are activities represented that were never authorized?
• Is an activity staff intensive? Do the expenditures match the staffing
levels that exist?
• Are the position allocations consistent with the activities of the agency
and are they funded at the proper amounts and from the proper fund
sources?
• Are positions fully funded or do they reflect adjustments for turnover
and vacancies?

Concepts
• Are nongeneral fund appropriations consistent with revenue forecasts?

• Are the revenue forecasts consistent with historical patterns?
• Are the expenditure details appropriate for the activity or program?
• Has the agency experienced funding shortfalls in any areas?
• What statutory or regulatory changes have occurred and how will they
affect the agency’s mission, activities, and spending patterns?
• How many customers are being served and will this number change?
• Is a more effective and efficient approach to delivering services avail-
able?
• Has the customer base changed?
• Have the services to this customer base changed? Should they?
• Are the assumptions used to create past funding levels still valid?
• Are mandated services, activities, or programs appropriately funded?
• Do past expenditures reflect any major one-time items?
• Have efficiency measures, such as the consolidation of offices, privati-
zation, or the introduction of automation, had the desired/promised
impact on program expenditures?

Concepts
Examining Proposals for New Spending

This approach is similar to the analysis of historical spending patterns, but
there is an important difference -- historical data is not available. This ap-
proach involves critically examining requests from agencies for new fund-
ing. The agencies make such requests based on a desire to implement
new initiatives or the need to supplement existing operations. Critical ex-
amination involves assessing whether such proposals are necessary to
conform with the law, to serve the public, and to address effective and ef-
ficient program operations.
Criteria to Consider In analyzing new spending proposals, analysts should determine whether
the proposal:
• Provides a valuable service to the public,
• Is critical to the operation of state government,
• Addresses important legal issues (for example, state or federal man-
dates) for which the state must make provisions, or
• Is one of the governor’s policy priorities.
If the proposal meets any of the criteria listed above, then new spending
may be warranted.
Types of Analysts should be proactive in requesting justification from the agency

Justification and should request the following types of justification:
• Workload measures (for example, number of restaurants to be in-
spected by one health/safety inspector per year) to justify staff addi-
tions,
• Performance measurement data (for example, number of students re-
ceiving computer training) to assess outputs,
• An explanation of the methodology used to calculate the new spend-
ing needs,
• An explanation of why the agency cannot absorb the cost within exist-
ing resources,
• A projection of the rate of growth in the future costs.
Assessing and The analyst also should question how other states may structure similar
Verifying Information program operations and if non-state revenues (for example, federal dollars)
might be available to leverage state funds. The analyst should recalculate
all cost figures submitted by an agency and verify agency figures with out-

Concepts
side experts, if necessary. If, after receiving agency information and per-
forming independent research the analyst is unable to write his/her own
justification for new spending, then most likely, the proposal cannot be
justified.
Times When Useful During development of the governor’s budget, this approach should be
used to evaluate the merits of agency proposals for new spending. This
approach would also be used at any time during the year when a request
for emergency spending is received.

Concepts
Using Unit-Cost Analysis as a Tool

Unit cost analysis is a useful tool to verify costs and compare the cost of
goods or services. Usually the common unit of measurement for such
analysis is the dollar. Often, the “end product” produced from unit cost
analysis is quite different from the initial assumption.
Framework for Unit Unit cost analysis is especially useful when assessing alternatives. It af-
Cost Analysis fords the opportunity to explore and chart the financial advantages and
disadvantages of an intended action. When conducting such analysis,
the analyst typically:
• Reviews expenditure trend data over a given time period,

• Utilizes unit cost data (for example, average costs and cost per unit of
output),
• Looks at comparative information, and
• Forecasts outcomes.
Performance Unit cost analysis can also be a tool for determining performance out-
Outcomes comes by showing how much can be achieved for a given cost. Evidence
from the analysis could suggest efficiency reductions in both personnel
and equipment needs. For example, in an agency where the existing pho-
tocopying equipment is old, requires costly maintenance, and needs staff
oversight during peak production periods, the purchase or lease of faster
and “user-friendly” copiers would likely:
• Increase productivity due to less down-time,

• Provide opportunities for equipment consolidation, thus generating
savings through the elimination of costly maintenance, and
• Eliminate the need for attendants during peak production time.
Assessing Funding Unit cost analysis exposes details that would not otherwise surface. It can
Re quests be most beneficial in assessing agency funding requests to purchase or
lease equipment and in examining various options. Purchasing or leasing
photocopiers, personal computers and related maintenance are examples
of where unit cost analysis can be useful to the analyst in rendering rec-
ommendations.

Concepts
Costing Out Personnel Services

Costing out personnel services is a basic function of the budget analyst. It
is commonly accomplished with one of two principal techniques. The
first technique involves computing an average salary for the organization
unit, program, or agency. The second technique involves utilizing a de-
tailed compensation plan that lists the pay rates of agency positions by
salary grade and step.
Calculating Average salary is computed by dividing the most recent expenditures for
Average Salary salaries by the number of filled positions during the same time period.
Whenever possible, this average should be computed based on the same
or a comparable unit of organization. For example, if calculating salaries
for a data processing division, it is best to use the average salary for that
division in the past or for a comparable organizational unit, rather than
the salary average for the entire agency. The total personnel services cost
is determined by multiplying the salary average by the total number of po-
sitions and then multiplying the result by the appropriate fringe benefit fac-
tor, plus an adjustment for scheduled salary increases.
Compensation Plan The compensation plan technique relies on a detailed compensation plan
Technique for the state or agency. The plan lists the rate of pay for each position in
the agency and indicates the appropriate fringe benefit costs. For new po-
sitions, if the agency does not provide the actual salaries of the most re-
cent hires in the pertinent job classification, the appropriate strategy is to
use the first step of the pay grade, unless the agency demonstrates it can-
not hire qualified individuals at this salary level.
Assessing the One of the two described techniques is common to the analysis of most
Techniques budget proposals. The average salary technique is best used to analyze
the cost of positions in a current or past budget, since it permits an esti-
mate of the cost of vacant positions. The compensation plan technique is
best when costing out entry level salaries for new positions or filled posi-
tions.

Concepts
Costing Out Nonpersonnel Services

This analytic approach can be described with a fairly standard framework
for arriving at or verifying the estimated requirements for program costs
other than salaries and fringe benefits.
Framework for 1. Cost Categories - Identify the normal categories of nonpersonnel ser-
Calculation vices costs related to the program (for example, telecommunications,
equipment, office space, contractual services).
2. Cost Drivers -For each cost category, determine whether the major
cost driver can be identified (for example, client caseload, service re-
quests, employee payroll).
3. Cost Driver Units - If the cost driver can be identified, determine the
number of cost driver units anticipated for the program (for example,
2,000 clients, 10,000 information requests, 50 employees).
4. Unit Cost - Using historic or actual expenditure information from simi-
lar programs, develop a per unit cost estimate for each cost driver (for
example, $10 travel expense/client; $2 printing and office supply
cost/information request; or $2,000 in office rent/employee).
5. One-Time or Continuing Cost - Determine whether any of the cost
categories includes a one-time start-up or other unusual temporary
program cost.
6. For each category of cost calculate:
Cost Driver Units X Cost per Unit X Life of Program = Anticipated Cost
(if continuing cost)
2,000 Clients $10 Travel Expense 2 Year Program $40,000 Travel Cost
10,000 Info Requests $2 Printing/supplies One-time cost $20,000 Printing &
Supply Cost
7. For cost categories in which the cost driver is not identifiable, use his-
torical or similar program expenditure information to estimate the cost
as a percentage of some other related, known cost. For example,
building maintenance and cleaning for similar office space tend to av-
erage 10 percent of total rental charges.
This type of analysis is important for developing and verifying nonperson-
nel services costs estimates for new or existing programs that have identifi-
able workload measures and categories of cost.

Concepts
Sizing Up the Implications of Capital Proposals

on Operating Budgets
There are a number of factors to consider when analyzing how a capital
budget proposal may affect an agency’s operating budget.
Operating and Determining funding for existing buildings usually involves the use of
Mainte nance Costs prior year expenditures and other budgetary factors (salary regrades, one-
time costs, inflation, etc.). To calculate the operation and maintenance
costs to support a new building, the analyst will often base the analysis on
some type of formula which includes total square footage or costs in-
curred for similar facilities.
Personnel Identifying personnel-rated costs for a new building is a three step process.
First, funding guidelines are derived by dividing existing assignable square
footage in established buildings by the number of full-time equivalent
physical plant positions. Second, this ratio is divided into the assignable
square footage for the new building to yield the number of additional FTEs
(full-time equivalents) needed to operate and maintain the new building.
Third, calculation of personnel costs is based on the average employee
salary, including benefits (generally based on a state compensation plan),
multiplied by the required number of FTEs.
Nonpersonnel The nonpersonnel services (utilities, property insurance, etc.) are typically
Services based upon the historical cost of energy, supplies, equipment, and con-
tractual services incurred by each agency or institution. In addition, in-
dustry standards, staffing formulas, and review of similar facilities may as-
sist in the determination of non-personnel operating costs required to sup-
port a new facility.
New vs. Existing This approach is appropriate when trying to determine the operating costs
Facility associated with the construction of a new facility. Assessing historical op-
erating costs can also help to determine if renovation of an existing facility
(for example, to make mechanical or energy conservation improvements)
will yield savings.

Concepts
Assessing Expenditure Forecasts

Budget analysts do not often conduct formal expenditure forecasts. How-
ever, they are often called on to examine such forecasts as part of their
budget analysis. Forecasting expenditures is usually performed by using
one of three methods: 1) exponential smoothing, 2) time series analysis or
3) regression analysis. The first two forecasting methods use only previous
observations on the item to be forecast. The third uses information about
other variables that are thought to have an affect on the item for which
one desires a forecast.
Forecasting • Exponential smoothing is a sophisticated form of moving average that

Methods weights recent observations more than older observations and may
take into account trends and seasonality in the historical data.
• Time series analysis includes exponential smoothing but also takes
into account persistent temporal patterns in the data such as affects
that take time to have their full impact or forecast errors in one period
that are related to forecast errors in another period.
• Regression analysis is different from these other techniques in that it
measures the relationship between the forecast variable and other
variables. Then, expected changes in the predictor variables are used
to calculate expected future values of the forecast variable.
Time series is preferred to exponential smoothing, mainly because it takes
into consideration several additional factors not addressed by exponential
smoothing. However, exponential smoothing is more appropriate in
cases where there are insufficient data for time-series analysis, which re-
quires a minimum of about sixty observations on the forecast variable.
Regression analysis can produce the best forecasts, but it requires both the
availability of data and good forecasts on other variables that are related
to the forecast variable.

Concepts
Finding Financing Alternatives

In an environment where programs compete for scarce resources, the abil-
ity to find innovative financing alternatives can determine the success or
failure of implementing an activity. This approach addresses steps helpful
in finding financing alternatives.
Framework for The following steps are typically taken:

Analyzing and
1. Analyze the activity to identify the activity’s beneficiaries, regulated
Reviewing entities, or “instigators” of the opportunity, need or problem addressed
Alternatives by the activity.
2. Analyze the activity to determine the true costs and to whom the costs
belong.
3. Review how other state agencies, governments, and the nonprofit and
private sectors fund the activity.
4. Review the revenue source codes in the state chart of accounts for
ideas on possible funding alternatives (for example, general fund reve-
nues, dedicated fees, or intergovernmental transfers, including grants
and donations).
5. Determine the following characteristics of potential fund sources:
• revenue generating potential,
• ease and cost of administration and the appropriate level,
• reliability of the revenue stream,
• incentive effects.
6. Consider non-funding solutions such as privatization, outsourcing, re-
ciprocal agreements, private sector market incentives, and volunteer-
ism.
7. Determine the funding mechanism (for example, direct appropriation,
pay-as-you-go or sinking fund, and debt financing).
8. If fees or taxes are the source, does the activity require seed money or
a loan to cover the initial start-up?
This technique is appropriate whenever budget analysts are looking for
fund sources for a new or expanded activity to support critical needs or to
implement a governor’s priority. Such analysis can also provide for a new
funding mechanism for current activities.

Concepts
Analyzing Costs and Benefits

Cost-benefit analysis is a traditional method of determining the preferred
policy choice in a world of limited resources by quantifying the advan-
tages and disadvantages associated with each possible alternative.
Framework for Cost-benefit analysis begins by outlining the current state of affairs and the
Cost-Benefit Analysis desired end-result of a particular situation. Analysts then compose a list of
all possible alternatives which might be pursued. For each alternative, the
costs and benefits, both tangible and intangible are estimated and the
methodology and assumptions used to arrive at those estimates are dis-
closed. A choice is then made based on a comparison of both the total
benefits and costs as well as the ratio of benefits to costs for each alterna-
tive.
Applying Cost-Benefit Cost-benefit analysis can be applied to many situations, but it is most use-
Analysis ful where the costs and benefits are set out in financial terms, since the
fungible, quantifiable nature of money lends itself to relatively easy com-
parison. Cost-benefit analysis is less useful when applied to situations that
are difficult to quantify, such as the benefits derived from preserving an
endangered species, or the “inconvenience” cost of buckling one’s seat
belt. In such situations cost-benefit analysis may not produce a clearly
preferred alternative, but it may reduce an unwieldy problem to more
manageable, though still not quantifiable, components.

Concepts
Analyzing Organization Structure and Staffing

This analytic approach is appropriate for analyzing the impact of changes
in workload, changes in the agency’s responsibilities, changes in the
agency’s mission, consolidation of two or more programs or agencies, and
budget reductions and downsizing. It can also be used when manage-
ment problems are identified.
Framework for The analysis of organization structure and staffing involves many standard
Analyzing Structure analytic techniques. It involves determining the availability of information
and Staffing to be collected; collecting information from organization charts, personnel
records, interviews, surveys, observation, and other research methods;
conducting analysis; synthesizing information; and presenting findings to
decision makers. A comprehensive analysis can consist of the following:
• What are the objectives of the analysis or what is the problem? These
can include changes in workload, responsibilities or mission; consoli-
dation of programs or agencies; budget reductions and downsizing; or
management problems.
• What is the current staffing pattern and organizational structure? How

many staff are employed in the various positions? How do they spend
their time? What is the span of control for each activity? What is the
chain of command? How many levels of hierarchy are there? What is
the role of any regional and local offices? Is decision-making central-
ized or decentralized? Is authority consistent with responsibility?
• What are the agency’s mandated responsibilities and priorities (includ-

ing statutory provisions, federal requirements, executive orders, and
other requirements)? Is the organizational structure aligned to reflect
these requirements and priorities?
• What is the workload? What workload measures are used to deter-

mine staffing needs? What processes and procedures are used to carry
out the work? Is the work being accomplished effectively and effi-
ciently? To what extent are the customers and constituent groups satis-
fied with the quality, effectiveness, and timeliness of the agencies pro-
grams and services?
• Are there opportunities to accomplish work more efficiently or effec-

tively? What technology is available and how is it utilized? What

Concepts
training and staff development opportunities are regularly provided to

staff?
• What is the turnover and vacancy rate? What is the compensation

structure? Are there opportunities for promotion? What is the organ-
izational culture? Is it congruent with management expectations?
• Is the problem the organizational structure, staffing level, or manage-

ment shortcomings?
• What resources are needed, or what savings can be generated, if

changes in the organizational structure and staffing are made (includ-
ing salaries and benefits, office space, technology, and training)?
What activities can be reprioritized or eliminated, or to what extent is
lower quality work acceptable?
Information Budget analysts do not often conduct detailed analyses of organization

from Othe r s structure and staffing. Normally an analyst will use a portion of this ap-
proach to meet a specific need or use an analysis conducted by the
agency itself or another external party to support decision making.

Concepts
Determining the Fiscal Impacts of Legislation

The states vary substantially in their approaches to fiscal impact analysis -
the examination of proposed legislation to determine whether it would
affect revenues, expenditures, or appropriations. In addition to account-
ing for the direct impacts of legislative proposals, this analysis can also in-
volve identifying indirect effects the proposal may have on other entities
or revenue/funding streams.
Executive and Where the state legislature has extensive fiscal analysis capability, the ex-
Legisl ative Offices ecutive and legislative branches may run parallel analytic systems. The
executive system may be designed to serve only the governor and his/her
policy staff. In some states, the executive budget agency reviews for the
governor only legislation proposed for his sponsorship and those bills that
have been passed by the legislature, with a view to the governor’s ap-
proval/veto decisions.
Governor’s Office In states where the governor’s budget office analyzes the fiscal impact of
Analysis all proposed legislation and has statutory responsibility to centrally man-
age the review of every bill for fiscal impact, it also may compose policy-
oriented bill summaries. Formal fiscal impact statements are written
within several days of receipt of the printed bill and are distributed to the
legislature, including finance and appropriations committees. The gover-
nor, cabinet secretaries, and legislative committees often call for informa-
tion on fiscal impact statements.
Agencies Provide In some states, affected executive agencies provide information and fiscal
Information estimates to the state budget office. Then, the budget staff may discuss the
estimates with multiple agencies regarding their respective interpretations
and estimates. The budget office staff issues the final estimate based on
their independent judgment. Line agencies may be prohibited from issu-
ing competing fiscal analyses. Budget office staff may revise fiscal impact
statements at every revision of the bill.
Unanticipated Some type of fiscal impact analysis related to pending legislation is neces-
Budge tary Effects sary to avoid unanticipated budgetary effects of new laws. The locus, ex-
tent, scope, and coordination of the fiscal analysis function varies among
states. Most commonly, for bills determined to have a fiscal impact, the
state budget office coordinates the analytic process and issues an authori-
tative formal analysis.

Competency Test
Competency Test
Q1: What information does a newly assigned budget analyst need to un-
derstand the history, mission, legal requirements, and mandates as-
sociated with an agency?
Q2: You have just received information that the state Supreme Court
ruled in favor of federal retirees, that federal pensions are not legally
taxable by the state. What information do you need to understand
this ruling and what would you need to know to determine its finan-
cial implications for the state?
Q3: What kinds of information do you typically need to conduct policy

analysis?
Q4: The state agency responsible for disaster response and recovery pro-
poses that the state fund hazard mitigation projects, a traditional lo-
cal responsibility. More projects would be eligible for this funding
than the agency request would cover. How would you go about
identifying the issues and the political implications of this proposal?
Q5: What types of information does an analyst need to determine viable

program or service delivery alternatives? Give some examples.
Q6: What steps would you take to analyze the information collected?
Q7: What factors would you consider in creating a list of states with
which to make comparisons about state policies and finances and
where would you go to obtain the data?
Q8: What information should be included in a budget submission?
Q9: What steps would you take to analyze an approved budget?
Q10: What is the value of variance and trend analysis? What does it tell
you?
Q11: You have received a $10 million request to fund a new vehicle
emissions program. In order for you to assess the proposal, identify
the most important questions you would require the agency to an-
swer.
Q12: An agency with a tight budget recently had a power surge that de-
stroyed most of its personal computers, none of which were covered
Competency Test
by insurance. Describe how you would determine the most cost ef-
ficient means of replacing the computers.
Q13: An agency head contends she has insufficient funds in her current
budget to cover payroll. How would you confirm or refute this
claim?
Q14: Your assigned agency has requested five new positions to initiate a
quality assurance unit. How would you determine the cost of the
five new positions?
Q15: Develop a two year nonpersonnel services cost estimate in the fol-
lowing three categories for a five person payroll processing unit serv-
ing a 5,000 employee agency. The following information is based
on information from similar operational units.
1. Computer equipment at $3,000 per payroll processing em-
ployee.
2. Office space at 100 square feet per payroll processing em-
ployee at $10 per square foot.
3. Computer operations charges at 10 cents per bimonthly pay-
check processed.
Q16: An agency requests a capital project for major improvements to its

heating and cooling systems. How would you assess the impact on
the operating budget, if any?
Q17: An agency requests a capital project for construction of a new in-

structional facility. How would you go about calculating the addi-
tional operating and maintenance costs?
Q18: For a given forecast variable, how do you determine the appropriate
forecasting approach?
Q19: The state forestry association seeks a general fund appropriation to

increase personnel and equipment for forest fire suppression. Their
campaign is based on preserving forest resources for future genera-
tions. What alternatives would you explore to finance such a pro-
posal?
Q20: The governor is concerned with the capitol city’s increasing traffic
problem, caused in part by his successful tax-reductions that have at-
tracted businesses to the city. He asks you, as transportation analyst,
to report on the situation and recommend, based on a cost-benefit
analysis, a plan to solve the problem. How would you respond to
Competency Test
this request? What variables would be included in your analysis?

What intangible factors are involved?
Q21: What factors affect an agency’s organizational structure?
Q22: How would you assess whether an agency’s staffing pattern is ap-
propriate?

Module 7: Decision Making in the
Budget Process
Overview State budgeting has several phases. Each involves literally hundreds of
decisions: some are technical, others turn on analytical matters, and
many are political. Theoretical models attempt to describe the complexity
of budgetary decision making processes. They try to capture what is done
and suggest what should be done. This module introduces the major de-
cision points in the state budgeting process, examines the role and mo-
tives of the participants during the various phases, and suggests ways for
budget analysts to improve their comfort level in making decisions that
demand more than technical expertise. This module also provides infor-
mation analysts need to handle the technical problems that surface at
critical decision points in the budget process. Technical issues influence
micro budgeting decisions and, in turn, both affect and are affected by
macro budgeting issues.
THEORETICAL MODELS OF BUDGETING ______ 93

TIMING AND THE BUDGET PROCESS _________ 97
MAJOR DECISION POINTS ______________________ 98
THE TRADEOFFS ____________________________ 99
THE BASE BUDGET _________________________ 100
REVENUE AND EXPENDITURE FORECASTS ___ 101
AGENCY BUDGET SUBMISSIONS _____________ 103
BUDGET STRATEGY_________________________ 105
APPLICABILITY OF STRATEGIC DECISION
MAKING IN THE BUDGET PROCESS__________ 107
THE CHANGE IN STATE BUDGET OFFICES ___ 109
ESTABLISHING A COMFORT ZONE ___________ 110
THE ROLE OF PROCEDURES AND GUIDELINES 111
THE NEED FOR TRAINING AND NETWORKS __ 112

Decision Making in the Budget Process
Concepts
Theoretical Models of Budgeting

A number of theoretical models attempt to describe how budgeting does
and should occur. Comprehensive rational models form the core of such
techniques as Planning, Programming, Budgeting Systems (PPBS), per-
formance-based budgeting, and zero-based budgeting. Incremental deci-
sion making models provide the basis for techniques such as decremental-
ism and target budgeting.
Comprehensive Ra- Comprehensive rational models of budgetary decision making use the
tional Models familiar assumptions of classical economics. Namely, voters are consum-
ers with rather complete knowledge of what they want and how they
might get it. Policy makers are producers that compete among themselves
on relatively equal terms for the attention and support of voters. Both vot-
ers and policy makers engage in rational decision making.
Elements of These models depict several steps in the decision making process. Typi-
Comprehensive cally, they have the following elements:
Rational Models
1. Budgets allocate resources toward items of public value or objectives.
2. Each public objective should be defined as clearly as possible.
3. Each alternative policy should be viewed as a way of achieving objec-

tives.
4. Each possible expenditure should be assessed in terms of its compara-

tive contribution to objectives.
5. Each possible expenditure should be systematically considered in

terms of its economic costs and benefits.
6. No decisions on expenditures should be made until all claims are in.
7. All decisions about taxes and expenditures should be made as part of a

unified budget process.
Achieving the Ideal Obviously, this ideal is impossible to achieve. It is hardly descriptive of
budgetary practice. Information is never as available, alternatives are
never as well formed, means and ends are never as well connected, and
tradeoffs are never as clear as the comprehensive model might suggest.
Incr emental Models There have been numerous attempts to develop more “realistic” models
of budget decision making. Incremental or “successive limited approxi-
Concepts
of budget decision making. Incremental or “successive limited approxi-

mation” models attempt to offer a better understanding of the various as-
pects of the process. They acknowledge both voters and policy makers
have incomplete knowledge of what is desired and how it might be ob-
tained. They emphasize the halting, often incomplete nature of budget
decision making and recognize the way in which political motives often
shape decisions. They typically assume that budgeting will focus on only
a small part of the expenditures to be allocated, precisely because the
budget is enormously complex and the process is repetitive.
Characteristics of Such models typically are:

Incremental Models
1. Preoccupied with only the limited set of policy alternatives that are po-
litically relevant and typically are only incrementally different from ex-
isting policies embedded in the base budget,
2. Concerned only with those aspects of policies on which alternatives

differ,
3. Structured such that policy is viewed as a succession of choices,
4. Concerned only with the marginal values of various objectives,
5. Composed of a mix of evaluation and empirical analysis, and
6. Centered on a small number of issues of importance.
As it turns out, even incrementalism has difficulty capturing the texture of

budgetary decision making. Any number of researchers have shown that
the budget base is not nearly as stable as incrementalists might believe.
Agency budget shares can change dramatically over time. Legislators and
governors frequently press for large spending changes. The base, espe-
cially in fiscally tight times, is not beyond examination.
Micro Budgeting Incremental decision making models often deal primarily with micro
Models budgeting decisions -- decisions dealing with programs, activities, or line
items. Budget analysts focus primarily on the technical aspects of the
budget process. Most of the work is performed within a set of rules de-
signed to guide and improve the decision making process in addressing
individual agency requests for line-item and program expenditures.
Technical issues are the stuff of everyday budgeting but also the under-
pinning of larger macro budgeting success.
Macro Budgeting In recent years, macro budgeting has attracted greater attention with a fo-
Mode l s cus on high level decisions concerning spending, revenue, fund aggre-
Concepts
Mode l s gates, and relative budget shares.
Federal mandates with formula driven expenditures have combined with

tighter fiscal constraints to increase the need to develop other perspectives
on how state budgets can and should be constructed. While micro budg-
eting issues remain fundamental to the process, the attention given macro
budgeting signals a profound shift in both the focus of budgetary decision
making and the concerns of budgetary actors. Strategic budgeting, for
example, is a form of macro budgeting that views the budget from the top
down within a set of macro concerns. It emphasizes such factors as the
underlying demographics behind the budget and the performance and
structure of the economy. It recognizes that federal initiatives, constitu-
tional concerns and court actions are often fundamental to the shape the
budget ultimately assumes.
Influence of the Mod- For all their inadequacies, the influence of simplified models should not
els be underestimated. Their theoretical and practical implications are evi-
dent in the ways in which budget officials approach decision making. In-
crementalists, for example, strive to see things as they are. They are often
the budget realists -- skeptics about the prospects for large scale change
and meaningful planning. Comprehensive budgeters put an emphasis on
how decision making should be -- often dismissive of doing things the way
they have always been done.
Contrasting the Mod- These are not differences without meaning. They help explain why the
els focus of budgeting may vary so much from one setting to another and
from one time to another in the same setting. On the one hand, compre-
hensive models provide the norms against which professional budget
processes are often judged. Incremental assumptions, on the other hand,
can help clarify why concrete budgeting problems are approached in the
way they are. Why, for example, are some items “beyond the reach” of
serious analysis? Why is it often implicitly assumed that there is more “fat”
in larger budgets than in smaller ones? Why are requests that reflect stable
growth often given greater credibility and less scrutiny than ones that are
more volatile? Why are formula-driven requests often treated differently
than ones that result from agency priority setting processes?
Difficulties with the Despite their differences, both the comprehensive and incremental ap-
Models proaches share a number of similar concerns. They usually focus on
agency budgets or smaller program components and not on major func-
tions or broad aggregates. Until recently, both approaches emphasized
micro budgeting with concerns for operational and managerial controls.
Neither really explains the underlying dynamics behind aspects of the
budget which can make various items uncontrollable. Both tend to look
Concepts
at the budgeting process too narrowly – focusing only on the agency re-
quest, executive review, and legislative approval.
Numerous Ap- In reality, budgeting usually involves both approaches and more. It is not
proaches to Budget a case of either comprehensive or incremental decision making. It is a
Decisions matter of degree. The complex task of putting together a budget in a lim-
ited amount of time requires a variety of techniques. It comes down to
such questions as: How can the analytical tasks facing the analyst be
simplified? To what extent can or should the process focus on marginal
matters as opposed to long-term issues? What sort of message will a deci-
sion convey? Will it establish a precedent? Does it undercut possibilities
in the future? What behaviors will it encourage? How soon does this de-
cision have to be made? Where should the focus of decision making lie?
How well are the activities and performance behind the dollars under-
stood? The answers to these questions are not easily modeled. They re-
volve around a more general understanding of the budget process, the
roles and motivations of its many participants, and the decision points that
influence the final shape of the budget.

Concepts
Timing and the Budget Process

Budgets are bound to a certain schedule, usually an annual or biennial
fiscal year. The final budget is the product of many separate decisions,
and each decision must be made by a specific date. The deadlines force
action -- a highly prized commodity in any organizational setting. To a
greater or lesser degree, each of these decision points is dependent on
one or more of the preceding points. As a consequence, the action sur-
rounding each decision occurs in short, often frenzied bursts well known
to all budgeting veterans.
Budget Format and Decision points in the budget process require attention to both micro and
Budget Instructions macro budgeting issues. Budget format, for example, demands the closest
possible attention. It typically establishes the way in which budget infor-
mation is to be captured and reported. In many respects it involves the
most mechanical decisions in the budgetary process and, as part of the
technical underpinnings of the budget, may seem less important than the
larger policy and financial objectives the budget is supposed to realize.
Still, there can be little doubt that format profoundly affects the larger dis-
cussion of the budget that will follow. Budget instructions specify not only
what and how information will be reported, they also limit the range of
possibilities that may be entertained. Specific dollar-level ceilings, and
some required ranking of priorities among programs are increasingly
popular ingredients guiding the preparation of agency requests. These
elements have stark implications for ongoing budget deliberations.

Concepts
Major Decision Points

As a practical matter, some points in the budget process are especially
important. These decision points will vary from state to state, but typically
include:
• Generating financial forecasts,
• Developing the governor’s strategic posture,
• Framing the parameters for agency preparation of their proposals,
• Setting the spending and performance baselines,
• Developing the agencies’ submissions,
• Producing the governor’s recommendations,
• Setting the legislative subcommittee allocations,
• Positioning for legislative conference and negotiations,
• Composing the executive veto,
• Issuing instructions for initial execution of the enacted budget,
• Providing the guidelines and procedures for implementation, and
• Establishing the framework for oversight and evaluation.

Concepts
The Tradeoffs
Each major decision point contains varying blends of technical, analyti-
cal, policy, communication, and political elements. Few decisions are
solely technical. Most have larger implications than may be obvious.
Consider, for example, a spending baseline. How are changing price lev-
els to be treated? Are all non-recurring items excluded? What package of
expenses is associated with various activities?
Policy Decisions and Yet just as clearly, some elements of the baseline emerge from policy
the Baseline judgments with significant consequences for the overall budget. The
workload implications of current law and current administration are fre-
quently a matter of some contention in constructing the baseline. Simi-
larly, the interpretation of statutory requirements in constructing the
spending baseline is often a matter of some controversy. When these mat-
ters involve issues such as staffing new prisons or funding additional
Medicaid caseloads, they can have substantial impacts on the shape of
the final budget.
Making Judgment The need for judgment in the budget process cannot be eliminated. Of-
Calls ten, custom and practice limit the need for dramatic decisions. This is of-
ten the case regarding financial forecasts, agency budget instructions,
spending and performance baselines, initial execution of the enacted
budget, and budget implementation. Each involves techniques for simpli-
fying and resolving a complex set of issues. The techniques limit the
range of decisions. Yet even these matters can become contentious at
times when the implications of seemingly technical issues adversely affect
the interests of participants in the process.
Discretionary Deci- More frequently, decision points that revolve around the less technical,
sions more discretionary aspects of the budget development are the most diffi-
cult. These include developing the governor’s strategic posture, produc-
ing the governor’s recommendations, positioning for legislative confer-
ence and negotiations, and composing the executive veto.

Concepts
The Base Budget

The first significant spending decision in each budget cycle typically deals
with the “base budget.” The base budget is essentially the next fiscal
year’s cost of implementing this fiscal year’s legislative decisions. As such,
it starts with the current year appropriations, deducts current year non-
recurring activities and annualizes partially-funded programs from the cur-
rent year (for example, prisons that may have opened part-way through
the fiscal year). Usually, a base budget will also provide the funds to op-
erate institutions projected to open in the upcoming fiscal year and funds
for official forecast population growth (for example, school population).
Baseline Spending The base is the largest part of the state’s budget, and the decisions sur-
D e cisions rounding it are made almost entirely by gubernatorial and legislative
budget staff. The decisions typically reflect long practice and custom, and
may at times seem “automatic.” In fact, they are not. They are spending
decisions. They represent an agreement on what kind of information is to
be considered in subsequent decision making and how micro budgeting
decisions are to be simplified. Although the concept of a base budget
may offend and seem undemocratic, it does have the virtue of freeing
elected decision makers to concentrate on new issues - whether they are
reductions to the base or enhancements to it. The base is usually formu-
lated early in the adoption phase and has its greatest utility in those in-
stances in which both the governor and legislature agree about what is in
the base.

Concepts
Revenue and Expenditure Forecasts

Revenue and expenditure forecasts are made throughout the budget deci-
sion making process. With the initial forecasts, the governor and legisla-
ture begin to plan how available revenues will be used to address needs
in different policy areas (for example, education, criminal justice, social
services, and the environment).
The Big Picture Some revenue forecasts are used during the preparation phase to look be-
yond the one-year horizon of the typical budget. These forecasts com-
pare projected revenues against the future years’ cost of legislative deci-
sions. While they are useful for painting “the big picture” for gubernato-
rial and legislative decision makers, they are less useful for agencies.
Such forecasts are designed to force answers from the governor and from
legislative leadership to the question: “Given projected revenue growth,
the impact of current law and practice, and historical spending patterns,
what combination of revenue enhancements or spending reductions will
be necessary to reach a balanced budget?” Of course, different answers
should be expected from each actor.
Forecasts and Micro Revenue and expenditure forecasts shape and are fundamental to micro
Budgeting Decisions budgeting decisions in a number of ways. Comprehensive forecasts are
composed of individual projections of various revenue sources and pro-
gram spending. These projections become definitive and focused as the
budget process proceeds. They become the benchmarks against which
the prospects of activities funded from dedicated steams of revenues can
be assessed. Expenditure forecasts become more refined as agency re-
quests are received by the governor and legislature and even more so as
the base budget is developed. After the base budget is completed, pre-
liminary decisions on spending allocations to different policy areas are
made. It is then possible to identify basic micro budgeting considerations
such as the need to address shortfalls through fund shifts, reductions, or
the use of fund balances.
Forecasts and Final For states with a formal consensus revenue estimating process, there are
Allocations usually two official forecasts - one is made just before the governor sub-
mits his official recommendation and the other just before the legislature
completes its appropriations bill. At these times, final allocations to each
policy area are made and the budget recommendations (or, appropria-
tions in the case of the legislature) are completed. Depending on the re-
sults of the particular forecast, additional cuts may be made, additional
priorities may be addressed, previous cuts may be “bought back”, addi-

Concepts
tional revenue increases may be embraced, or some combination of all

the above implemented.

Concepts
Agency Budget Submissions

The states treat agency budget requests in different ways. In some, the re-
quest is sent solely to the governor where it is modified for submission to
the legislature. In others, it is submitted to both the governor and legisla-
ture at the same time. Some states give the agencies broad authority to
submit requests for the funding levels they consider appropriate; others
place significant restrictions of the submissions. Agencies may be required
to meet specific dollar level ceilings, to maintain only a minimum level of
services, to include necessary program improvement or rank their priori-
ties among programs.
Preparation and An agency’s submission may seem a straightforward decision -- one

Adoption geared to the budget instructions issued by the central budget office. In
fact, it is not so simple. Each agency must decide how best to get through
the preparation and adoption phases. Should the request be comprehen-
sive (include all funding that is needed) or customized (include only fund-
ing for those issues that are the highest priority)? Who is likely to support
or oppose the request?
Comprehensive Comprehensive requests put a dollar value on all the needs of an agency.
Re quests Since needs routinely exceed resources, comprehensive requests take on
the appearance of “wish lists” with issues running the gamut from the
mundane to the vital. However, comprehensive requests do have the vir-
tue of providing a modicum of “cover” when things go wrong, as they in-
evitably do. For example, when the Department of Corrections requests
additional resources to improve the physical and personnel security at its
prisons even though there is a scant possibility of funding, they have cre-
ated a record of having brought the matter to the attention of relevant de-
cision makers if escapes, riots, or other unpleasant actions materialize.
Disciplined Requests Disciplined requests, on the other hand, focus on a limited set of issues.
Implicitly, this type of request acknowledges resources - either fiscal (in the
sense that there is not enough money to do everything) or political (in the
sense that there is not enough support to get a particular issue adopted) -
are limited. This tactic expends less staff energy, but is riskier. It also re-
quires more political skill. It is not necessary to “waste a priority” on is-
sues that will likely receive funding despite agency action; alternatively, it
might be wise to rank an issue highly in order to garner support from other
actors.
Compromise Strategy Most agency submissions will opt for a compromise strategy that will list
all agency needs (comprehensive), but specify what the agency priorities
Concepts
for Requests all agency needs (comprehensive), but specify what the agency priorities
are (strategic). As a technical matter, agencies will try to walk a fine line
despite the instructions. Some items will be aggregated to obscure their
meaning; others will be highlighted to promote a concern. Neither
decremental budgeting techniques nor program-based performance meas-
ures will resolve the need for further analysis by central budget and
legislative staff. An agency’s submission is the result of series of agency
decisions and must be given independent scrutiny.

Concepts
Budget Strategy
The heart of the budget process, arguably, lies in a detailed, systematic
attempt to ensure that expenditures achieve intended objectives. Even
when the process is simplified, when shortcuts are taken and the demands
of comprehensive rational decision making are not met, budgeting re-
mains a painstaking process requiring an enormous effort. It must deal
with a bewildering number of technicalities and handle literally hundreds
of issues. Every budget analyst is immersed in micro budgeting detail. Yet
details alone will not produce a budget that serves the wishes of policy
makers, whether agency heads, chief executives or legislators.
Fulfilling Expecta- Policy makers expect the budget to support their initiatives, fulfill their
tions promises, and realize their priorities. Making this happen is no easy mat-
ter. Each participant in the budget process has similar expectations. Each
may influence the outcome to some degree, but few are in a position to
insure the outcome will be entirely to their liking. In the toss and tussle of
budgeting, what matters most is success. Good analysis, incisive policy
and well-framed recommendations are not enough.
Need for a Thoughtful It is precisely the realization that budgeting is such an untidy exercise that
Strategy requires governors and other policy makers to develop a strategic posture
toward the budget and the process by which it is enacted. A thoughtful
strategy must synthesize numerous concerns and, in the best cases, will be
applicable for several years. It will necessarily be founded on an analysis
of the existing budget and the underlying dynamics that shaped it. It can-
not ignore the major “drivers” behind spending patterns: demographic
and economic changes, federal mandates, revenue performance, and the
existing mix of programs. It must be sensitive to the opportunities and
threats in the political setting. What, for example, is the manner of coop-
eration among political leaders? How will the political calendar come
into play? Do circumstances favor certain major initiatives? Every strategy
must come to grips with the structural condition of the budget and contain
an assessment of how the economic cycle might influence the prospects
for action. It should be based on a financial forecast that provides both 1)
assurance that the political problems, which might occur if budget short-
falls were encountered during the short run, will be avoided, and 2) the
foundation for accomplishing initiatives in the longer run.

Concepts
Advantages Ideally, policy makers will adopt and stand behind an explicit, limited set
of policy and financial objectives that will guide their approach to the
budget over many years. This has several advantages. For example, it
can help establish an administration’s attitude to issues such as the use of
nonrecurring funds, fund balances, maintenance and repair, price level
increases and the like. It will help create the general tenor of an admini-
stration’s financial policy and set the general orientation toward matters
such as the need for new programs, improved productivity and new reve-
nue sources.
It is possible, of course, that a policy maker’s strategic posture will not be
Strategic Posture
set down consciously. Rather, it may unfold fitfully over time. Or it may
be considered anew each year. These sort of approaches offer policy
makers enormous flexibility, but they sacrifice all the advantages clarity
provides. For a central budget office, for example, they expand the num-
ber of decisions that have to be revisited and can undermine its credibil-
ity. They also create greater opportunities for participants to intervene
successfully in the process and may work to the disadvantage of the gov-
ernor’s priorities.
Changing Circum- Any strategy, of course, must be modified for changing circumstances.
stances Nevertheless, chances are that great portions of it will not be altered sub-
stantially. And as a general guide, an explicit strategy can help keep pol-
icy makers headed in the right direction and protect them from tempting
tangents and dubious practices. Perhaps as important, as it is changed to
fit changing conditions, a strategic decision making process provides an
explicit top-down framework within which financial, policy, and political
factors can be reassessed and the prospects of various courses of action
evaluated. For example, it offers a mechanism by which various alloca-
tions among major items in the ongoing budget process can be antici-
pated and assessed.
Strategic Considera- In the best cases, a policy maker’s strategic posture relies heavily on
tions analysis, but the analyses that it draws upon focus on the broad forces
shaping the budget. Ultimately, strategic considerations support top-down
decisions. Necessarily, these decisions may divert attention from particu-
lar problems or preclude further consideration of some pressing issues.
They may actually discourage the attention to detail that central budget
offices hope to promote. Therefore, it is important that the rationale that
supports a policy maker’ strategic posture is shared as widely as practica-
ble. Budget analysts must understand how and where their efforts fit into
the ongoing budgetary decision making process.

Concepts
Applicability of Strategic Decision Making in the

Budget Process
Strategic decision making is valuable only to the extent it helps produce
the governor’s recommendations, set legislative subcommittee allocations,
establish position for legislative conference and subsequent negotiations,
and guide veto considerations.
Governor’s Priorities The governor’s budget recommendations involve a series of strategic and
tactical considerations in which the central budget office is likely to play a
key role. Central budget staff is usually most concerned with the major
priorities on the governor’s agenda and with strategic financial considera-
tions. However, the budget office often has statutory duties that transcend
strategic considerations. As a consequence, they are likely to get involved
on other issues as well. Such matters can have statewide impact. For ex-
ample, the office will often make decisions dealing with the source of
funds used to support an initiative, with the use of nonrecurring revenues,
with statewide management issues, and with program efficiency and
spending cuts.
Agency Priorities Agency heads may have a strategic agenda, but it is likely to be more spe-
cific than that of the governor and the central budget office. The central
budget office and the agency necessarily work together in preparing the
governor’s recommendations, but their interests are not necessarily con-
gruent. The strategic considerations of the central budget office may im-
pair agency operations and services. In similar fashion, strategic consid-
erations and gubernatorial priorities may also run counter to the interests
of major constituency groups. These sorts of difficulties will arise and the
budget process must include a means by which such issues can be raised
in a timely fashion with the governor and other leading policy makers.
Legislative Priorities The budget and its underlying strategic vision must be able to accommo-
date change. The legislature will try to put its own stamp on executive
recommendations. While the legislative leadership usually has a well-
developed set of strategic concerns, ultimately they must pass a budget
that has support of the majority. Securing that majority can be difficult
and demand considerable compromise. While the governor may not be
an integral part of such maneuvers, his recommendations can set the stage
for legislative deliberations. That possibility must be anticipated and built
into the recommendations.
The Role of the Absent some acknowledgment of legislative prerogatives and preferences,
the governor’s recommended budget is likely to be widely ignored. Of
Concepts
E x e cutive Budget the governor’s recommended budget is likely to be widely ignored. Of

course, even such a fate can have significant strategic and tactical impor-
tance. It is important here to remember the admonition of Dall Forsythe,
former state budget director of New York. He cautions that “the legisla-
ture will not pass a budget that is more fiscally responsible than the one
(the governor) gives them.” The governor’s recommendations not only set
priorities and suggest change, they also provide guidance about the fiscal
practices that an administration tolerate. It is worth remembering that the
legislative imperative to produce a budget involves a constellation of
forces far more diverse than the ones facing the governor. This may di-
minish the ability of the governor to prevail on some particular issue and
even limit his ability to participate meaningfully at some stages of legisla-
tive decision making, but it can also increase his ability to help forge an
acceptable solution.
Budget Negotiations The governor’s role in budget negotiations and the extent of gubernatorial
and the Veto Process veto powers vary from state to state. Both budget negotiations and the
veto process are extremely fluid periods. They require a nimbleness that
may conflict with professional norms and violate technical maxims. It is
worth remembering, however, that even during such times professional,
technical, and analytical concerns have a part to play. They offer an in-
structive benchmark that can be invaluable. Consequently, even when
short-term, tactical considerations prevail, there is a need to maintain and
reinforce the fundamental decision support mechanisms of state govern-
ment.

Concepts
The Change in State Budget Offices

In recent years, state budgeting has undergone many changes. Tradition-
ally, accountants and business administration graduates dominated the
staff of agency budget offices. Central state budget offices have assumed
broader responsibilities, however, and staff in budget offices are now
more policy oriented. The demand for a wider range of knowledge, skills,
and experience has increased, and public administration and other pro-
fessional disciplines are now represented more than in the past.
Expanding The change in budget office personnel and in the role of the budget office
Responsibility has implications for budgetary decision making. When budgeting was
viewed primarily as a subset of accounting, expectations were clear. As
budgeting changes, the scale and diversity of responsibilities expand, and
the breadth of issues before state budget offices grows, analysts can rely
less and less on familiar professional expectations and technical norms.
The ground beneath decisions is therefore less familiar, but analysts are
still expected to provide the best-possible information for decision making.

Concepts
Establishing a Comfort Zone

The search for “solid ground” in budgeting is not new. Budgeting has al-
ways been complex. Analysts have always sought concrete answers and
tried to reduce uncertainty. In fact, most budgeting techniques are de-
signed as ways to reduce uncertainty.
Gathering Informa- Information gathering is the essential element of effective decision making,
tion but no analyst can possibly hope to have all the information necessary.
Except during the implementation phase, there is simply not sufficient time
to obtain all the information necessary to support most decisions. At some
point, the marginal value of increased information is outweighed by the
energy and time necessary to acquire it. In the absence of complete in-
formation and under the press of time, every analyst must have access to
rules that can eliminate some problems and simplify others.
Accounting vs. Attempting to simplify the complexity of a decision by focusing on its for-
Budge ting mal details has often been employed in the past. This was both the allure
and danger of the accounting approach to budgeting. Increasingly, pol-
icy makers want a greater range of information and whole new sets of cri-
teria applied to decisions in the budget. The certainty that the accounting
approach brought to budgetary decisions has been lost; however, the
need for certainty has not been lost. Most analysts on the central budget
staff need a “comfort zone” if they are to work productively during the
various phases of the budget. They must be able to make timely decisions
without suffering from self-recrimination and doubt.

Concepts
The Role of Procedures and Guidelines

One time tested approach is to break down complex issues into discrete
decisions, some of which have less uncertainty than the issue in its en-
tirety presents. This is the role of standard operating procedures, check-
lists, policy guidelines, and decision trees. They have the virtue of simpli-
fying decisions and imposing a certain amount of uniformity among dif-
ferent analysts. Of course, they also introduce rigidity and unimaginative-
ness into the decision process. When used properly though, decisional
frameworks will filter out the technical and consensual elements of an is-
sue, so that only the contentious and political aspects remain.
Decisions in the Formal decisional frameworks are especially useful in the execution and
Execution and implementation phases. The bulk of the political and policy decisions
Implementation have been made, and many of the remaining decisions are primarily
Phases technical. What personnel classification should be used for new posi-
tions? How much should be allocated to different regions or bureaus?
Decisions in the In contrast to the routine and technical nature of the execution and im-
Adoption Phase plementation phases, the adoption phase can only charitably be de-
scribed as “messy.” It has all the dynamics of guerrilla warfare (but more
civilized) – battle lines are not always clear and frequently change, you
are not always certain who your friends and enemies are, and ambushes
can be regular occurrences.
Written Guidelines The chaotic character of some phases of the budget process limits the use-
fulness of formal decision rules. Still, written instructions and specific
guidelines can help. Most staffs adopt them. It is relatively easy to get
agreement on issues like how vacant positions are to be treated and
whether fuel price increases are to be granted. It is less easy to gauge
what sets of items meet the criteria for a gubernatorial veto. Specific rules,
in this case, must give way to a more general understanding of the strate-
gic posture of the administration. If the strategy is coherent, relatively con-
sistent, and widely distributed or understood, then it provides an anchor
to analysts who might otherwise be adrift. A generally understood strategy
provides grounds within which analysts can safely make judgements. It
provides the common discipline that is often missing during decision mak-
ing.

Concepts
The Need for Training and Networks

A well-developed strategic posture is helpful to budget analysts. But it is
unlikely to provide a firm basis for every decision that they must make.
Even a well-articulated sense of direction cannot anticipate every issue.
Lacking strategy, analysts will use various tactics to “get a handle on” the
uncertainty inherent in decision-making in this phase. Some will work,
some will not.
Developing Skills Extensive training can help, especially as central budget offices become
more diverse. Training can help provide “footing” for unfamiliar settings
and situations. In the same way, group exercises and focused debriefings
will help analysts get their bearings. There is no single foolproof tech-
nique, however. Ultimately, the only safe course is to ensure that each
analyst uses and can rely upon an extensive network for counsel and
consultation. Analysts must cultivate “comfort” in the measured advice of
those who also are wrestling with the same problems and issues. As a re-
sult, well-developed communication and interpersonal skills are key
complements to technical proficiency and analytical expertise during the
preparation and adoption phases of budget decision making.

Competency Test
Competency Test
Q1: How do Comprehensive Rational Models of budgetary decision
making differ from Incremental Models?
Q2: Comprehensive Rational Models are often pointed to as the ideal to

which budget analysts should strive. Why, given the obvious diffi-
culties with the model?
Q3: How do the assumptions of incremental models implicitly appear in

the decision making that analysts engage in everyday?
Q4: In what stages of the budgetary decision making are the assumptions
of comprehensive rational models likely to be realized?
Q5: What features of the adoption phase make it the most difficult for
most professional analysts?
Q6: Why is the role of the central budget office sometimes said to be pre-
dominately negative?
Q7: Macro budgeting has become more important in recent years, yet
micro budgeting remains the core activity of most budget offices.
Why?
Q8: How does a well developed and widely shared strategic position
help budget analysts in the various phases of the budget process?
Q9: Checklists and guidelines can be invaluable aids to a budget analyst,

but they also can cause problems. Discuss the advantages and dis-
advantages of such techniques in decision making.
Q10: State Budget Offices have changed over the last twenty years. How
have these changes affected the comfort analysts have in making dif-
ficult decisions during all phases of the budget process?

Module 8: Capital Budgets
Overview The capital budget is a spending plan for acquisition, construction, or im-
provements of facilities, lands, equipment, or other infrastructure. It is a
distinct spending plan that complements the operating budget. The focus
of the capital budget tends to be longer term – both with respect to the
type of facility or investment involved and with respect to the method of
financing that may be employed. Capital budgets typically embrace the
following: new construction, major renovation, reconstruction, major re-
pair and major (deferred) maintenance, land acquisition, and site im-
provements. Project elements typically also include the total cost of mak-
ing a facility operational, including necessary initial equipment and fur-
nishings, landscaping, utilities, parking, and road work. Capital budgets
may or may not be prepared and evaluated by the same budget analysts
who analyze operating budgets.
CAPITAL BUDGET DEFINITIONS _____________115

ASSESSING THE UNIVERSE OF NEEDS_________116
IDENTIFYING AND RATING PROJECTS ________117
CAPITAL PROJECTS AND POLITICS __________118
PERFORMING FINANCIAL ANALYSIS OF CAPITAL
PROJECTS _____________________________119
IDENTIFYING FUNDING SOURCES ____________120
ANALYZING FINANCING OPTIONS ___________121
SCHEDULING, APPROVING, AND
IMPLEMENTING ________________________123

Capital Budgets
Concepts
Capital Budget Definitions

Both the capital planning and capital budgeting processes are typically
framed by a predetermined set of capital budget definitions most often set
out in state statute. These definitions themselves may include a descrip-
tion of the kinds of projects/investments to be considered as “capital”
and/or the definition may be established by use of dollar thresholds
(minimums) that denote a capital project. For state governments, the span
of capital projects typically includes: state buildings, special use state fa-
cilities such a prisons and mental hospitals, life safety, modifications to
conform with the Americans with Disabilities Act (ADA), public infrastruc-
ture such as water systems and wastewater treatment, and other basic re-
quirements. In some jurisdictions, capital items also include major items
of equipment, technology systems, and special use items such as aircraft.
Capital Budget Review An essential part of the capital budget review process involves a thorough
Process consideration of the best method(s) of financing to include long-term bor-
rowing/debt, lease or lease/purchase options, interim financing, and out-
right cash payments from a variety of funding sources. Finally, the capital
budget, while distinct, cannot be properly evaluated without due consid-
eration of its effects on the operating budget. A new building will require
ongoing expenditures such as utilities, cleaning, and security which must
be factored into operating budgets.

Capital Budgets
Concepts
Assessing the Universe of Needs

In every state the need for capital budget investments overwhelms the ca-
pacity to immediately fund those needs. Ironically, capital projects are
viewed, on the one hand, as short-term and as “non-recurring” – while at
the same time they in fact require long-term financing of often 20 years or
more. The distillation and analysis of a great number of eligible projects
that must be reduced, prioritized, and subjected to rigorous financial
analysis is at the heart of the capital budget process.
Capital Planning Often this process is informed by a capital planning process that is of
Process greater breadth and covers a longer timeframe than the annual or biennial
budget process. This planning process itself may have various subsets of
analysis and priority ranking by agency or cabinet, institution, or facility.
It may also be subject to a preset determination of policy priorities that
would, for example, establish maintenance of existing facilities as a higher
priority than new construction or expansion of existing facilities.
Prioritizing Projects The business of prioritizing capital projects typically begins with agency
heads rank ordering their capital investment lists for the ensuing budget
period. These agency priorities are then reviewed and may be changed
as the budget analyst evaluates them. This evaluation involves a combi-
nation of established statewide policy standards, personal knowledge and
experience, and awareness of competing demands or pressures crossing
agency lines. Ultimately, the analyst needs to determine what is afford-
able and appropriate within the given budget period.

Capital Budgets
Concepts
Identifying and Rating Projects

Identifying individual projects for inclusion in the capital budget recom-
mendation is accomplished in a variety of ways. First, the budget analyst
typically depends on his or her assigned agencies to communicate what
the agencies identify as their specific wants and needs for the upcoming
budget cycle. Governors, legislators, the media, and citizen groups also
identify capital projects. Depending upon the timing in the budget calen-
dar, these interests may work directly with the agencies to have their capi-
tal project(s) included in an agency’s budget request. Other times the
budget analyst must identify these projects on his/her own, through site
visits, agency contacts, public testimony, or the media. It is always impor-
tant for the budget analyst to know the reasons a particular group wants a
capital project funded and also any group that might oppose a particular
project. That way, policy makers can make an informed choice as to
whether to commit limited state resources to a given project versus an-
other equally meritorious project.

Capital Budgets
Concepts
Capital Projects and Politics

Many elected leaders are enamored with capital projects. These are the
tangible “bricks and mortar” that they can point to in their term of office or
in their home district as a demonstration of their legacy or as proof that
they are “bringing home the bacon." Often such efforts are derided as
“pork barrel” by detractors and rivals. In actual practice, budget office
attempts at an objective ranking of capital projects may run squarely into
political reality. That is simply the system – the very nature of a democ-
racy – that the budget analyst must come to terms with. For example, it is
not uncommon for construction of a new state park project to become a
higher priority than funding a replacement roof for an existing state park
lodge. Often times it falls upon the budget analyst to rate capital projects
in a way that attempts to preserve the state’s previous major investment in
capital assets.
Rules for Prioritizing A good rule of thumb is that “life safety” projects (sprinkler systems, fire
Capital Projects exits, etc.) should have a high priority for funding. Following closely be-
hind should be efforts to maintain and repair major systems of existing as-
sets (roofs, heating, ventilation, and air conditioning, etc.). Almost always,
new projects also will be considered.

Capital Budgets
Concepts
Performing Financial Analysis of Capital Projects

Budget analysts have a responsibility to subject capital budgets to a seri-
ous financial analysis that helps ensure that the government and citizens
get the best value for their dollars once the set of capital project priorities
has been established. This involves scrutinizing the specific financing
plan and options associated with each capital project request. Once the
analyst has determined the need for a capital expenditure, he or she must
then determine the method of funding, terms of any debt issuance, and
other important matters. The better the financial analysis, the more pro-
jects and other spending priorities that can be supported from the same set
of revenues and/or tax dollars. Therefore, the analyst must weigh the rela-
tive benefits over the long-term as compared to the relative costs.
Criteria for Evaluating In some jurisdictions, there is a regular or prescribed cost benefit analysis
Requests model that is followed in evaluating capital projects. But many times the
kinds of analysis and criteria brought to bear are more subjective and di-
verse. When the final recommendations are made, the strength of the
needs analysis, the financial analysis, and the ability to document that
analysis will allow it to stand up to scrutiny from policy makers and staff in
both the executive and legislative branches.

Capital Budgets
Concepts
Identifying Funding Sources

The identification of funding sources for capital projects is generally a
state-level decision. Agencies request individual projects to help accom-
plish their mission and state decision makers decide on the most appro-
priate funding source for the project. Funding for capital budgets is by
and large a choice between utilizing cash or borrowing. Obviously, the
level of available cash (whether from general revenues, fees, restricted ac-
counts, etc.) and levels of previously incurred debt affect this decision. In
many states, the fiscal constraints faced in the last 10-15 years have lim-
ited the use of general fund appropriations for major capital projects.
Funds Earmarked for In some cases, a captive or earmarked source of funds may be available to
Capital Budgets support an array of capital budget activities. In some instances, these
funds can be used only for particular kinds of activities. More often, how-
ever, the use of the funds is more flexible. Potential flexibility must be as-
certained by examination of the statutory underpinnings of the funding
sources, regulatory restrictions, federal mandates, and competing policy
and expenditure options.
General Obligation Most states use debt, including general obligation bonds and revenue
and Revenue Bonds bonds, as the primary source of funding for capital projects. General obli-
gation bonds and revenue bonds are generally subject to some type of
statutory, constitutional, or debt capacity (policy) limits. These are opera-
tionalized as either maximum borrowing limits or as a percentage of debt
service compared to a percentage of revenues. Moreover, it is sometimes
necessary or advantageous to finance projects on an interim basis using
methods such as bond anticipation notes or master note financings before
permanent financing (bond sale) is finalized.
Borrowing for Atypi- In some states, financial conditions or increased demands in recent years
cal Projects have prompted them to borrow to finance projects which typically are not
financed in this manner, such as major maintenance projects and major
equipment purchases. Such uses can be justified if the major mainte-
nance (for example, roof replacement) to be performed significantly ex-
tends the useful life of the facility or, in the case of equipment, the term of
the debt is scheduled to coincide with the useful life of the equipment.
Finally, it is important to recognize and limit the impact of debt service on
the operating budget, which if allowed to grow excessively, can limit fu-
ture options.

Capital Budgets
Concepts
Analyzing Financing Options

There are basically four options to finance any capital project: 1) acquire
by gift or grant, 2) pay cash (state revenues or receipts), 3) borrow, and 4)
privatize.
Acquiring by Gift or The first option generally requires the least analysis by the budget analyst.
Grant If policy makers agree that the project is worthwhile, and someone (an in-
dividual, private foundation, or the federal government) is willing to either
give the asset to the state or provide a grant to provide the funding for
construction of the asset, then obviously this is a preferred option. How-
ever, the policy/budget analyst must be aware that often the major "cost"
of capital projects is ultimately the recurring maintenance and operating
cost of the project. Projects acquired by gift rarely provide for this cost.
Pay Cash or Borrow Many well-established factors need to be considered before the final deci-
sion can be made on whether to pay cash or to borrow funds. These fac-
tors include sound financing theory, cost/benefit analysis, legal restric-
tions, and philosophical or political preference. Among the financial con-
siderations are the size/expense of the project, its useful life, and the cost
of money (interest rate). Among the legal considerations are constitutional
and/or statutory restrictions on the issuance of debt; the state's fiscal ca-
pacity to issue debt (revenues vis-à-vis total outstanding debt), the state's
current credit rating, and policy makers’ preference. Often policy makers
simply prefer to pay cash regardless of what “sophisticated” financial
analysis may support. The budget analyst needs to be aware of these
considerations to ensure a complete and responsive presentation of op-
tions to the ultimate decision makers.
Privatizing Projects Another option less frequently employed, but still viable for some projects
and financings, is to essentially “privatize” the project. This concept goes
beyond the common practice of contracting for construction, architect,
and engineering services, etc. In many states, there is a statutory alterna-
tive that allows a private contractor or developer to construct a facility ac-
cording to general guidelines prescribed by the state. A Request for Pro-
posal (RFP) is the common vehicle for soliciting competition for privatized
projects. The “privatization” may involve as much as total construction,
design, operation, and independent non-state financing of the facility or
project. After construction is complete, the state then begins a long-term
lease or lease/purchase arrangement with the developer. This approach
may save time and money. It also avoids some of the barriers to state debt
issuance and short-term state fiscal capacity such as some statutory limita-

Capital Budgets
Concepts
tions and issues of public and political perception. Nonetheless, the true
costs of privatization are also long-term and must be factored into the
budget analyst’s recommendation as to the appropriate financing options.

Capital Budgets
Concepts
Scheduling, Approving, and Implementing

Many states have initiated multiyear planning processes to allow state-
level decision makers to be aware of capital needs beyond the annual or
biennial budget request time frame. Typically, these capital planning
processes involve a time horizon of five years or longer and become the
first step in the scheduling, approving, and implementing process. Agency
budget requests are received by the executive branch budget staff and,
after analyzing, reducing, and (re)prioritizing they are recommended to
the legislative branch based upon gubernatorial priorities and availability
of resources using previously determined debt capacity or cash availabil-
ity.
Comparing the Capi- When states have long-range capital plans, the first step in the review of
tal Request with the the agency capital budget request is a comparison to the approved multi-
Multi-Year Plan year capital plan. While absence from the multi-year plan does not nec-
essarily disqualify a project, it does raise questions and suggests the need
for a heightened level of scrutiny by the budget analyst.
Legislative Review Subsequent review by the legislative branch results in an approved capital
and Approval plan which comes back to the executive branch for implementation. The
legislative review and approval ultimately takes place in the context of a
regular or special legislative session. Capital budgets are subjected to in-
tense review as to their priority, propriety, and funding sources. Often
projects are changed. Timelines are also subject to review and alteration,
and the source of funds or the mix of those funds can also be altered.
New projects are added and projects recommended by the governor are
sometimes deleted. This takes place within the context of legislative hear-
ings which are public and involve testimony by executive branch officials
and others as appropriate. A final set of capital projects is ultimately in-
cluded in an approved appropriations act that becomes law.
Budget Execution or After final legislative approval, the projects move into the next phase of
Imple mentation the budget process called budget execution or implementation. If an ap-
proved project involves debt, there is generally a requirement that action
be taken by the formal debt issuing entity to approve the bond issue terms
and repayment schedule. Actual contracting and construction of the pro-
ject is usually administered and monitored by a centralized state agency
such as a finance and administration department. This is to ensure that
the project is completed in a timely manner, within the approved financial
and programmatic scope, and in compliance with applicable construction
and building codes. The budget analyst continues to monitor each stage

Capital Budgets
Concepts
of the process – from the initial planning and programming throughout

the review cycle and including all levels of implementation until the pro-
ject is complete – whether that be quickly or years later.
Periodic Review As a capital project proceeds through its multiple phases of preliminary
design, final design, construction, equipping, furnishing, and ultimately
occupation, the project and process will often be reviewed periodically
by both executive and legislative staffs. This kind of regular oversight en-
sures that the project continues to move forward in keeping with its intent
and authorization and remains within the dollars allotted. Sometimes a
project may incur unexpected difficulty or increased costs along the way
due to unanticipated conditions, or unresponsive bids, or for a variety of
other reasons. The budget office and budget analyst may then be in-
volved in the business of sorting through options to keep the project intact
and the funding appropriate within the established statutory and policy
guidelines.

Capital Budgets
Competency Test
Competency Test
Q1: Identify the ways in which the capital budget is different from the op-
erating budget.
Q2: What is the typical starting point for prioritizing capital projects?
Q3: Why are many political leaders strongly supportive of capital pro-
jects?
Q4: Define the role of the budget analyst in reviewing capital projects vis-
à-vis the agency initiating the budget request.
Q5: At what level are funding sources ultimately identified for recom-
mendation to the General Assembly?
Q6: Briefly discuss financing options that may be available for a given
capital project.
Q7: At what point in time does a budget analyst relinquish responsibility

for a capital project that is requested or approved?

MODULE 9: Debt Financing
Overview Aging infrastructures and limited cash resources have led many states to
increase borrowing to fund essential capital projects. States employ bonds
and other instruments of debt as a means to finance long-lasting improve-
ments to the state’s property and infrastructure. Debt financing mecha-
nisms accomplish two major goals: 1) they enable the state to make capital
improvements when they’re needed and before saving up all the necessary
cash, and 2) they spread the costs of the projects over the useful life of the
assets, thereby allocating part of the project cost to future beneficiaries.
When making decisions about debt issuance, states must consider both the
total amount of debt that can be incurred and the affordability of the an-
nual debt service (principal plus interest). Interest rates paid on state debt
are a function of general market conditions, maturities on the bonds, and
the ratings assigned to the bond issuance by the credit rating agencies at
the request of the state. Rating agencies evaluate the ability of the issuer to
repay timely the principal and interest borrowed.
POLICIES FOR MANAGING DEBT_____________ 127

DEBT FINANCING INSTRUMENTS ____________ 128
INDEBTEDNESS AND CREDIT RATING ISSUES_ 130
RATING AGENCIES__________________________ 132
UNDERSTANDING BOND PRICING ___________ 134
STRUCTURING BOND ISSUES ________________ 135
REFINANCING OR REORGANIZING
EXISTING DEBT ___________________________ 136
COMMON TERMINOLOGY_____________________ 137

Debt Financing
Concepts
Policies for Managing Debt

The purpose of debt management policies is to provide guidance in the
issuance and management of debt. The primary consideration is the
amount of debt and annual debt service that is affordable. A sound multi-
year capital plan, integrated with the operating cost of the facilities, is also
part of a good debt management plan. The debt management plan sets
targets for the overall level of debt and establishes pay-as-you-go standards.
A properly formulated debt management policy can help avoid the im-
proper use of debt to cover accumulated deficits for operating purposes.
Debt Management Several states have instituted formal debt management policies in recent
Guide lines years. The purposes of these policies are to:
• Establish general guidance for affordability,
• Link capital planning to debt policy,
• Strike an appropriate balance between cash and debt financing,
• Determine the appropriate use of debt,
• Coordinate multi-agency issuances of debt, and
• Target or limit the total amount of all types of debt.
For selected state examples of debt management policies, see NASBO’s

publication Debt Management Practices in the States.
Debt Capacity One approach to monitoring and limiting the total amount of all types of
debt is to establish a model for tracking “debt capacity.” This term is used
by the bond rating agencies to mean the amount of debt that may be pru-
dently authorized and issued in a given period of time without negatively
affecting the credit rating of the issuer. The concept of debt capacity rec-
ognizes that a governmental unit has a finite capacity to issue debt at a
given credit level. Issuance beyond a prescribed level (such as when debt
service exceeds five percent of general tax revenues) can cause an erosion
in credit ratings. A debt capacity model is a tool for helping states strike
the proper balance between capital needs and the ability and willingness
to repay debt issued to finance these needs.

Debt Financing
Concepts
Debt Financing Instruments

State governments are faced with the fundamental policy choice of which
projects and activities are appropriate for debt financing. In addition, con-
siderations regarding length of maturity, interest rates, bond pricing, and
refinancing are important to the state budget.
Bonds and Notes There are several debt instruments available for both long-term and short-
term financing. Long-term debt (maturities of more than one year) includes
General Obligation Bonds, Revenue Bonds, and Lease-Purchase Bonds
(Certificates of Participation). Each type has its own purpose. Some states
use short-term debt (maturities of one year or less) to meet cash flow re-
quirements, to close unplanned deficits at year end, or to generate needed
cash prior to a longer term bond sale. Short-term debt instruments are of-
ten referred to as notes and include Revenue Anticipation Notes (RANS),
Bond Anticipation Notes (BANS), and Tax Anticipation Notes (TANS).
Traditional Types of There are four general categories of debt issued by states:
Bonds
• General Obligation (G.O.) Bond. Payments of maturing principal and
interest (debt service) are secured unconditionally by the full faith,
credit, and taxing powers of the issuing government. If the taxes levied
initially are insufficient to meet the debt service requirements, the issuer
is legally obligated either to raise the tax rate or to broaden the tax base
in order to provide the necessary funds. G.O. bonds result in the high-
est ratings and lowest overall borrowing costs.
• Revenue Bond. Debt is secured by the revenue of the project financed,

or some other specific revenue stream. In the case of an inability to
meet debt service payments, the issuer is not obligated to levy taxes.
However, there is generally a lien in favor of the bondholders on the
facility financed or some other collateral. Revenue bonds are typically
rated by bond agencies one step below G.O. bonds.
• Special Obligation Tax Bond. These bonds pledge a specific tax, such
as sales tax or motor fuel tax, to the payment of the debt service.
• Leasehold Revenue Bond. Commonly referred to as lease-purchase or

certificates of participation, these are actually issued by an entity other
than the state itself. The entity is typically an Ownership Authority
Board established by the state. The revenue stream for the debt service
is rental payments made to the issuing entity by the state itself. This can

Debt Financing
Concepts
be the most expensive form of borrowing and will usually receive one
full letter grade rating lower than G.O. bonds.
Recent More recent developments in the use of debt financing include bonding
Developments unfunded pension obligations and delinquent tax collections. Pension
bonds are issued by the state to generate cash which is placed in the pen-
sion fund. The fund is able to earn a higher rate of return than the interest
cost of the bonds. The state then reduces or eliminates the pension fund’s
unfunded liability without a large one-time drain on general fund cash, but
must pay off the bonds through appropriations. Delinquent tax collection
bonds are issued to provide the state with cash needed immediately. They
are repaid with the collected tax accounts receivable.
Another type of new financing method includes the issuance of "Transpor-

tation Revenue Anticipation Notes," where states issue bonds and pay the
debt service with a combination of federal highway funds and state general
funds. This type of financing is relatively new and is made possible by re-
cent statutory changes involving the use of federal highway funds for ser-
vicing long-term debt.

Debt Financing
Concepts
Indebtedness and Credit Rating Issues

In determining whether to use debt financing, the type of debt, and the to-
tal amount of indebtedness, states must consider:
• The affordability of the annual debt service payments,

• The overall level of debt relative to the size of the state,
• Legal limits on debt,
• The burden on future budgets, and
• Credit rating issues.
Annual debt service as a percent of general operating revenue (or expendi-
tures) is the basic measure of debt service affordability. According to Wall
Street bond rating agencies, a rule of thumb for states’ general obligation
debt is that two percent or less is considered low and more than five or six
percent is considered high. Because all states’ tax, fund, and debt service
structures are different, each state must determine the affordability of an-
nual debt service payments (or their “debt capacity”) based on their own
circumstances.
Benchmarks for There are several methods employed to gauge the total amount of debt
Manageable Debt that is manageable for a state. These include debt per capita, debt per as-
sessed (or market) value of property, and debt as a percent of personal in-
come. Again, individual circumstances of a given state and other factors
must be taken into account when looking at these measures, but the fol-
lowing table displays some general benchmarks:
Low High
Per Capita Debt less than $500 more than $1,200
Debt as % of Personal Income less than 4% more than

10%
Source: Government Finance Review
Debt Limits Many states have legal limits on state debt in the constitution, state statute,
or inherent in the budgeting and appropriations process. Often these limits
determine what type of bonds (General Obligation Bonds, Revenue
Bonds, Certificates of Participation) can be issued in specific situations.
Budget analysts should be thoroughly familiar with these provisions.

Debt Financing
Concepts
Debt Service One way to reduce the burden on future budgets is to shorten the term of
the bonds. Maryland and Utah, both states with the highest bond ratings,
tend to use shorter term debt maturities. This has the advantage of decreas-
ing total interest costs but increases annual debt service requirements on a
given bond issue. It is important that states structure maturities to ensure
that debt service is affordable over the length of the bond issue. The debt
service schedules of existing bonds outstanding should also be factored in.
In general, fairly even or level debt service schedules are desirable, avoid-
ing large upward variations or balloon payments in the schedule.

Debt Financing
Concepts
Rating Agencies
Credit ratings are important because they help enable access to capital
markets for the issuer and directly affect the interest rates for the bonds
sold. The higher a bond is rated, the lower the interest rate; and therefore,
the lower the cost of debt. There are also political considerations for main-
taining or improving bond ratings: governors and legislators use high
bond ratings as evidence of their own fiscal stewardship. There are three
credit rating agencies that evaluate municipal credits: Moody’s Investors
Service, Standard & Poor’s Corporation, and Fitch Investors Service. Their
various publications provide important guidance to bond issuers.
Bond Issuances The rating agencies rate bond issuances, not issuers. Nevertheless, the per-
Evaluated formance and strength of the issuer is an important factor in the rating as-
signed to an issuance. It is important to note that ratings are not limited to
the initial issuance but are monitored and can be changed over the life of
the issuance. Ratings are designed to inform the investor about the level of
security of the investment. Bond holders want to know that their capital
will be returned in full and that interest payments will be made. They also
want to know that principal and interest payments will be made on time.
Rating Scale/Grade Each rating agency has a slightly different rating or grading scale. For pur-
poses of illustration, the rating grades for long-term debt from Standard &
Poor’s Corporation is described. Investment Grade ranges from the high-
est rating of “AAA,” indicating the capacity to pay interest and principal is
extremely strong, through “AA” and “A” to “BBB,” which indicates that
there is an adequate capacity to make the payment. Speculative Grade
ratings are “BB,” “B,” “CCC,” “CC,” and “C” indicating that there is some
capacity for repayment; however, there are large uncertainties or major
risks of repayment. Other grades and notations include a “D” rating which
indicates payment default. The ratings from “AA” to “CCC” may be modi-
fied by a plus (+) or minus (-).
Four Areas There are four general areas of performance that the rating agencies evalu-
Evaluated ate: debt, economy, finance, and management. The agencies use quanti-
tative, objective measures to evaluate the security of an issue, but also must
use subjective judgment to take into account individual differences be-
tween states.
• Debt. Rating agencies assess first and foremost, an agency’s ability to

repay. They also look at the total debt of the issuer, the legal authoriza-
tion for the bonds, security provisions, debt term matching or not ex-
ceeding the useful life of the projects, and expectations for future bor-

Debt Financing
Concepts
rowing. There should be a link between the capital plan and debt
plan. They also look at the debt supported by taxpayers of multiple
overlapping jurisdictions.
• Economy. The economy affects the ability of the state to levy taxes
and generate revenue. Rating agencies view economic diversity as a
strength because it promotes steady growth and protects against major
downturns. Other significant economic factors include demographics
and the tax structure of the state. The diversity of the economy can
make the difference between a good rating and the highest rating.
• Finance. In this area, the rating agencies look for long-term stability of
revenues rather than a year-end snapshot for any given year. Sound fi-
nancial performance is essential to credit security. Factors considered
include the affordability and range of government services, fund bal-
ances and balance sheet strength, accounting methods, revenue and
expenditure control, and general flexibility of state finances. The au-
thority, willingness, and demonstrated history to raise necessary reve-
nues are important to the rating agency.
• Management. Rating agencies also assess the strength and perform-

ance of the state’s management team. The raters want to know if man-
agement makes timely and sound decisions and swiftly solves a finan-
cial problem or crisis if one arises. Raters are especially interested in
the following: 1) existence of a balanced budget, 2) using one-time
revenues for one-time needs, and 3) swift action to close deficits. Every
management team must operate within certain constitutional and statu-
tory constraints, and these are weighed by the rating agencies as limita-
tions on financial flexibility. Management factors can be especially
important in economic downturns.

Debt Financing
Concepts
Understanding Bond Pricing

Tax-exempt municipal bonds are generally attractive to institutional inves-
tors or high-tax-bracket individual investors. Bonds are initially sold to an
underwriter who then sells the securities to investors. The underwriter
charges various fees that can be a discount on the purchase price or are
reflected in the interest rate.
Competitive vs. In a competitive sale, bonds are awarded to the lowest bidding underwriter
Negotiated Sale on a specific day. In a negotiated sale, an underwriter is selected through
a request for proposal process and then the issuer and the underwriter ne-
gotiate interest rates and a purchase price on the day of pricing. While
there is greater flexibility with regard to timing to adapt to market condi-
tions in a negotiated sale, there is less competition to help achieve the best
interest rates for the issuer.
Present Value The price of a municipal bond consists of the present value of the principal
plus the present value of the interest. Plotting the interest rates by year on a
graph is called a yield curve and determines interest costs over the life of
the bonds. Certain types of bonds, known as zero coupon bonds, pay no
interest but instead are sold at a steeply discounted price. Because of their
lower purchase price, these bonds can be sold to smaller investors, such as
individuals saving for college.

Debt Financing
Concepts
Structuring Bond Issues

To prepare for a bond issue, the issuer should develop a competitive re-
quest for proposal for a financial advisor and bond counsel. The financial
advisor provides extensive financial analysis to deal with structuring, tim-
ing, and pricing the bond issue. The financial advisor can help evaluate
the cost-effectiveness of alternatives and options. The bond counsel ren-
ders an opinion as to the legality and tax ramifications of the bond issue.
This team works to develop the official statement. Like a stock prospectus,
the official statement describes the bond issue, security for the bonds, fi-
nancial information about the issuer, and discloses risks associated with
the investment.
Arbitrage Because municipal bond interest earnings are not subject to federal in-
Restrictions come tax, investment return on bond proceeds for the issuer are limited by
federal law and the IRS. Bond issuers cannot issue bonds and invest the
proceeds at a higher rate than the interest cost of the bonds. The invest-
ment concept of excess interest earned over interest paid is called “arbi-
trage.” Restrictions applied to bond arbitrage generally require expending
bond proceeds within three years and limit interest earned over interest
paid to 1/8 percent.

Debt Financing
Concepts
Refinancing or Reorganizing Existing Debt

Occasionally circumstances arise which require or suggest the refinancing
or restructuring of existing debt. For example, bond market interest rates
may change after bonds are sold. In addition, financial circumstances can
change enough to indicate that a reduction in state debt is warranted. Most
bonds have call provisions that enable the issuer to repay principal earlier
than originally scheduled. New bonds, called refunding bonds or advance
refunding bonds, can be issued at lower interest rates and the proceeds
used to pay off the existing bond principal.
Defeasance Debt can also be reduced or removed from the balance sheet even if the
bonds are not callable. Existing bonds can be defeased. That is, available
cash from the budget and/or cash from issuing refunding bonds is placed in
an escrow fund. Payments for the debt service on the original bonds are
made from the escrow fund. The original debt liability is removed from the
balance sheet. Freeing up reserve requirements or eliminating undesirable
bond covenants can be another advantage to refunding debt.

Debt Financing
Concepts
Common Terminology
Note: Debt financing is an area of state finances that has a highly technical and
legal terminology. Budget analysts should have a general understanding of
these terms. The following glossary contains terms and definitions that have
been adapted or borrowed from three works. The sources are identified in the
following manner:
(no asterisk) Moak, Lennox L., Municipal Bonds: Planning, Sale and Ad-
ministration, Municipal Finance Officers Association, 1982, pp. 345-362.
*U.S. Department of Agriculture, Economics, Statistics and Cooperative Ser-

vice in cooperation with the Department of Agriculture and Applied Eco-
nomics, University of Minnesota, Issuing Municipal Bonds: A Primer for
Local Officials, U.S. Government Printing Office, 1977, pp. 17-20.
**U.S. General Accounting Office, Trends and Changes in the Municipal

Bond Market as They Relate to Financing State and Local Public Infrastruc-
ture, U.S. Government Printing Office, 1983, pp. 33-34.
Arbitrage. The gain which may be obtained by borrowing at a tax-exempt rate

and investing at a taxable rate by a tax-exempt investor.
*Average Maturity. The number of years which marks the point at which half
the principal remains unpaid. It is equal to the total bond years divided by the
total number of bonds.
*Balloon Payments. Final principal payments that are much larger than the
other principal payments.
Basis Point. One one-hundredth of one percent (0.0001). Used in the pricing
of bonds and in discussions of the yield of a bond.
Bid. An offer to purchase securities at a given price or under other stipulated

conditions. A bid may be submitted in either a competitive sale or a negoti-
ated sale of municipal bonds.
Bond. A written promise to pay a specified sum of money, called the face
value (par value) or principal amount, at a specified date or dates in the future,
called the maturity date(s), together with periodic interest at a specified rate.
The difference between a note and a bond is that the latter runs for a longer
period of time and requires greater legal formality. The term bond has a sec-
ond meaning in municipal bond finance, namely the par value of $1,000. Al-
though bonds may be issued in any denomination, municipal bond dealers and
others use the term to mean $1,000 par value, regardless of the actual de-
nomination. Thus, a $25,000 bond would be referred to as “25 bonds.”

Debt Financing
Concepts
Bond Anticipation Notes (BANS). Short-term interest-bearing notes issued by

a government in anticipation of bonds to be issued at a later date. The notes
are retired from the proceeds of the bond issue to which they are related.
*Bond Counsel. An attorney retained by the state or municipality who assures

the purchaser that the bond was legally issued. The bond counsel’s approving
opinion is printed on each bond and states that in counsel’s opinion, the mu-
nicipality has complied with all legal requirements in issuance of the bonds
and that interest paid on the bonds is exempt from income tax.
Bond Discount. The excess of the face value of a bond over the price for
which it is acquired or sold. The price does not include accrued interest at the
date of acquisition or sale.
*Bond Resolution. An action of a governing body of a state or local govern-

ment, or agency thereof, authorizing a bond issue. The bond resolution may
be self-operative, or it may require further approval, for example, by the elec-
torate or by other governmental officials, before bonds can be sold thereunder.
Call Option. The right to accelerate the redemption date of a bond which is
reserved by the issuer at the time of sale. It is subject to the conditions in-
cluded in the bond contract.
Call Premium. The amount the issuer has promised to pay in excess of par
value when bonds are redeemed in advance of their maturity date.
*Capital Improvement Plan. A plan for capital expenditures to be incurred

each year over a fixed period of years to meet anticipated needs. It sets forth
each project or other contemplated expenditure in which the government is to
have a part and specified the full resources estimated to be available to finance
expected expenditures.
Coupon. That part of a bond which evidences interest due. Coupons are de-
tachable and, as they become due, they may be presented for payment.
Coverage. The extent to which revenues pledged for a bond issue exceed (or
are expected to exceed) the debt service requirements expressed either in
terms of the highest year or average year’s debt service. Thus, a bond issue
with a debt service of $1,000,000 per year that has pledged revenues expected
to produce $1,400,000 per year is said to have a 140 (percentage) or a 1.4
times coverage.
*Current Yield. Annual interest payable on a bond divided by its current price,
expressed as percent.
*Debt Limit. The maximum amount of debt that a governmental unit may in-
cur under constitutional, statutory, or charter requirements. The limitation is
usually some percentage of taxable valuation and may be fixed upon either
Debt Financing
Concepts
gross or net debt.

Debt Service. The amounts of money necessary to pay interest and principal
requirements for a given year or series of years.
Debt Service Fund Requirements. The amounts of revenue which must be

provided for a Debt Service Fund so that all principal and interest payments
can be made in full on schedule.
Default. Failure to pay principal or interest promptly when due. It is also used
to refer to a specific violation of other covenants made in respect to an issue of
debt.
*Financial Advisor or Financial Consultant. A person who offers a broad

range of services to states or municipalities seeking debt financing, including
preparation of capital improvement plan, official statement, and other docu-
ments; procurement of bond rating; and marketing.
General Obligation Bonds. Bonds for the payment of which the full faith and
credit of the issuing government are pledged.
Gross Debt. The sum total of an issuer’s obligations.
Indenture. The formal agreement between a group of bondholders, acting

through a trustee, and the issuer as to the terms and security for the debt.
Industrial Revenue Bonds. Bonds issued by governments, the proceeds of

which are used to construct facilities for a private business enterprise. Lease
payments made by the business enterprise to the government are used to pay
debt service.
**Infrastructure. Structures and equipment owned by states and localities.

This includes highways, bridges, buildings, mass transit systems, and public
utilities such as water, sewer, or power systems.
Issuance Costs. The costs incurred by the issuer of securities incident to the
planning and sale of securities. These costs include the spread for underwrit-
ers, feasibility studies, printing, advertising, the fees of counsel, costs of
presentations to potential investors, and the value of staff time and facilities
required in the planning and sale of the bonds. They ordinarily do not include
the costs of holding elections, when required as a part of the process of
authorization.
Issuer. The governmental unit in the name of which securities are issued.
Legal Opinion. 1) The opinion of an official authorized to render it, such as an

attorney general or city attorney as to legality of a bond issue. 2) In the case of
governmental bonds, the opinion of a specialized bond attorney as to the legal-
ity of a bond issue.

Debt Financing
Concepts
Long-term Debt. Debt with a maturity of more than one year after the date of
issuance.
Marketability. Connotes ability of the issuer to sell a security in the market-

place on reasonable terms.
Negotiated Sale. A sale of securities in which the terms of the sale are deter-
mined through negotiation between the issuer and the purchaser without com-
petitive bidding. Includes sales of securities directly to commercial banks or
consortiums of commercial banks as well as to investment banking firms or
syndicates, private placements by issuers, or other sales to investors on other
than a competitive basis.
Net Bonded Debt. Gross bonded debt less any cash or other assets available
and earmarked for its retirement.
Net Interest Cost (Rate) (NIC). The average interest cost rate on a bond issue
calculated on the basis of simple interest.
Official Statement. A statement issued by a governmental authority at the

time of sale of its bonds or notes setting forth the pertinent facts concerning the
issuer, the issuer’s financial condition, the security pledged for the securities
being offered, the projected use of the proceeds of the sale, and other facts
deemed necessary to enable the investor to judge fairly the quality of the
securities being offered. Also known as the Disclosure Statement.
Par Value. The face value or amount of the principal of a bond or note.
Pay-As-You-Go Basis. (Pay-As-You-Spend) - A term used to describe the finan-

cial policy of a government which finances all of its capital outlays from current
revenues rather than by borrowing. A government which pays for some im-
provements from current revenues and others by borrowing is said to be on a
partial or modified pay-as-you-go basis.
Pay-As-You-Use. A term used to describe the financial policy of a governmen-

tal unit which borrows to pay for its capital needs. Pay-as-you-use allocates
costs among the users of each “generation.”
Paying Agent. A commercial bank or other institution acting as agent for the
issuer in the interest or principal on a bond or note.
Preliminary Legal Opinion. A draft of a legal opinion presented by bond

counsel in advance of the completion of all of the steps incident to sale. It of-
fers an indication of the language likely to be included in the legal opinion to
be issued at the time of the delivery of the bonds.
Premium. The excess of the price at which a bond is acquired or sold over its
face value.
Debt Financing
Concepts
Principal. The par value or face value of a bond, note, or other fixed amount
security, excluding accrued interest.
Qualified Legal Opinion. A legal opinion containing conditional, as distin-

guished from unconditional, affirmations concerning the legality of an instru-
ment used in borrowing and/or concerning the tax status of the interest on a
debt instrument.
Rate Covenant. A provision in a bond indenture under which the issuer

agrees to adjust rates charged for services being rendered in order to produce
sufficient revenue to meet obligations under an indenture.
Ratings. Designations of the quality of bonds or notes issued by states and lo-
cal governmental units. Ratings are provided by agencies or corporations that
seek thereby to render a professional judgement concerning the quality of the
security being rated.
**Refunding. A system by which a bond issue is redeemed by a new bond

issue under conditions generally more favorable to the issuer.
Registered Bond. A bond where the owner is registered with the issuing gov-
ernment (or its bank or trustee agent) and which cannot be sold or exchanged
without a change of registration.
Regular Serial Bonds. Serial Bonds in which the annual installments of bond
principal are about equal.
Revenue Anticipation Notes (RANS). Notes issued in anticipation of the re-

ceipt of revenues, generally non-tax revenues -- especially revenues receiv-
able from other governments.
Revenue Bonds. Bonds where the principal and interest are payable exclu-
sively from earnings of an Enterprise Fund. The term revenue bonds is cur-
rently used in the municipal bond market to include almost all bonds other
than general obligation bonds.
Sale Date. The day on which a contract is executed between the issuer and
the purchaser of an issue of securities.
Secondary Market. The market in which bonds are sold at a time following
the initial sale in the new issue market.
Securities. Bonds, notes, mortgages, or other forms of negotiable or non-

negotiable instruments.
*Serial Annuity Bonds. Bonds whose principal and interest payments are con-
stant each year.
Serial Bonds. Bonds whose principal is repaid in periodic installments over the
Debt Financing
Concepts
life of the issue.
Settlement Date. The day on which the securities are exchanged by the is-
suer for the purchase price, after taking into consideration the security deposit
and the accrued interest on the bonds.
Short-term Debt. Debt with a maturity of one year or less after the date of is-
suance.
Special Assessment. A compulsory levy made against certain properties to

defray part or all of the cost of a specific improvement or service deemed to
primarily benefit those properties.
Syndicate. A group of investment bankers and commercial banks who buy

(underwrite) a new issue from the issuer and offer it for resale to the general
public.
Tax Anticipation Notes (TANS). Notes issued in anticipation of collection of

taxes, usually retirable only from tax collections, and frequently only from the
proceeds of the tax levy whose collection they anticipate.
Tax-Exempt Bonds. Bonds where the interest is exempt from federal income
taxes under Section 103 of the Internal Revenue Code of the United States or
other federal legislation.
Term (of Bond Issue). The number of years for which the bonds are issued.
Usually related to the number of years from date of issue to date of final matur-
ity.
Term Bonds. Bonds where the entire principal matures on one date.
*Total Bond Years. The sum of all the bond years of a particular issue.
Unqualified Bond Counsel Opinion. A bond counsel’s opinion which contains

no qualifications or exceptions concerning the legality of the bond issue or its
tax-exempt status.
*True Interest Cost Bid (Rate) (TIC). Method of evaluating an underwriter’s

bid which takes into account both the total dollar amount of coupon payments
and the time pattern of coupon payments.
*Underwriter. The investment house (or houses) that purchase a bond offer-
ing from the issuing government.
*Yield. The net annual percentage of income from an investment. See Cur-
rent Yield and Yield to Maturity.
*Yield to Maturity. Percentage of return from a bond that takes into account

Debt Financing
Concepts
current yield and amortization of any premium or discount.

Debt Financing
Competency Test
Competency Test
True or False
Q1: When a state considers issuing bonds, the sole consideration is the
effect of the debt on the state’s credit rating.
Q2: If annual debt service exceeds two percent of general fund revenues,
this is considered high.
Q3: Rating agencies apply only the same objective measures to all states
when determining a credit rating.
Q4: A shorter maturity schedule for bonds has the advantage of lowering
annual debt service payments.
Q5: States can brag about their high credit rating, but it has no financial
benefit to the state.
Q6: As long as bond holders are repaid, they are satisfied.
Q7: If a state has good managers and follows generally accepted account-
ing principles, then a diverse economy is not needed for a high credit
rating.
Q8: The only way to refinance debt is to call the existing bonds.
Q9: In pricing bonds, a negotiated sale is better than a competitive sale.
Q10: The financial advisor renders a legal opinion about a state’s bond
issue.
Q11: Revenue bonds have the lowest interest cost because they have a
secure, earmarked revenue source backing them up.
Q12: States can issue bonds and invest the proceeds at higher interest rates
for the purpose of making a profit for the general fund.
Q13: Short-term debt is always a negative financial factor for the credit rat-
ing.
Q14 A high credit rating will ensure low interest rates for a bond issue.
Q15: Once a rating for an issuance is granted, it cannot be changed.
Short Answer
Q16: List the three municipal credit rating agencies.
Q17: What is the purpose of a debt management policy?
Q18: What four general areas do credit rating agencies assess when assign-
ing a rating?

Debt Financing
Competency Test
Q19: What is the primary difference between G.O. bonds, revenue bonds,
and lease-purchase?
Q20: How does a state refinance debt if the outstanding bonds are not
callable?
Multiple Choice
Q21: The State Debt Management Network is affiliated with:
A) the National Association of State Budget Officers
B) the National Association of State Treasurers
C) the National Council of State Legislatures
D) A & C
Q22: In general, states must spend bond proceeds:
A) within 12 months
B) within 3 years
C) within 7 years
D) anytime prior to bond maturity
Q23: Limits on state debt can be found in:
A) the state constitution
B) a state statute
C) a state debt management policy
D) the budget and appropriations process
E) all of the above
Q24: States can refinance or reduce debt through:
A) advance refunding bonds
B) defeasance
C) certificates of participation
D) Fitch Investors Service
E) A and B

Module 10: The Federal Budget
Overview Because a significant portion of state spending relies on federal funding, it

is important for state budget analysts to understand the federal budget
process, timetable, and issues.
According to budget scholar Allen Schick, “The federal budget is an

enormously complex undertaking. It demands the active participation of
the President and most members of Congress and the efforts of tens of
thousands of staff persons in the executive and legislative branches. It en-
tails thousands of big and small decisions, regard for countless rules and
procedures, and conflict over how the government raises and spends pub-
lic funds. The process could hardly be otherwise because so much is at
stake when budget decisions are made. The budget controls more than
$1.5 trillion a year in spending, an amount equal to almost one-quarter of
the nation’s gross domestic product. Federal budget receipts are about
one-fifth of the Gross Domestic Product. The budget deficit, which results
from the imbalance between revenues and expenditures, makes the fed-
eral government the largest single borrower in capital markets.”
This module provides an overview of basic components of the federal

budget.
BASIC TERMS AND CONCEPTS ____________ 147

BILL ENACTMENT PROCESS _______________ 149
HIGHLIGHTS OF THE FEDERAL BUDGET
PROCESS ____________________________ 150
BUDGET TIMETABLE _____________________ 154
NEW STATE PERSPECTIVES: TRENDS IN
FEDERALISM _________________________ 156
PROBLEMS WITH THE CURRENT FEDERAL
SYSTEM _____________________________ 157

The Federal Budget
Concepts
Basic Terms and Concepts

The federal budget lexicon is extensive. Terminology and definitions dif-
fer from those used in state budget offices. The following terms and con-
cepts are the most essential for state budget analysts.
Authorization Authorization is the substantive legislation that establishes the purpose

and guidelines for a given activity and usually sets a limit on the amount
that can be appropriated or spent. The authorization does not provide
actual dollars for a program. Important elements contained in an authori-
zation are the purpose for the program’s existence, funding formula and
general program structure, including applicable percentage for administra-
tion. Authorization bills are usually for a multi-year time frame.
Appropriation An appropriation is the amount of money that can be spent on a particu-

lar program in a given year. Throughout the budget process, an appropria-
tion is also known as discretionary spending because it is subject to the
annual appropriation process. Generally speaking, appropriations are for
one year time frames.
Entitlement An entitlement is a particular type of authorization that mandates that the

federal government pay benefits to any person or unit of government that
meets the eligibility requirements that are established for the program. An
entitlement represents a binding obligation on the part of the federal gov-
ernment; eligible recipients have legal recourse to compel payment from
the government if the obligation is not fulfilled. Usually the authorization
contains formulas or criteria that specify who is eligible for federal assis-
tance. Therefore, once direct spending is authorized it will continue al-
most automatically until revised through the authorization process. The
question of how much will be spent is answered by the number of eligible
people and what services they will receive. Attempts to control this spend-
ing usually involve capping expenditures at a certain level, reducing eli-
gibility, or limiting payments.
Discretionary Discretionary spending is a category of federal spending subject to the

Spending annual appropriations process. It includes such things as funding for
transportation, environmental programs, job training, and education pro-
grams.
Budget Budget authority is the permission granted by law to an agency or de-

Authority partment to make commitments to spend money. It is not the actual ex-

The Federal Budget
Concepts
Authority penditure of cash. When Congress appropriates funds for a particular pro-
gram it is enacting budget authority, not cash or outlays. However, for the
purposes of deficit calculations it is the outlays that are measured and it is
through levels of budget authority that Congress controls spending.
Outlays Outlays are the actual expenditure of cash. The difference between
budget authority and outlays is most evident in construction projects that
may have budget authority over a number of years without spending
cash.
Deficit Deficit is the amount by which the federal government’s total budget out-
lays exceeds its total receipts for a fiscal year.
Federal Debt Federal debt is the total accumulation of debt by the federal government.
Federal law contains a statutory limit called the debt ceiling which must
be periodically extended or else federal borrowing must cease. In the last
federal government shut-down in 1995, the Secretary of the Treasury re-
sorted to borrowing extensively from federal trust funds to prevent defaults
on federal loans.
Mark-up Mark-up refers to meetings by congressional committees or subcommit-

tees for the purpose of agreeing on the specific language of bills.
Firewall Firewall is the term to describe the prohibition of reducing domestic de-
fense spending to fund domestic discretionary programs.

The Federal Budget
Concepts
Bill Enactment Process

The following is a brief overview of how a bill becomes a federal law. In
general, the House introduces and passes its appropriation bills before the
Senate. The bill enactment process is usually as follows (assuming House
action first):
• A bill is introduced and referred to the appropriate commit-

tee/subcommittee.
• The subcommittee will hold hearings. It will then “mark-up” a bill
and forward it to the full committee for action. The full committee will
continue to “mark-up” the bill and report it out of the full committee to
the floor of the House of Representatives.
• Generally floor votes are scheduled on the calendar. After a bill is
placed on the calendar it goes to the Rules committee which deter-
mines the parameters of debate, including the number of amendments
to be allowed. (The House Rules Committee will often attempt to limit
the number of amendments.)
• The floor debate occurs and the bill either passes, fails, or is amended.
• The bill is sent for action in the other house (in this example, the Sen-
ate).
• The Senate bill is referred to committee/subcommittee.
• The bill is again marked up or amended by the subcommittee and sent
to the full committee at which time it is marked-up.
• The bill is reported out of committee and sent to the floor of the Sen-
ate.
• The floor vote is scheduled. Generally the Senate does not limit de-
bate or amendments.
• If the bill passed by the Senate is different than the bill passed by the
House, the bill is sent to a Conference Committee between the two
houses. The Conference Committee agrees to a unified bill and each
body votes on the bill (a yes or no vote only).
• A bill passed by both the House and Senate is sent to the President for
signature.
• After enactment, a federal agency usually will implement the new bill
and issue regulations.

The Federal Budget
Concepts
Highlights of the Federal Budget Process

There are two main participants in the federal budget process -- the Presi-
dent and Congress. Both the President’s proposal and Congressional
proposals will attempt to meet the parameters of the Budget Enforcement
Act of 1990. This act replaced the Gramm-Rudman-Hollings system of
deficit limits and sequestration with caps on discretionary spending and
pay-as-you-go requirements for new direct spending and revenue legisla-
tion. These requirements are extended to the end of federal fiscal year
1998. Although not mandated by law, both the President and Congress
are attempting through long range budget plans to reduce the federal
budget deficit to zero by 2002.
President Submits The President submits a detailed budget plan usually the first Monday in
Budget February for the fiscal year starting October 1st. The budget presents the
President’s budget message, which highlights major policy recommenda-
tions and changes. It provides summary information on receipts, trust
funds, credit programs, investment outlays, federal aid to state and local
governments, federal borrowing and debt, and other financial matters. It
presents expenditure data by functions, agencies, and accounts. For each
annually appropriated account, it provides the text of the current appro-
priation with proposed changes, and a narrative explanation of the ac-
count’s programs and performance.
Budget Congress holds budget hearings and attempts to produce a Budget Reso-
Resolution lution by April 15th. Both houses will generally hold hearings but not
jointly. The resolution will follow the same approval process as a bill, ex-
cluding signature by the President and implementation by a federal
agency. This is the one time Congress considers the federal budget as a
whole rather than individual parts. Budget Resolutions set forth budgetary
levels for the upcoming fiscal year and planning levels for the following
four fiscal years. Spending must be within the existing statutory caps for
discretionary spending. Budget Resolutions contain the following:
• Budget aggregates for total revenues, and the amount by which the
total should be increased or decreased; total new budget authority and
total outlays; total direct loan obligations and primary loan guarantee
commitments; the deficit or surplus; and the public debt.
• Amounts which are allocated to each congressional committee. At no
time in the Budget Resolution process are funds allocated to specific
programs. The Budget Resolution can provide specific program as-
sumptions but it must be remembered that these do not actually allo-

The Federal Budget
Concepts
cate funds to a program. After spending totals are allocated to each

committee, each committee divides the amount allocated to it among
its subcommittees. This process is named after the sections 302 and
602 of the Congressional Budget Act. Monitoring this suballocation
process is the first step in identifying possible program funding prob-
lems. For example, if an appropriation subcommittee has a two per-
cent loss in total funding, not all programs will get a two percent re-
duction. It is much more likely that some programs will get increases
and others decrease, but total subcommittee spending must meet the
two percent reduction.
• Reconciliation instructions are given to authorizing committees direct-
ing them to draft changes in existing laws in order to achieve specific
dollar amounts within the committee’s jurisdiction. States should pay
close attention to this because entitlement spending is revised by Rec-
onciliation Acts which are subsequent bills enacted to complete rec-
onciliation instructions.
• Congressional enforcement mechanisms have also been included in
Budget Resolutions and have included pay-as-you-go and discretion-
ary caps and firewalls.
Budget Enactment Budget enactment is generally through passage of individual appropria-

tions bills. This process is described above. The appropriation process
should be completed by October 1st. If a full year appropriation bill is not
enacted, Congress and the President usually agree to short-term Continu-
ing Resolutions to continue programs until the full year appropriation bill
is enacted. Sometimes these bills are rolled together into one large bill for
a full year Continuing Resolution or “CR.”
When tracking federal funds through the appropriations process, states

should identify specific language in the committee reports that could di-
vert funds to specific projects, thereby reducing total program funds avail-
able for states.
Reconciliation First devised in the Congressional Budget Act of 1974, reconciliation was
designed to allow Congress at the end of the fiscal year to enact legisla-
tion, which could not be filibustered in the Senate, to fine tune revenue
and spending levels. During the 1980s, reconciliation came to be used as
a vehicle for implementing major economic and budget plans rather than
just fine tuning. It was also the vehicle for major Medicaid expansions
throughout the 1980s. In recent years, both Congress and the President
have made it a high priority to reduce the federal deficit and reconcilia-
tion has been a favored vehicle. The trend to use reconciliation as a vehi-

The Federal Budget
Concepts
cle for entitlement changes continues.
Byrd Rule An important consideration should be kept in mind about the fast track
procedures utilized by Congress for reconciliation. Items that can be
identified as extraneous to reconciliation can be stricken from the meas-
ure in the Senate under the provisions of the Byrd Rule. The Byrd Rule
provides that an amendment or provision is extraneous if it: 1) produces
no change in outlays or revenues, 2) increases outlays or reduces reve-
nues and the reporting committee fails to achieve its instructed dollar
change, 3) is not within the jurisdiction of the committee reporting the ti-
tle, 4) produces changes in outlays or revenues that are “merely inciden-
tal” to the non-budgetary components of the provision, 5) increases the
deficit in any year beyond the years reconciled and such increase is not
offset by other provisions in the same title, and 6) provides certain
changes in the Social Security program.
Authorizing Authorizing legislation generally has two main components: substantive

Legislation legislation which establishes a program and prescribes the terms and con-
ditions under which it operates, and the authorization for Congress to ap-
propriate funds. This legislation is the first source for the description of a
program. However, it is not the only source because appropriation com-
mittees may offer language that will also direct the program.
The distinction between authorizing legislation and appropriations has

been blurred by the following: insertion of legislative provisions in ap-
propriation acts, extensive earmarking or specific dedication of funds, the
growth of direct spending (entitlement) legislation, and the insertion of ap-
propriation-forcing language in authorization legislation.
Additional Spending Continuing in the same tradition as the Budget Enforcement Act of 1990,
Limitations the 1994 Budget Resolution included limits on discretionary spending.
The fiscal year 1997 Budget Resolution has also set spending limits
through fiscal year 2002 with the defense/non-defense firewall in place
through fiscal year 1998. The firewall is a specific limitation put in place
to protect both categories of spending by limiting the amount of reduction
that can take place in any given year.
Pay-As-You-Go Mandatory spending is limited by pay-as-you-go provisions which were

Re quirements included in the 1994 Budget Resolution. A point of order can be raised
by an individual member of either the House or the Senate, if the pro-
posed legislation would cause an increase in the deficit over the next ten
years. This provision in effect requires Congress to account for any new
programs or changes to programs which result in increased direct spend-
ing. For example, if Congress were to enact a program providing new

The Federal Budget
Concepts
benefits to Medicare recipients, the increased costs would have to be paid

for by a corresponding reduction in direct spending elsewhere or an in-
crease in revenues.
Sequestration For direct spending and revenues, the Budget Enforcement Act of 1990
requires the Office of Management and Budget (OMB) to enforce a “pay-
as-you-go” requirement. If OMB estimates that the sum of all direct spend-
ing and revenue legislation enacted since 1990 will result in a net in-
crease in the deficit for the fiscal year, the President is required to issue a
sequester order reducing all non-exempt spending accounts by a uniform
percentage to eliminate the net deficit increase. Social Security is exempt.
Line -item Veto Act The Line-item Veto Act of 1996 gives the President authority to cancel
of 1996 wasteful spending and special interest tax breaks to reduce the federal
budget deficit. The President has the authority to cancel any dollar
amount of discretionary spending which is found in an appropriations act,
any item of new direct spending, or any limited tax benefit. The law also
provides for expedited legislative procedures which permit Congress to
review and respond, if necessary, to the President’s use of this new author-
ity by enacting a disapproval bill. If the disapproval bill is vetoed by the
President, the Congress could override the veto by a 2/3rds vote.
Score Keeping “Score keeping” is the term used in Congress for measuring the budgetary
effects of pending legislation in light of the Congressional Budget Resolu-
tion and committee and subcommittee allocations made pursuant to it.
The principal scorekeepers in Congress are the House and Senate Budget
Committees. They provide official estimates that determine whether legis-
lation is within the Budget Resolution’s allocations. Score keeping is not
just an informational exercise. Its most important use is in sustaining or
rejecting points of order against pending legislation.

The Federal Budget
Concepts
Budget Timetable
Date Action
5 days before CBO sequester preview report.

President’s budget
submission
1st Monday in Febr u- President’s budget submission (includes OMB sequester preview
ary report and adjustments to spending caps).
February 15 CBO budget and economic outlook report.
Within 6 weeks of Committees submit views and estimates in the Budget Committees.
P r e sident’s budget
April 1 Senate Budget Committee reports budget resolution.
April 15 Congress completes budget resolution. If not, Chairman of House

Budget Committee files 302(a) allocations; Ways and Means is free
to proceed with pay-as-you-go measures.
May 15 Appropriations bills may be considered in the House.
June 10 House Appropriations reports last bill.
End of previous If an appropriations bill violates caps, OMB sequesters 15 days af-
session to June 30 ter enactment.
June 30 House completes action on annual appropriations bills.
July 15 President submits mid-session review.
August 10 President’s notification on military personnel exemption.
August 15 CBO sequester update report.
August 20 OMB sequester update report (with adjustments in caps).
October 1 Fiscal year begins.
10 days after end CBO final sequester report.

of session
15 days after end OMB final sequester report.
of session
45 days after end GAO compliance report.
of session

The Federal Budget
Concepts

The Federal Budget
Concepts
New State Perspectives: Trends in Federalism

Several recent federal actions should be of particular interest to state
budget offices:
• The Unfunded Mandate Reform Act of 1995 limits the imposition of
unfunded federal mandates on state or local governments or the pri-
vate sector without full and informed Congressional consideration of
the effects of such mandates before enactment.
• The enactment of the Personal Responsibility and Work Opportunity
Reconciliation Act of 1996 created a new block grant. This block
grant made funds available to states to operate the Temporary Assis-
tance to Needy Families (TANF) Program which replaced Aid to Fami-
lies with Dependent Children (AFDC). From the state perspective,
many of the nation’s governors wanted to replace the federal entitle-
ment to welfare benefits with a block grant with increased flexibility.
• In April 1996, Congress enacted the President’s proposal for the Envi-
ronmental Protection Agency’s Performance Partnership Grants, al-
lowing states to combine several categorical grants for air, water, haz-
ardous waste, or similar programs into an all-purpose environmental
grant.
• New opportunities for program flexibility include the new Surface
Transportaion Equity Act for the 21st Century(TEA21), Medicaid re-
form and job training.

The Federal Budget
Concepts
Problems with the Current Federal System

Although participants in the federal budget system, and others who study
it, can undoubtedly identify numerous perceived problems with the sys-
tem, the following issues are of particular note to state budget offices.
• Today the budget appears to be a limiting process, imprisoned in old
priorities that narrow the opportunities available to government. Ac-
cording to Allen Schick, it crowds out genuine choice and forces to-
morrow’s programs to give way to yesterday’s decisions.
• Constant delays occur in meeting Congressional deadlines. A notable
result of this was the actual shutdown of the federal government in
1995-96. The federal government has at times been an unreliable
partner for state and local governments.
• The frequent delays in tackling politically-charged issues, such as defi-
cit reduction, mean that timely achievement of fiscal policy is unlikely.

The Federal Budget
Competency Test
Competency Test
Q1: A state agency staff person has just told you that the federal govern-
ment has authorized $2.8 billion for a new discretionary domestic
program. Should your state count on receiving your fair share of the
$2.8 billion?
Q2: How is the new Temporary Assistance For Needy Families (TANF)
different from AFDC?
Q3: When does the Federal Fiscal Year begin and what is the impact of
this timing on state budgets?
Q4: The federal budget process is complex and fluid. What are the most
essential aspects for state budget offices to know?

Module 11: Communicating Fiscal
Issues
Overview Communication is the critical management process that can make or
break a budget analyst’s best technical and analytical efforts. A sound
budget that is poorly presented may never achieve the attention it de-
serves. This module focuses on effective communication with and among
the budget players to achieve desired results. Topics include identifying
the audience; selecting the appropriate vehicles to accurately and appro-
priately present financial, operating, and policy information; recognizing
and responding to politically sensitive situations; and using current tech-
nologies and reliable resources to the best advantage.
IMPORTANCE OF COMMUNICATION TO
ACHIEVING BUDGET RESULTS __________ 160
AUDIENCE-SPECIFIC APPROACHES TO
COMMUNICATION ____________________ 161
SELECTING THE APPROPRIATE
COMMUNICATION VEHICLE ____________ 162
COMMUNICATING POLITICALLY SENSITIVE
INFORMATION _______________________ 163
PRESENTING FINANCIAL, OPERATING, AND
POLICY INFORMATION ________________ 164
PREPARING BUDGET DOCUMENTS _________ 166
USING GRAPHICS________________________ 167
EDITING YOUR OWN WORK _______________ 168

Communicating Fiscal Issues
Concepts
Importance of Communication to Achieving

Budget Results
Good communication in public budgeting has a constructive influence
over the shape of government policy and public spending. The budget
process is a decision making environment, and the quality and clarity of
the financial, operating, and policy information communicated to the par-
ticipants has an impact on the quality of executive and legislative deci-
sions. Knowing facts, figures, policies, and procedures is not enough. To
be effective, a good communicator must have a reputation for accuracy,
clarity, honesty, and integrity.
Public Speaker and The budget analyst is sometimes required to be a persuasive public
N e gotiator speaker and at other times is required to negotiate tough administrative
policy positions through unreceptive channels. At any given time, a
budget analyst may be speaking for the governor, budget director, or
agency director or speaking to the governor, legislators, or the general
public. To large extent, being an effective budget analyst depends on be-
ing able to achieve results through effective communication.
Open Lines of Information is the life blood of the budget process -- a good budget analyst
Communication is informed. Having an open line of communication with agencies, inter-
nal managers, and other budget players enhances the analyst’s ability to
be knowledgeable and thorough. An effective budget analyst cultivates
reliable contacts with agencies, seeks out agency publications, attends
public meetings, and keeps apprised of ongoing activities to obtain accu-
rate, timely information.

Concepts
Audience-Specific Approaches to
Communication
What is the purpose of the presentation? Who is involved? What do they
want? Who else may use the information? Defining the audience, under-
standing its expectations, and tailoring information to its particular needs
will ensure that good communication occurs.
Tailor Message to Audiences can range from the chief executive, members of the legislature,
the Audience agency representatives, supervisors, managers, special interest groups,
and the general public. The information must be understood by the audi-
ence and also should be important to the audience. For example, mem-
bers of a legislative body are concerned about their constituents and will
want to know how an issue will positively or negatively affect their district.
A department head is interested in the impact or outcome of an action
rather than the technical details required to achieve it. The audience
wants to know what the bottom line is and how it affects them.
For all audiences, long, rambling explanations are ineffective, and com-
plex or very detailed information can be confusing. To prepare an effec-
tive presentation, determine what needs to be conveyed, keep the presen-
tation and materials simple and concise, and avoid jargon and acronyms.
Being well-prepared is essential for communicating with confidence.
Anticipate Questions Prior to making your presentation, take some time to anticipate questions
you will likely receive and how you will answer them. This will help en-
sure that the extemporaneous portions of your presentation go as well as
your formal, practiced presentation.

Concepts
Selecting the Appropriate Communication

Vehicle
In large measure, the complexity and urgency of what is being communi-
cated, the required degree of formality, and the target audience will dic-
tate the communication vehicle. Communications tools include budget
documents, briefs, memoranda, messages, reports, media presentations,
briefings, and issue forums.
Communications The most effective format for legislators may be a verbal presentation ac-
Tools companied by a handout of presentation highlights. A memorandum can
be used in a variety of situations, such as in conjunction with a meeting
where a budget analyst can verbally outline policies, recommendations,
or timelines and receive questions or comments. A budget director, who
concurrently monitors many detailed issues, may prefer to receive infor-
mation in the form of budget briefs supplemented with reports and
spreadsheets for further detail and future reference.
Choosing the The information provided to the decision maker must be cost/benefit re-
Communication Tool lated. Content, the needs of the audience, and the time frame for prepara-
tion should be considered when choosing the tool to convey the informa-
tion. A budget analyst should determine if there are preferred or standard
formats for disseminating information. In the absence of a prescribed for-
mat or a “feel” for how to communicate the message, consult with more
experienced co-workers and the budget director. The goal is to effectively
communicate pertinent information to improve understanding, not to add
confusion.

Concepts
Communicating Politically Sensitive Information

In the course of carrying out budget development, execution, and over-
sight responsibilities, budget analysts are often entrusted with politically
sensitive and sometimes confidential information. Even routine state
budget information has the potential to be politically sensitive depending
on how the information is used and what conclusions are drawn from it.
Responding to A budget analyst should know the office policy for dealing externally with
Inquiries politically sensitive issues. Who responds to inquiries from the legislature,
citizens, and press? To effectively respond to inquiries, know the issues;
anticipate the difficult questions; and recognize the extent to which infor-
mation can be provided fairly and accurately. Requesting time to gather
the facts or making a referral to the right person is far preferable to giving
an erroneous, inaccurate, or inappropriate response. Personal opinions
or editorial comments should not be aired, even in confidence to persons
outside the analyst’s office.
Privileged Budget analysts are often the recipients of privileged information and
Information sometimes research fiscal and operational areas that ultimately lead to po-
litically sensitive recommendations or outcomes. When assigned to a pro-
ject, determine the level of sensitivity and confidentiality required and act
with professionalism and diplomacy. Understanding the situation and
handling it appropriately can effectively defuse a protective manager who
might otherwise hinder research and analytical efforts.
While it may be expedient to simply forward an e-mail message to an out-

side party, the sender should first determine if editing is necessary.
Handling Confidential Confidential reports or analyses should have limited circulation and are
Information often best suited to verbal transmission. Confidential working information
should not be conveyed through means that are considered public do-
main. Keep management informed of potentially volatile or sensitive is-
sues to eliminate “surprises” among the executive budget staff.
Credibility The credibility of the budget office depends on open and honest commu-
nication. Giving clear and accurate information in good times and in bad
has the effect of bolstering trust among the participants. It is important to
report and respond clearly, accurately, and with sensitivity to the political
environment at all times.

Concepts
Presenting Financial, Operating, and Policy

Information
Budgets, policies, and laws are often based on information provided by
the state budget office. The office has statewide oversight responsibilities
for monitoring and analyzing fiscal conditions, operations, and policy
compliance throughout state government. Budget analysts, through ac-
cess to reliable information, are routinely required to amplify, add re-
search, and report in written and oral formats for internal and external
consumers.
Displaying Data Financial data is frequently displayed in tables, spreadsheets, charts and
graphs. In choosing the right presentation tool, a budget analyst should
consider who will be using the information. It is important to include a
sufficient amount of detail and analysis to accurately represent a given is-
sue. Columns of numbers must total correctly and supporting graphs
should be meaningful. Notes, comments, and narrative should be in-
cluded wherever necessary to explain or amplify financial reports. The
date, and sometimes even the time should accompany the data.
Report Formats Operating and policy information is usually presented in narrative form
and, like financial reporting, may have a prescribed format for presenta-
tion. Budget analysts should be familiar with any standard report formats,
both in terms of reports received into the budget office as well as informa-
tion reported out from the budget office. Written reports should include
the date, office and sources used, and budget briefs should include a con-
tact person.
Presenting The presentation of information should not be overwhelming, but should

Information enhance what is being conveyed. Information should be prepared in a
logical manner with adequate detail. When orally presenting fiscal data,
use round numbers (particularly with millions and billions of dollars) and
simple charts or overheads to create a visual image for the listener. Narra-
tives and information should be brief and to the point, holding the atten-
tion of the audience. Organizing reports, oral briefings, and presentations
from the highest level of summary information to the lowest level of detail
is helpful when presenting detailed information. This technique of “layer-
ing” information will enable a budget analyst to gauge audience receptiv-
ity and adjust strategies as needed.

Concepts
Formulating The executive budget office is one of the few agencies with access to
Recommendations statewide information. Financial, operating, and policy information are
tools used by decision makers in formulating a recommendation or course
of action. Because information distributed from the budget office often
has broad fiscal and policy implications, communications must be reliable
and accurate.

Concepts
Preparing Budget Documents

Preparing the governor’s recommended budget document is a primary
function of the budget office. A great deal of time and effort is devoted to
preparing detailed guidelines and schedules for the preparation cycle.
Budget analysts are required to balance daily budget execution duties
with intensive efforts to capture meaningful budget detail. Ultimately, a
budget analyst must be able to blend agency requests, analytical efforts,
and alternatives together into clear and concisely presented documents.
The foundation and justification of a budget must be firm from the begin-
ning. In the final analysis, how well the budget document is prepared –
how well it is communicated and presented – will have an impact on how
successfully it is received into the legislative approval process and
whether it has a constructive influence on public spending.
Mission Effective communication of an agency’s or program’s mission, and the

Statement analyst’s understanding of the mission, are prerequisites to good budget
formulation. A budget analyst should think in terms of outcomes and im-
pacts, and about how the budget narratives and detail fit into the larger
budget development process, providing a context for the agency and the
services or products it provides. The end users of budget documents are
fiscal analysts, budget professionals, program managers, and legislators.
Remain aware that different people will have varying degrees of familiarity
with the agency or program under review.
Resource A good budget analyst will keep reference manuals handy, refer to proce-
Materials/Formats dures and statutes when necessary, and be familiar with statewide policy
memorandums or other directives originating from the executive branch.
Central files and other reliable resources should be used to obtain current
and historical fiscal information. The budget analyst should develop the
appropriate documentation to refer to during the legislative session and in
future years.
The appearance, structure, format, and content of standard budget docu-

ments should be agreed upon in advance by all groups that will use them.
Any deviations from the standard format should be noted where neces-
sary for clarity and consistency.

Concepts
Using Graphics
Designing an effective and attractive budget document can be a chal-
lenge. Budget documents often contain complex fiscal data and narra-
tives that do little to attract and hold the reader's attention. However,
desktop publishing and other software packages have facilitated the abil-
ity to produce budget information in more meaningful, interesting ways.
Visual Graphics are effective tools for enhancing a written or oral presentation.
Expression Visually expressing something can enhance text or verbal explanation.
Spreadsheets, charts, and graphs can quickly reduce billions of dollars
and complex components into a comprehensible, one page description.
Use of boxes, boldface type, shading, and bulleted text help direct atten-
tion to important information.
Design When adding graphics to budget presentations, some basic design ele-
Elements ments are: simplicity, balance, and emphasis on the most significant in-
formation. Graphics such as charts and tables should be preceded in the
text with brief narrative explanations. Graphs should quickly convey a
point or concept and should not require a lengthy explanation. Prepared
charts and graphs should be reviewed with peers before publication to
avoid unexpected interpretations or conclusions.
Visual materials such as slides or overhead transparencies should focus

on key points or ideas. A rule of thumb is that no more than five points
should be made on a single visual, and words should be kept to a mini-
mum. Visuals should enhance, not detract from, the oral presentation.

Concepts
Editing Your Own Work

The accuracy of budget presentations, whether written or oral, has a tre-
mendous bearing on the credibility of the budget analyst and the informa-
tion. Because budget analysts generally work independently to produce
analyses and reports on short deadlines, it is not safe to assume that there
will be a subsequent review of work by a supervisor. A good budget ana-
lyst will edit his/her own work and take responsibility for the final product.
Use Available Technology is available on almost all computer software packages to

Technology check spelling, punctuation, and grammar. Narrative should be reviewed
to ensure that words are used correctly and appropriately. Spreadsheets
should be double-checked to ensure that formulas are correct and that
rounding errors do not occur. When time permits, a finished product
should be reviewed a day or two later, with a fresh perspective. For ex-
traordinarily important tasks, a co-worker should be asked to review the
product.
Credibility Spelling errors and numbers that do not add up can destroy a budget ana-
lyst’s credibility and that of the office. In the budget business, quality re-
quires precision.

Competency Test
Competency Test
Q1: Who are the prospective audiences of a budget analyst?
Q2: Name four written or oral communications tools that are used to
transmit budget information.
Q3: When responding to questions about politically sensitive issues, is it

a good idea to tell everything you know about the subject?
Q4: What are common formats for presenting financial, operating, and
policy information?
Q5: Briefly explain the importance of preparing effective budget docu-

ments.
Q6: Name some ways to avoid careless errors in budget materials.

Module 12: Ethics and Standards
of Professional Conduct
Overview Black’s Law Dictionary states that “What is generally called the ethics of
the profession is but consensus of expert opinion as to the necessity of
professional standards.” Defined another way, ethics are the rules or
standards of conduct governing the members of a profession. Ethics in-
volves thinking systematically about the moral and professional duties one
member of a group or profession owes to the other members of that same
group or profession and to his or her clients. Public sector professionals
must do more than “think about” ethics. They are called upon daily to
“act” ethically.
ETHICS IN STATE BUDGETING_______________ 171

NASBO STANDARDS OF PROFESSIONAL
CONDUCT ______________________________ 173
ADDITIONAL INSIGHTS _____________________ 175

Ethics and Standards of Professional Conduct
Concepts
Ethics in State Budgeting

High ethical standards are an important component in state budget work.
Holding and maintaining the public trust is an absolute necessity that is
judged more on what we do rather than what we say.
Ethics or standards of conduct are usually defined in relation to personal
behavior (for example, honesty, integrity, and truthfulness) or in relation to
the conduct of one’s official duties. Ethical dilemmas are not created
equally and in nearly all cases there are consequences to any action that
one might take. Rather than trying to avoid those consequences, experi-
ence has demonstrated that it’s better to manage the consequences rather
than have the consequences manage you.
Multiple Loyalties At the heart of state budgeting are multiple responsibilities and loyalties.
For example, a budget analyst, like any other government employee,
owes loyalty to the public, to elected officials, to superiors and coworkers,
to friends and family, and to him or herself. These loyalties do not always
line up neatly on one side of the line. As a result, it is important to think
through and define the expectations and statutory requirements that apply
to your position.
General Guidelines Many states have adopted standards of ethical conduct for state officials
and employees. Typically, these standards contain the following general
types of prohibitions:
• May not participate as an employee or official in a situations or activi-
ties where they, certain relatives, or certain entities with which they are
involved have an interest.
• May not participate situations or activities that involve a business entity
in which they or certain relatives have employment, prospective em-
ployment, contractual, or creditor relationships.
• In most instances, may not have financial interests in or be employed
by an entity subject to their authority or the agency with which they
are affiliated. This might even include nonprofit boards of directors
having these relationships even if there is no compensation.
• In most instances, may not have financial interests in, or be employed
by, an entity having or negotiating a contract with the agency with
which they are affiliated.
• May not hold employment relationships which would impair their im-
partiality and independence of judgement.

Concepts
• May not intentionally use the prestige of their office for their own pri-
vate gain or that of another.
• May not solicit gifts or knowingly accept any gift directly or indirectly
from a person whom they know or have reason to know:
♦ Is doing or seeking to do business of any kind with their agency.
♦ Is engaged in activities which are regulated or controlled by their
agency.
♦ Has financial interests which may be substantially affected in a spe-
cific way by the employee, or
♦ Is a lobbyist with respect to matters within the employee’s func-
tional jurisdiction.
• May not disclose or use for their own economic benefit, or that of an-
other, confidential information acquired by reason of their public posi-
tion.
The above-mentioned standards address situations where the ethical and
unethical courses of action are fairly clear cut. Other situations may not
be as easy to figure out. For example, what do you do when the rules re-
quire a specified course of action but your compassion urges another?
The National Association of State Budget Officers has developed stan-
dards of professional conduct that should provide helpful guidance.

Concepts
NASBO Standards of Professional Conduct

The National Association of State Budget Officers (NASBO) has devel-
oped standards of professional conduct in order to enhance the perform-
ance of all persons engaged in public budgeting. NASBO adopted this
code from materials developed by the Josephson Institute on Ethics.
Honesty Be scrupulously and consistently honest by being truthful, sincere, forth-

right, and candid where professional duties requiring confidentiality per-
mit, so that persons are not misled or deceived.
Integrity Demonstrate integrity by: 1) exhibiting conduct consistent with core be-
liefs and assuring that practices are congruent with principles, 2) honoring
and adhering to the general principals of public service ethics, and the
mission and values of the organization, and 3) expressing and fighting for
your concept of what is right and upholding your convictions to the best
of your ability.
Commitment Demonstrate promise-keeping by: 1) fulfilling commitments by making

your word your bond, 2) discharging commitments in a fair and reason-
able manner, 3) exercising prudence and caution in making commit-
ments, considering that unknown or future factors might arise which
could make fulfillment of them impossible, difficult, or undesirable, and 4)
assuring that commitments made are clear to all parties.
Fairness Demonstrate fairness by: 1) making decisions with impartiality based on

consistent and appropriate standards, 2) demonstrating a commitment to
justice, the equitable treatment of individuals in all actions including re-
cruiting, hiring, and promoting employees, 3) exercising authority with
open mindedness and seeking all relevant information, including oppos-
ing perspectives, 4) voluntarily correcting personal or institutional mis-
takes and improprieties and refusing to take unfair advantage of mistakes
or ignorance of citizens, and 5) scrupulously employing open, equitable,
and impartial processes to gather and evaluate information necessary for
decisions.
Respect for Others Respect others by: 1) acknowledging and honoring the right of those af-
fected by official and managerial decisions to privacy and dignity, 2) treat-
ing others with courtesy and decency, and 3) exercising authority in a
way that provides others with the information they need to make informed
decisions about matters within the scope of their professional duties.

Concepts
Pursuit of Excellence Perform your duties with excellence by: 1) being diligent, reliable, careful,
prepared, and informed, and 2) continuing to develop knowledge, skills,
and judgment necessary for the performance of your duties.
Personal Accountabil- Be accountable by: 1) accepting personal responsibility for the foresee-
ity able consequences of actions and inactions, 2) recognizing your special
opportunities and obligations to lead by example, and 3) making deci-
sions that take into account long-term interest and the need to exercise
leadership for posterity.
Loyalty Demonstrate loyalty by: 1) advancing and protecting the interests of those
with legitimate moral claims arising from personal and institutional rela-
tionships, 2) safeguarding confidential information without violating pro-
fessional duties, 3) resolving conflicting loyalties to various parties by plac-
ing obligations to the constitution, the institution of government, and fun-
damental principles of representative democracy above your duty to indi-
viduals, and 4) refusing to subordinate other ethical obligations in the
name of loyalty such as honesty, integrity, fairness, and the obligation to
make decisions on the merits, without favoritism, in the name of loyalty.
Public Office as a Treat your office as a public trust by using your powers and resources to
Public Trust advance the public interest.
Independent Obje c- Employ independent objective judgment in performing your duties, decid-
tive Judgment ing all matters on the merits, free from conflicts of interest and both real
and apparent improper influences while discharging lawful discretionary
authority to the public/taxpayers’ best interest.
Public Accountability Assure that government is conducted openly, efficiently, equitably, and
honorably in a manner that permits the citizenry to make informed judg-
ments and hold government officials accountable.
Democratic Leade r- With a positive attitude, honor and respect the principles and spirit of rep-
ship resentative democracy and set a positive example of good citizenship by
scrupulously observing the letter and spirit of laws and rules.
Respectability and Safeguard public confidence in the integrity of government by being hon-
Fitness for Public Of- est, fair, caring, and respectful and by avoiding conduct creating the ap-
fice pearance of impropriety, which is unbefitting a public official.

Concepts
Additional Insights
The Josephson Institute has developed some very succinct ethical guide-
lines. These sometimes humorous maxims make the point in a few words.
• Everyone is ethical in his or her own eyes.

• Ethics is not about rhetoric - it is not about what we say, or what we
intend. It is not a written code or a framed credo. Ethics is about ac-
tions - it is about what we do.
• We judge ourselves by our best intentions, our most noble acts and
our most virtuous habits. We are judged by our last worst act.
• The doctrine of relative filth - I’m not so bad as long as there are others
who are worse.
• Would you do it if you knew your kid was looking over your shoul-
der?
• Ethics is bigger than compliance. Compliance is about doing what
you have to do. Ethics is about doing what you should do. Ethics is
about doing what is right.
• Most of us overestimate the cost of doing the right thing and underes-
timate the cost of failing to do so.

Competency Test
Competency Test
The following list of self-diagnostic questions concerning professional eth-
ics is taken from the booklet, Applying Professional Standards & Ethics in
the ‘80’s – A Workbook & Study Guide for Public Administrators. There
are no right or wrong answers to these questions provided here. Rather,
you have to look to yourself to provide the answers.
Q1: Do I confront difficult ethical decisions directly and attempt to think
through the alternatives and the principles involved? Am I inclined
to make decisions on grounds of convenience, expediency, pres-
sure, impulse, or inertia?
Q2: Do I systematically review my behavior as an administrator and
question whether what I do is consistent with my professional val-
ues?
Q3: If someone asked me to explain my professional ethics, what would
I say?
Q4: Have my values and ethics changed since I began working as a pub-
lic administrator? If so, why and how have they changed? What are
the primary influences that have changed my thinking?
Q5: Looking ahead to the remainder of my career, are there particular
areas of my ethical conduct to which I would like to pay closer at-
tention?
Q6: Do I ever find myself in situations in which providing equitable
treatment of clients, members of my organization, or members of
other organizations creates ethical conflicts? How do I handle such
dilemmas? Can I perceive any consistent pattern in my behavior?
Q7: Where do my professional loyalties ultimately lie? With the Consti-
tution? The law? My organization? My superiors? My clients? The
general public? Do I feel torn by these loyalties? How do I deal with
the conflicts?
Q8: Have I developed a distinctive loyalty to my professional group and
its network of contacts? If it exists, how does this type of loyalty af-
fect my decisions?
Q9: Do loyalties to other groups (ethnic group, union, political party, fra-
ternal order, clubs, and others) influence my decision making or ap-
proach to performance?
Q10: Do I ever confront situations in which I feel that it is unfair to treat

Ethics and Standards for Professional Conduct
Competency Test
everyone in the same way? How do I determine what to do in those

cases? How do I decide what is fair?
Q11: When I am responsible for some activity, which turns out inappro-
priate or undesirable, do I accept full responsibility for it? Why?
How?
Q12: Do I ever dismiss criticism of my actions with the explanation that I
am only “following orders?” Do I accept any responsibility for what
happens in these circumstances?

Module 13: Interpersonal Skills for
Budget Analysts
Overview Budget analysts are more than “number crunchers.” They are information
brokers: they find, give, receive, and use information. To effectively im-
plement this important role, budget analysts must have well-developed
interpersonal skills. This skill set will enhance a budget analyst’s ability to
effectively work with others in the interactive environment of a budget of-
fice. A budget analyst must also develop good communications skills to
inform, persuade, and negotiate. Decision makers look to budget analysts
for creativity in finding new and better ways to effectively deal with a wide
range of individuals. Being open-minded, flexible, credible, and having a
positive attitude are important attributes for meeting the challenges of the
job in a dynamic, political, and ever-changing setting.
RELATIONSHIPS WITH OTHER PLAYERS IN THE

BUDGET PROCESS _______________________ 179
CONDUCTING MEETINGS ___________________ 181
INTERVIEWING TECHNIQUES ________________ 182
BRIEFING HIGH-LEVEL OFFICIALS ___________ 183
THE ART OF PERSUASION___________________ 184
NEGOTIATING SKILLS_______________________ 185
DELIVERING BAD NEWS _____________________ 186

Interpersonal Skills for Budget Analysts
Concepts
Relationships With Other Players in the

Budget Process
Develop A budget analyst interacts with a wider variety of people than most any
Relationships other position in state government. From the governor, budget director,
co-workers, agency directors, fiscal staff, legislators, the media, the private
sector, federal and local government staff, lobbyists and special interest
groups, there are many different people to interact with on a regular basis.
Budget analysts must learn to develop and tailor working relationships to
a variety of individuals. While working to develop and maintain relation-
ships with others, a budget analyst must always understand that he/she
works for the governor and be careful to reflect the position of the gover-
nor, not personal opinions. Likewise, analysts must respect the philoso-
phies, loyalties, and background of those working in other agencies and
other branches of government.
Gather In order to analyze budgets, an analyst must secure information from reli-
Information able sources, often in a short time frame. Having developed relationships
in advance will enhance information gathering. Likewise, information
must be relayed to the governor, legislators, and the media. When a
budget analyst has developed an open and honest relationship, the in-
formation being presented is more readily accepted.
Serve as a Developing a strong working relationship with others requires budget ana-
Resource lysts to be a dependable resource. When asked for information, follow
through and provide it. To avoid any misunderstanding, clarify what in-
formation is available and a time frame in which it can be provided. In
some cases, to ensure efficient flow of information, it may be necessary to
guide the individual in formulating their request. A budget analyst should
offer additional information and explanations if it would be helpful to do
so. If specifically requested information is not available, suggest possible
alternatives that are available.
Grapevines "Grapevines" are alive and well in most work settings, including state
governments. Grapevines flourish when the demand for information is
high and the supply is low. Insufficient, inaccurate, and misleading in-
formation will feed a grapevine. A budget analyst should be aware of
what is feeding the grapevine and, if possible, correct inaccurate informa-
tion. However, an analyst should be careful not to “feed” the grapevine.

Concepts
Communications Technical and administrative skills are certainly important to being a suc-
Skills cessful budget analyst, but human relations skills provide the ability to
work with and influence others. Communication is one of the central
skills needed. The better the communication, the better a budget analyst’s
performance. In order to influence others, budget analysts must develop
an accurate, two-way flow of information.

Concepts
Conducting Meetings
Budget professionals spend a considerable amount of time in meetings.
Often they are responsible for leading these meetings. This can be ac-
complished most effectively if the analysts remember this -- most people
do not like to attend meetings. The reason is that many meetings are un-
productive uses of time, particularly if the purpose is unclear or the objec-
tive is not accomplished. Following are ground rules for conducting
meetings.
The Agenda The agenda should always be set and distributed in advance to all those
invited to attend. The agenda should include the start time, and more im-
portantly, the time the meeting will end. Setting an agenda will allow par-
ticipants the opportunity to prepare for the meeting and also allow indi-
viduals to determine whether their presence is really needed. Those in-
vited should be asked to indicate whether or not they can attend. This
will help avoid unproductive meetings because key people are not avail-
able.
Leader’s Ground • Always start on time. Communicate this ground rule to colleagues.
Rules • Introduce attendees if they do not know each other.
• Appoint a scribe to record major discussion items.
• Stick to the agenda and time limit. If necessary, appoint a time keeper.
• Draw out opinions from the shy and reserved.
• Control dominating attendees tactfully, yet firmly.
• Assign action items to responsible parties.
• At the conclusion of the meeting, recap decisions and assignments.

Concepts
Interviewing Techniques
Budget analysts must continually tap the knowledge and expertise of oth-
ers. Individuals with skills in particular areas are proud of their knowledge
and are often willing to share valuable information. However, some basic
rules should be followed before requesting information.
Rules for an • Research the topic in order to ask meaningful questions. A budget
Informational analyst should have a basic understanding and knowledge of the
Interview topic, including terminology. Determine whether information and an-
swers to your question can be provided through telephone calls or
mail (including e-mail), or if a personal interview is necessary.
• If an interview is necessary, make sure the time is convenient for the
person being interviewed. If the interviewee is facing major deadlines
or working on high-priority projects, time available may be limited.
• In preparing for an interview, it may also be helpful to "research" the
interviewee. If the person is overly negative and skeptical, find out
their interests in advance to help establish a positive exchange. If the
person is disorganized or easily distracted, tactfully redirect them to
stay focused on the topic.
• Prepare a basic list of questions to initiate the discussion. Allow re-
spondents flexibility to expand on the answers, possibly opening up
new ideas for discussion. Be open-minded and recognize that this is
their area of expertise. Recap the discussion to ensure accuracy. If
possible, ask if additional sources of information are available. This
will help in separating opinions from facts.
• At the end of the interview or project, ask the individual to read the
notes or fax a summary to them for review to ensure accuracy. This
will improve the credibility of the information and may also provide
additional insight on the topic. If the information is complicated, it
may be beneficial for both parties to have a written record of the dis-
cussion.
Finally, make sure that the expert receives credit for providing the informa-
tion. Solidify relations by following up with a thank-you letter.

Concepts
Briefing High-level Officials

High-level officials have limited time to receive and process information.
Research shows that these officials can read less than one-third of the ma-
terial they should, and that they remember only about 10 percent of the
information they receive. So budget analysts have to be especially skillful
as communicators.
Briefing Guidelines Briefings should be concise. You must prepare thoroughly, focus on the
topic, know the time limit, know the audience, be concise yet thorough
enough not to mislead, make it interesting by the use of graphics or ex-
amples, and anticipate questions. Anticipating questions and being pre-
pared to answer them is the most challenging aspect of briefing elected
officials, the budget director, or the media. If you don’t know the answer,
explain why the information is not available or offer to get back to them
with the answer.
Things to Avoid The facts should not be clouded by personal opinions or judgments. Ac-
ronyms or abbreviations should be avoided. Briefings should not be pre-
sented inductively -- that is, building from facts and details to the conclu-
sion. Rather, begin with the bottom line.
Differing Recognize that elected officials have constituencies with different perspec-
Perspectives tives on issues. When providing information, a budget analyst should
recognize that his/her conclusions or opinions will not be shared by eve-
ryone. Being honest, open, accurate, tactful, and thorough in presenting
information will establish a relationship of trust and respect for the long
term.
Practice New budget analysts may want to "practice" on co-workers before doing
their first briefing to a high-level official. After a briefing, assess the effec-
tiveness of the presentation and look for ways to improve.

Concepts
The Art of Persuasion

Budget analysts will often find themselves in the position of persuading
others to follow their recommendations and embrace their ideas. They
are often in the position of persuading their supervisor, the budget direc-
tor, the governor, legislators, or their co-workers.
Prepare a Plan To be successful in advancing an idea, a thorough and strategic plan is

necessary. People are more easily persuaded if it is apparent that an ana-
lyst is prepared and has a complete understanding of the idea beforehand.
Some things to consider are:
• Be sure all aspects of the issue are thoroughly researched.

• Be prepared with several alternatives. Give your recommendation
and explain why you selected that particular approach or solution.
• Think through all the "pluses" and "minuses" -- the supporters and the
detractors. If possible, come up with ideas to mitigate the "minuses" --
and respond to detractors.
• Anticipate unintended as well as intended outcomes.
• Know the possible ramifications of not implementing the idea.
Present the Idea The art of persuasion includes presenting ideas at a convenient time and
location. Schedule a meeting or appointment with the supervisor or offi-
cial so there is ample time to present the entire plan or idea. If the idea is
complex, providing information in writing, and in advance, may be help-
ful. A follow-up meeting should be scheduled after others have had time
to think about the concept.
Follow Through A budget analyst should be prepared to take on any responsibilities of the
project even if the analyst’s recommendation was not the one selected.

Concepts
Negotiating Skills
Budget analysts are frequently called upon to resolve outstanding issues
with other agencies and constituents. Negotiating, or gaining agreement
from different perspectives, requires a combination of research and inter-
personal skills. When entering a negotiation, the key is to be prepared.
Determine your bottom line in advance. Determine in advance the gov-
ernor’s position on the issue and what points are and are not negotiable.
Know the difference between a “must-have” and a “would like to have.”
Anticipate Assessing the must-haves and the would-like-to-haves of the opposing side
Questions/Act Ethi- and anticipating their questions are also important pre-negotiation strate-
cally gies. Determine in advance what information can or cannot/should or
should not be divulged during the negotiations. Ethical communication is
crucial when negotiating: avoid false "authorities," false information, dis-
torted statistics, bribes, or false promises for improved outcomes.
Assess Needs During negotiations, it is best for a budget analyst to listen more than talk,
be positive, think win-win, and trust intuition. Listening will allow better
understanding of the issues important to the other side.
Research the Very often in a negotiation, what people say they want and what they
Opposition really want are two different things. Being clear on the desired outcome,
and spending time in advance to research the needs of the opposition,
will help a budget analyst successfully conclude an agreement satisfactory
to all parties.

Concepts
Delivering Bad News

Budget analysts, at some point, will need to deliver bad news to the
budget director, agencies, constituent groups, and even the governor.
Perhaps a new program cannot be funded, cutbacks of staff must be made
to come within budget, or earlier revenue projections were inaccurate --
bad news can come in many forms. Occasionally the governor may ac-
tually deliver the bad news to an individual or agency, but a budget ana-
lyst may need to provide support, understanding, and explanations.
Be Direct and When delivering bad news, a budget analyst should always be direct and
Honest honest. It is important that the message is not "softened" so much that it
gets lost. The analyst should provide as much information and explana-
tion as possible about why the decision was made. The analyst should
also try to empathize with the recipient of the news and allow the person
to react to the news without taking the reaction personally. By truly listen-
ing to the person’s concerns, an analyst can often defuse the situation. If
the situation escalates to a point where the recipient of the news reacts
unprofessionally, suggest the recipient take some time to think about the
information, and set up a future meeting to discuss any further issues re-
garding the news. A budget analyst should remain calm and professional
at all times.
Outline Options Never leave a feeling of false hope, but if assistance or alternatives are
available, be prepared to outline them. For example, if staff must be re-
duced, will they receive severance pay? Is counseling available? Are job
search services available?
Develop Trust Delivering bad news will never be easy. However, if a budget analyst has
developed a relationship of trust with the individual or group affected, the
person on the receiving end of bad news will continue to respect the
budget analyst for the difficult decision.

Competency Test
Competency Test
Q1: A meeting agenda should include which of the following?
A) The number of attendees expected.
B) The time the meeting will end.
C) The minutes of the previous meeting.
D) The ground rules for the meeting.
E) None of the above.
F) All of the above.
Q2: When interviewing an engineer on the life cycles of building roofs,
advance preparations may include:
A) Knowing the types and age of roofs that are on buildings cur-
rently.
B) Researching roof materials available in your state.
C) Studying the historical building rules and regulations.
D) Climbing on many building roofs and taking pictures of them.
Q3: As part of a study on the school funding formulas, you have inter-
viewed over 200 people in the state. Your study, which will be pub-
licly distributed, includes your recommendation on potential
changes to the current system. What, if any, information might you
ask interviewees to review and comment on after their initial inter-
view and prior to the release of the report?
A) Quotes or summaries of expert opinions.
B) Your recommendations.
C) Recommendations made by other interviewees.
D) Similar information provided by other states.
Q4: When providing information to elected officials you should:
A) Include your opinion on the subject.
B) Avoid the use of graphics or examples and stick to the facts.

Competency Test
C) Be direct about not knowing an answer, but offer to get back to

them with information that is available.
D) Always use acronyms or abbreviations whenever possible to
quickly acquaint them with existing programs.
Q5: The object of the negotiation is to:
A) Convince the other side to "see it my way".
B) Compromise with the other side.
C) Find a solution or common ground where both parties feel like
they are getting what they want.
Q6: Which is more important in negotiations?
A) Win.
B) Collaborate.
C) Compromise.
Q7: What is the most effective and professional way to deliver bad news?
A) Send an E-mail.
B) Telephone.
C) Send a letter.
D) Personal visit.
Q8: You have to inform the director of an agency that the governor wants
a three percent reduction in their budget. The agency director be-
comes extremely agitated to a point where the professional relation-
ship is jeopardized. The agency director does not respond to your
calm demeanor and your attempts to empathize. What should you
do?
A) Suggest the director contact the Employee Assistance Program
for counseling.
B) Promise that you will get the governor to reverse the decision.
C) Suggest that the director take time to formulate their concerns
regarding the reduction and contact you later.
D) Tell the director to contact the governor.
Q9: In the preparation of the governor’s budget, you present a recom-

Competency Test
mendation to the director of the budget and it is not accepted. Dur-

ing the appropriations hearings, an influential member of the appro-
priations committee expresses interest in the idea. How would you
proceed?
A) Indicate to the appropriations committee that you have re-
search material on the subject that they may be interested in.
B) Restate the governor’s recommendation and the reasons for
that recommendation.
C) After the hearing, approach the member interested in the idea
and indicate your support of the idea and that you have useful
information on the concept.
D) Do nothing.
Q10: Highway funds are currently being used to fund highway patrol and
radio communication. The Highway Department submits its budget
without these functions and uses the funds for highway projects. As
the Highway Department analyst, how would you proceed?
A) In the governor’s recommendation, provide funds for the
Highway Patrol and radio communications and decrease funds
for highway projects.
B) Contact the fiscal officer of the Highway Department and tell
them to resubmit their budget with the highway patrol and ra-
dio communications funded, and highway project funding de-
creased.
C) Contact the fiscal officer of the Highway Department and ask
for information on why the budget as submitted did not include
money for the highway patrol and radio communications.
D) Ask your supervisor what to do.
Q11: If you receive a request for information from a legislator and you are
unsure of the answer or even if the answer can be found, what
should you do?
A) Inform the legislator you will have the information as soon as
possible.
B) Ask them to go to their legislative fiscal staff to perform the re-
search.
C) Indicate you will need to research the issue to determine what

information is available and give the legislator a time when you
will know more.

Competency Test
D) Give the legislator your best educated guess, let them know this
is just a guess and tell them you will get back to them if the an-
swer is different.

Appendix
Competency Test Answers
Module 1: Fundamentals Of Budgeting

A1: The federal government adopted its first formal budget process in the
Federal Budget and Accounting Act of 1921.
A2: Budgeting started with individual appropriation bills for departments
or agencies with few line-items and no narrative program descrip-
tions or performance expectations. It was usually an annual docu-
ment with no concern for projections of future years. Many budgets
now require program descriptions and goals with measurable objec-
tives to achieve those goals. Performance measures are utilized and
evaluated. Policies that drive budgets may be included in addition
to payroll and other related costs from the prior year.
A3: Line-item budgeting establishes specific amounts for specific types of
expenditures. There is no allowance for flexibility in hiring more
people or buying more equipment, etc. The restrictions of the ap-
propriation and the inability to allocate resources to meet emerging
needs prevents agencies from creatively solving problems or citizen
needs.
A4: Because line-item budgeting is easy to develop and understand, it is
prevalent throughout state governments. However, it does not allow
any management flexibility in managing the budget. Any necessary
changes must be approved by the legislature so they retain the ulti-
mate control.
A5: Program budgets must include program goals, program objectives,
and performance measures.
A6: Program budgeting calls for a flexible appropriation versus a more
restrictive line-item budget. The accountability in program budget-
ing is on the outcomes -- whether goals and objectives were met.
Accountability is not for the agency's ability to live within the line-
item dollars appropriated (inputs). Legislative committees are more
comfortable and have a better understanding of accountability
through inputs. They are not necessarily comfortable with giving
executive agency managers flexibility in spending their annual ap-
propriation.
A7: The primary purpose of zero-based budgeting is to define the various
programs and functions provided by an organization and rank them
in priority order from the most critical to the least critical item.
A8: ZBB requires managers to define the programs and/or functions their
organization performs. This requires review of various documents
such as statutes, constitutions, federal laws and rules, etc. Most chal-

Appendix
lenging, however, is establishing the priority order of those pro-

grams. Some programs are at the top of the list and others are at the
bottom and the manager must articulate this ranking to his or her
employees.
A9: Performance budgeting is based on the agreement of decision mak-
ers as to what the purpose and direction of an agency is to be.
Once the purpose is defined, performance measures and budgets
can be designed to determine whether that purpose is met. State-
wide input as to what citizens and others deem important gives di-
rection to agencies. Without this input, an agency may determine
what its performance is to be measured on but they may not be in
sync with what the people and other decision makers believe their
performance should be directed toward.
A10: Advantages to a department or agency in obtaining appropriations
under performance budgeting relate to their reported, measured per-
formance. If decision makers want higher performance, the agency
should get additional resources. If an agency excels but can prove it
can do more, it can justify more resources. The decision process is
focused on outputs and inputs determined by agreeing on a desired
outcome. This focuses the budget debate into an entirely different
arena. Also, if through a planning process, the citizens have spoken
and indicated a desired level of performance, it is difficult for a gov-
ernor or legislative committee to deny the resources needed to
achieve that service level. To do so would be opposing the "will of
the people."
Module 2: Operating Budgets

A1: The operating budget represents the financial plan for the portion of
the budget addressing program activities and services.
A2: Operating budgets typically include personnel services (salaries,
wages, and fringe benefits), contracted services, rents, travel, utilities,
equipment, supplies, and other operating expenses.
A3: The governor is required to sign a balanced budget in 31 states.
A4: Operating budgets should generally be funded with ongoing sources
of revenue such as income or sales tax receipts.
A5: Operating expenses generally continue year to year. They are ongo-
ing and should be matched with ongoing sources of revenue. If
funded with one-time sources, ongoing programs may have to be cut

Appendix
in the next budget cycle or revenue may have to be diverted from

other sources.
A6: Analysts need to use information on financial and economic trends to
make informed recommendations on budget requests and revisions.
Shortfalls in revenue collection may impact how the budget is admin-
istered. For example, if the trend analysis indicates a shortfall, cost-
controlling measures may be set into motion.
A7: Some states have established rainy day funds to provide a “cushion”
if revenue shortfalls occur. Rather than reduce services, the state will
fill the gap or a portion of the gap with money in the rainy day fund.
A8: Input measures focus on resources that go into or are appropriated to
a program. Output measures generally report the number of activi-
ties conducted or products generated. Outcome measures indicate
more specifically if a program is meeting its objectives. For example,
input measures for a job training program might measure number of
dollars appropriated or number of instructors hired. Output meas-
ures would record the number of classes held or number of students
graduated. Outcome measures might address the number of students
finding employment after training or employer ratings of satisfaction
with the quality of program graduates that have been hired.
Module 3: Funding State Services

A1: The response should compare a state’s distribution of taxes to the na-
tional averages which in 1995 were 31 percent from individual in-
come taxes, 49 percent from sales taxes, 7.3 percent from corporate
net income taxes and 2.4 percent from property taxes. The response
should also contain reasons why their state’s tax structure is different
or similar to the national averages. Some reasons might be constitu-
tional restraints on tax sources, historical division of taxes between
various levels of government, political/historical restraint, or eco-
nomic conditions peculiar to the state.
A2: The response should list the state’s earmarked revenues. An evalua-
tion of their effectiveness as a budgeting tool should also be in-
cluded. Such an evaluation may consider the direct relationship be-
tween those who pay the earmarked revenue and those that benefit
such as highway users, the relationship between the revenue source
and use to pay for remedial or preventative costs such as a tax on
underground tanks and environmental clean-up costs, the complex-
ity of budgeting and accounting for a myriad of small dedicated
funds, the difficulty of changing the use of earmarked revenues even
if costs and needs have changed, and the loss of accountability for
Appendix
these programs if operated outside the general operating budget.

A3: No. Entitlements are open-ended federal funds based on the authoriz-
ing legislation’s and states’ definition of who is eligible to receive ser-
vices. Levels contained in appropriations bills are generally estimates
of need and do not have the force of law to limit funding.
A4: The advantages include: new source of revenue, voluntary payment,
not compelled by law; may provide competition for illegal gambling;
provides in-state alternative to gambling opportunities in other juris-
dictions; and there is no necessity to connect the source of the reve-
nues to specific uses.
The disadvantages include: uncertain revenues, receipt level de-
pendent on marketing effectiveness and strength of competition; in-
creased social costs; and may divert family expenditures from basic
needs.
A5: The distinguishing characteristics are: it is not a tax, it is a voluntary
payment; although paid only by users, it has no natural constituency
for programs funded from its receipts; and receipts can be volatile
and unpredictable due to competition, the state of the economy, and
the effectiveness of competition.
A6: Debt may become the financing source of regular, recurring expendi-
tures. This may lead to an uncontrolled rise in debt and a layering of
debt service payments that can place budgetary pressures on the re-
mainder of the budget as debt service payments consume an ever
larger proportion of budget resources. The cost of currently con-
sumed items may be shifted to future taxpayers who will derive no re-
turn or benefits from those expenditures. A debt financing policy
can also provide the benefit of long-term affordability planning, in-
cluding not only the capital costs of facilities, but also the annual op-
erational costs required to maintain and operate these facilities.
A7: A policy on charging fees for services may include: charging rates
that reflect the cost of providing the service for which fees are levied;
that fees be borne by the beneficiaries of the service provided; activi-
ties generally benefiting all citizens should be supported by generally
imposed fees; fees may include a revenue generation component
when used for licenses, permits, certifications, privileges, goods or
services in competition with private enterprise.
Module 4: Economics and the State Budget

A1: Economic forecasts are prepared for two main purposes: 1) to guide
the preparation of estimates of state revenues, and 2) to estimate

Appendix
caseloads for health, welfare, employment, and corrections depart-

ments.
A2: The most widespread method of estimating key economic variables
of a state’s economy is to begin with a forecast of the nation’s econ-
omy and then to scale this to the state. Few states maintain their own
national forecast models. Most either simulate one of the several
commercial models or simply accept the “most likely” forecast from
one of these firms. Others use a consensus forecast such as Eggert’s
Blue Chip Survey.
Once a national forecast is accepted, the scaling to the state begins by
exploiting known linkages between national economic activity and
that of the state. Generally, these relationships are estimated using a
branch of applied statistics called “econometrics.” Each major indus-
try’s employment would be estimated, using national and state eco-
nomic variables, such as profits, personal income, unemployment,
etc. Local inflation forecasts are similarly driven off national inflation
forecasts.
Once the estimates of state economic variables are completed and
agreed to by participating economists, they are made available to
revenue, health, welfare, employment, and other departments to use
as a basis for their estimates of the budget planning activities. Eco-
nomic forecasts generally become the driving force behind many of
the major policy decisions of the administration and legislature dur-
ing the budget cycle of each state -- leading to many of the economic
development proposals discussed above.
A3: Once forecasts are accepted and a budget is adopted, it is essential to
track both the economic variables and revenues against actual re-
sults. The task of tracking economic statistics is complicated at the
state level by revisions, which can be large, and even involve a
change of sign (reported increases can suddenly be revised to be-
come decreases). In addition, revenue forecasting and analysis units
need to be kept abreast of changing economic conditions, at the na-
tional, state, and local level to ensure that they can prepare realistic
estimates of future revenue and to understand economic sources of
fluctuations in revenues from original forecasts. Health and welfare
departments need the same information for analysis of caseload de-
mand and need to be provided with cost of living indices for legis-
lated adjustments to monthly welfare stipends.
A4: Typical economic indicators tracked by the economic research func-
tion would include national, state, and local data. National data in-
clude the levels and rates of change of: gross domestic product, em-

Appendix
ployment, unemployment, income, consumer price indices, con-

struction, exports, imports, deficits, interest rates, and investment.
State data include the levels and rates of change of: employment,
consumer price indices (where available), building permits, retail
sales (where available), and a variety of state-specific measures of in-
dustry employment. Industry output is not measured on a frequent
basis at the state level. Thus, employment and personal income be-
come key indicators of economic activity in specific industries as
these are available on a monthly or quarterly basis.
A5: Demographics is the study of the level, composition, and changes to
measures of population. In various forms, states perform their demo-
graphic research function -- whether gathered into one department or
distributed across departments. Some states perform their own popu-
lation estimates, but most accept those made by the federal Bureau
of the Census.
A6: Population estimates establish the amounts of some federal funds
transferred to support various programs to the state, and the subse-
quent redistribution of federal and state funds to local governments --
primarily for highways, health and welfare expenditures, and educa-
tion. Some states have complex formulas for distributing education
money to local governments and others have appropriation limits to
the size of state government. Population is often one of the key
pieces of data for all of these calculations.
Beyond overall state population estimates, demographic research
functions may estimate city and county population, average daily at-
tendance in public schools, inter-regional and international migra-
tion, and other components of population levels and change. While
some of these estimates are provided as a service to academic and
industry researchers, most of the sub-state estimates are driven by tax
redistribution programs.
A7: Overall, the federal government marginal profits tax rate is 35 percent
for large corporations while for states, marginal rates are between
zero and less than 10 percent. Federal marginal personal income tax
rates peak at 39.6 percent, while states range between zero and less
than 10 percent. Clearly, changes in federal business profits taxes
will be several times more important to business decision makers
than proportionate changes to state taxes. The extent that state per-
sonal income taxes are deducted from household incomes subject to
federal tax further reduces the ability of state tax policy to affect
household behavior. Thus, if tax policy affects economic behavior, it

Appendix
is federal tax policy for households or businesses. If sufficiently large,

differences between state tax rates could affect the location of eco-
nomic activity much more than the overall amount of activity.
A8: The major federal tax on businesses is the corporate profits tax. States
can be affected by changes in federal tax law in three primary ways:
1) marginal tax rate changes, 2) administrative rules changes, and 3)
tax expenditure changes. In each case, federal changes can be con-
sidered preemptive in the sense that federal tax policies, rules, and
programs seldom take into account the impact on state policies,
rules, and programs. When federal marginal rates change, state tax
revenues will be driven up or down by economic activity encour-
aged or discouraged by changing tax rates -- if the state makes no
corresponding adjustment to its rates. When federal tax administra-
tive rules (for record-keeping, reporting, or timing) change, significant
pressure will be put on states to conform their rules to federal rules to
keep administrative costs for companies to the point where they will
comply with state rules. The issue of conformity is most pressing for
federal tax expenditure rules. If the state and federal government
have similar, but different, tax credits or subsidy arrangements (differ-
ent in terms of structure, not percentages or levels), states will usually
find that companies will conform to federal law and frustrate attempts
by states to conduct entirely independent incentive programs.
Personal income tax is also driven by federal rates, rules, and tax ex-
penditure programs. Beyond obvious parallels with corporate taxes
in each of these areas, one subject is of major significance: capital
gains taxes. Over the last twenty years, the rate at which capital
gains have been exposed to taxes has been the most volatile federal
tax rule. In the early 1980s, the rate was halved and a rush of previ-
ously-accumulated capital gains was exposed to tax. This rush was
accelerated as discussions progressed later in the 1980s towards in-
creasing the exposure rate of capital gains to taxes and ended with
the higher exposure rate being implemented. The balanced budget
act of 1997 will further impact capital gains.
State governments that did not conform their exposure rates for capi-
tal gains to federal rates experienced significant growth in state per-
sonal income tax revenues when federal rates fell. This growth ac-
celerated towards the end of the ”window of opportunity” for house-
holds. In the largest states, this revenue windfall approached $1 bil-
lion per year. As the window closed, these states experienced reve-
nue shortfalls of similar magnitude. This episode of capital gains
taxation is one of the clearest examples of federal tax law’s impact on

Appendix
the behavior of households and firms.

A9: The two main groups of policies are tax and expenditure changes.
Tax changes are made to reduce the burden of taxes on businesses
or households, making it more attractive to live, work, and invest in a
state. Their purposes are similar: by changing government policy,
private economic activity will increase. While the purpose of ex-
penditure change is the same as for tax, it can take two forms. The
first is direct purchase of goods and services by government. The
second is tax expenditure: subsidies or tax credits.
A10:Breadth is a measure of how widespread are the direct benefits of a
proposal. If a tax reduction is broad, it would apply to many sectors
of the economy or most households (or both). If it were narrow, it
would encourage growth by a narrowly-defined sector of the econ-
omy or households with specific characteristics. The breadth of tax
reduction or expenditure may be as important as the dollar magni-
tude. When governments reduce taxes for selected industries, they
create incentives for profit-maximizing firms and investors to shift re-
sources from other industries, regions, or countries. To the extent
that the expansion of the industry receiving the specialized treatment
is offset by resources simply shifting from other industries in the state,
such an economic development strategy may result in no net gain to
the state.
A11:Today, states experience stiff economic competition from other con-
tries as well as other states. Some states trade as much or more out-
side of the U.S. as with other states. It is important to note that trade
data are among the weakest economic data commonly used. Inter-
national exports are measured two ways: by port activity and by
point of manufacture. Port data measure the dollar volume of ex-
ports (and imports) that flow through a port. Point of manufacture
export data (but not available as ‘point of final use’ for imports) are
also kept. These data attempt to connect exports from any port (in
the state or in another state) that come from a particular state.
A12: Global competition can affect a state’s economy and policy deci-
sions in a variety of ways. Plant location arguments for economic
development policies may be based as frequently upon global as in-
terstate comparisons. Policy questions may be raised concerning the
efficacy of opening trade offices in foreign countries. These offices
make state administrators responsible for expenditures made in for-
eign currencies and exposed to foreign inflation rates -- a complex
environment for the uninitiated.
A13: While the term “economic conversion” can be applied to any struc-

Appendix
tural change to a state’s economy, recently it has been applied al-

most exclusively to the conversion of military facilities to private
economic activity. The idea behind economic conversion is to ex-
ploit the physical plant and laid-off staff left behind by the base clo-
sure to encourage the growth of new businesses. By offering land or
buildings at less-than-market cost, an implicit subsidy is created to
encourage new business activity on the base. Some states may also
subsidize labor by means of direct subsidies or tax expenditures.
A14: Opportunity cost is the value of the tax or expenditure resources ap-
plied to their next best use. Each claim of successful economic con-
version must be considered in terms of opportunity cost. All tax ex-
penditure programs cost tax dollars that otherwise would not have to
be raised or that could have been used for other purposes. The op-
portunity cost of lost revenues from providing base facilities at less-
than-market rental rates and tax expenditures from explicit or implicit
subsidies of labor should be considered in the cost-benefit analysis of
conversion programs - as should the expected reduction in social
welfare costs.
Revenue and Expenditure Analysis and

Module 5:
Forecasting
A1: It is important to monitor general fund revenues because they are
vital to a state’s fiscal health. Although major revenue sources, such
as income and sales tax, are generally stable over time, they com-
prise nearly three-quarters of the revenue base in most states. So
even a minor deviation from the forecast can have significant impact
on the state’s ability to fund services. Budget staffs need to have
“early warning” systems in place so that action can be taken when
revenues change, especially in a negative direction. Tracking actual
revenue collections against forecasts is one such early warning sys-
tem.
A2: As a general practice, budget analysts should forecast the general ex-
penditure trends of all their programs. It is imperative, however, that
the major spending drivers be forecast, because they account for
such a large portion of the budget. In nearly every state, most
budget growth is accounted for by three programs: Medicaid, cor-
rections, and K-12 education.
A3: The primary types of forecasting techniques are econometric analy-
sis, time series analysis, mathematical models, and ad hoc methods.
The more sophisticated methods, such as econometric or time series

Appendix
analysis, can be used when the variables to be predicted have a long

history and stable relationships with respect to economic, demo-
graphic, or policy drivers. As a variable’s history shortens or as basic
structural relationships become less stable, more sophisticated tech-
niques are less useful compared to mathematical or ad hoc methods.
A4: Important analytical skills include the ability to understand and
communicate abstract concepts, good basic math skills, creativ-
ity/flexibility to apply lessons from experience and training, and an
understanding of statistical methods.
A5: Mainframe and/or personal computers are required, along with soft-
ware that can accommodate the skill levels of the analysts doing the
estimating. Access to national data bases and sources through the
Internet is also useful.
A6: Estimates should be updated when preparing a budget, and when
actual experience begins deviating significantly from projections.
A7: Analysts can prepare decision makers for forecast deviations by
clearly communicating the normal risks inherent in forecasting, pro-
viding historical overviews of actual experience compared to fore-
casts, producing cycle forecasts, and continually monitoring and re-
porting on the accuracy of current projections.
A8: It is important to clearly explain the assumptions or origins because
they may differ from the preconceptions that decision makers or
other parties may have on an issue.
A9: The primary criteria are tax incidence, equity, stability, revenue yield,
sufficiency, and simplicity. Budget analysts should realize that deci-
sion makers will view each criterion through a political lens to con-
sider the likely reaction of constituents to revenue policy changes.
A10: Ideal elements of fiscal reference documents include a descriptive
and quantitative historical perspective of revenue and expenditure
patterns, a thorough description of the current base and rate of ma-
jor revenue sources and the current elements of major spending
programs, a forward-looking perspective, and a “menu” of estimates
of the impacts of potential structural changes on citizens.
A11: Nationally recognized criteria of a good forecasting process include
direct participation by governors, use of academic and business ex-
perts to help determine assumptions, monthly reporting of actuals
against projections, flexibility of timetables and procedures, and
public disclosure of all budget-related information.
Module 6: Analytical Methods for Budget Analysis

Appendix
A1: A newly assigned budget analyst should invest time in several infor-
mation gathering efforts including interviews; review of planning
and financial documents, special studies by or about the agency, re-
lated constitutional provision, laws, and regulations; and state and
federal court decisions and attorney general opinions. The analyst
should understand the importance of information from the National
Center for State Courts, National Governors’ Association, National
Association of State Budget Officers, Council of State Governments,
National Conference of State Legislatures, as well as their ongoing
publications such as Governors’ Bulletin, State Budget and Tax
News, and State Policy Reports. Finally, the national associations
are also good sources of information for many substantive policy is-
sues.
A2: This response would be similar to A1 above, but more concrete and
narrowly focused on the implications of legal issues. This response
calls for the analyst to show an understanding of the purpose – to
determine whether the legal mandate is in conflict with current poli-
cies, the extent of the conflict (policy and fiscal), and changes
needed to comply. The response should indicate familiarity with the
information gathering process, including meetings and exchange of
information with the affected line agencies, Office of the Attorney
General, and other legal staff. Knowledge of the related laws, acts,
regulations, state and federal court decisions, and attorney general
opinions is also necessary. Finally, national association contact is
appropriate to establish whether there were similar events in other
states.
A3: Policy analysis ideally relies on data and information from several
perspectives, both empirical and political: 1) information about cur-
rent policies and objectives, including formal goals and objectives,
legal mandates, and the distribution of financial resources, 2) data
about current and emerging problems, including the expressed
needs of the affected interests, 3) information about how other gov-
ernments are dealing with the problem, and 4) an assessment of the
likely support and opposition for each alternative.
A4: The analyst needs to be aware of legislative and interest group, espe-
cially local government, interest in the proposal; study the proposal
to understand the criteria for funding to estimate who would benefit
the most; carefully discuss with the state agency, local government
associations, and the association of disaster recovery professionals,
the issues of concern to them and the positions they are likely to
take on the provisions of the budget and/or legislation. The analyst

Appendix
also needs to examine the history of the proposal, including whether

it was previously considered, and the extent to which it involves is-
sues that are the object of partisan differences, legisla-
ture/administration conflict, intergovernmental conflict, and even
personality issues.
A5: The initial approach to analyzing program and service delivery alter-
natives is to ensure that the program and service goals and objec-
tives are not in dispute. If there is a conflict, a policy analysis would
be more appropriate. If there is agreement and the programs and
services are consistent with agency mission, the analyst should be-
gin the exploration of efficiency and effectiveness through detailed
information about the consumption of financial, personnel, and
capital resources; the levels of service provided; and the level of ef-
fectiveness of the services. For comparative purposes, information
from other states and from national data bases can provide impor-
tant information. It is also important to understand how programs
and services work, by visiting them and talking to their staff and cus-
tomers.
A6: An analysis of alternatives is appropriate to uncover opportunities for
increased efficiency and effectiveness. This relies on the information
provided in A5 above, plus calculations and estimation of the total
cost of services, which may not be available from accounting or
budgeting information systems.
A7: The most common approach to select comparison states is to include
those which are contiguous or which have similar population size or
personal income levels, or which belong to a commonly used re-
gional designation. Other criteria are appropriate, depending on the
substance of the comparisons that will be made. For example, these
might include number of shoreline miles, square miles, population
density, percent urban population, or acres of parks. The important
thing is that the comparison groups be established based on data
that are reliable and generally available.
A8: Budget submissions should provide information on the finances, per-
sonnel, and capital assets in a meaningful format for analysis that
supports decision making by the chief executive and presentation to
the legislature and the public. It should provide information appro-
priate for assessing current and proposed policies, programs, and fi-
nances.
A9: This response should reflect understanding of basic budget analysis
by focusing on trends and comparisons between appropriations and
expenditures. Substantial trends and unexpected patterns need to

Appendix
be explained in terms of service demands, legislation changes,

mandates, or one-time or unexpected events. The response should
also reflect familiarity with the idea of finding excess funding in
budget requests, including overfunded personnel costs and failure to
remove amounts for purposes already accomplished. The response
should also reflect familiarity with the differences between general
and nongeneral fund appropriations. The basic analysis of agency
historical spending patterns provides the foundation for subsequent
analysis of the efficiency and effectiveness of public programs.
A10: Variance and trend analysis often become the basis on which a
budget analyst focuses questions about the agency’s finances. The
agency’s explanation of variations between expenditures and budg-
eted amounts and of trends over time are often the most illuminating
explanation of the agency’s financial situation.
A11: A complete response to this question would involve two perspec-
tives. The first is the extent to which the proposal represents a criti-
cal public service or essential to the operation of state government,
is legally required, or is a governor’s policy priority. If the first issue
is resolved, the analyst needs information that may or may not be
part of the official request. These types of information include work-
load measures, increased personnel needs, an explanation of the
methodology used to calculate spending needs, performance meas-
ures to evaluate future performance, and an explanation of why the
agency cannot absorb the cost within existing resources. The ana-
lyst should plan on recalculating all cost figures submitted, basically
rebuilding the proposal.
A12: An appropriate response to this question would first indicate that the
situation provides a good opportunity for a fundamental assessment
of the long-term needs for personal computer capacity. The basic
analysis should analyze the total cost of replacing the computers for
each of several alternatives. Alternatives would most likely include
either leasing and purchasing as well as several alternative computer
systems. The final total unit cost on which comparisons are made
should be based on total costs over the estimated life of the com-
puters. This is sometimes called life-cycle costing. It captures pro-
curement costs, operating costs, training, maintenance, and insur-
ance, and the costs extend beyond a single budget period.
A13: The initial examination of this issue would be to determine year-to-
date expenditures for salary, wage, and fringe benefit costs to deter-
mine the percent of the appropriation amount spent. If nongeneral
funds are involved, planned vs. actual revenues received to date
would also be examined. In addition, it is important to account for

Appendix
major increases or decreases in personnel spending that have oc-

curred or are known to be coming up later in the year.
A14: The response should include reference to starting the calculations
with rates of pay at the bottom of the pay scale and applying the
standard fringe benefit calculation. It is important to be conservative
in terms of the number of months each position would be filled, as
delays in advertising and hiring new positions are very common.
Turnover may also be appropriate to the calculation if there is actual
experience with this type of position. A secondary analysis might
use the actual experience of similar work units as a test for reason-
ability.
A15: The likely answers include:
Computer equipment: $3,000 x 5 Employees = One time cost of
$15,000
Office space: 100 square feet x 5 Employees x $10 per square foot x
2 years = $10,000
Computer operations charges: 10 cents/paycheck x 5,000 employ-
ees x 24 pay periods x 2 years = $24,000
A16: Three items could be reviewed to assess the impact on the operating
budget: 1) a comparison of energy costs of the proposed new heat-
ing and cooling system versus the costs associated with the existing
system, 2) a comparison of estimated routine maintenance costs
(annual service contracts) associated with the new systems versus
the old system, and 3) a review of repair costs associated with the ex-
isting system over the past year.
A17: Four items could be reviewed to determine the additional costs: 1)
maintenance costs, 2) custodial costs, 3) grounds care, and 4) utility
costs. There are national standards that set a range of 1 1/2 to 2 1/2
percent of replacement value for maintenance costs. National stan-
dards are available for determining the utility costs (which are gen-
erally determined on a per square foot basis). For institutions of
higher education, grounds care is figured on a per acre basis for in-
stitutions of higher education. Also helpful are comparisons of costs
for other similar facilities.
A18: A complete response to this question would include discussion of
exponential smoothing, time-series analysis, and regression analysis
in relation to the availability of forecast variable data for the past and
in relation to other data about the past and future that are related to
the forecast variable. The appropriate response for a budget analyst,
who is not normally a forecasting expert, would at least include ref-
erence to time-series analysis, where past experience is the primary
information on which the forecast is based and to regression analysis

Appendix
that uses predictor variables to calculate the forecast.

A19: The first and most basic issue in this example is the extent to which
the beneficiaries of the proposal are the general public or specific
individuals and organizations that gain special benefits not available
to the public. When beneficiaries are determined, it suggests where
the cost burden should lie.
The respondent should mention the importance of knowing the ac-
tual cost of the proposed program, examining how other states fund
the activity, determining its revenue generating potential, and de-
termining the appropriate funding mechanism -- general fund ap-
propriation, dedicated taxes, user fees, or a combination of these
sources.
A20: A good response to this question would generally conform to the
following logic:
Identify the problems such as bad roads, employee benefits, envi-
ronmental concerns, etc.,
Prioritize the problems by cost, cause, and value implications (from
most critical to least critical, cost, interelatedness of problem, if
solution of one problem will increase or decrease others, bene-
fits of solutions, and how much will it cost),
Specify the set of potential solutions for each problem based on

cost, cause, and value (for example, political feasibility, imple-
mentation time, identification of solutions with the best poten-
tial for realization),
Locate, analyze and interpret information needed to forecast out-
comes (quantifiable as well as intangibles),
Identify stakeholders (for example, citizens, taxpayers, customers,
and regional areas),
Estimate costs and benefits (for example, revenue increases or de-
cline to stakeholders, expenditure to stakeholders, opportunity
costs, intangible costs, burdens, and cost effectiveness),
Estimate risk and uncertainty (for example, adjust assumptions and
attempt to identify costs and outcomes that are measurable and
those not measurable),
Establish decision criteria (for example, choose a combination of
cost, benefit, implementation time, and stakeholders), and
Recommend best alternative.

Appendix
A21: Generally, a good response would refer to the homogeneity or vari-

ability among the agency’s objectives and the functions it performs;
geographic locations; the type and location of its customers; and the
level of stability or turbulence in its environment, which is often af-
fected by the need for coordination with other agencies, levels of
government, the private sector, and interest groups.
A22: The respondent to this question should discuss the alignment of or-
ganizational structure with the factors in A21 above, plus discuss the
current structure in terms of levels of hierarchy, span-of-control,
workload, lines of communication, and the location of decision
making authority.
Module 7: Decision Making in the Budget Process

A1: Comprehensive rational models use the familiar assumptions of clas-
sical economics. They assume that voters are consumers with rather
complete knowledge of what they want and how they might get it,
policy makers are producers that compete among themselves on
relatively equal terms for the attention and support of voters, and
both voters and policy makers engage in rational decision making.
Incremental models acknowledge that both voters and policy makers
have incomplete knowledge of what is desired and how it might be
obtained.
A2: The model is grounded in a broadly accepted model of problem
solving. The model minimizes the risks of decision making in several
ways. Perhaps most important it emphasizes technical and analytical
skills. These skills usually do not involve obvious policy or political
judgments. In the politically charged atmosphere of public budget-
ing, they provide the safest possible ground on which to make a de-
cision.
A3: Invariably, analysts do not have the time needed to adequately exam-
ine an issue. They need and take shortcuts. Typically, they restrict
their attention to very small segments of the total problem. They look
for aspects of an issue that are different than their expectations. Im-
plicitly, they adopt many of the assumptions made by the
incrementalists.
A4: The execution and implementation phases are the most technical
and least constrained by time. It is typically easier to approximate
the ideal in these phases. Elements of the preparation phase also ap-
proximate the ideal. However, even in these phases, decisions in-
volve considerations not found in the rational models.

Appendix
A5: The adoption phase often revolves around policy and political con-
siderations. They tap into underlying political values. The concepts
and tools in a typical analyst’s kit are not intended to provide the
values pursued by a democratically accountable leadership. In-
stead, the values used to implement decisions must be procured by
the analyst from policy makers in some fashion.
A6: Many observers argue it is the role of the central budget office to en-
sure that fiscal realities are imposed on those in the agencies and the
legislature who have strong incentives to increase the size of the
budget. Also, the central budget office must insure that the chief ex-
ecutive has the political and fiscal capital to be effective. Nothing
erodes political capital faster than budgetary problems and impru-
dent fiscal practices. Finally, every governor wants the financial
room needed to fulfill campaign promises and personal priorities.
A7: Basically, the information needed for macro budgeting is produced
in the scores of micro budgeting decisions that must be made.
Moreover, public officials have special responsibilities to account for
and control their use of funds. This puts enormous demands on the
level and type of detail of information needed in the decision making
process.
A8: Checklists, guidelines, and policy statements go only so far. They
cannot anticipate the full range of issues with which analysts deal.
Analysts need a sense of the overall strategy which lies behind deci-
sion making to address the gray areas that always exist. To the extent
analysts understand the overall strategy, they can function more ef-
fectively in the decision making process.
A9: Such techniques simplify decision making enormously. They help
establish settled expectations about decisions and they lower con-
flict. They also promote uniformity in decision making. Such tech-
niques can be arbitrary, however, and cut off necessary analysis.
They work against a textured consideration of the issues and limit the
appearance of imaginative solutions.
A10: Once, most budget analysts were accountants or business school
graduates. Today, a broad range of disciplines are represented in
most budget offices. While this diversity helps budget offices meet
their increasing responsibilities, it has had some adverse effects.
Specifically, the common discipline that analysts once brought to
budgeting issues has disappeared. Analysts do not necessarily have
similar expectations about the ways certain problems are to be han-
dled. This development, together with the greater demands on the
offices, increases the need for intensive training and extensive net-
Appendix
works of communication.
Module 8: Capital Budgets

A1: The capital budget is different from the operating budget in the fol-
lowing ways: they focus on different things (operations vs. infrastruc-
ture), the capital planning process often is of greater breadth and
covers a longer time frame than the annual or biennial budget proc-
ess, a variety of funding methods may be employed for capital pro-
jects, and the capital budget may be viewed as being more political
than the operating budget.
A2: The response should indicate either a capital planning process that is
multi-year in its scope or note that agency budget requests and prior-
ity lists are typically the beginning point for budget analysts’ exami-
nation. A number of other responses, including personal experi-
ence, media reporting, legislative hearings, and the like are also ac-
ceptable.
A3: The response could include their need or desire to solve a problem
or prevent a problem from occurring, or to present tangible evi-
dence of achievement to constituencies.
A4: The analyst’s knowledge and responsibility is directed toward identi-
fying the best option(s). The agency’s focus is on needs and priori-
ties.
A5: The correct response is statewide or gubernatorial staff with a state-
wide perspective.
A6: A correct response would include some or all of the following: gift
or grant, cash, borrowing, or privatization.
A7: He or she doesn’t. The process is continuous and cyclical, but does
not really ever end. Many capital projects span multiple budget cy-
cles. Further, the capital budget feeds into the operating budget,
and vice versa.
Module 9: Debt Financing

True or False
A1: False
A2: False
A3: False
A4: False
A5: False

Appendix
A6: False
A7: False
A8: False
A9: False
A10: False
A11: False
A12: False
A13: False
A14: False
A15: False
Short Answer
A16: The three agencies are Moody’s, Standard & Poor’s, and Fitch.
A17: The purpose is to provide guidance in the issuance and manage-
ment of state debt.
A18: Credit rating agencies generally assess debt, economy, finance, and
management.
A19: The primary difference is the level of security of the bond. G.O.
bonds are backed by the full faith and credit of the state. Revenue
bonds and lease-purchase are backed by a pledge such as a specific
revenue stream, annual appropriation, or the asset itself.
A20: The state would refinance debt through defeasance, which is putting
cash aside in escrow to earn interest and meet debt service require-
ments.
Multiple Choice
A21: The answer is B.
A23: The answer is E.
A24: The answer is E.
Module 10: The Federal Budget

A1: All things being equal, and assuming that the formula that distributes
funds does not adversely harm your state, the correct answer is no.

Appendix
The authorization is not an appropriation and in many cases the au-

thorization is often much more than the appropriated level.
A2: TANF is a block grant, not an entitlement like AFDC, which gives
states more flexibility and caps expenditures.
A3: The Federal Fiscal Year begins on October 1st. Because state fiscal
years typically begin on July 1, states must carefully forecast and
monitor federal funding decisions.
A4: The most important aspects of the federal process for state budget of-
fices to know include: 1) the decision timetable, 2) characteristics of
entitlement programs, especially funding formulae, 3) administrative
cost reimbursement rates, and 4) anticipated changes in discretionary
appropriations.
Module 11: Communicating Fiscal Issues

A1: The analyst’s prospective audiences include the governor, legislators,
budget director, managers, agency heads, technicians, and cowork-
ers.
A2: Communication tools that are used to transmit budget information
include budget briefs, the budget message, reports, spreadsheets,
media presentations, and issue forums.
A3: No. The budget analyst should be honest, but should provide only
necessary and appropriate information.
A4: Common formats include charts, spreadsheets, reports, and memo-
randa.
A5: The budget document is one of the primary vehicles for communicat-
ing the governor’s budget recommendations. It will be read by legis-
lators, agency heads, lobbyists, citizens, and others. The success of
the budget is in part attributable to the quality and understandability
of the budget document. It is, therefore, critical that the document be
clear, concise, and accurate. Tables and other graphics should be
used to help present complicated data in an easy-to-interpret fashion.
A6: Ways to avoid careless errors include: developing budget reports and
documents which are easily documented and supportable from mul-
tiple sources, double and triple checking reports, manually spot
checking spreadsheets for formula or rounding errors, using all elec-
tronic tools available (spelling, grammar and usage checks), and call-
ing on a coworker to help review critical items.

Appendix
Ethics and Standards of Professional

Module 12:
Conduct
There are no right or wrong answers to these competency test ques-
tions. An excellent approach for obtaining feedback is to pose some
of these questions to your professional peers and coworkers and, as
a group, discuss your responses.
Module 13: Interpersonal Skills for Budget Analysts

A2: The answer is A.
A3: The answer is F.
A4: The answer is C.
A7: The answer is D.

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BUDGET ANALYST

National Association of State Budget Officers

OVERVIEW OF STATE BUDGETING ________________________________________________________ 2

MODULE 1: FUNDAMENTALS OF BUDGETING _____________________________________________ 8

COMPETENCY TEST ___________________________________________________________________________________ 23

MODULE 2: OPERATING BUDGETS_______________________________________________________ 24

COMPETENCY TEST ___________________________________________________________________________________ 30

MODULE 3: FUNDING STATE SERVICES___________________________________________________ 31

COMPETENCY TEST ___________________________________________________________________________________ 42

MODULE 4: ECONOMICS AND THE STATE BUDGET________________________________________ 43

COMPETENCY TEST ___________________________________________________________________________________ 53

MODULE 5: REVENUE AND EXPENDITURE ANALYSIS AND FORECASTING ____________________ 54

COMPETENCY TEST ___________________________________________________________________________________ 66

MODULE 6: ANALYTICAL METHODS FOR BUDGET ANALYSIS _______________________________ 67

COMPETENCY TEST ___________________________________________________________________________________ 89

MODULE 7: DECISION MAKING IN THE BUDGET PROCESS __________________________________ 92

NASBO Training Curriculum ii

COMPETENCY TEST __________________________________________________________________________________ 113

MODULE 8: CAPITAL BUDGETS _________________________________________________________ 114

OVERVIEW _________________________________________________________________________________________ 114

COMPETENCY TEST __________________________________________________________________________________ 125

MODULE 9: DEBT FINANCING__________________________________________________________ 126

OVERVIEW _________________________________________________________________________________________ 126

COMPETENCY TEST __________________________________________________________________________________ 144

MODULE 10: THE FEDERAL BUDGET ____________________________________________________ 146

OVERVIEW _________________________________________________________________________________________ 146

COMPETENCY TEST __________________________________________________________________________________ 158

NASBO Training Curriculum iii

OVERVIEW _________________________________________________________________________________________ 159

COMPETENCY TEST __________________________________________________________________________________ 169

MODULE 12: ETHICS AND STANDARDS OF PROFESSIONAL CONDUCT______________________ 170

OVERVIEW _________________________________________________________________________________________ 170

COMPETENCY TEST __________________________________________________________________________________ 176

MODULE 13: INTERPERSONAL SKILLS FOR BUDGET ANALYSTS ____________________________ 178

OVERVIEW _________________________________________________________________________________________ 178

COMPETENCY TEST __________________________________________________________________________________ 187

APPENDIX ______________________________________________________________________________ 191

NASBO Training Curriculum iv

This training curriculum was authored by members of the National Asso-

With the concurrence of the Executive Committee, NASBO President Glo-

Bob Bittenbender, Pennsylvania

NASBO Training Curriculum vi

Budget analysis is a demanding yet rewarding endeavor. To be successful,

NASBO Training Curriculum 1

The budget process can be viewed from a number of perspectives. Suc-

The Budget Process

Types of Budgets and Their Applications

NASBO Training Curriculum 2

Revenue and Expenditure Projections

Budgeting in Times of Fiscal Strain

The Legislative Process

NASBO Training Curriculum 3

Fiscal Note Analysis

Function and Role of the Executive

Executive and Legislative Budget Staffs

NASBO Training Curriculum 4

program issues, within the parameters of their respective budget guide-

Relationship with Legislative Staff, Legislators,

The Players and the Role of Politics

Dealing with the Media

Ethics in State Budgeting

NASBO Training Curriculum 6

Analysts employed by both the executive and legislative budget offices

BUDGET PROCESS ____________________________ 9