Budget Solutions

Two years ago governors and legislatures across the nation were touting their tax cuts and rebates.  Today, the same leaders are standing before their constituents to announce shortfalls of comparable size.  The numbers are staggering.  But big fiscal challenges always bring with them big opportunities.  Rather than resorting to traditional medicine – raising taxes, cutting spending, and using accounting gimmicks to push today’s costs into tomorrow’s budgets – public leaders should look to the many innovations that have been pioneered over the past two decades to wring more bang out of the government buck.  Below we explain our own twelve-step program for public leaders serious about kicking the habit of fiscal over-indulgence. 

Price of Government

Fiscal Year

1. The first step is to set the price of government (POG).  Simply put, the POG is what we pay in taxes, fees and charges out of each dollar of personal income for the whole range of government services we buy.  The national average price of state and local government was relatively stable from 1970 through 1990; it then rose dramatically following the last recession and stayed at a higher level through the late ‘90s.  The recent round of tax cuts was designed to bring the price more in line with its historic average. 

While nationwide averages are interesting, each state and locality has its own, and often surprising, pattern.  Assessing and then getting political agreement on the desired price of government is a first crucial step in managing today’s fiscal challenges.

2. Once agreement has been reached on the price -- and therefore the revenue side of the budget – the next step is to buy results that citizen’s value.  Too much of the government budget process is focused on costs.  We have literally thousands of “cost codes” in our public accounting systems.  We can, with relative ease, report on the whereabouts of every penny of public money, but we know almost nothing about the results of all that spending.  Sure, we want our money accounted for, but what really counts are the results we get for the money we spend.  If a program manager or lobby group says that a budget should be raised because costs are going up, they should be told: “We don’t pay for higher costs, we pay for better results.”

Results-based budgeting is dramatically different from the traditional cost-based approach.

3. Separate the permanent (long-term) issues from the temporary (short-term) issues.  Many jurisdictions have built up “rainy day funds” to help them through temporary, short-term budget difficulties.  It will be tempting to throw these reserve dollars at the problem right away.  It could be a mistake to do so.  Reserves are “one time” money.  Using one-time money in the face of long term or structural imbalances is a recipe for disaster.

To decide when and how to use reserves vs. other budget solutions, governments must:

• Develop a credible forecast of revenues both short and long term.
• Develop a credible forecast of current expenses both short and long term.
• Determine whether revenues will be adequate to meet forecast expenses in the long term.

(Note: these are best done in the context of biennial budgeting and four year financial forecasting.)

If revenues will be adequate to meet expenses over the long term, then the jurisdiction can use reserves to meet its short-term needs.  If not -- and this will most likely be the case -- the jurisdiction will need to make permanent changes in its expenses, revenues or both.  Once it has done so, it can use its reserves to meet whatever short term needs remain.

But here’s the rub: delay makes the problem worse.  Changes in spending or revenue cumulate over time.  The earlier they are made in the budget cycle, the more they contribute to a solution.

So, how should governments proceed when they have to make long-term fiscal changes?  Our focus here will be on spending.  The normal response to the prospect of spending cuts is gloom and doom about service cutbacks.  There will, of course, be reductions.  Jobs will be lost.  But when all is said and done, it is possible to INCREASE the value created for citizens for each dollar of spending.  Here’s how.

4. Clear the decks.  Eliminate programs or activities that are not central to the government’s core purposes or are no longer valuable to citizens.  Divesting will almost certainly mean disruption, but in return, governments will have resources they can invest in results that matter to citizens.  One of the most visible examples of successful deck clearing has been the Defense Department’s Base Closing effort.  Similar challenges have confronted school districts with excess space and agencies with outdated programs. In the Minneapolis Public School District several years ago, leaders first identified the “must do’s,” putting them on what they called their dream list.  With that list in front of them, they proceeded to identify the “can live without” that would make their dreams possible.

5. Make services accountable to their customers.  No one is in a better place to judge the value of a service than those who use it.  We can make services accountable to their customers (and therefore of higher value) by:

• Giving customers choices about their services and making sure that the money follows the customers.  This creates competition between service providers for the customers’ business.  When school choice works this way, for example, school administrators begin to pay very close attention to what parents want. 
• Requiring that governments post service standards and provide customers a rebate if they don’t live up to them.  That’s how it works today when you apply for a passport.  They either get it to you on time or you get your money back.  The result: delighted customers who get passports much faster than they ever thought possible.
• Creating customer boards to provide direction to service providers.  The Minnesota Department of Administration used a customer board to help it run the state’s internal telecommunications service. 
• Making it possible for customers to serve themselves through e-government.  Web based services give customers control over the time and convenience of the services they want.

6.  This is all part of making performance consequential.  That’s the key.  When there are no consequences (rewards or sanctions) for performance, the results are likely to be “good enough for government work,” but never as “good as possible.”  The tools to get to excellence include:

• Enterprise management.  Make service organizations that can sell their services “earn” their budgets by selling to citizens or other agencies – often in competition with private providers.   Suddenly, survival depends on how well they please their customers, at what price.  The Edmonton, Canada, school district turned around its central office by transforming key departments into internal enterprises, with schools as their customers.  Entire nations – including Australia and the United Kingdom – have used this approach for many of their internal service operations.
• Managed competition.  Use competitive contracting to make public agencies compete with other agencies or private firms to serve public needs.  When public agencies are required to compete they unleash the creative potential of their employees, because the incentives for success are so direct.  Indianapolis has used such competitions to improve services and lower costs by an average of 25 percent.
• Performance management.  Require every agency to set performance targets and then measure and report results against those targets.  Doing so focuses attention on what matters most – results.  To strengthen the focus, add rewards for success – both financial and psychological -- as well as penalties for poor performance.  (It takes several years to develop an effective performance management system, and it requires serious investment.  The first two approaches offer faster results and far greater savings; hence they are more useful during a fiscal crisis.)

7. Provide flexibility in return for accountability.  In exchange for the new forms of performance accountability we have described, give programs and their managers flexibility in how services are delivered.  Tying programs up in red tape while making them accountable for performance is a set up for failure.  Give any organization willing to commit itself to specific results flexibility in how they hire, pay, purchase and invest.  The Office of Student Financial Assistance in the U.S. Department of Education is now operating in just this way.  It is a “Performance Based Organization,” with both the accountability and flexibility it needs to succeed.  Its performance has improved dramatically as a result. 

8. Reform how government works on the inside, to improve its performance on the outside.  All organizations are creatures, and often prisoners, of their internal systems for budgeting, accounting, personnel, procurement, and auditing.  The messages these systems send about following the rules of bureaucracy are much more powerful than all of the leadership exhortations to perform better.  Lasting improvements in performance require improved systems. 

Every one of these systems has a long history, and reform is often difficult.  If you cannot redesign them in the short term, empower a panel of Bureaucracy or Barrier Busters to give organizations selective relief from rules that get in the way of results or add needlessly to costs.  Doing so will help improve results and lower costs, while building the case for system reform.

9. Cut the cost of mistrust.  The main purpose of 20-30 percent of all government spending is to control the other 70-80 percent.  Much of that spending is based on the belief that most of us, if given the opportunity, will lie, cheat and steal.  This level of mistrust is not only expensive, it undermines performance.  For example, in special education today most teachers spend up to 50 percent of their time filling out forms to demonstrate compliance with federal and state rules and regulations.  If we could cut this cost of mistrust and find less expensive ways to win compliance, we could give our schools a massive infusion of what they need most – time to teach. 

10. Get a return on capital investments.  When operating budgets are tight, many governments turn to their capital budgets (supported by bonding) to deliver good news to their constituents.  For a small increase in debt service (in the operating budget), governments can launch relatively large expenditures for roads, bridges, buildings and technology.  Among the top priorities for capital should be investments designed specifically to make services better, faster and cheaper.   Proposed investments that produce the highest return in service quality or cost savings should take precedence over those that produce a lower return.

11. Target subsidies. For state governments in particular, much spending really involves transfers of resources from one set of taxpayers to another.  Sometimes this is done directly through assistance payments or tax credits.  Other transfers are indirect, like the way most states subsidize college students by subsidizing the schools they attend.  In both cases, however, these subsidies are often not targeted on those who truly need them. (Nor are they targeted on results.)  By targeting subsidies we can save money and make sure that the money we do spend is focused on results we care about.

12. Consolidate.  In many ways this is the favorite of politicians.  Surely there are savings to be had from consolidating multiple agencies into super-agencies, or in consolidating smaller jurisdictions into larger ones or multiple service systems into one-stop centers.  If all consolidation means is moving boxes around on an organizational chart, however, it is likely to result in many shotgun weddings, with few real savings and many new costs.  Consolidations most likely to produce savings or improve results include:

• Consolidating missions.  Often when organizations are combined they bring with them their various missions.  The result is a lack of focus, if not outright conflict between missions.  Consolidations work best when the resulting organization has a clear, focused mission and set of clear, limited performance targets.
• Consolidating funding streams.  Far more powerful than consolidating organizations is consolidating their funding streams.  Categorical funding leads inevitably to categorical -- and therefore complicated -- organizations.  Consolidate the funding, focus it on clear, high priority outcomes, and use it to purchase those priority outcomes from whatever organizations can best produce them.
• Consolidating “steering” authority.  Most government organizations have both policy (steering) responsibilities and operating (rowing) responsibilities.  These are not the same!  Steering functions focus on doing the right things, while rowing functions focus on doing them right.  By separating these roles, both can be performed better.  Once separated, steering can be consolidated to assure that policy is integrated and mutually reinforcing across a government unit.  Using consolidated funding streams, steering organizations can “purchase” key results from those who row.
• Consolidating layers.  In one Minnesota county there were eight layers of management between the elected county board and the front line employees.  Layers may have been necessary when communication was cumbersome and employees were poorly educated.  But with today’s technology and workforce the justification for so many layers is gone.  Consolidating layers can save money.  It can also improve service by delegating more authority to those closest to the customers being served.
• Consolidating access.  Much of what government does involves the collection and processing of information.  Accessing what the government knows has often been cumbersome and expensive for those inside and outside of government units.  Technology provides the opportunity to consolidate access -- and in so doing to reduce costs and improve service.

For government leaders the next few months will be very uncomfortable, as they try to explain how tax cuts turned into revenue shortfalls almost over night.  They will get even more uncomfortable if their solutions involve raising taxes or cutting services or service quality.  To avoid either one, they will be tempted to resort to accounting gimmicks to “shrink” the problem by delaying the reporting of expenses or accelerating the recognition of revenue.  Gimmicks don’t solve problems – and hoping won’t make them go away.

There is a third alternative: taking the opportunity this challenge presents to remake our public services as if the public really mattered.  Doing so requires a combination of courage, creativity and good ideas.  We have described a range of creative ideas above.  That they have already been used and have worked in many jurisdictions should en”courage” our public leaders to act.

This paper was prepared by The Public Strategies Group based on its partners’ experience with fiscal crisis in the public sector over the last two decades. The Public Strategies Group (www.psgrp.us) specializes in designing creative solutions for those public organizations that want to delight their customers with outstanding service at reasonable prices.  The firm consists of a small group of some of this country's most advanced thinkers and practitioners of post-bureaucratic government.