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A Better Balanced Budget Amendment

by Matt Mitchell on August 5, 2011

in Tax and Budget

A few weeks ago, I wrote about the state-level evidence on strict balanced budget requirements:

I believe the evidence supports this claim. David Primo (2003) and Mark Crain (2003) find that states with a strict balanced budget requirement tend to spend less than other states. Shanna Rose (2006) finds that states with strict balanced budget requirements tend not to experience a political business cycle in which government spending rises just prior to an election and falls shortly thereafter. Bohn and Inman (1996) find that states with strict balanced budget requirements tend to have larger General Fund surpluses and larger rainy day funds.

Since then, the recently-inked debt deal has obliged Congress to take up and vote on a balanced budget amendment. I think the most-compelling argument against such an amendment is the concern that it would exacerbate the ups and downs of the business cycle by forcing spending cuts when the economy is contracting and permitting increases when the economy is expanding.

This is a concern, but there are ways around it.

One answer is a rainy day fund. Forty-seven states have such funds; states contribute to them during good years and then draw on them when the budget is strained due to a downturn or some other event like a natural disaster. Gary Wagner and Erick Elder find that states whose rainy day finds have strict rules governing the amounts they must deposit and the reasons for which they may withdraw from them tend to experience less spending volatility.

Alex Taborrok makes the case for essentially the same scheme at the federal level.  He calls it an “unbalanced Budget Amendment.”

Glenn Hubbard and Tim Kane weigh in with a similar proposal, arguing that “the annual constraint on expenditure should be defined by the median federal revenues of the last five years, not the current year.”  They have a number of other proposals worth considering as well:

  • The “balance” should count accrued liabilities in entitlements.
  • It should use “escalating supermajorities for exemptions,” meaning that “a 3/5 vote in both houses is required the first year of exemption, 4/6 the second year, 5/7 next, and so on.”
  • It should provide a glide path to a lower debt-to-GDP ratio.

David Primo highlights a current proposal in Congress that incorporates many of these features.

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