Politics Can Limit Policy Opportunism in Fiscal Institutions: Evidence from Official General Fund Revenue Forecasts in the American States

Governments make policy decisions in the same areas in quite different institutions. Some assign policymaking responsibility to institutions designed to be insulated from myopic partisan and electoral pressures and others do not. In this study, we claim that differences in political context and institutional design constrain the policy choices governments make. Testable propositions based on an analysis of varying electoral incentives and time horizons created by these different contexts are empirically tested using panel data on official general fund revenue forecasts in the American states, 1987 to 2008. The empirical evidence reveals that executive branch agencies and independent commissions produce more conservative forecasts than legislatures with one important exception. Executive branch revenue forecasts in states with gubernatorial term limits are indistinguishable from legislative branch forecasts. Further, we find that legislative branch forecasts are more conservative in the presence of divided partisan legislatures than unified party government. In turn, this implies that entrusting policymaking authority to either the executive branch or an independent commission may only be consequential when the political system itself fails to check legislative excesses or executive myopia. C © 2012 by the Association for Public Policy Analysis and Management. Which institution should be assigned with policymaking authority? On a normative level, the answer to this question is of foundational importance to both scholars and practitioners alike interested in democratic governance. Policymakers seek to make effective policy, subject to the political exigencies that they experience in a democratic system. For instance, legislatures often choose to delegate policymaking authority to the executive branch or independent commissions to escape the pernicious effects of myopic electoral pressures and collective action problems that their members encounter. Independent central banks adopted throughout the developed world are intended to prevent politicians from adversely affecting the conduct of monetary policy (e.g., Cukierman, Webb, & Neyapti, 1992; Waller, 2000). In many policy areas, ranging from pension funding to base closings, legislators face a similar choice, knowing that the short-term or myopic incentives of political actors will lead to worse policymaking in the aggregate. In delegation settings, legislatures ascribe policymaking authority to public agencies so as to make it much costlier for elected politicians to alter policy in the future (Lewis, 2003; Moe, 1989). Such policy hand tying can restrict politicians’ strong incentives for engaging in strategic policy Journal of Policy Analysis and Management, Vol. 32, No. 2, 271–295 (2013) C © 2012 by the Association for Public Policy Analysis and Management Published by Wiley Periodicals, Inc. View this article online at wileyonlinelibrary.com/journal/pam DOI:10.1002/pam.21674 272 / Politics Can Limit Policy Opportunism in Fiscal Institutions manipulation (e.g., Falaschetti & Miller, 2001; Patashnik, 2000; Spulber & Besanko, 1992). The aim of this study is to show how alternative political contexts may produce different preferred institutional venues when it comes to limiting opportunistic policymaking behavior. This research puzzle is addressed by analyzing the relative conservatism of official general fund revenue forecasts in the American states. This study constitutes a novel contribution to both the policymaking and governance literatures in three ways. First, in contrast to the central bank independence (CBI) literature, this study provides a comparative policymaking assessment of the legislature vis-à-vis executive and independent commissions as policymaking institutions. Therefore, this study has implications for determining which institutions, and under what conditions, best limit opportunistic policymaking behavior. Also, the empirical analysis conducted in this study is unique from the cross-national CBI literature because it focuses on governmental units that possess the same type of democratic institutions (i.e., separation of powers) at the subnational level. Policymaking comparisons are thus not fraught with the dilemma of adequately accounting for vast differences in constitutional democracy across governments. Finally, analyzing the relative conservatism of official general fund revenue forecasts in the American states is a critical policy matter given that American state governments place a premium on reliable and valid revenue predictions as the basis for effective fiscal policymaking (e.g., Mikesell, 2007, p. 514; see also Cassidy, Kamlet, & Nagin, 1989; Rodgers & Joyce, 1996). General revenue fund forecasts represent the most critical element of government revenues in the American states because they constitute its largest source (National Association of State Budget Officers [NASBO], 2004, p. 94).1 The statistical evidence indicates that assigning policymaking authority to nonlegislative institutions often, but not always, leads to more conservative revenue forecasts in the American states. Specifically, executive branch agencies and independent commissions produce more conservative forecasts with one important exception. Executive branch revenue forecasts are indistinguishable from legislative branch revenue forecasts in those states whose governors are subject to term limits. Governors in states without term limits, however, produce the most conservative revenue forecasts among all policymaking institutions. That is, governors who can be reelected on a continuous basis generate more cautious revenue forecasts because they are much more likely to deal with the political fallout resulting from overly optimistic revenue projections. The evidence also reveals that legislative branch revenue forecasts are the least conservative during periods of unified party control. Legislative branch forecasts become more conservative in times of divided government. Presence of a viable opposition party within the legislature, and to a lesser extent from the executive branch, offers an effective check on the legislature’s propensity to make policy choices for myopic electoral or partisan reasons. Executive branch or independent commission institutions are best at limiting opportunistic policymaking behavior, albeit only when a single party controls the legislative branch or when governors face an electoral constraint. 1 General sales, personal income, and corporate income taxes constitute 76 percent of all state general fund revenues (NASBO, 2004, p. 94). The use of aggregate general fund revenue forecasts is also motivated by data availability constraints. We do not analyze total state revenues because earmarked funds are both forecasted by individual line agencies (Franklin & Douglas, 2003), and further depoliticized due to the nondiscretionary nature of these funds (Patashnik, 2000). Journal of Policy Analysis and Management DOI: 10.1002/pam Published on behalf of the Association for Public Policy Analysis and Management Politics Can Limit Policy Opportunism in Fiscal Institutions / 273 POLICYMAKING VENUE, POLITICAL CONTEXT, AND REVENUE FORECASTING IN THE AMERICAN STATES Outside the scope of the CBI literature, little research has examined the efficacy of alternative policymaking institutions for limiting political influence over policymaking. Past research has examined the linkage between agency durability, and the extent to which policy administered by these agencies is insulated from political control by structural design (e.g., Lewis, 2003). Although insulated agencies are more durable than other agencies, conflicting empirical evidence exists regarding whether this insulation actually affects the content of policy outputs directly. Politically independent central banks do a better job of adopting policies that provide stable economic growth by keeping inflation lower than less politically independent central banks (e.g., Cukierman, Webb, & Neyapti, 1992; Waller, 2000). Conversely, Besley and Coate (2003) find that U.S. states with public utility commissions (PUCs) comprised of elected regulators will have lower electricity prices, and are also less inclined to pass along cost increases to the public, compared to state PUCs whose members are appointed regulators. Because elected regulators are both narrowly and directly judged by voters only for specific policy actions relating to electricity rates and rate increases, they can be held easily accountable for their policy actions compared to appointed regulators. Research has yet to directly evaluate how these institutional differences shape the ability of political actors to influence policymaking motivated by short-term partisan or electoral considerations. Research on government revenue forecasts in the American states has focused on the existence of systematic biases in official revenue forecasts (Bretschneider, Gorr, & Klay, 1989; Feenberg et al., 1989; Rodgers & Joyce, 1996), or whether these forecasts are upwardly biased in election years (Boylan, 2008). Some studies analyze how political insulation and greater representation of interests on consensus group independent commissions can enhance the quality of revenue forecasts (Deschamps, 2004; Klay, 1985; Smith, 2007; Voorhees, 2004), while others restrict their focus to analyzing executive branch revenue forecasts to understand how political appointees and civil service staffs within executive budget agencies shape the quality of policymaking (Krause, Lewis, & Douglas, 2006). Extant studies neither focus on revenue forecast differences across multiple institutions, nor how it is affected by variable political constraints.2