The Mises Institute monthly, free with membership
Volume 17, Number 6
Cooking the Books
by Mark Brandly
For the last two years, the federal government has attempted to construct a Consolidated
Financial Statement of its financial
status for the previous fiscal year. This statement is an audit of the financial status of 24 cabinet
level departments and
agencies and is an attempt to account for the government's revenues, expenditures, and assets.
According to the General Accounting Office (GAO), the audit failed to meet acceptable
accounting standards. Congress
commands bureaucrats to submit annual audits of their agencies' economic performance.
However, the agencies'
accounting practices are so poor that the statements submitted provide little usable
In the current audit, seven of the 24 agencies were not even able to submit an accounting
statement for fiscal year 1998,
even though the fiscal year ended six months ago. The GAO graded five other agencies' audits
with a disclaimer of opinion,
roughly meaning that their statements were inauditable. House Government Management,
Information and Technology
Chairman Stephen Horn gave only two agencies a grade of A for submitting statements that met
Without an accurate accounting picture, federal agencies do not know the costs of their
programs and do not have the
financial information needed to make informed day-to-day decisions. The government's failure to
accounting standards creates the possibility that billions of dollars have been stolen or wasted.
Funds may have been
siphoned off to programs not approved by Congress. Graft and theft could be rampant. Private
businesses that were
managed in this manner would risk the government's wrath. Their assets would be seized and
their doors would be
Federal agencies, of course, do not face the same penalties that private firms would, but the
failure to live up to minimum
accounting standards disturbs many. Horn believes that "once again, billions of taxpayer dollars
were lost to waste, fraud,
and mismanagement," and demands improvements in the system.
One reason that government agencies have difficulty providing reliable accounting
statements, according to California
Congressman Tom Davis, is that their financial managers are not paid enough. Davis calls for
better compensation to
improve this management problem.
Comptroller General David Walker agrees, citing the need for the "right employees" with the
proper "incentives" to get the
job done. This proposal overlooks the fact that bureaucrats lack the same incentives to maintain
high accounting standards
that private firms have. Profits enable and motivate private firms to accurately account for their
revenues and costs. This
accounting provides information needed to make rational financial decisions.
As Ludwig von Mises explained 80 years ago in Economic Calculation in the Socialist
Commonwealth, private firms use
monetary prices as a means to determine profitability. Prices allow decisionmakers to conduct
calculation. Given market prices for inputs, managers can make decisions that make financial
sense. The lack of market
prices eliminates the possibility for rational economic calculation. Socialist economies lack
market input prices and
therefore cannot generate rational economic calculations.
A corollary to Mises's argument is that even if the prices are available, the government has
little incentive to use those
prices in their calculations. Private managers need to know their costs and revenues. They need
to anticipate the marginal
costs and benefits of their decisions and prices aid them in this pursuit. Without this information,
their ability to generate
profits would be limited. The profit incentive induces managers to account for their firms'
Contrast this with the financial managers of government agencies. Their activities generate
monetary costs and their funding
can be measured in monetary revenues. However, private firms have an incentive to serve
consumers in order to increase
their revenues and to minimize their costs in order to generate profits.
Bureaucrats have an incentive to please the legislature that provides its funding, not their
alleged consumers, and they have
little incentive to minimize costs. Agencies that reduce their costs find that their budgets have
been cut. This creates an
incentive to spend every penny possible in order to justify higher future funding.
Since government decisions are not motivated by profits, there is no motivation to provide
accurate accounting statements.
In fact, bureaucrats have an incentive to hide the costs of their agencies. An accurate accounting
of an agency's activities
would generate demands for reform. Wasteful spending could be discerned more easily.
Congress could spot politically
acceptable spending cuts, given accurate information. It's in the bureaucrat's interest to distort his
picture. This allows him to demand greater funding. An accurate accounting would only lead to
funding reductions. No
bureaucrat wants this. Therefore, we should expect agencies to have unsatisfactory accounting
The point of this is simple: it is the nature of the state to mislead its citizens. Muddled
accounting practices are a part of this
nature and giving bureaucrats higher pay will not change this fact. Taxpayers should realize that
the agencies that are funded
with their taxes are inclined to lie to them and to be inefficient and wasteful. The solution to this
problem is not better
accounting practices, but lower taxes and large spending cuts.
Mark Brandly teaches economics at Ball
State University and is an adjunct scholar of the Mises Institute. Further reading:
Ludwig von Mises, Human
Action (Auburn, Ala.: The Ludwig von Mises Institute, 1999).