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5.1 Meaning of Public Budget

• Throughout the world, the processes for determining how
to raise, allocate and spend public resources constitute one
of the foundations of government
• Public Budget: is a comprehensive financial plan and
official statement of estimated government revenues and
expenditures for a specified period (usually one fiscal year)
• It is a central instrument of fiscal policy and public
financial management
• It reflects how a government mobilizes resources and
allocates expenditures to achieve economic, social, and
political objectives
• It is both an economic document and a legal instrument,
since it requires legislative approval before implementation
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• The budget reflects the priorities, policies, and development
goals of a government in quantitative terms
• Public budget is:
 Prepared by the executive
 Presented often by the Finance Minister
 Debated and authorized by the legislature/parliament
 Approved by the head of state
• Public budgeting (the process of all of the above stages) is a
core topic in public administration, public finance, and
political science
• The public budget is the tangible output of the budgeting
process
• It serves as the legal authorization for collecting revenues
and spending public funds
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5.2 Importance of Public Budget
• The public budget is far more than accounting
• It is the central instrument of governance, economic
policy implementation, and accountability
 Strategic Resource Allocation: it translates government
policies into actionable priorities
• It is used to allocate scarce resources among competing
sectors such as health, education, and infrastructure
 Control and Accountability: it enables legislative
oversight, prevention of misuse of public funds, and
fiscal discipline
 Economic Management: public budget influences
aggregate demand, economic growth, economic
stability, and income redistribution
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• Large–scale public spending affects all aspects of the
economy: capital markets, employment, inflation, etc.
 Social and Developmental Impact: it can support equity,
poverty reduction, and long–term investments while
managing debt
• Modern importance stems from the 20th–century
expansion of government roles through fiscal policy
• Deficits or surpluses have macroeconomic effects, and
the budget generates public confidence through
transparency

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5.3 Principles of Budgeting
• Budgeting principles are key to ensure fiscal discipline,
efficiency, accountability, and to align public revenue and
spending with strategic policy goals
• The principles are core rules guiding the planning,
approval, execution, and oversight of government finances
to achieve policy goals
• These principles ensure that all revenues and expenditures
are authorized by the legislature and are open to public
scrutiny
• Traditional and legal principles ensure the budget is
comprehensive, transparent, and controllable
• Core principles include:
 Universality: all revenues and expenditures must be
included into a single pool without predetermined
allocation
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• This helps ensure that revenue and spending are not
independently earmarked, except by special provision due
to practical needs
• It allows full parliamentary knowledge and control for
transparency and oversight
 Annuality: budgets are typically prepared and authorized
on an annual basis, covering a single fiscal year to
facilitate control
• They are, however, increasingly supplemented by
medium–term frameworks to handle multi–year
investments
 Publicity/Transparency: the budget should be accessible,
accurate, and reliable, allowing for public scrutiny and
debate to promote accountability
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 Specificity: revenues by source, expenditures by
destination must be clearly defined and authorized for
specific purposes
 Balance: traditionally, revenues should equal
expenditures (classical ideal), but modern practice
allows deficits for development
 Legality: the budget must follow legal frameworks,
requiring legislative approval to ensure the executive is
accountable
 Flexibility and Sustainability: the budget should allow
for adjustments due to changing economic conditions
while managing long–term fiscal risks

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5.4 Objectives of Budgeting
• Drawing heavily from Musgrave’s framework in ‘Public
Finance in Theory and Practice,’ public budgets pursue
three primary economic functions (often called Musgrave’s
“three branches”)
1. Allocation: efficient provision of public goods and services
where markets fail
2. Distribution: equitable redistribution of income and wealth
through progressive taxation and social spending
3. Stabilization: managing macroeconomic (full employment,
price stability, economic growth) via fiscal tools
• However, broadly speaking, public budget objectives goes
beyond economic dimension
 Fiscal Objectives:
• Fiscal discipline
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• Debt management
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 Economic Objectives:
• Efficient allocation of resources
• Economic growth
• Price stability
• Full employment
 Social Objectives:
• Poverty reduction
• Income redistribution
• Provision of public goods
 Political Objectives:
• Reflect government priorities
• Gain public support
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5.5 Types of Budgeting
• These are the structural or functional classifications
based on how budgets are organized, presented, and
accounted for
Based on financial balance between revenue and
expenditure:
Balanced Budget: where total estimated revenue = total
estimated expenditure (rare in practice)
Deficit Budget: Expenditure > Revenue (most common)
• Governments borrow or use reserves to cover the gap
• Deficits can be planned (for stimulus or development)
or unplanned
Surplus Budget: Revenue > Expenditure (used to repay
11 debt or build reserves)
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Based on the purpose:
 Recurrent Budget: it funds everyday operations — salaries,
maintenance, utilities, subsidies, interest payments
• It is repetitive and consumed within the year
 Capital Budget: it funds long–term asset creation or
improvement (roads, schools, hospitals, equipment)
• These are multi–year investments that create future benefits
Based on the structural organization of budget documents:
 Unified Budget: adheres to the principles of universality,
where all government activities and entities are covered
under one umbrella
 Special Budgets: is the use of several separate budgets for
different parts of government activity
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Based on time horizon:
Annual Budget: is prepared for one fiscal year
Multi–Year Budget: covers several years
• Multi–year budgets are used alongside the annual
budget for better planning of large projects and fiscal
sustainability
Based on flexibility:
Fixed Budget: remains unchanged regardless of
conditions
Flexible Budget: adjusts according to changing
economic circumstances (e.g., special budgets)
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5.6 Procedures of Budgeting
• Public budgeting procedures are a systematic, annual
cycle comprising four main stages:
1. Preparation: governments create proposals
based on policy goals
2. Approval: obtain legislative approval
3. Execution: spend funds through authorized
agencies
4. Audit: evaluate performance and accountability
to ensure fiscal discipline
• These key stages of the public budgeting process are
discussed as follows
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1. Budget Preparation—Formulation: the executive branch
(e.g., Ministry of Finance) sets fiscal targets and priorities,
often considering multi–year perspectives
Key Steps:
 Macroeconomic and Fiscal Framework Development:
central agencies (e.g., Ministry of Finance, central bank,
etc.) prepare medium–term forecasts on:
• GDP growth
• Inflation
• Revenue projections (taxes, grants, non–tax)
• Expenditure ceilings
• Deficit/surplus targets
• Debt sustainability, etc.
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 Issuance of Budget Call (Circular): the MoF issues a
Budget Call Letter to all ministries, departments,
agencies, and subnational entities (e.g., regional
authorities) regarding:
• Overall fiscal targets and ceilings (recurrent vs.
capital)
• Priority sectors/programs (e.g., poverty reduction,
infrastructure)
• Guidelines, formats, timetables, and performance
indicators
 Departmental/Agency Budget Requests: line ministries
and agencies prepare detailed estimates
• Bottom–up: based on work plans, unit costs,
program objectives
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• Recurrent (salaries, operations) and capital
(projects) separated
• Justification required, often with performance
targets
 Negotiation and Consolidation: submissions are
reviewed, negotiated, adjusted, and consolidated into a
draft budget
 Final Executive Review and Cabinet Approval: the
consolidated draft goes to the head of government
(Prime Minister in Ethiopia) for approval
2. Legislative Approval—Authorization: the proposed
budget is submitted by the executive to the legislature
for review, debate, amendment, & enactment into law
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Key Steps:
 Submission: executive presents the budget to
parliament
 Parliamentary Review: specialized committees analyze
the budget in detail committees
 Debate and Amendments: floor debates and
amendments take place
 Approval and Enactment: the legislature (parliament)
passes the Appropriations Act or Budget Proclamation
• Once approved, it becomes legally binding
• The approval must be completed before the start of a
fiscal year
3. Budget Execution (Implementation): once approved,
funds are released and spent according to the law
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Key Activities:
 Revenue Collection: government collects taxes and
other revenues through authorized institutions
(agencies)
 Fund Allocation: approved funds are released to
ministries and agencies
 Expenditure Management: spending must follow
approved limits, financial regulations, and
procurement procedures
 Cash Management: ensures availability of funds and
prevents liquidity shortages
• This is done throughout the fiscal year
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4. Accountability, Audit, and Evaluation: post–execution
review ensures funds were used legally, efficiently, and
effectively
Key Steps:
 Internal Control: agencies monitor their own expenditures
to comply with regulations
 External Audit: a supreme audit institution (e.g., Office of
the Auditor General) reviews the accounts to ensure
legality, efficiency, and effectiveness
 Reporting: reports are provided to the legislature and the
public, often including assessments of whether results were
achieved
• This cyclical process repeats annually, with reforms aiming
to improve predictability, transparency, and results
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5.7 Theories of Government Budgeting
• Public budgeting views have evolved significantly over
the 20th and 21st centuries
• These systems reflect shifting priorities in public
financial management:
→ Strict control of inputs (early 1900s)
→ Management efficiency (post–WWII)
→ Planning and long–term strategy (1960s)
→ Prioritization amid fiscal constraints (1970s–
1980s), and
→ accountability with performance focus
• Below is a detailed expansion of the major
approaches/theories of public budgeting
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1. Traditional Budgeting Approach: also called, Line–Item
budgeting, is the oldest & still most widespread
approach, especially in many developing and
transitional countries
• Emerged during the Progressive Era in response to
rapid government growth and corruption scandals after
industrialization
• Expenditures are classified and detailed by objects of
expenditure (e.g., salaries, travel, supplies, utilities,
equipment) rather than by purpose or results
• It was dominant from 1900s up until 1950s, the
traditional budgeting focused on inputs—what is
purchased
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• That is why it is also referred to as input–oriented
budgeting
• There is a detailed line–by–line listing with strong
emphasis on legal control & preventing overspending in
any category
• It is common in nations where fiscal discipline is
prioritized over performance
Strengths:
• Excellent financial control and accountability
• Easy to prepare, understand, audit, and prevent misuse
• Ensures legislative oversight of every item

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Limitations:
• Ignores efficiency, effectiveness, or results—focuses on
spending, not achievement
• Encourages "use it or lose it" behavior and
incrementalism (hard to reallocate funds)
• Can lead to rigid, inefficient resource use
2. Performance Budgeting: shifts focus from inputs to
outputs and efficiency
• Expenditures are linked to measurable work units or
activities (e.g., cost per student educated, cost per
kilometer of road maintained)
• Budgets include performance indicators (e.g., unit costs,
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workload measures) alongside line items
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• Public budget managers are held accountable for
productivity rather than just spending limits
• It emerged post–WWII when government expansion
created demand for better operational efficiency
• The First Hoover Commission (1949) — officially the
U.S. Commission on Organization of the Executive
Branch of Government — explicitly recommended
performance budgeting to replace input focus with
functions, activities, costs, and accomplishments
• It gained traction in many countries in the 1950s and
1960s

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Strengths:
• Promotes efficiency and better financial resource use
• Provides data for performance evaluation and
management improvement
• Bridges inputs to service delivery
Limitations:
• Difficult to define/measure meaningful performance for
all activities (especially policy–oriented ones)
• Requires robust cost–accounting and data systems
• May overlook broader outcomes or external factors

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 ……Continued
3. Incrementalism: states that budgeting is not a
comprehensive re–examination of all programs each
year
• Instead, decision–makers accept the previous year’s
budget as the “base” and negotiate only small, marginal
changes (increments or decrements) to that base
• Most spending (often 80–90%) is automatically
renewed; only the “new” requests or proposed cuts
receive intense scrutiny
• Decisions emerge from political bargaining,
compromise, and mutual adjustment rather than pure
analysis

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 ……Continued
• This approach was formalized in the 1950s–1960s by
political scientists observing real–world legislative and
administrative behavior
Strengths:
• Politically realistic and stable (avoids constant conflict)
• Reduces information overload and decision paralysis
• Works well in pluralistic democracies
Limitations:
• Perpetuates inefficiencies and “sacred cows”
• Makes it hard to respond to major shifts (emergencies)
• Critiqued as conservative and anti–innovative

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 ……Continued
4. The Rational–Comprehensive Model (RCM): also called
synoptic model, RCM is a classic normative theory of
decision–making applied to public budgeting
• It is a decision–making framework in which
policymakers attempt to choose the optimal budget
allocation by systematically evaluating all possible
alternatives
• Decision–makers should:
1) Define clear objectives
2) Identify all possible alternatives
3) Evaluate every alternative’s costs, benefits, and
risks using quantitative tools (e.g., CBA), and
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4) Select the option that maximizes social welfare
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• Start from a “zero base” where no assumptions from
the past are carried forward; every program or
expenditure must be re–justified afresh
Strengths:
• RCM promotes efficiency, evidence–based policy, and
long–term thinking
• Forces explicit trade–offs and alternative consideration
Limitations:
• Requires perfect information, unlimited time, and
analytical capacity — conditions that never exist in
government
• Politically naive (ignores bargaining, power, and values
conflicts)
• Leads to “analysis paralysis” in practice
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5.8 Performance and Program Budgeting System (PPBS)
• RCM contrasts sharply with incrementalism, which
accepts the previous year’s budget as a “base” and only
debates small changes
• It aims for optimality and comprehensive analysis
rather than political compromise or marginal
adjustments
• In practice, pure rational–comprehensive budgeting is
extremely rare because it demands perfect information,
unlimited time, analytical capacity, and political
consensus
• However, it has inspired major reform efforts,
especially when governments face criticism for
inefficiency or waste
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• PPBS was the high point of rational–comprehensive
thinking in government that integrates:
• Planning (long–term goals)
• Programming (policy design)
• Budgeting (resource allocation)
• It was developed in the 1960s in the U.S. Department of
Defense and later extended to civilian government
Core Features of PPBS:
 Planning: long–term strategic goals and objectives are
defined first
 Programming: activities are grouped into programs
linked to those objectives—not by departments or
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• Multiple alternatives for each program are identified
and analyzed
 Budgeting: costs and benefits of each program
alternative are quantified and compared
• Multi–year financial projections are prepared
• Resources are allocated to the most cost–effective
options
 Systematic Evaluation: continuous review using CBA,
cost–effectiveness studies, and performance metrics
 Zero–Base Element: in theory, programs are not
automatically renewed; they must compete on their
merits
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Strengths:
• Forces strategic, forward–looking thinking and
integration of planning with budgeting
• Improves policy coherence by focusing on objectives
rather than organizational silos
• Encourages explicit consideration of alternatives and
long–term consequences
• Enhances transparency and analytical rigor
• Can achieve rational resource allocation and improved
efficiency allocation to align spending with policy goals

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 ……Continued
Weaknesses and Reasons for Failure:
• Extremely complex, data–intensive, & time–consuming
• Agencies lacked the analytical staff and data
• Politically unrealistic: it clashed with bargaining,
incrementalism, and congressional power
• Over–emphasis on quantification ignored
qualitative/political values
 By the early 1970s, most agencies and countries had
abandoned full PPBS, elements of PPBS, however,
survived in modified forms (e.g., multi–year planning)
 PPBS was the purest attempt to apply the rational–
comprehensive theory at the macro/system level
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5.9 Zero–Based Budgeting (ZBB)
• It emerged as a reaction to the perceived failures of
PPBS and the fiscal pressures of stagflation and
growing deficits
• While inspired by rational–comprehensive ideals, it
focused more on operational–level justification
• ZBB is a budgeting method where ‘Every expenditure
must be justified from a zero base, rather than relying on
previous budgets’
Core Features of ZBB:
 Zero Base: every activity, program, or expenditure
starts from zero each year
• No automatic “base” from the prior year
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 Decision Packages: administrators prepare detailed
“packages” for each activity, describing:
• Purpose and objectives
• Alternative ways to achieve the objective
• Costs, benefits, workload measures, and
consequences of different levels
 Ranking and Prioritization: all decision packages
across the executive are ranked by priority
• Funding is allocated from the top down until resources
are exhausted
 Full Re–Justification: forces administrators to prove
why an activity should exist at all and at what level
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Strengths:
• Eliminates or reduces low–priority, obsolete, or
inefficient spending
• Promotes rigorous analysis and better alignment with
current priorities
• Encourages innovation and efficiency (administrators
of the budget must defend every dollar)
• Accountability in the administration — encourages
responsibility at all levels
• In theory, achieves greater optimality than
incrementalism

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 ……Continued
Weaknesses and Practical Challenges:
• Extremely time–consuming, costly, and heavy paperwork
• Requires high analytical capacity and good data, which
many agencies lack
• Focuses on short–term that it may neglect long–term
investments
• Politically painful (threatens entrenched interests and
“sacred cows”)
• In practice, it often reverts to a form of modified
incrementalism—only certain programs are fully zero–based
 In comparison, while PPBS and ZBB are both rooted in
rational decision–making; PPBS failed mainly due to
complexity, & ZBB struggles due to administrative burden
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5.10 Budget as an Instrument of Economic Policy
• A public budget is not merely a financial statement — it
is a central instrument of economic policy used by
governments to influence macroeconomic outcomes and
achieve socio–economic objectives
• The budget is “an instrument of economic policy”
because it directly affects aggregate demand, resource
allocation, and income distribution
• In modern public finance, especially after Keynes, the
budget became an active tool for managing
macroeconomic conditions
• The most influential framework for understanding the
budget’s role in economic policy comes from Musgrave
(1959) in ‘The Theory of Public Finance’
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• Musgrave divided the functions of the public budget
(and fiscal policy) into three branches
A. Allocation Function: the budget corrects market
failures and ensures efficient provision of public goods
and services
• Governments use spending and taxation to reallocate
resources from private to public use or between sectors
• Examples: funding roads, irrigation, or renewable
energy projects to boost productivity; subsidies for key
industries; or regulations to address externalities
B. Distribution (or Redistribution) Function: the budget
reduces inequalities in income and wealth

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 ……Continued
• This is achieved mainly through progressive taxation
and transfer payments or in–kind benefits (like social
safety nets, education grants, food subsidies, conditional
cash transfers)
• The goal is to achieve a more equitable distribution of
after–tax income without undermining incentives
C. Stabilization Function: the budget stabilizes the
economy over the business cycle — countering
recessions and curbing inflation
• This is the core of Keynesian fiscal policy
• Tools include: automatic stabilizers (e.g., unemployment
benefits rise in downturns) and discretionary policy
(stimulus packages or austerity)
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• Austerity is an economic policy used by governments to
reduce budget deficits through significant cuts in public
spending, increased taxes, or both
• Key features of austerity measures include: spending
cuts, tax increases, public sector wage reductions, &
privatization
 During Recession (Deflationary Gap): increase public
expenditure, reduce taxes, run budget deficit → to
stimulate aggregate demand
 During Inflation: reduce public expenditure, increase
taxes, run surplus budget → to reduce excess demand
 During Economic Stability: maintain balanced or
moderate budget, and focus on long–term growth
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 ……Continued
• These three functions occasionally interact and often
conflict (e.g., heavy redistribution may affect incentives
for growth)
• Musgrave argued that, ideally, different branches of
government or decision processes could focus on each,
but in reality they are integrated in one budget document
• He proposed imagining three separate branches, each
instructed to perform its own task on the assumption that
the other two branches are already performing their
functions properly
Why this helps:
• The allocation branch can focus purely on efficiency
without worrying about who is rich or poor, or whether
the economy is in recession
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 ……Continued
• It assumes a "proper" distribution has already been
achieved and the economy is at full employment
• The distribution branch can focus solely on equity (e.g.,
progressive taxation and transfers) without having to
worry about macroeconomic side effects or efficiency
distortions
• The stabilization branch can use fiscal tools to manage
aggregate demand without constantly recalculating
distributional or allocative impacts
• This separation acts as a pedagogical and theoretical
device
• It breaks down a very complex general–equilibrium
problem into manageable parts, making normative
analysis possible
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 ……Continued
• According to him, when the three functions are handled
together in the same decision process, conflicts arise
easily
• For example: a large increase in public spending for
allocation (building roads) might be:
• Inflationary (bad for stabilization) or
• Regressive in its benefits (bad for distribution)
• Heavy redistribution (high progressive taxes) can distort
incentives, reduce efficiency (allocation), and affect
saving/investment (harming stabilization)
• Stabilization measures (e.g., deficit spending during
recession) can unintentionally shift income distribution
or crowd out private investment
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 ……Continued
• By separating the branches conceptually (and, where
possible, institutionally), each can pursue its objective
more single–mindedly, and the interactions can be
explicitly considered rather than muddled
• Musgrave noted that in reality the functions are
interdependent (allocation and distribution are
determined simultaneously in a general equilibrium)
• But the separation allows analysts and policymakers to
isolate effects and then adjust for interactions

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