Response to Comments on Betting on the Future with a Cloudy Crystal Ball: Revenue Forecasting, Financial Theory, and Budgets

Public Administration Review (online version), Vol. 67, No. 5, pp. 88-93, September/October 2007

6 Pages Posted: 22 Apr 2008

See all articles by Fred Thompson

Fred Thompson

Willamette University - Atkinson Graduate School of Management

Abstract

Budget policymakers should focus on expected revenue growth (average growth over history) and on the risk or volatility around that average. It makes sense to think about this risk as having two components purely random risk unrelated to the economy and risk associated with an economy that is hard to predict. Budget policymakers should reduce random (unsystematic) risk by building a diversified revenue portfolio within the constraints of practical tax policy objectives. They should use hedging, reserve funds, and other strategies to offset risk that cannot be diversified away the risk associated with the underlying economy and unsystematic risk that is not practical to diversify away. And, they should adopt spending rules that will balance the budget over the long run while allowing it to be unbalanced in any given year. They can do this by balancing the present value of revenues against the present value of spending over the long run or, second best, by balancing over the business cycle.

Keywords: fiscal sustainability, revenue forecasting, volatility, mean-variance analysis, tax-portfolios, covariance, martingales

JEL Classification: C53, D73, D80, D23, E60, E34, G11, H61, H63, H70

Suggested Citation

Thompson, Fred, Response to Comments on Betting on the Future with a Cloudy Crystal Ball: Revenue Forecasting, Financial Theory, and Budgets. Public Administration Review (online version), Vol. 67, No. 5, pp. 88-93, September/October 2007 . Available at SSRN: https://ssrn.com/abstract=1123737

Fred Thompson (Contact Author)

Willamette University - Atkinson Graduate School of Management ( email )

900 State Street
Salem, OR 97301
United States
503-370-6228 (Phone)
503-370-3011 (Fax)

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