Agency Problem and the Use of Past Spending Variance Information in Government Budgeting

Abstract

Using unique data from Korea's central government departments, we examine how past spending variance influences governmental budgeting. Because department budgets are generally revised based on past spending variance, we predict that these adjustments are likely influenced by the direction of spending variance and the severity of agency problems. Consistent with our prediction, we find that fiscal authorities tend to increase (decrease) budgets of departments with low agency concern to a greater (less) extent following overspending (underspending), leading to more resource allocation. This asymmetric budget revision pattern contrasts with departments with high agency concern, where budgets are symmetrically adjusted following both overspending and underspending. Our findings are robust to employing various proxies of agency problems, including departments' organizational integrity, monitoring intensity, and corruption records. Overall, our results support the view that fiscal authorities' perception of agency concerns shape how they interpret and use past spending variance as signals in governmental budgeting.