ENDING WASTEFUL YEAR‐END SPENDING: ON OPTIMAL BUDGET RULES IN ORGANIZATIONS

Abstract

AbstractWhat can organizations do to minimize wasteful year‐end spending? I introduce a two‐period model to derive optimal budget roll‐over and audit rules. A principal tasks an agent with using a budget to fulfill the organization's spending needs, which are private information of the agent. The agent can misuse funds for private benefit. The optimal rules allow the agent to roll‐over a share of the unused funds, but not necessarily the full share, and in most cases to audit only sufficiently large spending. The optimal audit rule can change once fund roll‐over is allowed. Strategically underfunding the agent can be optimal.