Concerns about long-term national economic growth have focused attention on the federal government’s role in promoting investment necessary to sustain the economy’s capacity to maintain and improve future living standards. The federal government contributes to investment in two primary ways. First, the federal government can facilitate private investment by reducing the federal deficit. Federal budget deficits have absorbed large proportions of national savings that would otherwise have been available to finance investments, either public or private. Second, within an established fiscal policy, the federal government can change the proportion of government spending devoted to investment. In the past, federal investments in infrastructure, human capital, and R&D have played a key role in economic growth, either directly or by creating an environment conducive to private sector investment. Both the Congress and the administration are considering budgeting alternatives to decrease the annual federal deficit while increasing long-term federal investment intended to enhance private sector growth. Some discussions have focused on capital budgeting and the possible use of depreciation in the budget as a measure of the cost of federal investments which deliver benefits over a future period of time. These investments include infrastructure such as highways, bridges, and air traffic control systems; R&D, which produces new technology that leads to innovative products and processes; and investments in human capital through education and training designed to increase worker productivity. Depreciation is an integral component in capital budgeting—a proposal contained in several bills in recent years. A capital budget approach using depreciation would report total acquisition costs of the investment in a capital budget and the annual depreciation in an operating budget. The cost of the investment recorded in the operating budget would thus be spread over the estimated life of the investment. The operating budget would reflect the cost of goods and services consumed rather than purchased during the period. Under most capital budgeting proposals, the operating budget must balance while the capital budget may be financed by borrowing. By contrast, the federal budget is a unified cash-based budget which treats outlays for capital and operating activities the same. Federal debt is undertaken for general purposes of the government rather than for specific projects or activities. Three views have been cited in support of proposals to depreciate investments in the federal budget. First, the long-lived nature of the benefits arising from these investments causes some analysts to believe that their costs should also be spread over time by some method of depreciation so that costs are shared by those who will benefit in the future. Second, some analysts believe that because the initial cost of these investments is high, budgeting for the full commitment up-front discourages investment and favors consumption spending. Finally, proponents believe that budgeting for depreciation instead of the full commitment up-front frees up budgetary resources for greater investment or other uses in the current period and reduces the current year’s deficit. Other analysts, taking an opposing view, believe that depreciation would not really free up resources or reduce the deficit. Such a proposal would only redefine the deficit to be controlled as the operating budget deficit rather than the larger unified budget deficit. This would mean that any spending categorized as “capital” would not be subject to the same pressures to reduce the deficit as any other federal spending. Thus, it might be used to justify larger unified budget deficits and borrowing. In addition, they believe that appropriating annual depreciation instead of the amount of the full commitment undertaken by the government poses a loss of budgetary control that would threaten the integrity of the budget and the budget process. The objectives of this review were to determine (1) whether federal agencies are depreciating transportation infrastructure, R&D, and human capital for accounting and budgeting purposes, and if so, the methods they use, (2) whether any state, local, or foreign governments are depreciating these investments, and (3) whether depreciation of these investments could be useful in budgeting. Based on the items traditionally included in these categories, we define infrastructure as federally funded physical transportation assets, such as highways, bridges, railways, and air traffic control systems. We define R&D as federally funded activities intended to produce new or improved products or processes. For purposes of this study, we define investment in human capital as federally funded education and training programs. To meet these objectives, we discussed the concept of depreciation as a budgeting tool with professional staff at the Office of Management and Budget (OMB), the Congressional Budget Office (CBO), the Department of Commerce’s Bureau of Economic Analysis (BEA), and the Organization for Economic Cooperation and Development (OECD). We also discussed depreciation from an accounting and budgeting perspective with officials at the Departments of Education and Transportation, the National Science Foundation, the Federal Highway Administration, the Federal Aviation Administration, and the Federal Railroad Administration. We reviewed articles in budgeting and accounting professional journals on the use of depreciation in federal budgeting and accounting. We reviewed relevant standards issued by the Financial Accounting Standards Board (FASB), the Governmental Accounting Standards Board (GASB), and the International Accounting Standards Committee (IASC). We also reviewed Title 2 of the GAO’s Policy and Procedures Manual for Guidance of Federal Agencies, and standards drafted by the Federal Accounting Standards Advisory Board (FASAB) dealing with depreciation. To specifically address the second objective, we reviewed the GASB standards to determine if state and local governments are required to treat depreciation of infrastructure, R&D, and human capital for financial statement purposes. We also interviewed officials from federal agencies, OECD, and two consultants regarding the budgeting practices of foreign governments. We discussed the experience of New Zealand with these experts because of its recent adoption of accrual-based budgeting. We performed our work in Washington, D.C., between June and December 1994. Depreciation is an accepted part of accounting in business organizations. Under business accounting practices, depreciation is the allocation of the costs, less salvage value, of fixed assets, including equipment, buildings, and other structures, over their useful lives in a systematic and rational manner. It is recorded in the business’ financial statements to reflect the use of assets during specific operating periods in order to match costs with related revenues in measuring income and to determine the organization’s profit or loss, its federal tax liability, and the depreciated book value of the asset. It is also a factor in determining the cost of manufactured items and the amount of user charges appropriate for services rendered. Depreciation of assets in federal accounting is often not done because it is difficult to do and often provides little relevant information. In the past, federal accounting standards for non-business-type activities established by GAO, known as Title 2, encouraged, but did not require, depreciation of general tangible assets. However, Title 2 did require depreciation accounting for all federal business-type activities in cases where depreciation of federal assets were used to establish sales prices or user charges necessary to reimburse revolving funds or otherwise recover costs. In these cases, federal agencies do depreciate the relevant assets to determine user charges to recover the cost of the asset. Presently, FASAB is considering standards that would require federal agencies to depreciate infrastructure assets owned by the federal government, but probably not intangible investments such as R&D and human capital. GASB, which sets accounting standards for state and local governments, prohibits recording annual depreciation charges in financial statements for the general fund because these funds do not operate on a strictly accrual basis. Depreciation, which is an expense, applies only to accrual-based accounting systems. GASB standards, however, do require the reporting of depreciation in financial statements for proprietary and certain trust fund assets because these funds are reported on an accrual rather than a cash basis. If depreciation methodologies were to be used in federal budgeting, one starting point for establishing those methodologies conceivably would be the accounting methods used for depreciation of tangible assets for financial statement purposes. Depreciation in accounting can be a complex and technical subject and involves significant subjectivity concerning such key factors as the asset’s value, its useful life, and its salvage value. Because of its subjective nature, it is only an approximation of how much of an asset is used up in any period. Ultimately, depreciation of tangible assets is an imperfect way of spreading costs over the asset’s useful life. Trying to apply depreciation accounting techniques to intangible assets such as R&D and human capital investment for either accounting or budgeting purposes would be even more difficult because of the additional difficulties in estimating value, useful life, or establishing ownership. Calculating the amount of depreciation to be recorded annually depends on how assets are valued to determine the depreciation base, the depreciation method used, and the asset’s useful life. There are three general ways to value assets—historical cost, constant cost, and current cost. Historical cost is the amount of cash (or its equivalent) paid to acquire an asset and is considered to be an objective and verifiable basis for valuation. Constant cost restates historical cost information in terms of dollars of equal purchasing power. Current cost is the amount of cash or other consideration that would be required today to obtain the same asset or its equivalent. Market prices are often used to determine current cost. Which of these valuation methods is chosen greatly affects the depreciation base. While historical cost is most widely used and documented, current cost provides a more relevant measure of the resources tied up in a particular asset and the cost to replace the asset. After an asset is valued (usually at historical cost), one of numerous depreciation methods is then selected to spread the depreciation base over the asset’s useful life. Depreciation computations are based on the assumption that every fixed asset (except land) has a limited useful life.