Illustration: Chad Crowe

The federal government ran budget surpluses from 1998 to 2001. Yet the national debt went up in every one of those four years. How can debt go up when you’re running surpluses? Easy, borrow the surpluses then flowing into the Social Security Trust Fund and call it income. Any corporate CEO who tried this stunt would go to jail. But no CEO would try because Wall Street made such boldface accounting fraud impossible more than a century ago.

After the Civil War, the American industrial base exploded in size. There were no industrial corporations listed on the New York Stock Exchange in 1860. By 1900 there were hundreds. Previously, the owners of businesses had almost always been the managers of them as well. But as capital needs expanded, ownership of corporations increasingly separated from management. This caused a big problem in accounting.

The shareholders, Wall Street banks and brokerage houses wanted books that accurately reflected financial reality. They also wanted to compare the results with those of competing companies. Managers, on the other hand, wanted books that made the management look good and, not infrequently, concealed their malfeasance.

At first most corporations didn’t even issue annual reports. When the New York Stock Exchange wanted financial information from the Delaware, Lackawanna and Western Railroad, the company curtly replied that the, “Railroad makes no reports” and “publishes no statements.”

Even when a corporation issued a report, it often concealed more than it revealed. The Erie Railway, one of the most mismanaged in history, had to file an annual report because some of its bond issues were guaranteed by New York State. In 1870 Horace Greeley harrumphed in the New York Tribune that if the new Erie annual report were accurate, then “Alaska has a tropical climate and strawberries in their season.”

But the situation was beginning to change. That year one business newspaper noted that, “The one condition of success in such intrigues [of dishonest accounting] is secrecy. Secure to the public at large of knowing all that a director can know of the value and prospects of his own stock, and the occupation of the ‘speculative director’ is gone.”

By the 1880s Wall Street banks and the New York Stock Exchange began requiring corporations that wanted securities underwritten or listed on the exchange to keep their books according to what became known as “generally accepted accounting principles.” Corporate managers weren’t happy, but they had no choice if they wanted access to capital. By World War I, the new accounting rules had been enacted into law, with criminal penalties for failure to comply.

Wall Street also began to require that corporate books be certified as accurate and complete by independent accountants. Almost all accountants had been corporate employees until the final two decades of the 19th century. In 1884 there were 81 self-employed accountants listed in the New York, Philadelphia and Chicago city directories (the Victorian equivalent of the phone book). Five years later there were 322. In 1896 a New York State law regulating accounting used the phrase “certified public accountant” for the first time. A profession was born.

Unfortunately, Wall Street didn’t have the power to impose such discipline on government, and government financial numbers remain fraught with deception. For instance, Congressional rules require that spending bills project their cost over 10 years. But the $3.5 trillion “social infrastructure” bill now before Congress calls for several of its most expensive programs (such as Medicare expansion) to lapse after three years. But everyone knows that such programs, once enacted, are politically untouchable and will be made permanent. The actual projected cost of the bill is probably north of $5 trillion.

How can we stop politicians from so casually lying to their stockholders (you and me) for their own short-term political benefit and to the country’s long-term financial detriment? What’s needed is the equivalent of the reforms forced on corporations 140 years ago.

One justification for the Federal Reserve is to keep the power to print money out of the hands of politicians. A Federal Accounting Board would keep the power to cook the books out of their hands as well. Like the Fed, it would be run by a board of seven members, all professional accountants of long experience, serving 14-year terms. They could be removed only for cause. One member would be appointed chairman, serving a four-year term.

The board would take over the duties of the Congressional Budget Office, and the White House Office of Management and Budget would be reduced to formulating the annual budget. The board would estimate future revenue and the costs of all legislation. It would also set the rules for how the federal books must be kept (no calling borrowed money “income”), and would determine if they are accurate and complete, as a CPA does for corporate books.

Wall Street had the power to impose honest books on corporations. Congress and the president would have to pass and sign the legislation needed to create a Federal Accounting Board. They would be loath to do so, as it would expose the true condition of the federal fisc and expose the real costs of legislation.

But a president who campaigned on the issue and a congressional majority that made it a plank in a new contract with America could get it done. It’s hard to argue that it is good for the country to have the government continue to cook the books.

Mr. Gordon is the author of “An Empire of Wealth.”

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