This paper develops a model of budgeting in hierarchical organizations. Each agent (manager) in the hierarchy receives a budget for a task. Based on his own information, the agent assigns tasks and budgets to his subordinates, who, in turn, do the same for their subordinates, and so forth. Each department's performance is measured by the difference between budgeted and actual cost. In this setting we show that a particular budget mechanism is optimal in terms of the incentives it creates and the coordination it achieves. Earlier research on participative budgeting focused on the elicitation of reliable estimates from an informed manager. Beginning with Ijiri, Kinard, and Putney [1968], research has characterized incentive schemes that induce managers to report certain summary statistics of their private information.1 Using agency models, Christensen [1982] and numerous subsequent papers have analyzed under what conditions a principal can achieve better control by letting an agent choose certain parameters